Types of Loans and When to Use Them
Loan proceeds can be used for a variety of purposes, from home improvements, buying a new car, or going on a vacation. With all of the different types of loans out there, how do you know which is the best type to fit your needs? In this article, I’ll take you through a list of some popular types of loans to help you decide which is best for you.
There are two basic types of loans: open-end and closed-end. Open-end, or revolving loans, can be used repeatedly for purchases that will be paid back each month. Generally, the full amount isn’t due each month, and once you pay the amount owed, you are able to use those funds again. Closed-end, or installment loans, are used for a specific purpose and for a specific period of time. Customers make monthly payments until the loan is paid off. You are not able to access additional funds on a closed-end loan.
Home Equity Line of Credit (HELOC)
A home equity line of credit allows you to borrow against your home’s equity. Lines of Credit are revolving, meaning that you may borrow a lump sum, repay a portion of the loan, and then borrow again. It’s kind of like a credit card that has a credit limit based on your home’s equity. The interest rate on lines of credit are generally based on the Prime Rate (the Federally-set lowest rate of interest at which money may be borrowed) and will increase and decrease when the Prime Rate changes. These loans may be tax deductible and are typically repayable over a period of 10 to 20 years, making them attractive for larger projects such as home improvements.
Credit cards can be used for virtually anything because they are accepted by most companies as a form of payment. The application process is quick and easy, and much like a line of credit, you can repay a portion of the balance and borrow again. Often times, interest rates on credit cards can be higher, so it’s a good idea to pay the balance in full each month.
Home Equity Loan
A home equity loan gives you a lump sum of money that is paid back over a fixed period of time and has a fixed interest rate. How much you can borrow is based on the amount of equity you have in your home. Most lenders offer up to 80 percent loan-to-value rates based on the amount of equity in your home. Home equity loans are good for home improvement, consolidating credit card debt and paying off student loans. The interest on these loans may be tax deductible.*
Many people today need a loan when they buy a new or used car. An auto loan gives you a lump sum of money to purchase a vehicle and is paid back in installments over a fixed period of time, often up to 72 months. The bank will hold the title to your vehicle until the loan is paid in full.
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*Please consult a tax advisor for information about the tax benefits of home equity loans.