What Determines The Cost of My Loan?
There are a number of things that affect the cost of a loan, whether it is a personal loan or payday loan, and this includes:
- Credit score
- Debt ratio
- Type of lender
- Any collateral or security
It starts with your income and how much you take home each week or month, because you need to be able to handle an amount and be able to repay the loan and interest at the end of the month, whilst deducting any essential living costs such as rent and food. Therefore, you may be looking to borrow $1500, but may only be offered a lower amount and this could be based on your income.
Your credit score plays a huge role in the rate that you are charged, because those with good credit scores are considered to be a lower risk and therefore the lender offers more favorable rates as a result. If you are someone with fair or bad credit, or no credit at all, the lender is not fully sure that they will get their repayments in full and on-time and so has to charge higher rates to reflect the potential risk of default. To put this in context, a personal loan for someone with good credit can start at just 8% APR, but this can be as much as 36% APR for this with bad credit.
The lender might look at your debt ratio, considering how much existing and outstanding debt you currently have and what risk this presents in terms of getting their money back. If you have a big mortgage and lots of credit cards and loans outstanding, this could result in being charged a higher rate.
The type of loan is also very important, since payday loans carry higher interest rates (such as the 200% and 400% we have quoted above) and this is usually because the loans are for people with fair or poor credit and they are funded very quickly and only used for short periods of time – so you are often paying for the convenience of the loan.
With this in mind, your loan interest could be less if you add collateral to it, such as securing the loan against your car (see title loans) or have a co-signer. But when a loan is unsecured, the rates can be a little higher.
How Can I Bring Down The Cost of My Loan?
There are a few ways to make your loan cheaper. Always having a good credit score, or better than average will only make you more attractive to lenders. There are a number of ways to improve your credit score and maintain a good score too and this can include limiting the number of loans and credit cards you have open, always paying them off on time and maybe even avoiding joint accounts with other partners or family members with bad credit.
You should shop around for the best loans and rates for you and consider any alternatives. Whilst you might need a loan quickly, you may find more affordable rates from other competitors, using broker sites, credit unions or borrowing from family and friends.
You can also consider paying off your loan early, which can save money on the overall interest, see below.
Is It Cheaper To Repay My Loan Early?
Yes, it can often be cheaper to repay your loan before its final date. Loans are typically calculated by their daily interest, so the longer you have the loan open for, the more interest you pay. Cutting down your loan from 30 days to 20 days, will mean that you only pay 20 days worth of interest and save money.
Just note, it is not always cheaper to repay early, since closing down a loan agreement a few days after it has opened could issue some kind of early exit fee. Always be sure to check the terms and conditions of your loan before you approve it.