Five considerations before taking out a loan
Increasingly, loan advertisements and telemarketers are telling you how easy it is to borrow money by flaunting low interest rates and simple application processes that tempt you into getting your hands on money for spending. In fact, borrowing money is never that simple. Before you borrow, be sure to carefully consider why you are borrowing and how you are going to repay the money back. Borrowing is not necessarily bad if it helps to make you better off, not worse off, in the long run. Such borrowing can be for your education, to buy a property, etc. Consider these five questions before taking out a loan.
1. Do you really need a loan?
When you take out a loan, you not only have to pay back the money you borrow, but also the interest. That is the money that you can put towards savings or to spend on other things. Are you borrowing for non-essential items such as a new phone or a vacation? A $30,000 personal loan, with an interest rate of 15% a year, repayable over two years on a monthly basis, would cost you $4,590 in interest. If you did not take out the loan, you would be better off by that amount.
In many cases, borrowing money is rarely the best option. There are other ways to pay for the things that you really want with proper planning. For instance, if you are intending to go on holiday, start saving in advance. Set aside some money every month until you have enough to cover the cost.
2. Can you repay the loan?
Before you take out a loan, prepare a budget and list your monthly expenses, savings and debt in detail. Work out to see if you can afford to repay each month. If you don't have spare money, you will find it hard to make the repayments.
Even if you have the ability to repay the loan, do not borrow more than your actual needs. Choose a payment term that best suits your circumstances. Repay the loan as soon as possible – the longer you take to pay it back, the more interest you will pay.
3. Is the financial institution reliable and reputable?
You may have received telephone calls promoting low interest rate loans or loan applications highlighting "no fee for unsuccessful cases". Beware of offers that sound too good to be true as these might be some of the common tricks used in loan intermediary scams.
Do not believe callers easily. If they claim that they work for or represent a bank, financial company and even the government, you should call the concerned institution to check their authenticity. Banks or mortgage companies will never request their clients to borrow money from another finance company to repay existing loans. Don't pay any intermediaries.
If you really need a loan, approach reputable banks or financial institutions, and make sure that you compare rates, and terms and conditions.
4. What is the Annualised Percentage Rate (APR) of the loan?
There are different commonly used basis on which interest is calculated in the market, e.g. monthly flat rate or annual rate for personal instalment loans and daily or monthly compound rate for credit card outstanding balances. Also, there may be other fees that you have to pay, such as handling fees and annual charges. You need to consider all fees and interest rates before agreeing to a loan.
All financial institutions supervised by the Hong Kong Monetary Authority have to state and calculate the APR of their personal loans and credit cards in a way agreed by the banking industry's associations. The APR should include the basic interest rate, as well as all other fees related to a loan. Consumers can use APR to compare the actual costs of different loan products.
5. What happens if you fail to make loan repayments or make late payments?
Apart from extra interest and/or handling fees, your credit report will be impacted if you fail to repay your loans or if you are late in making payments. This could make it difficult for you to get loans or mortgages in the future. A poor credit history will also affect your work life and promotion opportunities in some industries such as the police or armed forces, financial sectors, regulatory bodies etc.
Excessive borrowing may have serious consequences on your financial health and give rise to stress. If borrowing becomes a habit, or when borrowers take out new loans to cover existing debts, and their financial situation becomes unmanageable, their problems can spiral out of control. There have been media reports from time to time on bankruptcies or even family tragedies caused by debt problems. Think seriously before taking out any loans.