About Different Types of Loans

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There are a variety of loan products available for a variety of situations. An applicant wanting a loan to finance the purchase of a home would not use the same loan product as a person wanting to borrow a small amount of money until next payday. The interest rate a borrower receives on a loan depends largely on the loan product, the lender and the credit score of the borrower. It pays to shop around for the best loan product.

Risk Factors

  • Getting a loan obligates future income to the lender. The amount of money borrowed must be paid back as agreed along with interest owed and any applicable fees. Otherwise the borrower is in default of the original agreement and there can be legal repercussions. In addition to collection efforts from the lender, some people who take out more loans than they can afford wind up in serious financial trouble. Too many loans can result in bankruptcy. Defaulting on home loans can result in foreclosure, and defaulting on an auto loan can result in repossession of the vehicle. Defaulting on any loan will result in a negative item on the borrower's credit report.

Benefits

  • Loans allow borrowers to purchase items when they don't have the full amount available or if they do not want to use their own money to finance the purchase. For example, mortgages allow people to buy homes when they may not have otherwise been able to afford to make such a large purchase. Most loans paid for in a timely manner result in a positive notation on credit reports, meaning that borrowers may be able to qualify for larger loans at better interest rates after having successfully made loan payments.

Type

  • Common types of loans include personal loans, student loans, auto loans, business loans, and mortgage loans. Loans can be further classified as secured or unsecured, and while some loans are considered "good debt," others are noy. A loan is considered "good debt" if the item purchased with the loan appreciates in value, but a loan is considered "bad debt" if there is no potential increase in value of the item purchased with the loan.

Time Frame

  • The time frame of a loan--also referred to as the amortization of the loan--varies depending on the type of loan, the offerings of the lender and the choice of the borrower. A common time frame for paying off a personal loan, for example, ranges from a year to five years, with some loans offering lower or higher amortizations. Car loans commonly have a payoff time frame of 48 to 72 months, and a first mortgage loan is most often amortized over 15 or 30 years. Equity loans often have a 15-year payoff.

Misconceptions

  • One of the most common misconceptions with some types of loans is that if you walk away from the collateral securing the loan, you're automatically free from the remaining balance. This is untrue. A homeowner allowing a home to fall into foreclosure will still owe the lender whatever amount remains on the balance after the home is sold at auction, and in some instances this amount can be several thousand dollars. Auto loans work in the same way. The bottom line is that borrowers must be prepared to honor their financial obligations, no matter what type of loan they have.

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