Guide to shopping for a personal loan
But when shopping for a personal loan there are several other factors to consider, because while no one wants to pay more than they have to, the features of a loan could have a huge bearing on how it affects your overall finances.
The majority of personal loans offer fixed interest rates so your monthly repayments will stay the same for the duration of the debt. The most important rate to look out for is the Annual Percentage Rate (APR) as this will take into account the interest on a loan plus any additional charges making it easier for you to compare products like-for-like.
Remember that you might not get the typical APR advertised by a loan company – this is the best rate it will offer so if your credit rating doesn’t come up to scratch then you are likely to be offered a higher rate.
When you apply for a loan the lender will check your credit rating to see your history of borrowing and repayments, and help it decide your level of risk. The riskier it thinks you are the more interest you are likely to have to pay, so having a clean record really does pay off.
Your credit report will include the balance, credit limit and payment history of all your outstanding accounts, as well as settled ones that are less than six years old.
Before applying for a personal loan it is well worth checking your credit rating – if there are any black marks and your application is rejected then this will deteriorate your rating even further.
Checking your credit can also reveal any mistakes or fraudulent activity.
If you do have a chequered credit record then there are steps you can take to improve your rating.
For example, ensuring you are on the electoral role or paying off existing debt will both improve your profile.
Penalties and payment breaks
Some loan companies will charge you a penalty if you want to pay off your debt earlier than originally agreed. However, early repayment charges are only permitted on loans of £25,000 or less with more than one year left on the term. If you are due to pay off your loan within the next year then you will not have to pay a penalty.
Another thing to consider when shopping for a personal loan is whether you might want to take a defer payment – this is a break between when you first receive the loan and when the first repayment needs to be made. Some loans also offer payment breaks to give you a month off meeting a repayment.
However, bear in mind that interest is charged over any payment break period.
You can opt to take out payment protection insurance (PPI) alongside your personal loan, either directly from the lender or from another provider. However, this insurance is not compulsory and might not be the right thing for you.
PPI will cover your repayments should you be unable to work because of unemployment, accident, sickness or even death.
If you are considering taking out PPI then make sure you read the small print – the policy might not be suitable for your needs meaning you are paying for nothing.
PPI is currently being investigated by the Competition Commission because of concerns that many consumers are being sold policies that are not suitable for them.
Many PPI policies are added to the loan, meaning the interest you pay include the loan amount as well as the cost of the insurance. This can be extremely costly adding hundreds or even thousands of pounds to the cost of a loan.
However, if you do decide to plump for PPI, then it is essential you shop around – 80% of PPI policies are sold by bank providing the loan but research suggests that buying from a direct provider is the cheapest way to insure your repayments.
Payment protection insurance is designed to cover you should you fall ill, have an accident or lose your job and can’t make repayments on loans or credit cards. However, research by consumer watchdogs found the cover to be overpriced, filled with exclusions (policies exclude self-employment, contract employees and pre-existing medical conditions) and were often mis-sold because the exclusions were never fully explained. In May 2011, the High Court ruled banks had knowingly mis-sold PPI and ordered them to compensate around two million consumers.
A report containing detailed information on a person’s credit history, a record of an individual’s (or company’s) past borrowing and repaying, including information about late payments and bankruptcy. It also includes all applications a person has made for financial products and whether they were rejected or accepted. Your credit report can be obtained by prospective lenders to determine your creditworthiness.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.
This is used to compare interest rates for borrowing. It is the total (or “gross”) interest you’ll pay over the life of a loan, including charges and fees. For credit cards where interest is charged at more frequent intervals, the APR includes a “compounding” effect (paying interest on interest). So for a credit card charging 2% interest a month (equating to 24% a year), the APR would actually be 26.82%.