What is a Loan?

If asked “What is a loan?” most people would have a good answer ready. But it’s worth paying close attention to the different types of loan out there – especially if you want the best deal for your circumstances.

What is a loan?Most people’s lives wouldn’t run as smoothly if it weren’t for loans and lending.

When children lend their toys and books to friends – and borrow others in return – they learn that lending is a way of using assets for mutual benefit.

And while we lend and borrow different things when we get older, the principle remains the same.

So when the bank lends you £200,000 as a mortgage, it benefits from the interest you pay on the loan – and makes a profit.

In return, you get a roof over your head and can also make a profit as the property increases in value over the years.

Careful lending and borrowing can also improve our standard of living, helping us over financial bumps and putting special purchases like cars and holidays more easily within our reach.

And that’s why there are so many kinds of loan out there – they are aimed at different kinds of borrowers with differing needs.

So if you’re thinking of taking out a loan, take a look at the main types of lending on offer.

Understanding the differences between the loans on offer can help you make sure you choose the right lender for your circumstances.

Unsecured Loans

Unsecured loans are loans that do not ask you to use your house or your possessions as security.

The big advantage to you as a borrower is that you can get your hands on the cash you need without risking your home or your valuables.

However, that means your loan is a bigger risk to the lender. If you default, they may not get their money back.

That’s why unsecured loans tend to have relatively high rates of interest – lenders need to charge more to cover the risk. And in the present economic climate, far fewer lenders are willing to offer unsecured loans – particularly for large sums or to people with a poor credit history.

That said, there is one type of unsecured loan that is particularly popular at the moment. It’s the short term or payday loan, which allows you to borrow relatively small sums of money until your next payday.

While they can be expensive, a short term loan can also be very useful to help you over unexpected events like a large energy bill, or vital car repairs.

Secured Home Loans

Secured loans usually allow you to access larger amounts of money at better interest.

The only drawback is that, if the loan is secured on your home, you will lose it if you don’t keep up with your repayments.

It sounds scary, but many of us actually have at least one major secured loan – our mortgage.

When you take out a mortgage, you use your home as security for the advance. The same principle applies to loans like second mortgages, which lenders may offer when you have built up some equity in your property – they allow you to release that equity to give you capital when you need it most.

However, second mortgages usually have higher interest rates than first mortgages. That’s because if something does go wrong and you can’t make repayments on either loan, the first mortgage lender has first priority on the money raised by selling your house.

Other secured loans

Not all secured loans are backed by property.

Indeed, as unsecured loans are becoming more expensive and harder to come by, more people are making use of their valuables to arrange more substantial short term loans.

Savvy borrowers are turning to specialist online lenders to raise money on their jewellery, antiques, watches, fine art, high-end cars, wine collections and other valuable items.

That’s because lenders like Borro can offer short-term loans far beyond the scope of most traditional pawnbrokers – and could lend you up to hundreds of thousands of pounds (or more) at a much better rate of interest than most unsecured loans.

And because the amount they lend is based on an accurate valuation of your belongings, you’ll usually get a bigger loan too.

If asked, “What is a loan?” most people – from the school playground up – understand the concept. But when it comes to getting the most suitable loan for your circumstances, it’s a question that’s worth looking at more closely.

If you don’t, you could end up paying a much higher price than you intended.

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