A loan is a lump sum of money that you borrow with the expectation of repaying it once or over time, usually with interest. Loans are usually a fixed amount, such as USD 5,000 or USD 15,000.
The exact amount of the loan and the interest rate vary according to your income, debt, credit history and some other factors, as we discussed earlier in the article on credit scoring. There are many different types of loans that you can ask from a financial institution. Knowing your loan options will help you make better decisions about the type of loan you need to reach your goals and objectives.
Open and closed loans
Indefinite loans are loans that you can borrow again and again. Credit cards and lines of credit are the most common types of open loans. Both of these loans have a credit limit that is the maximum amount you can borrow at the same time.
You can use all or part of your credit limit according to your needs. Each time you make a purchase, your available credit decreases. As you make payments, your available increases allow you to use the same credit over and over again, as long as you comply with the terms.
Closed loans are one-time loans that cannot be borrowed again once they have been paid. As you make payments on fixed-term loans, the loan balance decreases. However, you do not have any available credit that you can use in closed loans. On the other hand, if you need to borrow more money, you must apply for another loan and go through the approval process again. Common types of closed loans include mortgage loans, car loans and student loans.
Secured and unsecured loans
Secured loans are loans that are based on an asset as collateral for the loan. In case of default of the loan, the lender can take possession of the asset and use it to cover the loan. The interest rates for secured loans may be lower than those for unsecured loans.
The asset may need to be valued to confirm its value before it can borrow a secured loan. The lender can only allow you to borrow up to the value of the asset. A title loan is an example of a secured loan.
Unsecured loans do not require an asset as collateral. These loans may be more difficult to obtain and have higher interest rates. Unsecured loans are based solely on your credit history and your income to qualify for the loan. If you do not meet an unsecured loan, the lender has to exhaust the collection options, including debt collectors and a claim to recover the loan.
When it comes to mortgage loans, the term “conventional loan” is often used. Conventional loans are those that are not insured by a government agency. Conventional loans can be compliant, which means that they follow the guidelines established by the competent entities. Nonconforming loans do not meet the requirements, of course.
Loans to avoid
Certain types of loans should be avoided because they are predators and take advantage of consumers. Payday loans are short-term loans borrowed using your next paycheck as collateral for the loan. Payday loans have notoriously high annual percentage rates (APRs) and can be difficult to pay. If you are in a financial crisis, look for alternatives before taking payday loans.
Advance loans are not loans at all. In fact, they are scams to trick you and make you pay money. Advance rate loans use different tactics to convince borrowers to send money to get the loan, but they all require the borrower to pay a fee in advance to get the loan. Once the money is sent (usually by cable), the “lender” usually disappears without having sent the loan. Scams of these occur every day, so make sure you don’t fall for the scammer trap and other scam.
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