Borrowing
At some point, you'll probably need to borrow money to make significant purchases or pursue personal goals. Buying your first car or starting your own business will likely require getting a loan from a financial institution or another lender.
A loan is a financial arrangement between you and a lender, such as a bank. Both of you agree on terms and conditions, stating you'll repay them money borrowed within a determined amount of time. In return for this service, the lender charges interest, usually expressed as an 'annual percentage rate' (APR). For example, if you have a $3000 loan with a 10% interest rate, over the course of the year, you will pay $300.
Why is interest included? Lenders take on a degree of risk in the event you are not able to pay them back.
| Financing a used car |
at 12% |
at 6% |
| cost |
$6,000.00 |
$6,000.00 |
| you have |
$2,000.00 |
$2,000.00 |
| you borrow |
$4,000.00 |
$4,000.00 |
| your payments |
$105.37 |
$93.96 |
| total interest |
$1,057.76 |
$510.08 |
| Total cost: |
$7,057.76 |
$6,510.08 |
| |
You save: |
$547.68 |
Types of credit
Not all types of credit are the same — credit cards, lines of credit and term loans have different uses, and different terms and conditions. Some credit products have a variable interest rate, which means the interest rate you pay will vary with the cost of credit. Other credit products have an interest rate that is fixed for the duration of the loan.
Credit cards
A credit card works much like other types of loan — you take out a loan to make a purchase, and you agree to pay back the loan, including any interest. Unlike other loan products, additional features make credit cards a handy payment tool:
- They are quick and easy to use, and widely accepted.
- They are not hard to get, especially if you've already got a good credit history.
- There is often — not always — a grace period before you have to pay interest.
Credit cards have costs associated with them that you should know about. You may pay an annual fee for the use of the card. Plus, you pay interest if you don't pay the full balance due each month. Each month, your bill will show the minimum you must pay — but be careful, if you pay only the minimum payment, you will be carrying a balance and paying interest for a long time. It is better to pay off your credit card balance in full each month, within the grace period, to avoid paying interest. If you are finding this difficult, this may be a sign that you need to re-evaluate your monthly spending.
Another feature of credit cards is the cash advance. This is a loan, and the grace period doesn't apply like on purchases, so you have to pay interest on it from the day you take it out. The charges can add up, so cash advances should be used only for emergencies.
Like other financial products, different cards have different features and different charges. Shop around to find the one that offers the services you need at the best price. Interest rates can vary substantially depending on what kind of card you have.
Student loans
A student loan is an investment in your future. But it is wise to take borrowing for school just as seriously as any other type of loan. Student loans are arranged by the provincial and federal governments. The student loan program arranges to lend you money while you are in a post-secondary education program. You repay the loan at an interest rate set by the government starting six months after you leave school.
Student loans are low-cost, but they are not free, and you have to be able to manage the payments when you leave your education program. So know how much you'll require, and don't borrow more than you need. Don't forget that there are other options that can reduce the amount you need to borrow:
- Apply for scholarships and bursaries.
- Use your savings, and consider selling high-value assets you may have, such as a car.
- Consider a part-time job. The more you can earn, the less you have to borrow.
Remember, a student loan is a legally enforceable contract. Make sure you understand the terms and are able to live up to them.
Borrowing Tips
- Shop around
Compare interest rates for loans at different banks and financial institutions. The interest they charge will vary, so make sure you see what's out there in the market. Depending on the size of your loan, the interest rate can make a big difference in the total cost of your loan, so pay attention. You don't have to accept your first offer.
- Keep within your budget
Borrow only what you can afford. That way you can pay back your loan, plus expenses, and still have some of Your Money left for savings.
- Pay back more and pay more often
Two things affect the cost of a loan: the interest rate and the length of time it takes you to repay. Making additional payments when you can against the principal of a loan will mean you'll pay it off sooner and pay less interest in total.