Installment loans allow you to borrow a certain amount of money all at once. Afterward, you are required to pay it back through a set number of payments, also known as regular installments. Payments typically happen monthly. Installment loans are usually fixed as well, meaning the borrowed amount does not change over time. Loans that stretch over a more extended period come with higher interest rates.
Installment credit may seem like a foreign concept, but it is more common than people realize. In fact, most loans that the majority of people have taken out are installment loans.
For more information on installment loans, read on.
Types of installment loans
Described below are four of the most common types of installment loans.
Personal loans can go toward multiple endeavors, such as health emergencies or home renovations. Borrowers usually repay personal loans in regular installments spread out over one to eight years. Personal loans do not require collateral or up-front payments, unlike mortgage and auto loans.
Also called home equity loans, mortgages are loans that are exclusively for purchasing a home. Borrowers typically repay this type of loan in 15–30 years. Some mortgages have fixed interest rates, so they won't increase over the loan's lifetime, while others do. To determine the loan amount, simply subtract the home's market value from the amount left to pay on the actual mortgage.
Similar to taking out a personal loan, borrowers repay this type of loan in regular installments over 12 to 96 months. Although lenders consider your credit score upon application, there is no minimum credit score required to receive this type of loan. Just as mortgage loans use your home for collateral, auto loans do the same with your vehicle. So, if you are unable to pay back the loan, the bank can repossess your car.
Student loans are prevalent, especially among young people enrolled in college. Again, these loans are repaid in monthly installments. Unlike mortgages, for instance, you can delay paying student loans for a certain period after you graduate until you find employment.
As unenjoyable as loan payments can be, they play a crucial role in establishing your credit history, which is beneficial in any bank's eyes.
How does an installment loan work?
Step 1: Choose the best type of loan for you. Deciding this depends on the reason why you require the loan in the first place. After choosing your loan type, it is wise to compare loan options, as application conditions vary from lender to lender.
Step 2: Apply for the loan. To do so, you’ll need personal information such as your address and your Social Security number, and financial information like income and a record of employment.
Step 3: Use your loan.
Step 4: Pay your installments. To reiterate, this occurs regularly, typically once a month, and you will continue to pay until you’ve repaid the loan in full.
The good and the bad of installment loans
The following visual breaks down the main advantages and disadvantages of installment loans.
Secured versus unsecured installment loans
A secured loan means that the borrower must pay collateral, while an unsecured loan means that collateral is not required, but you’ll have to pay more in interest as a result. Unsecured loans also heavily rely on the borrower’s credit history.
The maximum line of credit for a secured loan is up to you. For an unsecured loan, it is $50,000.
Moreover, a secured line of credit is often put toward more significant purchases, hence why a mortgage is the most well-known example. In comparison, lenders usually approve unsecured loans for more reasonable endeavors.
Do installment loans affect my credit score?
Yes, installment loans affect your credit score, but that impact can be either positive or negative. Payment history is the single most significant factor in your score calculations. Making timely payments will reflect favorably on your score.
Having different types of credit also factors into your score, so having a loan can be helpful not only in establishing your credit history but in diversifying it, too.
How do you qualify for an installment loan?
The most effective way to increase the likelihood of qualifying for a loan is to build up a good credit history and credit score. But every loan is different, so it depends on the type of loan that interests you. Make sure you do your research or talk to a financial advisor, so you’re aware of any requirements.
The key to loans and their subsequent installments is knowing how to borrow and, in turn, how to spend wisely. By administering your money responsibly, you'll have sufficient funds to pay back lenders. Mastering the art of handling money responsibly is a skill that takes time to develop.
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