A loan is a financial transaction in which one party - the lender - agrees to give another party - the borrower a specific amount of money which must be paid back in full.
Loans come in all shapes and sizes but overall there are two main types, secured and unsecured loans. With a secured loan the lender can force the sale of the asset the borrower has offered as security against the loan. On the other hand for an unsecured loan the lender relies on the borrower's promise to pay the money back. There are many loans on the market designed for different purposes and people in different circumstances.
There will also be interest payments at an agreed rate, and sometimes there are additional charges for the administration of the loan by the lender. The terms and conditions of a loan will vary from lender to lender but will be specified in the contract. The lender can ask for interest payments in addition to the original amount of the loan which is also sometimes known as the principal. The borrower must adhere to the repayment terms stated in the contract especially repayment dates and interest rates. Some lenders may also assign financial penalties for missed or late payments.
For those who need to borrow, loans can be vicious - even the best deals have more tricks than Paul Daniels' sleeve. Recently, a price war between loan providers means you can now borrow for as little as 3.9% a year, the lowest we've ever seen.
Borrowing should always be budgeted for, and carefully planned, so you know how you will afford the repayments.
Personal loans let you borrow up to £25,000. The key sell is "structured repayments", so you know how long you're borrowing for and what it'll cost each month. Yet in general, borrowing on the cheapest credit cards substantially undercuts the cheapest loans; meaning in many circumstances, they should be used first. But much depends on why you're getting a loan, and how much you want to borrow.
Choosing the right loan
Loans have never been as cheap as they are right now. A combination of access to cheap Government money, and a price war between competitive lenders mean that rates have plummeted over the past couple of years.
But even the lowest interest rate loans can have hidden costs. Before you pick the type of loan, it's crucial to decide one thing.
How much, for how long?
The formula's simple. Borrow as little as possible, repay as quickly as possible. To avoid complications, always base your borrowing on what you can comfortably afford to repay (preferably after doing a budget), as over-borrowing can cause debts to spiral out of control.
Beware - while borrowing over a longer period spreads the debts and decreases monthly repayments, it massively increases the total interest you'll repay. Borrow £10,000 at 7% over three years and the interest cost is £1,100. Borrow the same over 10 years, and its £3,900.
