A loan is an exchange of money for repayment of the loan principal amount with interest calculated at a specific rate. Each party agrees to loan terms before any actual money is lent. Fixed-rate lines or revolving loans can be borrowed, repaid, and borrowed again, while flexible loans are prepaid, installment-due accounts that earn interest. Most people have some sort of loan arrangement in their lives-a car loan, a mortgage, a student loan, a personal loan, etc. The purpose of a loan is to raise funds to buy, construct, or improve real estate, to make home improvements, to pay for educational expenses, or to repay debts.
Most loans have two phases: the initial period in which the lender collects the loan amount and the period in which the borrower pays off the loan balance, referred to as the “payoff stage.” At the end of the initial period, the lender collects the most portion of the loan amount and the borrower have paid off most of his or her debt; the remaining amount is then given to the lender in a form of either an installment or a balloon payment. The primary purpose of paying off the loan is to eliminate interest and to reduce the principal owed on the outstanding balance. However, the secondary reason is to finance an investment, such as home equity, that yields a higher interest rate than the interest rates prevailing in the credit markets at the time of the loan’s issuance.
Normally, the lender has the prerogative to determine the length of the loan term. There are, however, some loan provisions that facilitate longer loan terms if the borrower’s credit limit is increased, or if the lender has made good faith efforts to contact the borrower regarding loan eligibility. Usually, these provisions are contained in a master contract, or a contract between the lender and the borrower. The contract may also include additional provisions such as those authorizing the lender to specify the borrower’s credit limit, establish a minimum payment amount and/or specify any other fees that may be charged.
Home equity loans have traditionally been seen as being beneficial to homeowners with good credit. However, it is not uncommon to see non-homeowners take out these loans. In this case, the loan amount is based upon the value of the borrower’s home, less the outstanding mortgage balance. These loans can be used by people who do not own their home but who have other assets that could be put up as collateral. Homeowners can use this type of loan for many reasons, including to make home improvements, pay off higher interest debt, pay off credit card debt, consolidate debts, or pay for education.
It is important to remember that even though a loan may be secured, the lender is still capable of repossessing the property in the event of default. This is why it is critical to keep in close contact with the lender to ensure that the repayment plan is still feasible. Lenders are usually willing to work with borrowers who demonstrate they are in a position to repay the loan. A borrower should check with several different lenders to compare the interest rates and loan terms before making a decision. If the lender is reluctant to work with the borrower, there may be another possibility: that the lender may be charging an excessive interest rate.
To help avoid getting into trouble with repayment, it is important to carefully calculate the cost of borrowing. For example, if the borrower is able to borrow a certain amount and repay it over a number of years, the total cost of borrowing the money will be spread over a long period of time rather than all at once. The best way to do this is to multiply the amount of principal borrowed by the annual percentage rate, or APR. Remember that the longer the term, the lower the APR. Finally, it is important to remember that there are other charges associated with the loan, such as insurance, which can add to the total cost of borrowing.