There are many benefits of taking out a loan over other forms of credit, one of which is the ability to access the funds quicker, often at a better interest rate than a credit card. However, with a loan, you need to be sure you can pay back the full amount you’ve agreed to each month, as there isn’t an option to pay less or pay a ‘minimum’ like there is with revolving credit.
Advantages of Bank Loans
- Low Interest Rates: Generally, bank loans have the cheapest interest rates. The rates you pay will be cheaper than other types of high interest loans, such as venture capital. As Bizfluent says, bank loans offer significantly lower interest rates than you will find with credit cards or overdraft.
- Flexibility: When you receive a bank loan, the bank will not provide a set of rules dictating how you spend the money. While venture capitalists and angel investors will restrict what you can do with the money, bank loans can provide you the flexibility to spend the money where you see fit. Whether you need capital to purchase new equipment, enter a new market, or carry out a new marketing plan, you can use the money from a bank loan.
- Maintain Control: You don’t have to give up equity to get a loan from a bank. Venture capitalists and angel investors typically require you to give them equity or some say in your company. However, this is only true if you make your payments to the bank on time.
Disadvantages of a Bank Loan
- Requires Profitability: While venture capitalists and angel investors usually take risks to invest in companies that haven’t yet proved profitable, banks will take no such risk. To be eligible, your company must be consistently profitable, which disqualifies the majority of startups.
- Complicated: Obtaining a bank loan is extremely time consuming. You will be required to fill out excessive paperwork, and the terms of interest will be quite complicated. The process will not be quick either, often, it takes several months to qualify and obtain capital from a bank. Compared to other financing options, bank loans serve as one of the most difficult to obtain.
- Collateral: Regardless of your profitability or how good your credit score happens to be, banks will need some form of collateral. Banks need to protect themselves in the case that you can’t make your payments.
There are two types of loans available: secured loans which are tied to an asset you own (like your home) and personal loans, also known as unsecured loans:
Secured loans: advantages and disadvantages
- You can often borrow larger amounts of money than with an unsecured loan
- You can also take longer to pay secured loans back, up to 25 years
- Interest rates are often a lot cheaper than personal loans because the risk of retrieving the money by the lender is lessened by the asset providing security
- You don’t always need an exemplary credit score, due to the assets offsetting the risk
- These are only available to homeowners with enough equity – and your home can be at risk if you don’t keep up with your repayments. This is a big reason why you must be 100% sure you can afford to stick to the payment plan
- You will usually be charged early repayment charges if you pay the loan back early. This is also applicable if you transfer the loan to another provider
- You may have variable interest rates which fluctuate, so the cost of borrowing may go up over time
- As with unsecured loans, your monthly payment figure is fixed. This means lacking the flexibility to pay smaller amounts one month which is the case with credit cards
Personal loans: advantages and disadvantages
- Anyone over the age of 18 can access one, as you don’t need an asset to secure it against
- These types of loans are pretty versatile in their purpose, as you can use the money for almost anything. Always make sure that you are borrowing what you can afford to pay back
- You can have flexible time periods to repay, this will vary depending on the amount you borrow
- Certain providers offer payment holidays, which gives you a break from repaying your monthly repayments. You will still be charged interest during this period and it will take longer for you to pay it back, so always think carefully about taking up these offers
- You can usually pay them back early without any penalties if your budget changes. If you took out an unsecured loan after 1st February 2011 for £8000 or less, it can be paid off earlier without early repayment charges
- They pose less risk than secured loans, as your assets cannot be reclaimed if the debt isn’t repaid (this may change if a failure to pay results in a CCJ)
- They are usually very quick for not only a decision but the money being transferred to your account (anywhere from within 15 minutes to the end of the next working day)
- You aren’t offered the long repayment times some secured loans provide, which can be up to 25 years.
- You can usually only borrow up to £15,000, which may not be enough money for certain home improvements or car purchases.
- The interest charges can typically be more expensive than secured loans.
- You need a strong credit score to access the best interest rates and deals.
- Your monthly payment figure is fixed, so you don’t have the flexibility to pay smaller amounts one month (compared to credit cards for example). This is the case even if you pay more off one month.
What kind of a loan do you need?
Loans can be valuable in helping you achieve your financial goals. Whether you’re looking to consolidate existing debts into one payment as part of a debt reduction plan, or are borrowing to facilitate a life-changing decision like home improvements or a wedding.
There are two main types of loans, secured and unsecured (also known as personal). Secured loans involve using an asset, such as your home, as collateral to cover the loan should it not be paid back. A mortgage is a type of secured loan, as is a ‘logbook’ loan which works by you handing over ownership of your car until the money is repaid.
Unsecured loans attribute the debt only to the person in question, so no asset is at risk. However, that doesn’t mean there is no risk attached, you will still be accountable to make the repayments on time, each month. Multiple missed payments and lack of communication can lead to a default account and ultimately a County Court Judgement (CCJ).
Generally, you can borrow more with a secured loan and the interest can be lower too. This is due to the increased security the lender has with your home. Consider how much it is you want to borrow while weighing up your loan options.