When you’re researching loans, it can sometimes seem like there’s a million and one decisions to make.
However, perhaps the most important choice you need to consider before starting your application is whether you want to borrow money on a short-term or a long-term basis.
While short-term loans can typically be paid off within a few months, long-term loan terms last for a considerably greater period of time. They can be spread over several years, even extending across decades in some cases.
For this reason, long-term loans are sometimes a fantastic option if you’re looking to consolidate a large sum of debt or finance a large purchase.
However, like any personal finance product, they do come with their own set of advantages and disadvantages.
The longer your loan term, the lower you’re repayments usually are, because you have a greater amount of time to pay it back.
However, you’re also likely to be paying interest on the long term loan for longer, so you’ll probably pay more interest in total throughout the course of your loan.
In this article, we’ll put the microscope over long-term loans, asking how they work, highlighting things to watch out for, and considering whether they’re the right choice for you.
What is a long-term loan?
A long-term loan refers to a type of borrowing which extends over a longer-than-average period.
As you probably know, loans come in all shapes and sizes. They can be tailored to suit your current situation, as well as goals you may have in relation to your finances.
With long term loans, you typically spend longer than a year paying them off, and they can offer you large sums of cash which are disbursed in one payment.
Unlike short-term loans which are generally repaid within a few months, long-term loans can afford you a repayment period spanning several years, or more (up to 30+ years for a mortgage, for example).
It’s a popular way of funding significant expenses.
People across the country buy homes, cars, boats, fund higher education, or start businesses with long-term loans.
By spreading your repayment over an extended period, long-term loans give you a high degree of flexibility to manage your finances outside of the loan, on a day-to-day basis.
Generally, the monthly payments can feel more affordable than that of short-term products.
It’s important to be mindful of the fact that long-term loans often come with interest tacked on, which is the cost of borrowing the money you need.
And with long term loans, although your monthly payments might be smaller, you’ll probably end up repaying more overall compared to a shorter term loan, because you’ll be racking up interest for longer.
And while you my be able to pay it back sooner if you can afford it to save money, some long term loans also have Early Repayment Charges (ERCs) in place to deter you from doing that.
So, it’s important to read the terms and conditions of your loan carefully before taking one out, and try to compare lots of different finance options and seek financial advice if you need to.
The interest rate can also vary widely on these loans depending on your creditworthiness, the market rates of interest, and the terms of the loan agreement in question.
What can I use a long-term loan for?
A long-term loan can be used for a wide range of purposes, including financing a large purchase, such as a house or a car, or for consolidating debt.
- If you’ve been planning to make modifications to home, a long-term loan could help you fulfil your ambitions in providing you with the cash necessary to complete the project.
- Long-term loans are a popular way of financing the cost of higher education. If you want to undertake professional courses or a master’s degree and aren’t eligible for enough student finance from the government to cover your outgoings, you could use this type of loan to cover costs like tuition fees, accommodation, and any books you might need.
- If you happen to be an entrepreneur who is looking to start or expand your business, a long-term loan could help you secure the necessary cash to launch your venture or build on your efforts in a pre-existing business.
- Long-term loans could help you make a major purchase if you don’t have the funds to cover it at the moment. Many people use long-term loans to buy cars, boats, or expensive equipment you need for your job.
- If you’re somebody who has numerous high-interest debts, consolidating them into one long-term loan could potentially help you reduce the sum of any monthly payments you’re currently required to make, and potentially save you money on interest over the course of your loan. Things like credit card balances or personal loans are just some of the debts which can be brought under the umbrella of a single long-term loan.
As every personal finance product is specifically tailored to you as an individual, the uses of a long-term loan will depend on your individual needs and the financial situation you’re currently in.
Most lenders will not ask for specific details as to what you’ll use the funds for but be prepared to respond if they do, as this can impact your eligibility.
Before taking out any loan on the market, whether it’s short-term or long-term, it’s important to consider all the options available to you and ensure that you can afford any repayments you’ll be expected to make.
How does a lender decide whether to offer me a long-term loan?
When deciding whether to give you a long-term loan, a lender will normally take a wide range of factors into account to assess your creditworthiness.
They always want to be sure that you have the ability to repay your loan before dispersing any cash to you.
This is to protect their assets, and also to ensure that you don’t run into any financial difficulty.
One of the main factors which lenders explore is your credit history.
A good credit score as well as a robust history of good credit use are big indicators of your ability to manage debt responsibly.
Keeping on top of your debts makes you a more attractive borrower in the eyes of a lender.
Another factor that lenders look at when making their decision is your income and employment circumstances, as well as your history in this area.
Lenders will want to be assured that you have a stable income and a reliable job, as this means you’re more likely to have the funds to cover repayments in the future.
Equally, if you have a history of job-hopping or irregular work, this could indicate that your lifestyle may not be suited to taking on long-term repayment commitments.
Loan companies also consider your debt-to-income ratio as part of the decision-making process when you apply for credit.
This figure is the percentage of your income which you have to put towards debt repayments on a monthly basis.
A high debt-to-income ratio might tell lenders that you are already carrying a lot of debt, which could possibly mean it’s more difficult to stay on top of repayments related to a long-term loan.
This is a risk factor for lenders, as they want you to be in a position to easily afford the payment schedule that’s put in place to avoid any defaults.
Additionally, lenders might consider any assets and liabilities you have behind you before they approve your long-term loan application.
Your savings, any investments you have, as well as your outstanding debts all paint a picture for lenders which they use to assess your overall prospects for remaining consistently able to repay.
This information helps them figure out if you can ultimately afford to take on extra debt through a long-term loan.
