A Step-by-Step Guide to Choosing Your Loan in Australia
What is Loan
A loan is a sum of money that you borrow from a financial institution — a bank, credit union, or online lender — or a person, like a family member. You then pay back that amount in full later, typically with interest.
How do loans work?
Loans generally have four primary features: principal, interest, installment payment, and term. Understanding each of these will help you decide if a loan suits your needs, and whether you can afford to take one out.
Principal: This is the amount of money you borrow from a lender. For example, it could be $500,000 for a new house or $500 for a car repair.
Interest: The interest rate is the cost of a loan, which is how much you have to pay back in addition to the principal. Lenders determine your interest rate based on several factors, including your credit score, the type of loan, and how much time you need to repay the loan.
The interest charged differs from the interest rate per annum (p.a.), which also includes other costs like upfront fees.
Installment payments: Loans are usually repaid to the lender at a regular cadence, typically monthly. Your monthly payment is commonly a fixed amount, so you know exactly how much money will come out of your account with each installment.
Term: The loan term is how much time you have to repay the loan in full. Depending on the type of loan, the term can range from a few weeks to several years.
Types of loans
Loans fall into two broad categories: secured loans and unsecured loans.
Secured loans
Examples: A mortgage or a car loan.
For secured loans, the lender typically uses a physical asset, like your home or car, to secure its money if you cannot repay the loan as agreed. The lender bases your interest rate on the asset as well as your credit score and credit history. Secured loans typically have lower interest rates than unsecured loans.
Unsecured loans
Examples: A personal loan or a payday loan.
Lenders offering unsecured loans base your interest rate on financial factors like your credit score, income, and existing debt. If you don’t pay back the loan as agreed, the lender can’t seize any of your assets, but it can go down the legal route and take you to court to get back the money. The lender can also report the default to the credit bureaus, which will hurt your credit score and your ability to get another loan in the future.
Unsecured loans typically come with higher interest rates and smaller loan amounts than secured loans.
The most common loan categories
Here’s a snapshot of different types of loans, many of which are used to finance specific purchases…
- Home loan. Also known as a mortgage, this is a loan used to buy a home. It’s a long-term debt, with terms typically lasting 25 or 30 years. Once you’ve paid off your mortgage, you own your home outright.
- Car loan. If you’re in the market for a new or used car, a car loan is a type of personal loan that can help you buy the vehicle you have your eye on. You’ll pay off the loan and interest over a fixed term, usually one to seven years.
What kinds of car loans are available?
When buying a car, you often have a choice between finance provided by the car dealer and a loan offered by a bank, credit union, or other financial institution. Dealer financing is a type of loan that is offered by a car dealer to customers and then sold to a bank. The interest rate provided to the customer is often higher than what they would pay directly to the bank.
What are the interest rates?
Car loans can either be fixed-rate or variable-rate loans. A fixed rate means the interest rate doesn’t change throughout the loan, while a variable interest rate can change depending on the market interest rate. This can be good or bad depending on whether market interest rates increase or decrease. In general, though, interest rates on car loans usually range between five and 15% per year, plus fees.
When taking out a car loan, it is important to take into account fees, as well as the interest rate. In Australia, this is called the comparison rate.
Can I save money on car loans?
Loans that let you pay extra on top of your monthly repayment can also be a great way to reduce the final cost of the car. Make sure to check the fine print carefully, because some lenders will charge you extra fees for early repayment or other alterations to your loan.
- Personal loan. The money from a personal loan can be used for anything, though people tend to take out personal loans to cover large purchases like holidays or home renovations. You’ll agree on a repayment schedule, which is often between one and seven years.
What are the terms of a personal loan?
Personal loans are short-term and typically paid off over five to seven years, with interest rates higher than that of a mortgage but lower than that of a credit card. They are also usually approved more quickly than a mortgage, because you are assessed more so on your credit risk and experience.
Interest rates can be fixed-rate or variable-rate and generally range from seven to 30% per year for amounts between around $2,000 to $75,000. The amount you can borrow will be decided by the bank or financial institution based on your income, credit history, and any current liabilities. In this case, liability is any other money you owe, like a credit card debt.
Do I need to provide security?
Personal loans can also be secured by an asset or unsecured. When a loan is secured by an asset, the borrower uses an asset like a car or property as security for the loan, kind of like a bond. Your asset then becomes the property of the bank if you are not able to pay off the loan. In the case of not being able to pay back an unsecured personal loan, the lender may have the right to auction off any of your other assets to pay off the debt.
- Payday loan. Sometimes called a “small amount loan,” a payday loan lets you borrow up to $2,000, and you have 16 days to one year to pay it back.
- No interest loan. If you need cash for essential items, like a new fridge or an emergency car repair, you might be eligible for a $1,500 loan under the No Interest Loan Scheme (NILS). These loans are open to people with a Health Care Card, Pensioner Card, or an after-tax income of less than $45,000 per year.
- Education loan. The government’s Higher Education Loan Help (HELP) initiative helps students and apprentices pay for expenses — like course fees and tools — while they’re studying or training. You’ll need to start paying back the loan when you’re in the workforce and earning more than $46,620 per year. You can put 1% to 10% of your income towards your repayments.
Where can I find financial assistance for my education?
If you need financial aid, you should first check with your educational institution in Australia, as they may offer grants, scholarships, or loans. Some countries have loan systems in place that offer financial aid to their citizens studying in Australia, including Canada, Sweden, Norway, Germany, Denmark, the UK, and the US.
What if I can’t secure an education loan?
If those routes are unavailable to you, your educational expenses could fall under the category of a personal loan with a private lender. Specific education loans are also available and range from around $2,000 to $15,000. They are usually paid directly to your institution throughout your degree.
Bottom line
Of course, lending is a business and many unethical providers are hoping to charge you as much as possible for your loan. All financial institutions in Australia are regulated by the Australian Securities and Investment Commission (ASIC) and must hold a license to lend money. You can also consult ASIC if you encounter any dodgy behavior.
Avoid payday or next-day lenders offering quick approval with no credit checks, as they almost always charge extremely high-interest rates that can quickly spiral out of control. If a deal sounds too good to be true, check for hidden fees and higher interest rates that kick in later and compare with other loans on the market. By taking the time to consider the costs and benefits of taking out a loan, you can ensure that you’re making the most of your financial future.
Read carefully what is required in getting whichever of the loan types suits your plan and read them over.
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