When you need to pay for something but don’t have the available funds, taking out a loan might seem like the best option. However, you should take care when taking out loans – there are lots of mistakes you can make when borrowing that can work out costly in the long run. Here are just a few common borrowing mistakes and how you can avoid them.
Not considering other forms of funding
A loan might be a fast and convenient way to access the cash that you need, but have you considered other options? Many other forms of funding could work out less costly in the long run. Below are a few alternatives to loans.
When it comes to cars, vacations and other luxury items that you don’t need in a hurry, your best option is always to save up. You’ll feel as if you’ve earnt that luxury rather than paying for it after and possibly living to regret it. On top of saving for non-emergency items, you can also set aside savings for emergencies. With the right savings account, you’ll earn money in interest on your contributions, helping you to save up more quickly. Of course, if you’re currently looking for money to pay for an emergency, it might be too late to start saving up.
There are many disasters and emergencies that can be funded with insurance. Taking out pet insurance for instance could prevent you having to take out money for vet bills in the future, while home insurance could allow you to pay for reparations following a burglary. The only downside with insurance is that you may never actually need it.
If you’re having to pay for damage following an event that wasn’t wholly your fault, consider whether there’s the option seeking legal compensation. You could hire a personal injury lawyer if you were involved in a car accident to help make a claim. This legal compensation could then be used to pay for healthcare or care repairs instead of a loan.
Thinking of taking out a loan to start a business? An alternative option could be to seek investment. Investors will give you the funds in exchange for a future slice of profits. Some investors may even be able to offer guidance.
In some cases, there may be the option of paying in instalments for something without paying interest. Some medical centres offer this for treatment costs, while a furniture store may offer a payment plan on a new sofa.
Can you raise funds by selling unwanted items in your home? If you’ve got a lot of clutter, some of it could be sold to raise money for a vacation or a new TV instead of taking out a loan.
If you’re the victim of unfortunate circumstances, there may be occasions when you can seek charity funding. There are charities that may be able to donate money to you to pay for a funeral or home reparations following a natural disaster. You may even be able to crowdfund medical treatment by asking for donations.
Other borrowing methods
There are other ways to borrow money beyond a conventional loan. If you need to borrow a lot of money and own a property, you may be able to access funds with an equity release. You may also be able to borrow money from your 401k. There’s then the option of employer cash advances, credit cards, overdrafts and pawning items. You may even be able to borrow from family and friends without interest.
Not shopping around for loan rates
If a loan is the best option, make sure that you don’t then proceed to take out the first loan you can find. There are so many loan options out there – some may be more affordable than others.
There are bank loans, private lender loans and the option of peer-to-peer lending. Loan comparison sites may be able to help you compare loan rates. A few factors to consider include:
- Interest rates: How much interest will you be paying? There may even be some loans out there that are interest free for the first few months (this include some medical loans and credit cards).
- Monthly repayments: What can you afford to pay each month? The smaller the instalments, the longer it will take to pay off the loan and the more interest you’ll pay overall.
- Deposit: Do you have to pay any money upfront? This shouldn’t be a case with pay day loans, but may be required with car loans and large business loans. Mortgages almost always require a deposit. If you can afford to pay a larger deposit, it could benefit you in the long run by resulting in smaller instalments and cheaper interest rates.
- Fixed or flexible?: If the interest rates are fixed, you’ll pay a set amount each month. If they’re flexible, you could pay varying amounts each month. The latter is harder to create a monthly budget for, but you may be able to opt for smaller monthly instalments and a lower deposit by opting flexible.
Not looking out for these hidden costs
Some lenders will try to charge borrowers hidden costs. Look out for these taking out a loan by reading the small print. A few hidden costs to look out for include:
- Loan processing fees: During the application stage, some lenders may charge processing fees to cover document handling and legal fees. This is unavoidable with large loans like mortgages, but shouldn’t be charged when taking out small personal loans.
- Late payment charges: If you miss a payment, a lender may charge a late payment fee on top of what you already owe. If you think there’s a chance you may one day miss a payment, consider this late payment charge.
- Early repayment charges: Some lenders will even charge you for paying back the loan early. You should be able to pay off a loan early without paying extra fees – consider avoiding loans that charge this fee.
Applying for a loan with a poor credit score
If you’ve got a poor credit score, you could find that many lenders reject you. Those that do approve your application may charge high interest rates as a compromise. This is something to be wary of when taking out ‘bad credit loans’ – you could end up spending a lot of unnecessary money in the future.
Try to avoid taking out loans as much as possible when you have a bad credit score. Focus on repairing your current credit score by making it your mission to pay every bill on time. Your bank may offer a credit builder loan – these are small loans usually paid over a year that will repair your credit score fast, providing that you make each payment on time.
Borrowing more than you actually need
A mistake some people make is borrowing more money than is necessary. If you need to buy a new mattress but already have some money in savings, put these savings towards the cost of the mattress and pay off the remainder with a loan rather than paying off the total amount with a loan. Meanwhile, if you’re starting a business or renovating your home, make sure that you know exactly how much you’ll need in advance. Don’t overestimate the cost and end up borrowing more than is necessary – that’s extra money that you’ll be paying interest on in the future.
Paying only the minimum repayment
It’s worth paying more than the minimum repayment if possible. If you can pay back more than a minimum repayment, you’ll pay the loan off faster and save money in interest fees.
Throw any surprise earnings you make into paying off your loan. This could include work bonuses, money that is gifted to you or winnings.
Missing repayments as a result of poor budgeting
Sometimes unprecedented disasters can occur that may result in you having to miss a repayment. However, you shouldn’t be missing repayments simply because you spent too much money that month on shopping or eating out. Make sure that you keep a budget each month so that you always pay your loan repayments on time – otherwise you could face late payment fees and accumulate extra costs in the long run.
Attempting to hide from loans when you can no longer pay them
If you start falling behind on loan repayments and can no longer keep up with them, don’t make the mistake of trying to hide from your debts. Not paying your loan and ignoring letters could result in debt collectors eventually coming to your home. If you try to run away from loans by changing your name or address, you could find that they still eventually catch up with you – and you could end up facing fines or even jail time if it was discovered that you fraudulently changed your name and address to avoid paying back loans.
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