When looking to borrow money, it’s important that you choose the correct product for your circumstances. There are many different loan types, all of which serve a specific purpose in meeting a borrower’s financial goals.
In this article, we will break down the key types of loan, the most important ones and other key points that could help you when looking to take out a new loan.
A car loan is a short-term finance facility that offers a borrower a sum of money which is used to purchase a car. The borrower (the entity who is receiving the loan) can be an individual, business or other type of organisation (such as a charity or not for profit etc.) They are usually taken out over 1-5 years.
There are two different types of car loan, those that are secured against the vehicle, and those that are unsecured. The types of car loan a dealer will give are usually secured against the vehicle, whereas loans from your bank are often unsecured.
When looking to take out a vehicle loan in the UK, high street banks such as Lloyds Bank, Santander, Barclays, HSBC and NatWest tend to offer low-interest rates. Other leading providers include Mu Car Credit, Zopa, AA Car Finance and Shawbrook Bank.
When trying to find the best car finance interest rates, talking to your bank and using an online comparison will give you a strong idea of the deals available.
The interest rate you pay will vary depending on the lender you choose to apply to, your credit history and the amount you’re looking to borrow. Larger loans (£5,000 and above) tend to come with lower rates, with interest rates increasing for loans below this level.
These loans are usually offered on a capital repayment basis, meaning that with each monthly repayment, the outstanding balance reduces. Assuming all payments are made in full and on time, the loan is fully repaid at the end of the term.
When applying to a lender, they check that the loan meets their income requirements, and may require proof of income to confirm this. Income can be proven by sending a copy of your payslips or SA302s (for self-employed applicants) or through open banking.
Cash loans are also known as a cash advance and are a type of very short-term unsecured personal loan that are available quickly to cover a financial emergency. These loans usually come with very high-interest rates, often more than 400% per annum, which would mean that for every £1 that you borrow, you pay £4 in interest when borrowing for 1 year.
As such these loans are often viewed as a last resort and as such may have a negative impact on your credit file, even if you make all repayments on time.
Unlike other forms of loan, these products are usually paid to you in cash, with many lenders delivering the funds to your home. This means that borrowers who don’t have a bank account may still qualify.
Cash loans represent a very niche area of the loan market that is quite detached from the wider financial market. High street banks don’t offer cash loans and even the biggest lenders in the cash loan market aren’t generally well known and are much smaller than other financial institutions.
As such, the application process is unlike other products and affordability is calculated individually.
A payday loan is a type of unsecured personal loan which is paid into your bank and repaid over a relatively short term. Most of these loans must be repaid when the borrower receives their next paycheck, although some lenders allow them to be repaid in instalments over a term of up to three months.
Like cash loans, these products often come with an APR of 400% or more, making them far more expensive than many other types of loan. In another similarity to cash loans, taking out a payday loan can hurt your credit rating, even if it’s repaid on time, making it more difficult to qualify for other types of credit in the future.
As these loans are designed to cover an emergency, lenders tend to accept applicants who are in financial difficulty. You may qualify for a payday loan, even if you’ve been turned down for a personal loan, credit card or overdraft.
The main lenders tend to be smaller, specialist payday loan lenders, such as Cashfloat, Drafty and Moneyboat, rather than the well-known banks. These lenders tend to take a relaxed approach to assessing affordability, meaning it’s important that you ensure that the loan is affordable to avoid falling into financial difficulty when the loan falls due.
Student loans are a specialist type of unsecured personal loan that is available to help students fund their college or university tuition fees, as well as other living expenses. They are usually repaid through monthly repayments after the student has graduated and begun earning a regular salary.
These loans are offered by the UK government, rather than traditional banks or lenders.
Student loans usually come with fixed interest rates rather than having set monthly repayments. Your income will decide how much you pay each month (and therefore how quickly you repay the loan), which of these makes a student loan different from other types of loans.
They have very restricted use and can only be offered to students, meaning they won’t be suitable for most borrowers. Most students will qualify, however, even if their credit history is poor.
Debt consolidation loan
A debt consolidation loan is a type of loan that is used to combine multiple separate debts into one. There are different types of debt consolidation loan, including homeowner loans (also known as a second charge mortgage)unsecured, secured loans, business loans and even mortgages.
They are often used to consolidate debts held on credit cards, personal loans, overdrafts, payday loans and store cards. The most common types of debt consolidation loans are secured loans and unsecured personal loans.
When taking out a debt consolidation loan, the key consideration should be the impact on your monthly payments and the total cost of the overall debt. When extending the term of your borrowing, you will see your monthly payments reduce, but the total amount repaid increases.
