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When should you consider a consumer loan?

A consumer loan gives you flexibility and the opportunity to spend money as you see fit. Unlike credit cards, these loans typically have a lower interest rate and a longer down payment.

Here we take a closer look at when it is appropriate to use a consumer loan and vice versawhen it is not.

When can a consumer loan be the appropriate form of financing?

An unsecured loan means that the borrower does not need to provide collateral for the loan. However, lenders have other ways to get their money back, so don’t misunderstand.

These loans are best suited for people with stable finances. In other words; people with stable income and a low to moderate level of family debt.

With a decent credit score, you’ll also be rewarded with lower interest rates. This is because the risk of default is lower, seen from the banks’ perspective.

Unsecured loans are also prudent in cases where there are no realistic ways to secure the loan. For example, you would never finance your home this way (that’s why we have mortgages), but you may want to use it for other purchases that can’t be insured.

Unsecured loans should also be used to finance assets with lasting value. For example, to build a shed where you can work on your hobbies or a lawnmower that will last you for many years.

What should it not be used for?

Here is a short list, with some items that should not be financed with unsecured loans:

1. Monthly fixed costs: Unless we’re talking about a one-time exception (for example, the washing machine broke), you should never use it to cover your monthly fixed costs.

If you can’t afford to pay these expenses monthly, it’s an indicator that your household budget is under great pressure. Borrowing money to pay bills will only add to the financial strain on your household.

2. The initial payment of a mortgage: You should never fund your down payment requirements with anything other than your own savings. There are several reasons for this, but the most important one has to do with the financial risks you are taking.

If interest rates rise (or if you lose your income), you’ll have serious trouble covering your monthly mortgage bills. An unsecured loan would only add stress to the situation.

Also, let’s not forget why banks are required to require a down payment. It is so that you take less financial risk when you sign the mortgage.

3. Interest on other loans: This may seem obvious, but it should not be ignored. Never use a consumer loan to pay interest on other loans. You are simply pushing the problem ahead, adding more fuel to the fire.

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