Different types of loan

Loans can serve many purposes, providing the financial support needed to fulfil long-held ambitions, tackle unexpected expenses and achieve long-term financial goals.  

However, with such a vast range of loan options available, understanding the diverse landscape can be a daunting prospect, especially if you’re a first-time borrower.  

We’ve put together a comprehensive overview of different loan types and their unique features. 

By gaining an insight into the different ways you can borrow, you can get a better overview of the market and feel empowered to start researching your options. 

Why are different loans available? Don't they all serve the same purpose? 

While all loans serve the general purpose of providing financial assistance when you need it, there are different loan types tailored to suit different purposes.  

Finance is not a one-size-fits-all solution and tailored finance products stem from the lending industry’s recognition that individuals and businesses have diverse needs and a range of circumstances to navigate.  

Various factors, like the amount you want to borrow, the purpose of the loan you intend to take out, your repayment capacity, and the level of risk involved in lending to you, all contribute to the need for lenders to offer specialised loan options to suit different scenarios. 

There are therefore a few key reasons why the loan market is so diverse. 

Tailored to Specific Needs 

As you might remember from above, different loans cater to specific purposes.  

For instance, mortgages are designed to fund a property purchase, while student loans focus on funding education for those who don’t have the funds to pay up front.  

Each loan type you come across on the market has distinct features and terms that align with the borrowers’ specific needs. 

Risk Management 

As you may imagine, risk assessment plays a big part in a lenders process of evaluating your suitability for a loan. 

Secured loans, backed by any collateral you can put up like a home or car, give lenders a higher level of security. 

Unsecured loans, on the other hand, don’t require collateral but may have stricter eligibility criteria and higher interest rates to mitigate risk the lender’s taking. 

Therefore, by offering you a specific type of loan, the lender is deciding which of their products they think you can manage effectively in line with your current circumstances. 

Borrower Profiles 

Lender’s assessments consider your financial overall profile. 

Personal loans cater to a borrower’s varying needs, such as debt consolidation, dental expenses, or home improvements, just to name a few.  

Meanwhile, business loans (including products like lines of credit or equipment financing) address the specific financial requirements of businesses, like facilitating expansion, stocking up on inventory, or maintaining healthy cash flow. 

Repayment Flexibility 

Different loan types offer different terms of repayment, as well as varying repayment structures. 

For example, short-term loans can carry higher monthly payments but allow you to repay the debt you’ve undertaken quickly.  

Conversely, long-term loans can offer you lower monthly instalments but extend the time you’ll have to repay.  

The availability of different loan terms ultimately offer flexibility based on your preferences and can be tailored to your individual circumstances. 

Interest Rates 

Different types of loan will have varying interest rates. 

If you’re worried about your interest payments skyrocketing, fixed-rate loans can provide stability through offering a consistent interest rate throughout the repayment period. 

However, if you’re willing to take a chance on the UK’s economic conditions fluctuating throughout the course of your loan term, the interest payable on variable-rate loans can change, lowering your interest rate from its current sum.  

It’s also worth bearing in mind that interest rates are tailored to balance the lender's profitability with your affordability across the time you spend paying back the cash you’ve borrowed. 

By offering a range of loan options, financial institutions strive to meet the unique needs and preferences of you and your fellow borrowers, while managing their own risks sensibly.  

The diversity of credit products available allows you, as well as businesses who are using loans, to access the specific sum of cash you need while aligning your borrowing with your financial capacity and goals for the future. 

What types of loan could I get? 

The type of loan you’ll be able to get your hands on depends on various factors including your personal financial situation, the state of your credit history, the level of your income, and the lending institutions you approach.  

Personal Loan 

Personal loans are versatile and can be used for a range of personal purposes, as the name may suggest.  

Many borrowers take them out to carry out debt consolidation, home improvements, or fund a special event like a wedding.  

Typically, they are offered in an unsecured arrangement, meaning they don't require collateral.  

Furthermore, the loan amount and interest rates you’re offered are based on factors like your creditworthiness and the stability of your income. 

Mortgage

If you’re looking to buy a house, you can explore mortgage loans. 

These long-term products are specifically designed for financing real estate transactions and are tailored to this process.  

Usually, the property you’re buying with the loan serves as collateral, so they’re offered in a secured arrangement.  

Car Loan 

Car loans are tailored for – you guessed it - buying a car (…or van!) 

They can be attained from a wide variety of lenders like banks, credit unions, or even car dealerships.  

These loans are pretty flexible, and can either be secured, where the vehicle you buy acts as collateral, or unsecured, with no asset at play. 

However, it’s wise to bear in mind that secured loans generally offer more favourable terms and lower interest rates to boot. 

Student Loan 

Student loans, as you may have guessed, help finance higher education expenses.  

The cost of university in the UK can be rather hefty, so the majority of students access a loan to fund their studies. 

