Principles of borrowing
More knowledge leads to better decisions
Credit Reports and Scores
Request a copy of your free credit report every year and analyze the information's accuracy. This report lists open loans and chronicles your payment history, which define your credit score. The higher your score based on responsible use of credit, the lower the interest rate you'll be charged when you take out a loan and the more money you'll save. Financial institutions offer the best rates to people who are lower risk.
Missing payments, opening and closing numerous credit cards, or carrying higher balances on credit cards can affect your score and ability to secure a lower rate on a loan. Your credit report helps you understand how your financial habits affect your score. And if you see any incorrect information, that could be a warning sign of potential identity theft or credit fraud.
You'll often receive offers for credit cards with low introductory rates. Make sure you read the fine print on those deals because the cards often readjust to a much higher interest rate when the promotional term expires. That adjustment can cost you a lot of money based on the balance you carry. Also, simply opening a credit card will impact your credit score, so be judicious.
Secured vs. Unsecured Loans
These are the two types of loans you can receive. A secured loan is backed by something you own, such as your home for a mortgage and your car for an auto loan. This is known as collateral. With a secured loan, you agree that the lender can repossess your property if you don't agree to the loan's repayment terms. The attaches a lien to your collateral, allowing them to take possession, if necessary.
An unsecured loan is not backed by collateral because the lender trusts your ability to repay the loan with your financial resources. Unsecured loans are typically for lower loan amounts.
Terms and Interest Rates
The term of a loan is the length of time you have to pay it back. Interest rates, usually shown in Annual Percentage Rates (APRs), is the amount the lender charges you for loaning the funds. This percentage is based on the amount owed on the loan and is added to the total amount you need to pay by your given due date. Typically, the longer the term of the loan, the more you could pay in interest.
Fixed vs. Variable Rates
Fixed-rate loans feature an interest rate that will never change during the loan's term, meaning your payment won't change while you have the loan. In contrast, variable rates change with the market, which can cause your payment amount to increase or decrease depending on the current rate. When choosing between the two, explore your options and the state of the market to determine which option benefits you more.
Budgets and Balances
When you spend money using a credit card, you are drawing on a line of credit that allows you to spend up to a certain amount. Just like any other loan, you are charged interest on your balance borrowed. With a credit card, though, you may choose to pay back the balance of what you have borrowed in full by your payment due date and avoid interest charges or you can choose to pay the minimum payment amount, carry the remaining balance forward, and be charged.
Make sure your monthly budget allows for a new loan or credit card payment so you can set yourself up for success. Ask for help in reviewing what you can afford prior to taking the loan to avoid any issue in making your payments.