Loan terminology
An explanation of some important terms relating to credit and loans
Secured loan
This kind of credit is suitable for large loans, or where the lender does not trust the borrower for some reason (such as a poor or non-existent credit rating). In the event of a default, the lender has the ability to repossess and/or sell the collateral or security asset to recover the debt.
Likely to include an insurance covenant, and likely to “conservatively value” the security asset and provide only a percentage of the value as a loan amount (producing the “loan-to-value ratio”). Tend to be longer-term.
- Mortgages
- Bridging loans
- Home equity loans (instalment) or Revolving lines of credit (revolving)
- Mortgage offset or redraw (only from mortgage overpayments)
- (Secured) Car Loans (“Consumer Loan”)
- Commercial (Secured) Car Loan (“Chattel Mortgage”)
- Some short-term loans (eg. Cashies' “Secured Finance”, some Pay-day loans, Book-up and In-store finance)
- Pawnbroking
Unsecured loan
This kind of credit is usually restricted to smaller loans, and extended to people with good credit ratings. Tend to be revolving, or short-term, and because the lender is taking on a much greater risk (defaulting unsecured debt is only recoverable through legal action, and cancelled by bankruptcy), they tend to attract higher interest rates.
- Credit cards
- Bank overdrafts
- Pay-day loans (unregulated!)
Instalment credit
Includes almost all secured credit and certain types of unsecured credit:
- Land loan
- Home construction loan
- Home mortgage
- Some equity loans
- Home improvement loan
- Motor vehicle loan
- Boat loans or RV loans specialty finance
- Student loan
- Personal loan
- Vacation loan
- Charge cards
- Secured credit cards
- Arrangements to pay (eg. ATO debt)
- Service credit (eg. Telstra bills)
Revolving credit (or "continuing credit")
Includes Home Equity loans plus the remaining forms of unsecured credit.
- Credit cards
- Lines of credit
- Bank overdrafts
Interest rate
The interest rate is the "price" you pay to the lender when you borrow money (in addition to other fees and charges).
Variable rate loan
With a variable rate loan, the interest rate can rise or fall throughout the life (or 'term') of the loan. The interest rate can change depending on the economic climate and competition among lenders. When deciding on the amount of money to apply for, consider if you could meet any increases in your mortgage repayments if the interest rate increases during the term of your loan.
Fixed rate loan
With a fixed loan, the interest rate is 'locked in' for a certain period - usually between one and 10 years. This type of loan provides borrowers with certainty about the amount of their repayments during the fixed period and protects them from interest rate increases. However, you will not be able to take advantage of any drop in interest rates during that time.
Introductory rate
'Honeymoon' or 'introductory' rates on loans are interest rates that are generally lower than most lenders are offering in the home loan market and may be fixed or variable for a short period of time, usually between six months and one year. Beware! You should make sure that you could still afford your mortgage repayments once the 'honeymoon' period finishes and the interest rate becomes the higher standard rate.
Combination loan
A combination loan allows you to split your home loan into a fixed rate part and a variable rate part. Generally, you can decide how much of the loan will be subject to a fixed rate of interest and a variable rate of interest.
Usually, the fixed rate part of your home loan is available for a period of between one to five years.
Beware! You may be required to pay two sets of application fees for a combination loan and you may be charged a fee every time you re-negotiate a new fixed term portion of the combination loan.
Repayment Features
Some home loans, such as fixed interest rate loans, may have restrictions on making payments that are greater than the agreed or scheduled payments. However, it is useful when the terms of a loan allow you to make extra repayments towards the loan, including making lump sum payments. If you are able to make extra repayments on a loan, it will reduce the amount of money you must repay to the lender and it will also reduce the length of time it takes you to repay the loan.
It is also important to check whether significant penalties apply if you decide to pay out the loan early or before the fixed interest period expires; for example, if you sell your property or you decide to refinance with another lender.
Redraw facility
Some loans will allow you the flexibility to withdraw any extra payments that you have made towards the loan. You should check the rules about withdrawing these extra payments, such as fees you may be charged and minimum amounts you can withdraw at any one time.
Line of Credit loan
Line of credit loans are a particular type of loan facility where you pay all of your income into the loan account and withdraw funds, as required. The loan typically includes the use of a credit card to pay for your daily expenses, which can be paid off once a month via the loan account.
A benefit of this type of loan is that your income is being used to pay off the loan and 'credit' can be accessed at lower interest rates than most credit cards. A drawback is that it may be tempting to overspend.
Beware! Financial discipline is required to benefit from this type of loan. Excess spending from your line of credit account will increase the term of the loan and, in turn, interest charges.
Non-conforming loan
Low-doc loan
Cards
- Charge cards (eg. Taxi, Fuel), plus American Express, Carte Blanche and Diners Club: defer payment for a fixed period only
- Stored-value cards (gift certificates, phone cards)
- Debit cards (EFTPOS cards)