There’s that moment where you’re sitting in the loan officer’s cubicle and you’ve been presented with your loan documents – all 45 pages of them. It’s already been a long and stressful process, and now you’re almost done. But first you’ve got to sign the paperwork. So you’re laboriously flipping through the pages while the loan officer makes small talk in between vague explanations of what that page is saying and where you need to initial on this page. You think you know what you’re signing up for, but mostly you just want this entire experience to be over.
Before it even comes to that, however, let’s make sure you know what you’re agreeing to. Whenever you’re about to borrow money – for a car, for a house, for a college education, or a business – don’t sign anything until you’ve gotten answers to the following questions.
How much do I need to borrow? If your loan is secured, this won’t be a concern (your loan will be the amount needed to purchase the item that’s securing the loan). If your loan is unsecured, however, like a student loan, a personal loan, or a business loan, you need to know how much you actually need. Try to avoid borrowing more than what’s necessary – you might be trying to play it safe, but you’ll end up costing yourself more money in the long run.
What’s the loan type? Most loans are fixed rate loans, meaning you’ll pay the same interest rate throughout the life of the loan. You can also get an adjustable rate loan, though, which is where the interest rate fluctuates, usually in relation to certain market conditions. When the rate changes your monthly payment will likely change as well, so be sure you understand just how much the rate can vary and what your payments could look like as a result.
What fees are included? Regardless of where you get your loan and what you use it for, there will be fees attached. Those fees, however, will vary pretty dramatically based on the loan type, the lender, and other factors. There could be application fees, origination fees, broker fees, administration fees, underwriting fees, closing fees, and on and on. Make sure you’re clear on what fees you’re being charged and how those fees are being paid (added to the loan amount, subtracted from the loan amount, paid separately, etc.).
What will the APR be? The annual percent rate is more than just your standard interest rate. It also includes any additional fees or charges that will be factored into your regular payments. The APR tends to be an easy point of comparison between different loans, because it gives you a more accurate feel for what you’ll be paying.
How much will I end up paying? When all is said and done, what really matters is the cost. What will your monthly payments look like and what will you end up paying in the end (assuming you don’t make an early payoff)? The other details are important, but you should have a clear idea of these costs.
Is there a penalty for an early payoff? In most instances, lenders would prefer that you don’t pay the loan off early. That’s because usually you’re charged interest on a monthly basis, so every month you still owe money is another month’s worth of interest charges. To combat this, some lenders impose a penalty for early payoffs. Additionally, some loans are structured in such a way that your payments in the beginning are only going towards future interest charges, and not the principle of the loan. With these kinds of loans, you could potentially pay everything off years in advance and still not save any money, because you’ve actually paid years’ worth of fees upfront.
What can I do to reduce the interest rate? The more money you put down in advance, the less risky the loan, therefore the lower the interest rate. In mortgages you can often pay “points” in order to reduce your interest rate. Each point usually costs one percent of the loan amount and will reduce your interest rate by a quarter percent. So if your loan amount was $100,000 and your rate was 5.0 percent, you could buy two points for $2,000 and reduce your interest rate to 4.50 percent. Keep in mind, however, that buying points only makes sense if you’re planning on staying in the home long enough for the savings to catch up to the investment.
Can I do better? Never assume that the first offer you get is the best offer available. Shop around. Look into peer-to-peer lending services or online-only lenders. If you’ve worked hard to make yourself an appealing borrower, work a little harder to parlay that hard work into the best offer possible.