It is important to know about the costs associated with borrowing money. You will generally repay more money than you borrowed. Credit cards are generally an exception. If you do not carry a balance and pay the current charges in full by the due date, you will not be repaying more money than you borrowed.
In addition to repaying the money you borrowed (called the Principal), you generally have to pay two costs: interest and fees.
Interest is the amount of money a financial institution charges for allowing you to use its money. It is expressed as a percentage and can be either fixed or variable.
- Fixed rates stay the same during the term of the loan, except with most credit cards, where the rate can change if the bank gives you the required notice.
- Variable or adjustable rates might change during the term of the
- loan. The loan agreement explains how the rate can change.
Fees may be charged by lenders for certain activities, such as reviewing your loan application and servicing the account.
- Common examples of fees include origination fees for home mortgages or late fees if you do not make credit card or other loan payments on time.
- Lenders often subtract fees from the loan proceeds before you receive the loan money. For example, if you borrow $1,000 and there is a $100 fee, you may only receive $900.
Prepayment is the early repayment of all or part of a loan. When you prepay, you pay the lender more than the amount of your regular monthly payment. You have them apply the “extra” amount to your outstanding balance.
- If you prepay your loan in full, you will stop paying interest because you no longer owe any money.
- If you prepay part of your loan: You could reduce interest costs
- You may finish paying off your loan earlier
Prepayment is one strategy for reducing the costs of borrowing money.
Ensure you are aware of loans having payment penalties.
- A prepayment penalty charges a fee for early repayment of all or part of a loan. The specifics vary from loan to loan.
- When you shop around for a loan, find out whether loan offers have prepayment penalties.
Vehicle Loans
For most consumers, a car loan is their biggest monthly expense after their mortgage or rent payment. That is why, when you are thinking about buying a car, it’s important to thoroughly research loan options as part of your financial planning. Here are some areas to consider:
- Determine how much extra money you have every month to use for a car payment. A good budget also includes costs like insurance, taxes, gas, and routine maintenance.
- Shop around to different banks, credit unions, car dealers, or other lenders offering low-interest rates or cash rebates.
- Call several car dealers to see if you can negotiate a lower price for a similar car.
- Before you sign a contract to finance a car, read the contract to make sure you understand the financing terms. Be sure to keep a copy of the contract signed by both you and the lender.