Consumer loans are one of the most popular ways to pay for products and services. The chance to buy a bigger television or new car without paying upfront and in more affordable instalments is appealing to many consumers.

Silvia doesn’t have enough money to go on holiday, so she decides to look into applying for a consumer loan. That way, she can enjoy some R&R and pay back the loan in instalments.

What is a consumer loan?

It’s a transaction in which the bank agrees to lend money to a customer so they can buy a product or use a service; the customer then pays the amount back with interest and within a specific term.

It’s a practice that dates back centuries. According to the International Association of Collateral and Social Credit, consumer loans first came to light in the late 15th century in Italy, where peasants borrowed money from Franciscans.  

Like quick and subsidized loans, consumer loans are personal. However, the main difference lies within their target audience: consumers.

How to apply

Back to Silvia. If she ultimately opts to apply for a consumer loan, she has two types of lender to choose from: her bank or the entity that has an agreement with the travel agency that’s helping her find the perfect getaway.  

Once they approve the application, they would draw up a loan agreement that must dictate: 

• The principal amount and interest rate. The lengthier the repayment period, the lower the monthly instalments. However, the total cost will still be higher due to paying interest for longer.
• The repayment dates and amount, calculated using the annual percentage rate (APR) and the term. The higher the APR, the more expensive the loan.
• The origination and cancellation fees.
• The right to withdraw and the early repayment fee. Consumers must pay a fee if they wish to repay the full loan before the agreement terminates.

It’s important not to confuse loans with credit facilities. Loans are medium- or long-term transactions where the lender provides a fixed amount. Credit facilities are used to cover short-term liquidity needs. Though they have a limit, the borrower might not use the entire amount. 

Read this Finanzas para Mortales (Finance for Mortals) article (in Spanish) to find out more about the difference between loans and credit facilities. 

What to remember before applying

When applying for a consumer loan, we must make sure we’re able to fulfil its terms and conditions. We must analyse our finances scrupulously to make sure we can take on the debt. That means looking beyond our income and expenditure. We must also make provisions for unforeseen expenses that could get in the way of repaying the loan. Thus, setting aside an amount to cover repayments is vital.

We must also go over repayment with a fine-tooth comb. The longer the term, the more interest we pay. To avoid that pitfall, we should agree the amount requested and key conditions — like a suitable repayment term — with the lender.

Consumer loans are not backed by a guarantee. No person or company will bear the payment obligation if the borrower defaults. Essentially, the customers current and future assets act as collateral. That’s why we must be sure we can afford it.