Loans can seem like a dirty word if you’ve had a bad experience after taking one. There are countless people who have taken loans from banks, money lenders, etc. and their life became a living hell when they couldn’t repay the loans.
In this article, you’ll learn what types of loans are worth taking… and what you need to ask yourself before you take one.
There are 2 types of loans:
Secured loans are backed by collateral or a guarantor (cosigner). Common examples are home loans and car loans. Should you default on payments, the bank/creditor will repossess the collateral or ask the guarantor to pay for it. In this case, they’ll take back the house/car and auction it off to reclaim the loan.
A rule of thumb is that secured loans are always better because you’re taking them to purchase assets.
These could be credit cards, lines of credit, student loans, etc. Very often, these loans tend to be for smaller amounts (except student loans) and there’s a credit limit. This is also known as revolving credit where you need to make a minimum payment monthly, but how much more you pay is up to you.
Herein lies the trap. If you don’t pay your bills promptly and in full, you’ll find that the interest rates on your outstanding balance makes the balance very difficult to pay up and if you take on more credit card debt, it can all become overwhelming.
Usually, people who spend money from unsecured loans do so on frivolous items such as entertainment, designer clothing, car accessories, etc. These are unnecessary purchases that can often be avoided. There is no good reason to rack up debt here.
When they’re unable to pay the monthly bills, the creditors will make life hell for you by referring your case to debt collectors and so on. You may even be taken to court and end up facing bankruptcy.
Questions to ask before getting a loan
You’ll need to ask why you’re getting the loan. The reason MUST justify the loan. If you’re getting a loan for a car, do you really need the car? Could you save up for it? Is public transport an option?
Generally, you want to avoid taking on as much debt as possible. The same applies to student loans. Make sure you’re getting a degree that’s valued in the marketplace. There’s no point in taking a loan worth thousands just to pay for a generic degree like anthropology – only to discover that no one really wants to hire you.
Another important question to ask will be, “Can I afford the loan?”
Here’s a common mistake most people make they believe that just because they can make the monthly payments, that means they can afford the loan. This is not true.
If you have to stretch your finances to breaking point just to make the monthly payments, that means you can’t afford the loan. You must be able to make the payments and still be financially comfortable.
You should also ask the lender for the interest rate on the loan. Do the math and see just how much interest you’ll be paying over the repayment period. You’ll be shocked at how much it costs to get a loan over the long run.
A $10K loan with a 17.4% interest rate (over a 36-month repayment period) will mean that the interest alone is $2,924. You’re actually paying 25% more of your loan amount in interest. Does this seem worth it to you?
You can use the loan calculator here: https://www.nerdwallet.com/article/loans/personal-loans/personal-loan-calculator
Besides these questions, you should also ask:
- Is the lender trustworthy?
- What’s the loan repayment term?
- Can I pay off the loan in full earlier, and is there an early settlement fee?
- Do I need a guarantor (cosigner)?
- Are there any loan application fees over and above the interest rate?
- Is my credit score good? (The lower your credit score, the higher the interest rate will be)
- How does the loan repayment work?
- What supporting documents will you need to apply for the loan?
Once you’ve answers to these questions, you’ll be much better prepared and know if you should or should not take the loans.
Loans are not bad if you’re using the money for productive purposes. But if you’re just using the money for instant gratification, all you’ll end up with is debt and it’s best not to take any loans.
“I’ve seen more people fail because of liquor and leverage – leverage being borrowed money. You really don’t need leverage in this world much. If you’re smart, you’re going to make a lot of money without borrowing.”Warren Buffett