Borrowing Types:
Choosing the Right Fit
Credit, debt and loan are all different words that boil down to the same thing: borrowing money from someone with a promise to pay it back, usually with interest.
Borrowing, when done responsibly, can be a terrific tool to help you reach your goals – no matter what form you choose (such as a credit card, a loan, or a personal line of credit). The downside is that if you manage borrowing poorly, problems are certain to develop. This is because each time you fail to repay, you can harm your credit rating. This makes it harder for you to borrow again in the future, and further, if you do manage to borrow in the future, often it will be at higher rates.
The first step you can take towards borrowing responsibly is to fully understand all of your options.
In essence, every type of debt has three components:
Amount borrowed: This depends on for what the money will be used. Of course, the more you borrow, the more you have to pay back. If you are not certain that you will be able to repay the full amount borrowed, with interest and on time, then you may want to reconsider borrowing at this time.
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Interest rate: Different types of credit results in different interest rates. To give an example, a fixed rate loan offers an interest rate that does not change throughout the term of the loan, whereas with a variable rate loan, the rate fluctuates with the market. It's also important to ensure that you are comparing apples to apples when considering different interest rates. Looking at the Annual Percentage Rate (APR) that applies to each borrowing option can help.
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Repayment terms: Terms define just exactly how the amount you borrowed has to be repaid.
Once you're clear on how debt works, you can then decide on the best way to borrow. Personal loans allow you to borrow a fixed amount and then pay it back according to a fixed schedule. Sometimes a loan will require collateral, which is basically property or assets that you promise to give the lender in the event that you are unable to repay the loan. Often, borrowers use personal loans to pay for big purchases.
A personal line of credit allows you to borrow any amount up to a certain limit. You only have to pay interest on what you borrow. This type of loan can be beneficial if you are not exactly certain how much you need to borrow and you prefer having the flexibility to decide how and when to repay your debt.
A credit card provides the ongoing capability for you to borrow for day-to-day personal and household expenses. Try not to charge too much to high interest rate cards, and keep balances within your control. If you have a high interest rate card, always keep an eye out for lower rate cards, since switching can save you money (but always read the fine print!)
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