Loans can take different forms but typically a monetary loan is a type of debt where a borrower receives money from a lender on set repayment terms. The repayment terms will set out any interest to be charged and the timeframe for the loan to be repaid. According to HMRC “Central to the idea of a loan is that it involves one person (the creditor) agreeing to lend money to another (the debtor) in consideration of promise to repay that sum on demand or at some future point or on condition of some event happening. A loan usually, but not always involves the payment of interest by the debtor”.
Types of Loan
There are many different types of monetary loan and below we have outlined different ways you can borrow.
Most current accounts offer an overdraft facility which provides a way of borrowing within set parameters. An overdraft can be authorised or unauthorised. An authorised overdraft agreed with the bank in advance allows you to draw money on your current account up to agreed amount. A fee and set rate of interest may be charged on this borrowing. With an unauthorised overdraft the bank will charge significant fees and rate of interest. An overdraft facility can be withdrawn by the bank at any time. An overdraft is suitable for short term cash flow issues and is not a long term borrowing solution as the charges can be relatively high.
Unsecured loans means that the lender relies on your promise to pay it back. As the lender requires no security they are taking a greater risk than say with a secured loan. In this respect lenders will often have strict lending requirements. These requirements may mean unsecured loan rates are only offered to those with good credit records; loans may be for shorter time periods and there may be inflexibility about repaying your loan off early. The maximum loan you can borrow will often be limited – while there is no set maximum many unsecured loan deals in the UK will offer up to £15,000 for a repayment term of no more than 10 years. Many lenders will only provide unsecured loans to homeowners. For lenders who are more flexible in their selection criteria expect to pay higher rates of interest.
A secured loan is a loan which is tied to an asset e.g. your home and in the event of failure to keep up repayments a lender has the right to force the sale of the asset. A mortgage is an example of a secured loan. As the lender has the safety net of your asset as security interest rates are often lower than unsecured loans, and many lenders will allow you to repay the loan early without penalty although you should always check the small print carefully before you sign any loan agreement. Secured loans are suitable for larger amounts and longer repayment terms. Secured loan rates can vary significantly from one lender to the next so shop around or use a loan broker to help you get the best deal.
A bridging loan is a form of secured loan where the loan period is usually no longer than 9 to 12 months. Bridging loan finance is often used for short term funding requirements such as buying property at auctions, property development, breaking mortgage chains or buy to let purchases. This type of loan finance is typically for sums of £25,000 or more and the lender will normally require first charge over the asset being secured.
For bridging finance over £50,000 go to our sister site Clifton Private Finance.
Other Types of Loan
Other types of loan which are not available on this website include:
Credit Union Loans
Credit Unions are mutual financial organisations run and owned by members for members. Credit Unions typically provide saving schemes for members but sometimes also offer loans to members. The APR on loans cannot exceed 26.80% by law. These schemes are regulated by the FSA.
Payday loans are short term loans typically for 30 day terms, where small amounts can be borrowed in advance of your salary. This type of loan can provide a useful service for unexpected bills giving access to cash at short notice, but this type of borrowing is one of the most expensive. Late payment costs can be very high and so this type of borrowing should only be used as a last resort and only if you understand the costs and charges involved.
A logbook loan is a loan secured on your car or other vehicle. As part of obtaining a loan you will be required to give your vehicle registration document over to the lender and sign a bill of sale document. The lender effectively becomes the owner of your car although you can use the car as long as the loan repayments are met. With this type of loan the APR will be high and if you fall behind on repayments your vehicle may be sold (the lender will not have to go to court to do this). With this type of loan you need to be very aware of your responsibilities under the agreement.
In these austere times many people are reverting to pawnbrokers to realise cash. This type of loan is provided in exchange for a valuable item. Normally you have approximately 6 months to repay the loan and any interest charged. If you cannot repay the loan by the deadline the pawnbroker may sell the item.
How Much Can You Borrow?
It is very important that when considering a loan you work out whether you will be able to repay it in the future. It is important that you do a proper budgeting exercise taking into account you incomings and outgoings taking into account the possibility of interest rises and increases in the cost of living as well as other factors such as the likelihood of losing your job or changes to your overall income e.g. if you start a family.
While there is a greater onus on lenders to lend responsibly you will ultimately need to consider what level of borrowing is appropriate for your circumstances. In assessing affordability lenders will take into account your income and outgoings and your current employment history. In calculating disposable income your total income will be taken into account less other debts you may have and living expenses. The lender considering your loan application will have their own method of assessing affordability but it makes sense to do your own budgeting calculations to ensure the monthly repayment requirement is well within your budget.
As part of the loan application process lenders in determining whether they will lend you the money you require will carry out a credit scoring exercise.
Each lender will have their own credit scoring process but will typically take into account the information you provide in the application as well as any existing information they may have about you and what information is contained in your credit report which is held by an external agency. In gathering all this information the lender will determine a points score which may or may not qualify you for the loan you have applied for. If the points score is not high enough you may be turned down for the loan; offered a smaller loan; or offered the loan but on higher interest terms. A number of credit agencies offer free credit reports for the first 30 days to encourage you to use their services.
In recent times lenders as part of the drive for more responsible lending will also look at the number of times you have applied for credit within set timescales.
Top 10 Loan Tips
1. Work out how much you can afford to borrow – It may take some time but work out your budget. What income do you have coming in and what are your outgoings. Factor in potential lifestyle changes and increases in the cost of living in determining what loan repayments you can afford.
2. Consider carefully the length of the credit agreement – the longer the loan period the more expensive the loan will be in total interest you will repay.
3. Do you know what your credit score is? This will affect your ability to get credit and the level of interest you might have to pay. If you check your credit report there may be details that you need to correct to ensure you are not overpaying on unnecessary interest charges.
4. When shopping around for low interest loan quotes make sure you ask the lender to register a “quotation search” on your credit report and not a “credit application search”. The former won’t hurt your credit score.
5. Research the different types of borrowing available to you. Some types of loan can be very expensive and may not be appropriate for your actual requirements.
6. In shopping around for credit you may wish to use a loan broker to help you search the market. Alternatively use our personal loan calculator to compare a selection of current loan deals.
7. All lenders have to tell you the APR before you sign a loan agreement. Generally the lower the APR the better so shop around to get the best loan deal.
8. Check with the lender or loan broker that the APR is fixed. If it is not and it is variable your repayments will fluctuate either up or down.
9. Check with the lender or loan broker if there are any charges not included in the APR. For example does the cost include loan payment protection insurance – if yes is this insurance required?
10. Ensure that the terms and conditions of the loan suit your situation e.g. can you pay the loan off early without charges? Compare loans from different loan companies and don't accept the first loan in principle agreement you are sent.