If you’re like many consumers, you subscribe to the notion that all debt is bad debt and that taking out a personal loan is almost never a good idea. That is simply not true. In fact, a personal loan can be advantageous in many situations. If you need to take out debt for any reason (need being the keyword here), don’t discount personal loans in Canada.
What Is a Personal Loan?
If you’re like most people, the debt with which you’re most familiar is credit card debt. Credit card debt is a form of revolving debt, meaning you have access to an allotted amount of funds as you need them. You can take as long as you want to pay off your balance, so long as you meet the minimum monthly payments. However, in exchange for the continuous line of credit, you must pay an interest fee on your existing balance, which is typically quite high.
A personal loan, on the other hand, is a lump sum of money you receive at one time. It is not revolving. Even as you pay it down or pay it off, your line of credit does not get restored. Lenders typically allow borrowers between two and five years to pay off a personal loan, though some may extend the term to seven. Most personal loans come with fixed interest rates. A lender may require you to pay back the loan in monthly payments or installments.
There are two types of personal loans you can take out. Both of which come with their unique advantages and disadvantages:
• Unsecured Personal Loan: Most personal loans Canada fall into this category. These loans are not backed by collateral. Instead, a lender may extend a line of credit based on your credit history and financial qualifications. Because lenders take a greater risk with unsecured personal loans, these loans often come with higher interest rates.
• Secured Personal Loan: Secured loans, on the other hand, are backed by collateral, such as your car, home or savings account. If you default on payments, the bank can legally assume ownership of the security. You assume the majority of the risk with a secured loan, but at a lower price.
Pros and Cons of Personal Loans Canada
Regardless of which type of loan you qualify for, it’s important that you carefully weigh the pros and cons before accepting any money. Below are just a few of each to consider.
Advantages of Personal Loans
• Flexibility of Use: Many types of loans have a specific purpose, e.g., auto loans are for vehicles, mortgage loans are for homes, student loans are for school costs, etc. You can use a personal loan, however, as you see fit. Whether you want to use it to consolidate debt, remodel your kitchen or start a business, you can.
• Reasonable Rates and Terms: Though unsecured personal loans have higher interest rates than secured debt, the rates are reasonable across the board — especially when compared with rates associated with other types of debt. For instance, personal loan rates typically start as low as 5.6%. In contrast, average credit card interest rates start at 20%. Personal loan lenders also grant reasonable repayment terms of between six months and seven years, depending on the size of the loan.
• Quick Cash: If you find yourself in a bind, you can receive a loan in as little as 24 hours. Most credit cards take at least a week, maybe two, to arrive in the mail.
• Credit Score Boost: When used responsibly, a personal loan can help you boost your credit. The simple act of taking out the loan can add to your credit mix (10% of your score) and decrease your credit utilization rate (30% of your score), two factors that can boost your score. If you use the loan to consolidate debt, you can increase your score even more.
Disadvantages of a Personal Loan
• Potential for Abuse: Personal loans are one of the most abused forms of credit because of their flexibility of use. Compounding that issue, they’re fairly easy to acquire. It is not uncommon for borrowers to pull out personal loan after personal loan to pay for big-ticket items, vacations, everyday bills or other items they cannot afford.
• Affordability: Because of how easy personal loans are to acquire, consumers risk taking out more debt than they can afford. If you do this, you risk causing significant damage to your credit score and finances.
• Fixed Payments: With credit card debt, you can make the minimum payment each month and be fine. With personal loans, however, you have to pay the agreed-upon amount, otherwise you risk defaulting. If the loan is secured, that means the lender can seize your collateral.
• Prepayment Penalties: If you pay off a credit card balance in full, you’re rewarded with a boost in your score. If you pay off a personal loan in full before the repayment term is up, the lender may assess a prepayment penalty.
Personal loans come with many appealing benefits, but they are not risk-free. Do your due diligence before applying for a loan. To streamline the process, use our personal loan search engine.