Types Of Credits And You-11

Lending takes on a variety of forms, from the simplest, “May I borrow $20” between friends to a much more complex transaction.

The above example represents the type of loan request from someone who displays the utmost in credibility. There is no talk of interest, repayment schedules or terms. This is a loan between friends.

The next level of loan is represented by the “what’s in it for me” mentality, and that is a loan with interest. Similar to the previous example, this loan doesn’t discuss the length of time of the loan or other terms. It’s the kind of loan givento people who are trying to profit and have a high degree of trust in their borrower. Signature lines of credit at a bank are a good example of this kind of loan.

As the level of trust decreases, the number and strictness of the loan’s terms will increase. Perhaps the lender will want a promise to pay by a definite date, then perhaps higher interest. Eventually the lender will want security for the loan in the form of valuable property that the lender can seize in the event the debt isn’t paid. At the lowest level of trust, the lender will want possession of the property. Pawn brokers take actual possession of the property in their shop, and can easily sell it if the borrower doesn’t pay the loan as agreed.

Regardless of the specific terms of a loan, all loans have four parts.
1. something borrowed
2. the costs of borrowing
3. the repayment instructions
4. the penalty for not following the instructions

The description of what is borrowed—a monetary amount in either a lump sum or as a credit line, but it could easily be any other item. There is the cost of the funds—in interest, finance charges, application fees, points and penalties. There is a payment plan—how much you will
pay, how often and for how long, and how the borrowed item will be returned. Finally, there is a provision for the penalties in the event that you don’t fulfill your promise to repay. Some loans ask for an additional term, security.

A secured loan is a loan that is backed by an asset, called collateral. For major purchases like automobiles, some states allow lenders to retain the rights of ownership to the property until you have paid for it in full. Other lenders use the property as additional security for the loan, and can force the sale of your property to satisfy their debt in the event you stop making payments.

An unsecured loan is known as a signature loan. It’s a credit line that is extended to you entirely based upon your credit worthiness. Credit cards are the most common example of an unsecured loan. If you don’t make your credit card payment, the company can’t come and take the items you purchased with the card.
For more information on how the monetary system works, read Modern Money Mechanics, published by the Chicago Federal Reserve Board.
Next time i'll discuss about 5 characteristics of all credit.