To Borrow money is often a part of adult life. Almost all of us need to take out a loan at some point in our lives. Maybe to buy a new house, pay for your college tuition or start a business. Whatever your reason, many professional financing options range from traditional financial institutions, like banks, credit unions, and financing companies, to Internet Age creations, like peer-to-peer lending.
What are loans?
A loan is a total of money that an individual or companies borrow from a bank or other financial institution to financially manage planned or unplanned events. And in doing so, the borrower incurs a debt, which they will have to pay back as an advance loan with interest within a given period.
The loan recipient and lender must agree on the terms before any transaction. In a few cases, the lender requires the borrower to offer an asset up for collateral, outlined in the loan document.
Individuals, corporations, and governments can take loans. The main idea behind taking one is to provide one with fast money and grow one’s overall money supply. And the interest and fees serve as sources of revenue for the lender.
The role of banks in giving loans:
Banks are traditional sources of funds for individuals looking to borrow. By definition, they take in money/deposits and then distribute that money in financing products/services, like mortgages and consumer loans.
Banks offer different ways to borrow money, for example, mortgage products, auto loans, quick personal loans, construction loans, and other financing products. They also provide opportunities to refinance an existing loan at a more favourable rate for those looking to do it.
The different types of loans:
Loans are allocated into secured and unsecured loans, open-end and closed-end loans, and conventional loans.
Secured and unsecured loans:
These are the most commonly heard of loans. In short, a secured loan is a loan backed by some form of collateral. At the same time, an unsecured loan is not.
Open-end and closed-end loans:
With an open-ended loan, an individual has the freedom to keep borrowing. Some examples of open-ended loans are credit cards and lines of credit. Although both have credit restrictions, a credit limit is the highest amount of money one can borrow at any point.
Depending on an individual’s financial wants, they may choose to use all or just a portion of their credit limit—every time this person pays for an item with their credit card, the remaining available credit decreases.
With closed-end loans, individuals cannot borrow again until they have repaid them. As one makes repayments of the closed-end loan, the loan balance decreases. However, if the borrower wants more money, he needs to apply for another loan from scratch. The process entails presenting documents to prove that they are credit-worthy and waiting for approval. Examples of closed-end loans are mortgages, auto loans, and student loans.
The term Conventional loans are often used when applying for a mortgage. It refers to a loan that government agencies do not insure.