Loans are used to make a big purchase without having the full amount on hand to spend. You pay a deposit out of pocket, and then a lender (like a bank) pays the rest of the cost on your behalf. You then need to pay regular instalments to the lender to pay off the full cost of the loan, plus interest and fees that get added on top!
Without loans, purchases such as a house wouldn’t be possible for majority of people. There are soooo many loan options out there and it is difficult to decide which one is the right fit for you! Make sure you do your research, talk to professionals, and try to eliminate those sus offers that are too good to be true.
General types of loans (used for both home and personal means)
Variable rate loan
Variable rate loans are based on the adjustments made to the Reserve Bank’s interest rates over the loan’s time period. If interest rates increase, the borrower will have to pay that increased rate, but if rates decrease, their repayments will also decrease. This means your loan repayments will differ depending on what the interest rate is at the time.
Fixed rate loan
A fixed rate loan comes with a fixed interest rate (the interest rate at the time of settlement) for 1-5 years. This means your loan repayments will be the same and they will not increase over the set period of time.
This makes budgeting easier as you know how much your repayment will be each month.
Types of home loans
More often than not, if you want to purchase a house, you will need to take out a loan
Here are the most common home loans (other than those listed above).
Interest Only loan
When taking out a loan, you can choose to solely pay off the interest that comes with the loan, rather than the amount borrowed plus the interest.
However, an interest only loan only lasts for 5 years so it is important to show your lender that you will be able to pay back the amount borrowed once the 5 years is up.
Low Doc loan
Low Doc loans, also known as ‘Low Documentation loans’, require less documentation and proof of income than other loans. These loans are usually used by people who are self-employed. However, this type of loan carries higher interest rates, fees and a bigger deposit.
Types of personal loans
As the name suggests, a personal loan helps you borrow money for personal expenses such as a holiday, wedding, or new car.
Here are the most common types of personal loans in Australia.
A secured loan involves using one of your assets or possessions as security if you can’t pay back the loan in time. If this is the case, the lender can take your asset and sell it. These assets or possessions can include property, car, money, jewellery or paintings. Because you have a possession against your loan as security, you’re deemed less of a risk when paying back the loan.
Unsecured loans are the opposite of secured loans. Although unsecured loans are easier to get and don’t require an asset or possession as security, there are still consequences for not making repayments on time and the interest rates/fees are a lot higher.
If you cannot get approved for a loan, you can ask a family member or friend to be your guarantor. A guarantor is someone who pays off the loan if the original borrower can’t. This can give you a lower interest rate, but there are definitely risks with a guarantor so research before you make the decision.
Student loans are only available for Australian students and can help them pay off things they need for uni. However, this loan is not for fees and is different to a HECS loan.
Tips for taking out a loan
Always compare loans
Never apply for the first loan you see! It is important to shop around and compare factors such as interest rates, fees, repayments, and time period so you end up with the right loan for you. You can always go back to the first loan you saw if you have done your research and think it is the right fit!
You can also engage a Mortgage Broker to find the best loan options to best fit your needs and circumstances.
Don’t borrow more money than you can afford or need
If the loan repayments don’t fit into your budget and you think you might have trouble paying it back, you will need to reconsider the type of loan you go with (or if you should we taking out a loan at all).
You should also not borrow more than you need – repayments, interest rates and fees aren’t fun, especially if you’re paying them for no reason!
Make sure you’re eligible for a loan
To apply for a loan, you often need to:
- Be 18 years old or above
- Be an Australian citizen or permanent resident
- Have a certain income that can pay off the loan
- Prove you can pay off the loan (good credit rating or savings record)
Ensure you have a good savings record and credit score before applying
If you do the following, you’re more likely to get approved for a loan because you have shown that you can pay it off:
- Have a good savings record and contribute to your savings regularly
- Have a good credit rating from paying bills on time
- Have proof that you manage your finances well
Lenders will usually need to see:
- Personal identification
- Details about your preferred loan
- Employment and financial information
- Other loans or debts you have
Get professional advice!
Don’t sign ANYTHING until you’ve spoken to an impartial accountant or financial adviser. You don’t want to get locked into a contract with a lender that could land you in big financial trouble further down the line. It’s always worth getting a professional to take a look!
Key terms explained
The Reserve Bank is Australia’s central bank. Its role is to provide and control monetary stability and policy in Australia. The Reserve Bank sets the interest rates for loans, so it is important to keep track of any changes made to the rates if you have a loan debt.
When the process of taking out a loan is finalised, you have reached settlement. Now, you can finalise the big purchase!
A lender is an organisation or individual that loans you money.
An individual or business that organises mortgages between lenders and borrowers (person taking out a loan).
At the end of the day, taking out a loan is a big financial decision and shouldn’t be taken lightly. It is crucial that you find the right loan for you and only apply for one if you truly need it to ensure you can pay it off.
For tips on budgeting, read our blog here!