Beginner’s Guide to Loans

Borrowing makes a lot of things possible. But borrowing can be expensive, and it can even ruin your finances. Before you get a loan, get familiar with how loans work, how to borrow at the best rates, and how to avoid problems.

Where to Get a Loan

You can probably borrow from several different sources, and it pays to shop around because interest rates and fees vary from lender to lender. Get quotes from three different lenders, and go with the offer that serves you best.

  • Banks often come to mind first, and they might be a great option, but other types of lenders are definitely worth a look. Banks include big household names and community banks with a local focus.
  • Credit unions are very similar to banks, but they are owned by customers instead of outside investors. The products and services are often virtually the same, and rates are and fees are often better at credit unions (but not always).

Credit unions also tend to be smaller than big banks, so it may be easier to get a loan officer to personally review your loan application.

  • Online lenders are relatively new, but they are well-established at this point. Funds for online loans come from a variety of sources. Individuals with extra cash might provide money through peer-to-peer lenders, and non-bank lenders (like large investment funds) also supply funding for loans. These lenders are often competitive, and they might approve your loan based on different criteria than those used by most banks and credit unions.
  • Mortgage brokers are worth looking at when buying a home. A broker arranges loans and may be able to shop among numerous competitors. Ask your real estate agent for suggestions.
  • Hard money lenders provide funding to investors and others who buy real estate — but who aren’t typical homeowners.

These lenders evaluate and approve loans based on the value of the property you purchase and your experience, and they are less concerned with income ratios and credit scores.

  • HECS-HELP, FEE-HELP, SA-HELP and OS-HELP provide student loans, and those loan programs might not require credit scores or income to get approved. Private loans are also available from banks and others, but you’ll need to qualify with private lenders.
  • Finance companies make loans for everything from mattresses to clothing and electronics. These lenders are often behind store credit cards and “no interest” offers.
  • Auto dealers allow you to buy and borrow at the same place. Dealers typically partner with banks, credit unions, or other lenders. Some dealers, especially those selling inexpensive used cars, handle their own financing.

Types of Loans

You can borrow money for a variety of uses. Some loans are designed (and only available) for a particular purpose, while other loans can be used for just about anything.

Type of loans is included: Unsecured loans (credit cards, signature loans, consolidation loans), student loans, auto loans, home loans, business loans, and microloans.

How Loans Work

Loans may seem simple: you borrow money and pay it back later. But you need to understand the mechanics of loans to make smart borrowing decisions.

Interest is the price you pay for borrowing money. You might pay additional fees, but the majority of the cost should be interest charges on your loan balance.

Monthly payments are the most visible part of a loan — you see them leave your bank account every month. Your monthly payment will depend on the amount you’ve borrowed, your interest rate, and other factors.

The length of a loan (in months or years) determines how much you’ll pay each month and how much total interest you pay. Longer-term loans come with smaller payments, but you’ll pay more interest over the life of that loan. Even if you have a long-term loan, you can pay it off early and save on interest costs.

A down payment is a money you pay up-front for whatever you’re buying. Down payments are standard with home and auto purchases, and they reduce the amount of money you need to borrow. As a result, a down payment can reduce the amount of interest you’ll pay and the size of your monthly payment.

See how loans work by looking at the numbers. Once you understand how interest is charged and payments are applied to your loan balance, you’ll know what you’re getting into.

How to Get Approved

When you apply for a loan, lenders will evaluate several factors. To ease the process, evaluate those same items yourself before you apply — and take steps to improve anything that needs attention.

  • Your credit tells the story of your borrowing history. Lenders look into your past to try to predict whether or not you’ll pay off new loans you’re applying for.
  • You need income to repay a loan, so lenders are always curious about your earnings. Most lenders calculate a debt to income ratio to see how much of your monthly income goes towards debt repayment.
  • Other factors are also important. For example:

Collateral can help you get approved. To use collateral, you “pledge” something that the lender can take and sell to satisfy your unpaid debt (assuming you stop making the required payments).

Loan to value ratios on your collateral are important. If you’re borrowing 100 percent of the purchase price, lenders take more risk — they’ll have to sell the item for top dollar to get their money back. If you make a down payment of 20 percent or more, the loan is much safer for lenders (partly because you have more skin in the game).

A cosigner, you can ask somebody to apply for the loan with you. That person (who should have good credit and enough income to help) promises to repay the loan if you fail to do so.

Costs and Risks of Loans


It’s never fun to make loan payments, especially when they take up a large part of your monthly income. Even if you borrow wisely with affordable payments, things can change. A job cut or a change in family expenses can leave you regretting the day you got a loan.


When you repay a loan, you repay everything you borrowed — and you pay extra. That extra cost is usually interest, and with some loans (like home and auto loans), those costs aren’t easy to see.


If you borrow too much, your credit will eventually suffer. Plus, you increase the risk of defaulting on loans, which will really drag down your scores.


Money buys options, and getting a loan might open doors for you. At the same time, once you borrow, you’re stuck with a loan that needs to be paid off. Those payments can trap you in a situation or lifestyle that you’d rather get out of, but change isn’t an option until you pay off the debt.

So, which one is your choice to take a loan? If you need an emergency loan today, could be your option.

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