When shopping around for a loan, the number of options may seem overwhelming. Your research may also cause you to have more questions than answers. To help ease this process, we have compiled a list of some of the most popular types of loans along with their associated pros and cons so that you can choose the loan that best fits your needs.
One of the most popular forms of consumer loans is credit cards. Although not always advertised as such, a credit card is essentially a loan since you are borrowing money from a financial institution.
Credit cards are a good option for people who want to have a financial safety net just in case they need it. This is because you are not necessarily borrowing the amount you are approved for. Instead, this is just the amount available to you should you choose to use it. (This is also known as a revolving balance). It is also a good option for short-term loans, such as paying a bill prior to getting paid and then paying off the credit card balance at that time. Lastly, credit cards often have lucrative rewards programs that benefit the borrower.
The downside of credit cards is that they often have high interest rates as compared to other types of loans. They also affect your credit score more negatively than other types of loans if you have used more than 30% of your available balance.
Line of Credit
Lines of credit are often used for overdraft protection. They are similar to credit cards in that they have a revolving balance. They usually are attached to a checking account as a way to protect you from overdraft fees or negative balances. Instead of bringing your account balance negative or incurring a fee, the difference between the amount charged and the amount in your account goes onto your line of credit balance.
Many people will take out a small line of credit to prevent overdrafting in their checking accounts. The downside to these accounts is that they generally accrue interest from the moment the money is borrowed, rather than being on a monthly cycle like a credit card would be. Additionally, they boast some of the highest interest rates among consumer loans.
Unsecured & Secured Loans
Unsecured and secured loans are more typical types of loans, where you borrow a set amount of money and then repay it over time plus interest. In this scenario, you would be approved for a lump sum of money, which the financial institution would give to you, and you would repay it in monthly increments over a set number of months at a set interest rate.
The difference between these two types of loans is whether or not you provide collateral for your loan. Collateral is something worth at least as much as the amount you are looking to borrow. For example, a car is collateral on a car loan, or a home is collateral on a mortgage.
Secured loans require collateral, whereas unsecured loans do not. The trade-off here is that unsecured loans have higher interest rates. However, if you become delinquent in paying your secured loan, the bank has the right to seize the asset you used as collateral, making it too risky for some consumers.