Your Credit Options
When you need to borrow money, you have a lot of options. Here is a quick guide to what some of those lending terms mean and what types of credit instruments are best for your need.
Secured Loans vs. Unsecured Loans
Basically, there are two types of loans: secured loans and unsecured loans.
Secured loans are loans in which you pledge some sort of collateral. The bank may repossess the collateral if you
do not repay the loan according to the terms you agreed to when you took out the loan.
Unsecured loans are loans which do not require any collateral. You borrow money on the strength of your good
credit and ability to repay a loan.
Revolving vs. Installment Loans
Revolving and installment describe the amount of time you have to pay back a loan.
With a revolving loan, you have access to a continuous source of credit, up to your credit limit. You repay only the
amount of the credit you use, plus interest on the unpaid amount. You may re-borrow the principal you've repaid.
So the loan could remain "open" for years.
With an installment loan, you pay an agreed amount, which includes principal and interest every month. Each payment reduces the balance of the loan until it is paid off. There is a fixed ending date, known as the term of the loan.
Fixed vs. Adjustable Interest Rate Loans
Fixed interest is just that. You and the bank agree to a certain interest rate and it remains constant throughout the
term of the loan. Fixed interest rates give you the stability of always knowing what your payment will be, so you
can budget accordingly.
Adjustable or variable rate interest fluctuates. Usually it is pegged to the Prime Rate - the interest the U.S. Treasury
charges to its best borrowers. When the Prime Rate is high, such as during a period of inflation, you pay more.
When the Prime Rate is low, such as when the government is trying to stimulate the economy during a recession,
you save on interest. If you need to borrow during a period of high interest, you payments will drop once the Prime Rate drops.
Types of Loans
Auto Loans: A secured loan in which the collateral is the vehicle you purchase.
Credit Cards: An unsecured loan which allows you a line of credit against which you may borrow by presenting a plastic card to the merchant from whom you are purchasing the item. You may make more than one purchase, up to your credit limit.
Personal Loans: A secured or unsecured loan made for a fixed purpose.
Mortgages: A secured loan in which the collateral is the resl estate you buy.
Home Equity Loan: A secured loan for a fixed amount in which the collateral is your home. In some cases, the interest on this loan may be tax deductible. See your accountant.
Home Equity Credit Loan: A secured, revolving line of credit in which the collateral is your home. In some cases, the interest on this loan or a portion of it may be tax deductible. Consult a tax professional or your accountant.
Home Improvement Loan: A secured loan for a lump sum fixed amount in which the collateral is your home. The money may only be spent on home improvements. The interest on this loan may be tax deductible. Consult a tax professional or your accountant.
Student Loans (Stafford Loan): A loan for college expenses underwritten by the US Government. The loan is granted to the student. Payment is deferred while the student is still in school.
Personal Line of Credit: Unsecured loan allowing you access to funds up to a fixed credit limit.