Secured loan rates will usually be lower than those charged on unsecured rates, but are only available to homeowners with sufficient equity in their property. The rates charged on secured loans are usually lower than unsecured loans, with rates of 3.5-6% common for secured loans and 6-12% for unsecured loans.
Unsecured debt consolidation loans are often offered by high street banks such as Lloyds Bank, Barclays, Santander as well and personal loan lenders such as Zopa and AA. Secured lenders include Shawbrook, United Trust Bank and West One.
Bridging loans can be used to purchase land with or without planning permission and are often used when funds are required quickly. Property development finance is used to fund the development of land and allows you to borrow against both the equity in the land and your anticipated build costs.
The interest rates charged on land loans tend to be higher than those associated with mortgages, with rates of 5.5-9% per annum being common. In addition, the loan to value offered by lenders is usually restricted to 50-65%, meaning you would require a deposit of 35-50% of the value of the land.
Bridging loans for land often allow you to roll your interest into the loan, rather than paying it monthly, which is different to most other types of home loan. When rolling up your interest, you repay it in full when the loan is repaid, in one lump sum.
Land loans are usually offered by bridging loan and development finance lenders such as United Trust Bank, Shawbrook Bank, Mint Bridging and Together Money.
Although often considered a separate product, a mortgage is a type of loan, albeit one that is secured by a legal mortgage against a property. A mortgage loan allows you to buy or refinance a property. Refinancing a property is known as a remortgage, something that is often done to reduce the interest rate, reduce monthly payments, consolidate debts or modify your repayments terms in a variety of other ways. Interest rates on mortgages are usually low, even for borrowers with adverse credit. Loan to value is a key factor in the rate you achieve and your chances of approval, with a larger deposit improving both.
There are several different types of mortgage lender including high street banks, challenger banks and specialist lenders. Leading lenders include Lloyds Bank, Santander, NatWest, Barclays and TSB.
Small business loan
A small business loan is a type of loan that is offered to small and medium-sized businesses, also known as SMEs. There are several types of business loan, including unsecured business loans, secured business loans, business revolving credit facilities and merchant cash advances.
Each product type has its benefits, drawbacks and likely costs. The best way to reduce your interest rate and increase your chances of approval is to offer security for your loan.
The main types of collateral that can be used to secure a business loan are property, machinery and vehicles.
These loans are offered by a wide range of lenders including high street banks and specialist lenders such as Funding Circle, Fleximize and Start Up Loans.
Boat loans are a type of asset finance, whereby a loan is offered to purchase or refinance a boat. These loans are usually secured against either the boat or another asset.
An alternative approach when looking to raise funds to purchase a boat would be to use an unsecured personal loan. This approach may come with a slightly higher APR but comes with a simpler application process.
Popular lenders for funding the purchase of a boat include Barclays Bank, Santander, HSBC, Lombard and Hitachi.
Home equity loan
A home equity loan allows you to borrow money against the equity that you have in your home, or an investment property. These loans are usually easier to qualify for than unsecured loans and can be taken over a longer-term, meaning the monthly costs are lower.
As home equity loans are reliant on the amount of equity that you have in your property, loan to value is also key, as is the quality of your property.
Loans secured against your own home are regulated by the Financial Conduct Authority (FCA) and as such, may come with stricter lender criteria, but also offer far greater consumer protection.
A wedding loan is a type of personal loan. They allow you to borrow a lump sum to fund your wedding costs, with the loan usually being repaid over 2-5 years.
As these loans are unsecured, the interest charged on them is usually higher than those on secured loans and mortgages, especially for borrowers with a poor credit history.
These loans are usually offered by well-known lenders including Zopa, NatWest, HSBC and Lloyds Bank.
A title loan is a loan that is offered only when an asset is offered as collateral. Title loans are a type of asset finance. As security is offered over an asset, the lender is more secure and the success rate of applications is often higher. In addition to this, interest rates are often lower, especially for applicants with a clear credit history.
In the UK, leading asset finance lenders include United Trust Bank, Paragon and Close Brothers.
Pool loans, as the name suggests are a type of personal loan that is used to pay for the installation of a swimming pool. They are relatively uncommon in the UK, but are popular in the USA and Australia. They come with low interest rates and a simple application process. As swimming pools are a large investment, pool loans are usually relatively large, often in excess of $50,000.
