After college, the expenses continue, and sometimes loans become the answer, with car loans, house mortgages and credit cards being the most common.
For U.S. households with debt, the average amount of student loans owed is $49,905. The average for car loans is $28,948, and households with mortgages owe an average of $176,222. For credit-card debt, the average rings in at $16,748.
For most people, debt comes with a side dish of guilt. But what if debt isn’t necessarily a bad thing?
The most useful way to think of debt is as a product or service. In the same way there is a fee for a haircut or a price tag on a sofa, loans come with their own price as well.
Let’s talk about interest
The price for a loan is interest.
When it comes to loans, interest is calculated as the percentage of a loan that is periodically paid to the lender. In other words, interest is the amount of money that it costs to borrow money.
That’s right. It costs money to borrow money.
In the same way you would pay $20 for a purse or $300 for a new couch, you also pay to borrow money.
The fee that you pay is calculated based on the interest rate and the length of your loan.
For example, if you borrowed $20,000 of student loans at a 4.8 percent interest rate and had a 10-year term (assuming no extra or early payments), you would pay $5,221.79 in interest.
In other words, it would cost $5,221.79 to borrow $20,000.
But in the same way different stores have different prices, loans have different interest rates. Mortgage interest rates typically range from 4 to 5 percent, while credit-card interest rates can range from 15 to 20 percent.
For example, a credit-card debt of $10,000 with an 18 percent interest rate paid over the course of 10 years would require $11,621.21 of interest payments. In other words, the total amount of interest paid would surpass the actual amount of the loan.
It’s important to understand the true cost of your loan because it will help you understand whether the loan is worth it.
Here’s the formula:
Loan + Total Interest Paid = True Cost of Your Debt
How to get the best deal
By understanding the true cost of your loan, you will be able to make an informed decision about your debt.
Unfortunately, debt is sometimes unavoidable. If you ever find yourself in need of a loan, there are a few simple ways to ensure that you get the best deal.
- Investigate the lender. The most important thing you can do when you get a loan of any kind is to investigate the lender. Whether it’s a bank, private company or online lending platform, it’s crucial to do your homework. Use resources such as the Better Business Bureau and your state’s Office of Consumer Affairs to ensure that your loan provider is the real deal.
- Check your credit score.With the exception of education loans from the government, loans are based on your credit score. Understand your score and what it means before taking out a loan. If your score is above 700, you’ll have more leverage with securing the best possible terms.
- Don’t be afraid to ask.Regardless of your credit score, never be afraid to ask. This can be as simple as saying, “Is it possible to lower the interest rate by a percentage or two?” After all, the worst thing they can say is “no,” and you won’t be any worse off than you were before. Best case scenario? You save a few hundred bucks over the course of the loan’s life.
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