Most Americans have some kind of financing — like a mortgage, car loan, personal loan, or student loan. But applying for and managing loans is rarely straightforward. So, it’s no surprise that people commonly take missteps along the way.
What about you? Are you inadvertently slipping up when it comes to your loans?
Here are six of the most common mistakes and how you can avoid them:
Borrowing money can offer you great advantages, but it comes at a cost. When that financing gives you something you need — like a home or an education — that cost more than pays for itself.
But sometimes people borrow more than what they need. They put a pricey vacation on a credit card, or take out a payday loan to have some weekend fun money. Overborrowing forces you to sacrifice in more ways than one:
Interest: In addition to repaying the sum borrowed, you pay extra for the privilege of financing.
Fees: Your loan or line of credit may cost you origination fees, annual charges, and more.
Negative impact to your credit: More debt can translate to a lower credit score.
Difficulty with future financing: If your existing debt is too high, lenders may be reluctant to offer you loans in the future when you really do need the money.
Lost time: More debt usually means more time spent paying down that debt.
Delayed financial goals: Paying for your debt means not saving for the things you want — a down payment on a home, a healthy retirement fund, a special weekend away.
Loans aren’t a one-size-fits-all financial solution. Often, you have options when it comes to how you’ll cover a specific cost. You might consider a personal loan, a second mortgage, a federal student loan, and more.
So, you’ll want to ensure you choose the best type of loan for your expense and for your financial situation.
Specialized loans may offer you advantages over general loans. So, you’d likely choose an auto loan over a personal loan when buying a car. And you’d get a better deal with a student loan than you would with a home equity loan when paying for school.
And, even when your credit is less than perfect, you likely have more options than you realize. For instance, people often think that payday loans are their only path to financing. But bad credit loans generally offer far more favorable terms to borrowers with poor credit.
In general, you’re likely to have more lending options and better terms available to you as your credit improves. So, you wouldn’t want to apply for financing without first sprucing up your score.
If you’ve got plenty of time between now and then, you can make some big improvements. Suppose you anticipate, for instance, buying a house or taking out college loans a few years down the road. Use that time to improve your credit as much as possible:
Set up automatic payments to ensure all your bills are paid on time every month.
Consolidate debt or refinance if it makes sense to do that.
Pay extra toward your existing debt to whittle it down.
Avoid applying for unnecessary new credit.
If your financing needs are more immediate, you can still take positive action:
Pay down any debt you can. That will reduce your credit utilization ratio, which could bump up your credit score.
Check your credit history report for errors and dispute those immediately.
Get credit for utility bills you pay on time through a service like Experian Boost.
Getting a loan is rarely fun and often not an easy process. So, it makes sense that people are inclined to do the minimum necessary to get financing. And that includes choosing the first loan they find.
But buyers routinely lose out on thousands of dollars in savings, simply by not looking at multiple loan options.
Finding and comparing several loans — either on your own or with the help of a specialist (like a mortgage broker) — offers two clear advantages:
First, you’ll be able to land a better deal — a great interest rate, low fees, and terms that save you time and money.
Second, you’ll have the flexibility to choose terms that fit your financing needs. So maybe you’ll choose a cost-saving, 20-year mortgage over a 30-year mortgage when buying your home.
Before you accept a loan offer, research your options and do a comparison. Look at the entire picture of each loan:
What interest will you pay?
What are the fees for setting up financing or maintaining your loan?
How long is the term?
Are there prepayment penalties?
Is the interest rate variable?
How reputable is your lender?
With most loan structures, you’ll owe money every month as a payment toward your total loan balance. Your bill states the minimum amount you’re required to pay and the date by which it’s due.
But not paying the right amount at the right time can land you in an unexpected amount of trouble.
If your loan offers a grace period — a period after the due date before penalties kick in — you can pay then with no negative consequences. After that, you’ll need to pay a late fee in addition to the missed payment.
Once you’re 30 days past due, your lender can legally report your late payment (or underpayment) to the credit bureaus. These organizations collate information on your credit history to produce your credit report.
At 30 days, you’ll see a black mark on your credit report and a dip in your credit score. It’ll get worse at 60 days and have even more of an impact if you’re 90 or more days behind on your payment. At some point, your lender may choose to send your account to collections.
Late payments can stay on your credit report for years, lowering your credit score and affecting your ability to get future financing. So be sure to pay close attention to your loan’s payment due dates and amounts owed. Consistent, on-time payments will help you avoid issues with credit and lenders and also highlight your fiscal responsibility on your credit report.
Paying your minimums on time is a great way to protect your credit and ensure you build a strong history over time. But — if you can — paying more than the minimum offers some impressive benefits for you:
Lower cost: The faster you pay off your debt, the less you’ll pay in interest.
Less time: Paying more than your minimums means less time spent in debt.
Lower credit utilization: As your debt goes down, your credit utilization ratio decreases, potentially boosting your credit score.
More potential: Once you’re out of debt, you can stop paying down loans and put more of your money toward earning interest, saving for the future, or reaching a major financial goal.
If you have the means every month to pay extra, choose an accelerated debt repayment plan like the debt avalanche or debt snowball method. Both approaches help you apply extra cash in the most strategic way possible.
Even if you can’t increase your payments every month, you can still get ahead. If some extra money comes your way — like a tax refund, end-of-year bonus, or credit card reward — you can make a one-time payment. Every little bit moves you closer to eliminating that debt.
While loans are commonplace, they don’t come with an instruction manual for the dos and don’ts of managing them. Consequently, mistakes are easy to make. Fortunately, you can sidestep some of the biggest pitfalls. And you can use the power of financing confidently to reach your financial goals.