A family loan is a type of short-term, unsecured loan that is offered by credit unions to families who receive Child Benefit. Family loans tend to be for smaller amounts, often up to £500 and tend to come with relatively high-interest rates of 40% or more. Funds are usually repaid weekly and may be taken directly out of your Child Benefit. As direct payments from DWP remove the risk of missed payments, it often means that even borrowers with a poor credit history may qualify for a family loan.
Pawnshop loans allow you to offer a piece of security in exchange for an upfront cash sum. When using a pawnbroker, you ‘sell’ the item for a set price and have the option of buying it back for an agreed price, within an agreed timeframe.
Should you fail to buy back the item within the agreed timeframe, it will be sold, and you lose the right to buy it back.
While this can be a reliable way to raise cash quickly, it is naturally a very risky product and could result in you losing a cherished item.
A personal loan is a type of unsecured loan that allows you to borrow a sum of money, which is then repaid over 1-7 years along through regular monthly payments. These loans are offered by a variety of lenders including high street banks, challenger banks, peer to peer lenders and specialist personal loan lenders. As there is no collateral offered for a personal loan, the rates charged tend to be higher than the various types of secured loan. Again, as with other types of unsecured loan, your credit history is key and any previous adverse credit could impact both your interest rate and eligibility for a personal loan.
Personal loans can be used for almost any reason including purchasing a car, debt consolidation, home improvements and funding a large, one-off expense.
A business loan is a type of loan that is used by companies to raise capital. There are several types of business loan each with different types of assets used as security. Unsecured business loans don’t require any security, and as such often come with higher rates.
Secured business loans, revolving credit facilities and business cash advances are other popular types of business loan. Although they’re more of a type of revolving credit than a traditional loan, invoice finance, invoice factoring and invoice discounting are other types of finance that could be considered.
When applying for a business loan, the financial performance of the company is key to your success and lenders will check your accounts and bank statements carefully.
While lenders may take a strict approach to unsecured loans, you may be able to increase your chances of success by offering security over property, machinery or assets.
There are several key lenders in the business loan market including Funding Circle, Start Up Loans, Lloyds Bank and the other high street banks.
Short-term loans are a type of term loan that is arranged for 12 months or less. While short-term loans are usually unsecured and for amounts of £1,000 or less, bridging loans are a type of short-term loan and allow you to borrow much higher amounts. Short-term loans are usually used to fund cash-flow emergencies, such as an urgent bill.
Unsecured short-term loans often come with high-interest rates and are offered by lesser-known lenders, rather than well-known banks.
A long-term loan is generally considered to be a loan that is repaid over 5 years or more. These loans can be either secured or unsecured. The most common unsecured long-term loan is the personal loan, or unsecured business loan, while the most common secured options are secured loans, secured business loans and mortgages. As long-term loans rely on monthly repayments over a longer period, lenders will usually check your income and expenditure carefully when you apply.
Loan against property
Loans against property are a type of secured loan and use your home or other property as security, often allowing you to borrow more money, and at a lower interest rate. As security is being offered to the lender, the lender’s criteria may be less onerous than is the case with unsecured loans.
They are often used to consolidate debts, raise funds for home improvements, fund an urgent bill or for business purposes.
When securing a loan against your own home, it will become regulated by the FCA, meaning your choice of lenders may be reduced.
A gold loan is a type of loan which is secured against gold items, such as jewellery. Gold loans are usually offered for a percentage of the value of the gold used as collateral, for example 80% of its value. They are usually reserved for high quality gold, ranging from 18-24K.
A gold loan is a very specialist area of lending and as such is usually offered by specialist lenders, as opposed to the well known high street banks and personal loan lenders.
Loans Against Mutual Funds and Shares
Loans against mutual funds and shares allow you to borrow funds against the value of investment products and individual shares. They are a type of personal loan that uses invested funds as collateral for the loan. They allow you to borrow a percentage of the total value of the invested funds, often around 80%, although it may be lower for risky investments, or in times of market uncertainty.
Loans against mutual funds and shares are usually reserved for wealthy borrowers through specialist private banks such as HDFC Bank, HSBC Private Bank and ICICI Bank.
The addition of security for the lender usually allows you to borrow at a lower rate than unsecured loans, and means a greater chance of having your application approved.
Loans Against Fixed Deposits
Loans against fixed deposits are a type of secured loan, which uses fixed deposit savings accounts as collateral, in exchange for a lower rate than would be offered on an unsecured loan. Loans against fixed deposits have a high acceptance level due to the nature of the security offered over the fixed deposit account.
As with loans secured against mutual funds and shares, loans against fixed deposits are mainly offered by specialist private banks such as HDFC Bank, HSBC Private Bank and ICICI Bank.
