Types of borrowing
Last updated on 27 January 2016
There are lots of ways to borrow money or get credit. The cost of borrowing varies enormously, so it’s worth spending time working out which is the most suitable type for your needs.
Ways to borrow
There are lots of ways to borrow money. For example, you can take out a loan, arrange an overdraft or apply for credit from a store or credit card provider. Before choosing how to borrow you need to know how much and how long you want to borrow for and look at all the options open to you.
A bank overdraft can be a convenient way of borrowing if you only need a small amount for a short period. Overdrafts are more flexible than some other types of credit because you can use them whenever you want and you can borrow as much as you want up to your overdraft limit. But bear in mind that an overdraft facility can be reduced or withdrawn by your bank at any time and the rates of interest charged are variable which means they can go up or down at any time.
There are two types of overdraft:
- Authorised or arranged overdrafts where you agree a borrowing limit with your bank. You pay interest on the amount you borrow and there may also be a daily or a monthly fee for the overdraft.
- Unauthorised overdrafts where you go overdrawn or over your overdraft limit without the agreement of your bank. Bank charges are considerably higher for unauthorised overdrafts than for authorised overdrafts.
If you need to borrow a larger sum over a longer period then a loan might be more suitable. Loans are offered by banks, building societies and other financial organisations and you often don't have to be an existing customer to apply.
There are two types of loan:
- Unsecured loans – With this type of loan you borrow a fixed amount for a set period and the rate of interest is usually fixed. Providing you make all the repayments, the money you borrow plus any interest due will be repaid in full by the end of the loan. You can generally borrow from around £1,000 up to £25,000 over one to seven years with this type of loan. If you think you may be able to pay off the loan early check with the lender how much it will charge.
- Secured loans – With a secured loan you borrow money using your home as security. If you don't keep up the repayments you risk losing your home as the debt is secured against it. Interest rates tend to be variable which means they could increase significantly during the course of the loan. Secured loans can last from one year up to 30 years and you can generally borrow from around £5,000 up to £500,000.
You can borrow money by paying for goods and services with a credit card. You will be given a credit limit on your card. The card provider will base this on your income, existing debts and how you have handled credit in the past.
If you pay off your credit card bill in full each month there is no interest to pay on purchases. If you don't, you'll have to pay interest on the outstanding balance. Average interest rates on credit cards are around 18%. Standard rates of interest on credit cards are generally higher than personal loans but you can vary the amount you borrow and repay each month (subject to a minimum).
If you owe money on a credit card you may be able to transfer the debt to another credit card where you don’t have to pay interest on the debt for up to 40 months, depending on the deal. Of course you will need to repay the debt or transfer it to another card at the end of the 0% interest period or be charged the card’s much higher standard interest rate.
Other forms of borrowing
Other ways of borrowing include loans from credit unions, peer to peer loans, store cards and payday loans (which should only be used as a last resort).
Free debt advice
If you're struggling with your debts it's a good idea to talk through your situation with a recognised debt advice agency such as the Citizens Advice Bureau, Step Change or National Debtline. These organisations offer free, unbiased debt advice.
Borrowing money from companies that are regulated by the Financial Conduct Authority gives you better protection and you will be able to complain to the Financial Ombudsman Service if you are unhappy with how a company has dealt with a complaint.