Everything You Need to Know About Loans, Credit and Borrowing

There may be times when you need to borrow money, for example, to support yourself in an emergency or to make a large purchase.

There are a few different ways to borrow money, and each of them has positives and negatives associated with them.

It’s important to understand the terms of the agreement you are making and to be absolutely sure you’ll be able to make the repayments.

If you don’t keep on top of the repayments, you could end up with unmanageable debt and negatively impact your credit score. Not sure what a credit score is? Check out our money jargonbuster!

Loans & Borrowing Money

There are various ways to borrow money and the one you choose will depend on what you need the money for. 

It's important to note that, when you apply for any kind of credit such as those below, the company will check your credit file to decide how risky it is to lend you money. To find out more about credit scores, check out our information page on credit scores.

What different kinds of loans are there?

When you think about borrowing money, loans are probably one of the first things to spring to mind.

Personal loans are when you borrow money from a bank, building society or finance company for an agreed period (the 'term' of the loan). You then have to pay this back, usually in monthly instalments.

Normally you’ll be charged a fixed rate of interest. This is a percentage of the money borrowed that gets added on to the amount you pay back. For example, if you borrowed £1,000 paid back over a year with an annual interest rate of 5%, you’d pay back a total of £1,050. This is how the lender benefits from giving you the loan in the first place.

Payday loans are short-term loans of smaller amounts intended to tide you over until you get paid, for example during an emergency. The interest rates are often very high, however, so there are usually cheaper options. Visit Citizens Advice Scotland to explore your options.

Student loans are different from other loans. You only pay back student loans when your annual income is above a certain amount once you're in employment, similar to how taxes work. While you don’t have to pay back your student loans while you’re studying, your balance does start to gather interest from the day your first loan payment is received. For more information and current rates, see information from SAAS on repaying your student loan.

What is a mortgage?

A mortgage is a type of secured loan available from a bank or building society used to buy a house or other property. ‘Secured’ means that when you borrow the money you agree that, if you can’t or don't pay back the loan, the lender can sell your property to cover the money you owe. This is known as repossession.

You’ll also need to put down a deposit of at least 5% of the value of the property. The higher the deposit you can put down, the lower your interest rate will be.

Interest rates on mortgages can be variable or fixed. If your interest rate is fixed, it can’t increase or decrease. Usually, when you take out a fixed-rate mortgage it will be fixed for two to five years. This means that, for that period, your monthly payments will be the same. A variable-rate mortgage means that your interest can change, so your payments may increase or decrease at various points during the time you're paying it back.

The term of a mortgage is usually longer than other loans (sometimes up to 40 years) and will depend on your agreement.

What are credit cards?

Credit cards are another form of borrowing which are available from banks, finance companies and larger supermarkets and shops. When you get a credit card, you will sign a credit agreement which outlines the agreement you’re entering into with the lender.

This agreement includes things like:

  • Your credit limit is the amount you can borrow. This is the maximum amount you will be able to spend using the card until you pay part or all of your balance.
  • Your interest rate is what is added to the amount you’ve spent on your credit card if you're unable to pay back the sum by the due date. The interest rate varies from card to card.

Sometimes you’ll be offered a store card when you go to pay for your shopping at some shops, often with a discount on what you’re buying to entice you. These are a kind of credit card so it’s important to know what you’re agreeing to before you sign up for one.

What is a hire purchase agreement?

Hire purchase is another way of borrowing money. In this case, you pay a deposit and hire whatever it is you wish to buy, with the option to buy it by the end of the agreement.

A common example of a hire purchase agreement is when you buy a car on finance. Similarly to a mortgage, the loan is secured against the car, so it can be repossessed if you don’t keep on top of your payments. In this case, you don’t own the car until the final payment is made, so you can’t, for example, sell it while you’re still making payments.

Being in Debt

Being in debt means you owe money to somebody because you borrowed from them. That includes everything from a mortgage, to your student loan, to owing your pal £20 after a night out.

It’s hard to live completely debt-free, but what’s important is that you can manage your debt. That means being absolutely sure you can make the repayments you’re agreeing to. If you get yourself into debt that you can’t afford to pay, it can have negative and long-lasting consequences such as extra fees, repossession and a negative impact on your credit score.

Get more information about money management at Money & Me.