There’s a fairly good chance that you might understand how loans work in principle, but there may be gaps in your knowledge when it comes to certain kinds. Mortgages, auto loans and borrowing money to attend university are the three kinds just about everyone knows about, even if they don’t know the intricacies behind them.
The American education system does a poor job of educating people about how they work, and this has led to an unfortunate gap in knowledge for many people taking on the responsibility of personal finance. More Americans than ever are taking out loans, so it pays to know how they work.
There’s one kind of loan you may not realize that you have access to, one that can help you with just about any financial need you have: a personal consumer loan.
You can be forgiven for not knowing how these powerful, versatile ways to borrow money work. This guide is here to help you understand what a personal consumer loan (PCL) is and what you can expect from one.
To understand how they work, first you need to understand how they differ from other kinds of borrowing. Every debt is built on a few core elements, and the details of how those interact determine what kind of debt you have. Before we go over the details of a PCL, first we’ll go over the basics of borrowing money and the elements that you can expect when you sign a contract with a bank or lender.
The Basic Elements of All Loans
The first and most important thing to know is how interest rates work, which is fundamental to defining how loans work. While you may already understand it, it’s prudent to go over in case someone reading this doesn’t.
The money you borrow from a lender or bank is called the principal, which you’re agreeing to repay over time. Interest is an extra amount tacked on to the principal and is measured in percentages. Interest is how the lender makes money from the whole arrangement.
Let’s say you need $5000, which you don’t have on hand and need to borrow. The bank agrees to lend you that money at an interest rate of 5%.
By the time you pay back the money, you will have paid $5000 plus an extra $250 in interest, totaling $5250. Interest is the cornerstone of borrowing money.
Most people understand interest, but fewer people know about how the two different kinds of interest work. Knowing the difference between them is the best way to avoid being blindsided by surprise charges and increases in monthly payments that seemingly come out of nowhere.
You may have heard the terms ‘fixed rate’ and ‘variable rate’ before, but you may not know exactly what they mean. A fixed rate is the simplest and frankly most beneficial kind of interest rate for the borrower. A fixed rate never changes over the course of repayment and stays locked in at whatever was agreed on when the money was borrowed.
By contrast, fixed rates fluctuate over the course of repayment to reflect the current market standard, also called the prime rate. Calculating the prime rate is an absolute financial nightmare, and explaining it is beyond the scope of what this article is capable of.
For the purposes of understanding interest, the important thing to know is that a variable rate changes over time to reflect the market.
Another important element to your loan will be whether or not it falls under the secured or unsecured category, which is determined by whether or not its terms include collateral. A secured loan includes something of value, almost always a tangible asset, that is put up as collateral in case of failure to repay.
For something like a mortgage or auto loan, the asset is the house or car itself. In the event that you fail to make regular payments or default on the agreement altogether, the entity you borrowed from can take possession of whatever collateral you’ve agreed on.
By contrast, unsecured lending is any kind that doesn’t involve collateral. Most borrowing contracts don’t outside of mortgages, cars, and certain high profile retail purchases don’t involve collateral, but the details will be determined by what you and the lender agree on.
Personal Consumer Loans: Pros and Cons
The four most common reasons for borrowing money are to buy a house, pursue higher education, starting a small business, and for personal reasons. This article is concerned with the last of these. PCL is a more nebulous term than the others and covers anything else you might need to borrow money for.
There are no standards to guide PCLs, which is both a blessing and a curse for the borrower. The pros are many, starting with the flexibility that comes from being able to take one out for anything you need. It’s a popular choice for weddings, which can be extremely expensive.
People also take them out for dream vacations. This flexibility comes at a considerable cost, however: there are no market standards for how PCLs are calculated or what stipulations should be placed on the agreement, meaning that the lender can negotiate almost anything.
Given that you’re the one who needs the money, and the lender has the money, they’re negotiating from a stronger position and can demand a lengthier repayment term or high interest rates.
That said, PCLs are still a versatile way to get ahold of the money you need for a medical procedure or home improvement project. Knowing what you’re capable of handling is important, and tools like the calculator found at https://www.forbrukslån.no/forbrukslån-kalkulator/ can help you simulate different repayment and interest stipulations on a potential loan.
Given that PCLs feature higher interest rates than most other loans, knowing what you can and can’t afford is an important tool in your toolbox. It can mean the difference between getting favorable terms and being blindsided.