Vehicle loans are loans that are used to facilitate the purchase of a new vehicle, such as a car, van or motorbike. These loans are usually a type of unsecured personal loan, although when being purchased by a business, asset finance providers may be willing to offer a vehicle loan. Vehicle loans usually use the vehicle as collateral, which may lead to lower interest rates and a higher chance of approval.
Veteran loans are a type of personal loan for serving, or ex-members of the armed forces. These loans are usually unsecured and offered alongside several grants to support servicemen and women.
Unlike other types of loan, service loans are usually offered by specialist credit unions who work only in this niche.
As the key lenders lend only to those who have served in the armed forces, they understand the unique challenges that veterans face. This may mean that your chances of being approved for a veteran loan are higher than they would be with traditional lenders, especially if you have suffered adverse credit.
Flexi loans allow you to withdraw funds and repay them as required to help your cash flow. These loans are usually unsecured, although there are secured flexi loans, such as offset mortgages. Although you can draw down funds as required, you must stay within an agreed credit limit that is set when you take out a flexi loan.
What are the main loan types?
The main loan types can be broken down as follows:
- Unsecured loans
- Secured loans
- Personal loans
- Business loans
- Bridging loans
- Short-term loans
- Long-term loans
Even once broken down, each product can often be broken down further, for example, there are many types of bridging loan, including regulated bridging loans, unregulated, commercial bridging loans and property refurbishment finance.
While this may seem confusing, the first step is understanding what you’re looking for from a product.
For example, if you’re looking to borrow personally and don’t want to offer security for your loan, you will need a type of unsecured personal loan. From there, it can be narrowed down further depending on how long you’d like to borrow for and the type of loan repayment you’d like.
What is an unsecured loan?
An unsecured loan is a type of loan which allows you to borrow money without offering the lender security over an asset. As the lender won’t hold any security, your credit rating is usually key to the success of your application.
What are secured loans?
Secured loans allow you to borrow money against the equity held in a property. The property offered as security can be your own home, an investment property, or in some cases, your business premises.
What should I know about the main loan types?
There are a few things that you should know about the main loan types before you get started. The main things are:
- Each loan has it’s own specific role in the financial world, and understanding which is the most suitable for you is very important.
- Each loan type has its own application process and eligibility criteria. This should be checked before applying.
- The loan with the lowest interest rate isn’t always the best deal. Consider all fees and charges before choosing a product.
- If you fail to keep up repayments on a loan which is secured against your home, your home could be at risk of repossession.
What are the main types of loan covenants?
There are two main types of loan covenant, positive covenants and negative covenants. A positive covenant are things that a borrower must do, such as maintaining suitable insurance, keeping the asset well maintained and complying with relevant laws. Negative covenants are things that the borrower must not do, such as letting a property fall into disrepair and exceeding the agreed loan to value level.
What are the types of loan repayment plans?
Several loan repayment plans can be used when taking out a new loan. The main ones are as follows:
- Capital repayment – When borrowing money on a capital repayment basis, you repay the loan over the term through your regular monthly payments. These payments are made up of both interest and capital, which means that your balance reduces with each payment. Personal loans are a good example of capital repayment loans.
- Interest only – Interest only facilities require you to pay only the interest each month, with the balance becoming due in full at the end of the term. This is uncommon when taking out an unsecured loan, but is common on some secured products, such as buy to let mortgages.
- Income-based repayments – Some facilities, such as business cash advances allow you to make daily repayments at a set percentage of your daily takings. This means that you pay back more when you’re earning more, and less when your income is down.
- Rolled up interest – Rolled up interest is common on some types of bridging loan and allows you to add the interest to the loan each month, leaving you with no monthly payments to make. With this method, the interest is repaid in full, along with the capital, at the end of the term.
How does main loan types affect financial planning?
Financial planning is the process of organising the financial affairs of either yourself or another to move toward financial and lifestyle goals. Financial planning can be done personally or offered as a service professionally by a financial advisor.
The type of loan you take out can have a great impact on your financial planning as each financial decision will impact other areas of your finances. The types of loan covenants can have a great impact as the security offered may impact other types of borrowing.
For example, securing a loan on your own home may make remortgaging more difficult and a personal guarantee could impact your eligibility for other types of credit.
Which loan type is better?
When trying to work out how to borrow money most advantageously, there is often no one, correct answer. Instead, you must consider which product best suits your own individual needs.
As mentioned above, you should consider whether you will be borrowing the funds personally or through your business, unsecured vs secured loans and how long you’d like to borrow for.
Using this approach you can quickly narrow down the best loans for you and start comparing your options.