Why Taking Out A Loan Is A Good Idea And Why It’s Not

If you’re running short on cash or you need to borrow money for a major purchase, taking out a bank loan may be the answer. Bank loans generally offer flexible repayment terms and they’re less expensive than payday or cash advance loans. On the other hand, borrowing money from a bank does have some drawbacks. Before you apply for a bank loan, it’s helpful to consider all of the potential advantages and disadvantages

Disadvantages

1. Building Wealth

Borrowing money can be detrimental to building wealth over time. When you borrow form a bank, you must pay interest on the money you borrow. The interest you pay decreases the amount of money you will have leftover to save or invest. Interest payments can be large for expensive purchases such as homes and cars.

2. Good Debt vs. Bad Debt

Certain types of debts are often considered “good” while others are considered “bad.” Borrowed money spent toward something that has the potential to provide income or an increase in value, such as education or a home, is considered “good debt.” Borrowed money spent toward depreciating assets and things that do not provide income or an increase in value, such as cars, clothes and living expenses, is considered “bad debt.” Good debt can lead to higher income or a positive return on investment.

3. Difficulty

Bank loans are relatively more difficult to get than other types of loans, because banks establish stricter credit standards. If you’re looking for a small loan, using a credit card might be a better option.

4. Credit

A bank loan can negatively affect your credit, especially if you take out a large sum or only make minimum payments. Failure to repay the loan can destroy your credit and even necessitate filing for bankruptcy.

5. Financial Concerns

If you used a car or other personal property as collateral for the bank loan, you could lose your property. A loan can also cause you unnecessary financial stress, especially if you are already struggling to make ends meet. Before taking out a bank loan, ensure you will have enough money to pay the loan back even if you encounter unexpected financial difficulties such as a layoff or pay reduction.

Advantages

1. Large Purchases

Borrowing money from a bank can enable you to make large purchases that you might not be able to afford otherwise. Homes, cars and education are just a few of the things that bank loans can help you purchase. Without willing lenders like banks, it would be difficult for people to own homes, start businesses and make many other common purchases. Bank loans help facilitate economic activity.

2. Credit Implications

Borrowing money from a bank can have both negative and positive impacts on credit scores. The total amount of debt you have and the amount of new debt you take out will tend to reduce your credit score. In the short term, taking out a new loan from a bank will typically hurt your credit score. On the other hand, making payments on time and having a long credit history can boost credit scores. If you are able to pay off your loan successfully, it may increase your credit score.

3. Flexibility

Unlike some other types of loans, a bank loan is highly flexible. After you are approved for the loan, you’ll receive the money and can use it for whatever you wish. A personal loan from a family member or friend might have more flexible terms, but banks don’t typically criticize personal finance choices, as family members might. If you want fast access to cash without having to account for your spending choices, a bank loan is often preferable to a personal loan. And bank loans tend to have significantly lower interest rates than credit cards, making them a better choice for large loans and purchases.

4. Speed

A bank loan typically takes only an hour or so to apply for, and you’ll have an answer about your approval almost immediately. Loans from friends and family members may take weeks as they debate the terms of the loan and whether or not they want to give you the money. Bank loans for cars or homes might be contingent upon the car or home you wish to buy and the down payment you’re able to make.

5. Better Rates

A second benefit of borrowing from a bank is the money you’ll save on interest. You could take a cash advance from your credit card, but you’ll likely have to pay a fee for borrowing the money. On top of the fees, credit card companies typically charge much higher interest rates on cash advances than purchases. Payday loans are another option if you need cash fast, but the Federal Trade Commission warns that these types of loans can carry interest rates nearing 400 percent. Bank loans, on the other hand, typically feature rates of 10 percent or less, depending on the type of loan you get.