Finally, lenders sometimes consider other factors in the equation, such as your age, the reason you’re taking out the loan, and any examples of collateral you could offer them to secure their cash.
For example, if you’re getting a long-term loan to buy a home, the home itself is usually employed as collateral for the loan you get given.
Overall, the lenders’ choice of whether to offer you a long-term loan will hinge on a range of factors.
It’s important to remember that this is a holistic process, and to carefully consider whether you think you can afford the repayments before taking on any extra debt.
What are the disadvantages of long-term loans?
Whilst long-term loans can be a stellar option for financing large purchases or consolidating any debt you may have, they do come with their own set of disadvantages, as does every personal finance tool.
- Since long-term loans are spread over an extended period of time, you may well end up paying more in interest charges over the life of the loan than you would if you took one out on a shorter-term basis. This is especially true if you are given an offer which carries a higher interest rate, or if you opt to only make the minimum monthly payments that you’re able to.
- Because long-term loans are offered on an extended basis, it can take years if not decades to return all the cash you borrowed to the lender. Unfortunately, this can be a frustrating scenario if your ambition is to become debt-free within a relatively narrow timeframe, or if you’re making the effort to free up cash flow to redirect towards other costs.
- A general rule of thumb is that the longer the loan term, the higher the risk is of you defaulting. As we all know, life can be unpredictable. Unexpected circumstances crop up out of nowhere, such as job loss, or illness. These unsavoury events can make it difficult to keep up with any loan repayments which you’re responsible for over an extended period of time.
- A lot of long-term loans require the borrower to put up collateral, such as a house or a car, to secure the loan you take out. Ultimately, this means that the object you secure the loan with is tied up in the agreement for the duration of the loan term. A lot of people don’t consider the fact that this can limit your options if you find you need to sell the asset or use it in a different way than you have been.
- It’s important to be aware that some long-term loans come with prepayment penalties, or indeed other associated fees if you try to pay off the loan early. This can seem counterintuitive as you’d expect the lender to want their cash returned as quickly as possible. However, this is not usually the case. This fact can make it harder to save money on interest charges and can also prevent you from becoming debt-free quickly, if that’s something you aspire to.
Overall, it’s important to carefully consider the potential drawbacks of a long-term loan before taking on any debt.
While they can be a useful financial tool, it’s important to ensure that you can afford the repayments and that the loan aligns with your long-term financial objectives.
Can I get a long-term loan with bad credit?
Whilst it’s not an impossible task to obtain a long-term loan when you have a poor credit history, your chances may be slim, and it’ll take some research to find a loan which suits your needs.
It’s almost impossible that a credible lender operating on the marketplace will approve your request for a long-term loan without a hard credit check, so beware that they might delve into your not-so-good credit history before you get approved.
Also, it’s important to remember that interest rates which are charged for bad credit loans are usually considerably higher than that of ordinary long-term loans.
If you’re carrying a lot of debts with a variety of different lenders, then a long-term debt consolidation loan could be an option for you, as lenders like to see evidence that you’re working to improve your financial situation as a borrower.
With all this in mind, there are some downsides to taking out a bad credit long-term loan which you’d be wise to bear in mind.
- Some lenders will only be willing to offer long-term debt consolidation loans under a secured framework. In many cases, this involves offering up your home as collateral. This means that you run the risk of losing your home if you aren’t able to keep up with repayments.
- Getting a long-term loan to consolidate debt may well extend the repayment term of your original loan. In this case, it’s likely that you’ll end up forking out for more interest over the loan’s life.
If you have a poor credit score, or in fact no credit history whatsoever, you may also be asked to bring in a guarantor before a lender approves you for a long-term loan.
If you’re struggling with managing your debt piling up, you can always discuss this with your lender and see what options might be available to you.
What are some alternatives to long term loans?
If you don’t think long-term loans align with your envisaged goals or general preferences, you’ll be please to know that there are a number of alternatives for you to consider.
Perhaps the most obvious alternative to explore is a short-term loan. These are designed for people who have a temporary, perhaps urgent financial commitment to attend to.
They can be better if you prefer to repay the borrowed amount back to the lender quickly, avoiding being saddled with debt on a long-term basis.
Short-term loans usually have a repayment period of anywhere between a few months to a year.
This will allow you to address the financial obligations you must tend to, without needing to commit to a big chunk of debt in the long run.
If you have a specific purchase on your mind whilst doing your research, be that a car or even a major home renovation, you might wish to explore financing options which are sometimes offered by sellers or service providers of certain goods.
Many big retailers could offer you an instalment plan or a financing arrangement. These are designed to suit the needs of you as an individual, and often come with competitive terms. Always a bonus!
In addition, instalment arrangements often come equipped with low or zero interest for a promotional period. If your intended provider can offer you a sweet deal, this could be an attractive alternative to a traditional long-term loan.
If you’ve been financially responsible and have good credit under your belt, some credit card companies offer promotional periods with low or zero interest rates on credit balance transfers.
By transferring your high-interest debt to a credit card with a lower, or even zero, interest rate, you can save a lot of cash which you’d otherwise be spending on interest payments. This will potentially mean you can pay off the debt you’re carrying much faster.
Lastly, if you have the means and the motivation, you might consider self-financing.
This practice essentially involves using your own savings or ongoing income to fund a purchase or cover a cost. Nice and easy, right?
However, whilst self-financing gets rid of the need for borrowing money and making costly interest payments, it’s vital to assess the impact on your overall financial situation before making that big-ticket purchase.
Whilst funding yourself can seem like the smartest and cheapest thing to do, it’s necessary to ensure that your savings will remain at a sufficient level to account for future emergencies or unanticipated needs.