Nearly everything you need to know about loans

Borrowing money in the form of a loan can be used for almost anything: emergencies, healthcare, home improvements, debt consolidation, big one-off purchases, and unexpected bills. 

Before you take out a loan, read how it works, what it costs, and what borrowers should consider before applying.

In this guide, we’ll cover:

• How loans work and what types of loans are available
• What are the costs for borrowing and understanding APR
• How to repay your loan and the impact a loan has on credit scores

Let’s get started!

How does a loan work?

If a borrower applies for a loan and is approved by the lender, the lender will transfer the money directly into the applying borrower’s bank account.

Borrowers then repay the loan, usually every month, until the balance is cleared. Borrowers should decide how long they need to repay the loan before they apply.

With most loans, borrowers can decide to spread their payments over one month to five years, with some allowing borrowers to repay more quickly to save them money or spread their payments over a more extended period. Loans that are repaid for more than one year are generally known as short-term loans. Long-term loans or personal loans are more than a year.

What types of loans are there?

There are several different types of loans, so which loan is best?

Well, they all fall into one of two categories:

• Secured loans are tied to an asset a borrower owns like their property (house, car, business). They usually are far more considerable sums and repaid over longer periods
• Unsecured loans are not directly tied to any of the borrower’s belongings. They are used when people wish to borrow smaller amounts and generally last between one and five years

Unsecured loans can also be broken down into various types: short-term, payday, and personal. Other terminology borrowers will hear are the following:

• Payday loans are loans with extremely high-interest payments. It is a short-term loan that is offered through a business and not a bank
• Short-term loans are scheduled to be repaid in less than a year. Typically with a high interest rate
• Debt consolidation loans are new loans to pay off existing debts. Effectively multiple debts are combined into a single, larger debt, usually with better repayment terms like lower monthly repayments and a lower interest rate 
• Instalment loans are a loans that are repaid over time with a set number of scheduled payments; until the loan is repaid in full
• Same day loans a loans where an applicant applies for a loan, receives a decision, and, if approved, receives the money transfer all on the same day 
• Fast cash loans are a loans that applicants can apply to receive funds into their account directly and quickly, being typically processed within one hour. 

Where can you get a loan?

Loans are not only available at major banks or high street financial institutions. People can apply for loans everywhere, including:

• banks & building societies
• charities
• credit unions
• government
• peer-to-peer borrowing websites
• short-term lenders (payday loan companies)
• supermarkets

How much can people borrow in a loan?

With most loan types, borrowers could borrow between €100 and €25,000. However, some offer smaller amounts or much more substantial sums (like a homeowner loan or mortgage).

• smaller loans tend to be over shorter periods, usually a year or less
• larger loans typically last at least three years but can be anywhere up to 25 years

The best rates for personal loans are in the €7,500 to €15,000 range, with loan costs being around 3-9%. Anything over that amount tends to command interest rates of around 10%.

For smaller loans, the average interest rate is typically higher.

What’s the cost of taking out a loan?

Lenders determine the cost of borrowing money by calculating interest as a percentage. This amount is added to the loan a borrower repays in addition to the initial loan amount. The interest is typically calculated as an annual percentage as if the borrower repaid the amount over one year. 

Interest rates are either variable or fixed. Fixed rates remain static during the loan agreement, whereas variable rates move both up and down. Since they are tied to a benchmark rate, they can fluctuate. 

Lenders must display their interest rates annually, known as the Annual Percentage Rate (APR). The APR must include all the regular costs of obtaining a loan, including any other applicable fees charged by the lender.

Lenders then display a representative APR before people apply for one of their loans. Representative APR is the interest rate that at least 51% of successful applicants must receive when they apply for a loan from the lender.

The lender could offer the remaining applicants a higher interest rate. Meaning that borrowers may not receive the advertised representative APR when they applied for a loan.

What other fees are included?

Most lenders charge borrowers interest (APR) when borrowers take out a loan and is the amount of money a borrower owes for the duration of their loan.

Some lenders, however, also charge additional fees to the interest rate, including but not exclusively to:

• broker fees
• additional fees for transferring funds faster
• missed or late payment fees
• payment protection insurance

How are loans repaid?

With most loans, borrowers pay back the same amount each month because the interest rate is usually fixed for the loan’s duration. Repayments generally are the agreed amount (depending on the lending term and amount borrowed) and the accrued interest as per the interest rate the lender offers in the borrower’s application. 

Most payments are made by either standing orders or direct debits that promise to repay the lender on a specific day each month.

Short-term loans are also usually repaid through monthly instalments, though some can be paid back weekly or in bulk at the end of the month after a borrower’s salary has been paid to them. 

Repayments are managed through direct debits, standing orders or what is known as a Continuous Payment Authority (CPA). CPAs permit lenders to automatically collect the monies they are owed on scheduled repayment dates from a specified account as listed in the borrower’s application.