On a basic level, a loan involves a lender providing a borrower with funds. The repayment of the loans comes with an interest requirement. Interest is how the lender makes money on the deal. While all loans involve the same basic concept, not all loans are the same. The availability of different loans creates a variety of options for borrowers. Someone who isn’t qualified for one loan can always apply for a different type. So, what types of loans are there?

Secured Loans

Depending on the loan amount, a lender may require collateral from the borrower. A person seeking a $15,000 loan could secure the loan by putting a car and motorcycle up for collateral. If the borrower defaults on the loan, the lender seizes the collateral. The merchandise is then sold to cover the loan. Secured loans do come in other forms. A home equity loan allows someone to borrow against the value of a home. 

The lender, usually a bank, must be repaid before anyone can sell the property. Home equity lines are revolving lines of credit, which means the borrower can continue to draw funds as they pays back the balance. Other types of secured loans exist, and they all require collateral.

Personal Loans

A personal loan, also known as a signature loan, is one of the quickest ways to borrow money. Personal loans are also known as signature loans since a person procures a loan based on a signature and does not need to put up any collateral. Of course, the borrower must qualify for the loan. 

In efforts to prevent another credit crisis, new regulations require banks to evaluate risk using the CECL model. Current Expected Credit Loss (CECL) standards require lenders to evaluate risk based on the borrowers credit worthiness, history, and the length of the loan–among other factors. Approvals and interest rates are set based on a review of the applicant’s total financial background. Personal loans come with a term duration. That means the borrower must pay the loan off in a set amount of time, such as 18 months.  A minimum monthly payment spreads out payments evenly.Under CECL, lenders may favor loan products with shorter terms since this reduces the amount of risk. 

Payday Loans

Payday loans and cash advances garner much controversy due to their high-interest rates and added costs. Sometimes, they lead to messy lawsuits. However, for someone with a poor credit score, a payday cash advance may be the only option available. These loans employ a straightforward concept: The borrower takes out money based on their next paycheck. 

The lender essentially advances the payday at a high fee. For persons in emergencies, payday loans offer some help and can be worth the price. Auto title loans follow a similar structure and may be beneficial to someone who needs an advance but doesn’t have a job.

FInal Thoughts

Sure, loans might seem confusing at first. But if you educate yourself on what they are and how they work, you will understand them much better. Be sure to do your research before getting a loan to make sure you get the type of loan that is the best for you. With the above guide, you are already off to a great start.

Speaking of loans, if you’re looking to get a loan for a home, check out this article on how to save money on a home loan!