The majority of people will use credit at some point in their lives, whether it’s taking a mortgage to buy a house, or solving a short term need like an unexpected repair bill. But which type of credit you choose, and more importantly, what kind of product, will depend on a number of things. We take a look at the different types of credit and when to apply for them.
The big questions
When considering borrowing, ask yourself the following questions:
- What do you need to borrow for?
- How much do you need?
- How long do you need or want to repay?
- Will this be the first time you’ve used credit?
- Do you have any history of missing payments or using an unauthorised overdraft?
Whatever your needs, it’s important to understand the different types of credit available and do your research before you borrow. Then you’ll know what your options are and can be sure that the choice you make is the best one for your circumstances and needs.
There are lots of different credit products out there, and even more credit providers. However, all credit can be fundamentally divided into two types – secured, and unsecured credit.
Secured credit
Secured credit is a type of borrowing where you secure your possessions against the loan. You agree up front with a lender that should you fail to repay what you’ve borrowed for any reason, they are able to take goods of yours, to the value of the debt. This will recoup what you owe them.
The most common types of secured loans are mortgages, car finance, log book loans and pawnbroking. Your borrowing is secured against an item of value like your house, car, or a piece of valuable jewellery. The lender has the right to take possession of this if you fail to make your repayments.
How is unsecured credit different?
As you might expect, unsecured credit is the opposite of secured credit. Unsecured loans are not linked to an asset that the lender can take possession of if you’re unable to make your payments. In this sense, unsecured loans are offered on good faith. You will sign an agreement with the lender promising to repay what you’ve borrowed, which may be legally binding. Their decision to lend to you is based on the information you provide, and checks they run themselves with third parties like credit reference agencies. For this reason, the interest rates on unsecured types of credit tend to be higher than on secured forms of borrowing.
Unsecured credit takes many forms. Personal loans, credit cards, payday loans and short term loans like Sunny are all types of unsecured credit, which shows the range of needs that unsecured loans can cater for.
Which type of credit should I use?
When it comes to credit, there’s no right or wrong type to use. It all depends on your circumstances and what you feel is best for you. It’s well worth doing your research before you apply for anything. Applying for a number of loans in a short time-frame can have a negative impact on your credit score and cause lenders to decline you later on. Think about:
Your current situation
All lenders have their own criteria that determine who they will and won’t approve for their loans. Many providers and comparison sites offer eligibility checkers, which allow you to see how likely you are to be approved for a product, or show you a range of products you look likely to be approved for, without leaving a footprint on your credit file. An eligibility check can never guarantee you will or won’t be approved, but it can give you a good idea and help you to avoid submitting too many loan applications in a short period of time (which can adversely affect your credit score)
The type of loan you want
You may already have a good idea of what type of credit you want to use to solve your needs, but it’s always worth weighing up all your options to see if there’s a better choice out there that you hadn’t thought of. If an eligibility checker shows you’re unlikely to be approved for the type of credit you want right now, you may find it useful to check your credit score and make a plan to improve your situation so that you can borrow the way you want to
Products and providers
Providers often offer extra features and perks like cashback or discounts at certain retailers to set themselves apart from others offering similar products. While a good perk can be very appealing, it’s important not to let bonus features cloud your choice of provider too much – after all, their rates and terms will affect you much more than the savings you make through perks!
There are a number of tools out there to help you gather all the information you need and make a decision. Sites like MoneySupermarket and Money can help you compare and contrast different products, weigh up all the pros and cons, and choose a provider.
For help with your credit score, and tips on how to improve it, the Credit Reference Agency sites themselves are a great source of information – check out Experian, CallCredit and Equifax. You can also pick up all kinds of tips from our own articles to help you master your money and achieve your financial goals. Have a look at some more of our Money Savvy articles to get started.
Do you have any more tips on types of credit? Leave yours in the comments!
