In today's financial landscape, loans have become an integral part of many people's lives, providing the necessary funds for various purposes.

Whether you're planning to make a major purchase, consolidate debt, fund a personal project or need a temporary cash injection, understanding the different types of loans available is essential for making informed borrowing decisions.

What is a loan?

A loan is a financial arrangement where one party, typically a bank or financial institution (the lender), provides a specific amount of money to another party, known as a borrower. The borrower agrees to repay the loan amount back period of time with interest added on.

Loans can help individuals acquire funds for various reasons, and may be used to finance personal expenses, purchase assets like a a home or car, or to consolidate existing debts into one monthly repayment.

During the process of obtaining a loan, the lender and the borrower agree on specific terms and conditions, including the loan amount, interest rate, repayment term and any additional charges or fees. This will then be documented in a legally binding loan agreement that outlines the obligations and responsibilities of both parties.

Secured and unsecured loans

When searching for a loan, you will come across two main categories: secured loans and unsecured loans. Understanding the difference between these loans will help you in making informed borrowing decisions.

Secured loans

The loans require collateral, which is an asset of value such as a property, car or savings account. This collateral serves as security for the lender in case the borrower defaults on the loan.

Unsecured loans

Also known as personal loans, no collateral is required and the eligibility criteria is normally based on the borrower's creditworthiness and income.

Different types of loans

Loans are categorised based on factors such as purpose, repayment structure and security. Some common types of loans include mortgages, personal loans, car loans, payday loans, short term loans and debt consolidation loans. Each loan type has its own eligibility criteria, interest rates and repayment terms and are tailored to meet the needs of the borrower and lender.

Business loans

Tailored specifically for businesses and entrepreneurs, these loans may provide funds to start, expand or manage operations. These loans can be used for various reasons such as financing inventory, purchasing equipment or covering working capital needs. The eligibility criteria for a business loan will vary based on factors such as creditworthiness, industry and business size. Business loans can either secured or unsecured.

Car loans

Also known as auto loans, car finance or vehicle finance, these are used to purchase a car. Depending on the lender and the borrower's circumstances, these may be secured or unsecured. A secured car loan will use the vehicle as collateral, whilst an unsecured car loan will not require collateral, but it may have a higher interest rate. Car loans are typically repaid in fixed monthly instalments over a set period.

Debt consolidation loans

This type of loan allows borrowers to pay off high-interest debts, such as personal loans or credit card balances with a new loan that offers a lower interest rate. By helping individuals combine multiple debts into one single loan with one monthly repayment, a debt consolidation loan may make it easier to manage finances and reduce the overall cost of borrowing.

Guarantor loans

A guarantor loan is similar to a personal loan, however you need to have someone who will guarantee to repay your loan if you are unable to or stop making the payments. The guarantor can be anyone (usually a close friend or relative) given that they meet the lenders criteria. The criteria for the guarantor will vary depending on the lender, but generally they must have good credit, be over 21 and a homeowner. 

Mortgages

A mortgage is a long-term loan that is designed for individuals looking to purchase a property. With the property serving as collateral, this loan allows the individual to borrow a substantial amount of money to buy a home. Due to the security provided by the property, mortgages generally have lower interest rates compared to other types of loans. To learn more about mortgages.

Payday loans

A payday loan is a short-term loan that is intended to cover urgent or unexpected expenses until your next payday. These are typically repaid in full within a short period, usually within a few weeks and often have high interest rates. Due to their high costs and the risk of a debt cycle if not managed responsibly, payday loans should be approached with caution.

Personal loans

Personal loans are one of the most common forms of borrowing in the UK. They provide a lump sum of money that can be used for various purposes, for example home improvements, financing a wedding or purchasing a vehicle. Personal loans are generally unsecured, meaning that they do not require collateral. Factors such as your credit history, income and affordability will determine the loan amount, interest rate and repayment term that are available to you.

Student loans

These are designed to help finance higher education. The UK government provides student loans to eligible students to help cover tuition fees and living costs. Usually these loans have low interest rates and repayment options, with repayment beginning once the borrower's income has reached a certain threshold. After a set period, any remaining balance is normally written off.

Whatever your reason for searching for a loan, it is important to carefully consider factors such as interest rates, repayment terms, eligibility criteria and the impact on your financial situation before choosing a loan. Remember, the key to maintaining a healthy financial life is to borrow responsibly and stay up to date about your financial commitments. After reviewing your options, choose the loan that best aligns with your goals and budget, and make sure to always review the terms and conditions before signing any loan agreement.

Editorial Disclaimer: This article was updated 09.07.2023.

Opinions expressed here are the author's alone, and not those of any bank, credit card issuer or any other company. This article has not been reviewed, approved or otherwise endorsed by any of these organisations.

NB: The information on this page does not constitute financial advice, please do your own research to ensure that the product / service is right for your individual circumstances.