They come in government and private forms, but many opt to participate in the government loans scheme.  

These state-backed student loans almost always offer more favourable terms, including income-driven repayment plans and loan forgiveness programs once enough time has elapsed since you’ve graduated.  

Private student loans are of course offered by banks or private lenders, but these products typically require a stellar credit history (which many young students don’t have) or a willing guarantor. 

Business Loan 

If you’re a business owner, or even just starting out in your entrepreneurial journey, there are various types of loans available to support you in your ventures.  

The options out there include small business loans, tailored lines of credit, equipment financing, or commercial property loans. A lender may also want to know the purpose of you accessing a business loan. 

The eligibility criteria and specific terms you’ll be offered with a business loan might vary based on the size and nature of your business, so keep that in mind before making applications haphazardly. 

To figure out the specific loan type you should get, it can be advisable to research and compare offerings from different lenders before you opt for your chosen institution. 

Taking extra time to consider factors like interest rates, repayment terms, eligibility criteria, and any associated fees can be beneficial when looking for a suitable financial product.  

Additionally, consulting with a financial advisor or speaking directly with any lenders you think you may pursue can provide more personalised guidance based on your specific circumstances and goals. 

What are the drawbacks of getting a loan? 

Loans can be a great lifeline. However, like with any personal finance offering, it’s vital to consider the potential drawbacks and implications before borrowing any cash.  

Interest Payments 

One of the main drawbacks of borrowing money is the interest you have to pay on the loan amount. 

Higher interest rates can significantly increase the total repayment amount over the loan term you’re offered, so it’s wise to ensure you can afford the slightly inflated sum of monthly payments. 

Consulting figures like the interest rate and APR always helps get a more accurate picture of what you’ll pay overall. 

Debt

Taking on a loan means taking on debt.  

According to the agreement you sign, you’re obligated to repay the cash along with any associated interest within the agreed-upon timeframe set out by the lender.  

Depending on the loan terms and your financial situation, this can result in a big debt burden which may impact your capacity to be financially flexible, as well as having an impact on any future financial goals you draw up. 

Repayment Obligations 

Loans do, of course, come with repayment obligations. 

Usually, a monthly payment is required over a specified period. In the case of business loans, you may be able to pay quarterly.  

However, you can bank on needing to pay a sum back regularly irrespective of which loan you opt for. 

Circumstances can change, even if your loan seemed affordable at the time of signing the agreement.  

If an unexpected event means you fail to meet these obligations, it can lead to penalties, late fees being charged, or negatively impact your credit score in the near-term future.  

For this reason, it’s essential to carefully consider your present and future ability to meet the repayment schedule before committing to a loan. 

Impact on Credit Score 

Borrowing and managing loans influences your credit history and credit score both in the short term, and over time.  

A slew of late or missed payments on your record can harm your credit score quite substantially, making it difficult to access the credit you need in the future.  

A lower credit score may also result in higher interest rates needing to be tacked onto future loans. 

Potential for Overborrowing 

Unfortunately, loans are a double-edged sword. 

Access to them can tempt you to overborrow or take on more debt than you can comfortably repay in the long run.  

Overborrowing can ultimately strain your finances to breaking point, limit your financial freedom, and potentially lead to a cycle of debt if not managed carefully. 

Risk of Collateral Loss 

Secured loans require you to offer a bit of valuable collateral, such as a home or car, which can be repossessed if loan payments are not made in line with what you’ve agreed with your lender.  

Failing to meet the repayment obligations puts the collateral at risk, potentially resulting in its seizure. 

FAQs 

What is a loan? 

In short, a loan is a financial arrangement where one party lends a specific amount of cash to another party, under the agreement that it’ll be repaid over time, usually with interest or fees tacked on.  

Loans can offer you the necessary funding injection to manage your financial needs. 

How long does it take to pay a loan back? 

The length of time it takes to pay back a loan can vary widely depending on which product you end up going for.  

Loan terms can range from short-term, which are repaid within a few months, to long-term loans that can extend over several years, or even decades in the case of mortgages for example. 

• Personal loans typically carry terms ranging from 1 to 5 years but can extend up to 7 years or more if your lender agrees. 

• Terms on a car loan can range from 3 to 7 years. 

• Mortgage repayment terms can span 15 to 30 years, although even longer terms, such as 40 or 50 years, may be available in some cases depending on which lender you approach. 

• Student loans carry flexible repayment terms and vary widely depending on the loan program. They can range from 5 to 30 years or more, but most people never end up paying the whole loan back. 

Before we culminate our whistlestop tour of loans, it's important to note that longer loan terms generally result in lower monthly payments but can lead to higher overall interest costs over the life of the loan you take out.  

However, shorter loan terms may potentially have higher monthly payments but allow you to pay off the loan faster, helping you on a path to becoming debt free sooner.