Bank Loans

Types of Bank Loans

Bank credit for consumers falls into two general categories, closed-ended and open-ended. A mortgage, for example, is considered a closed-ended loan because it is for a specific amount and must be paid off over a specified period. A bank credit card provides an open-ended loan: it gives the cardholder a specific amount of credit against which he or she may draw in making purchases.

Installment Loans

These are closed-ended credit agreements. The borrower receives a certain amount of money and agrees to repay it over a stated period, usually month by month, at a predetermined rate of interest that will neither rise nor fall during the period of the loan. Because the loan is amortized, the borrower has the full use of the funds only for the first month.

The interest charged on installment loans varies from bank to bank and with the purpose for which the loan is to be used, so consumers should shop around for the lowest rate. Higher rates are usually charged for personal loans that have no particular purpose specified and that are “unsecured” — i.e. have no collateral in the form of property, such as an automobile or a boat, that the bank can take over in case of default. In contrast, a loan that is specifically written for the purchase of an automobile, in which the car itself serves as the security or collateral, can usually be obtained at a point or two lower interest. The lowest rates of all are generally offered on government-subsidized loans, such as those taken out by students for their college or postgraduate education.

Lines of Credit

These are open-ended loans, often given names like “Credit-Line Checking.” Whatever they are called, the bank provides the customer with a stated amount of credit that may be called upon, in whole or in part, at any time. Most loans of this type are linked to the customer’s checking account. To use the credit the customer writes a check. If there are insufficient funds to cover the withdrawal, funds from the credit line are automatically transferred to the checking account. If you use a line of credit, you are billed each month for the credit you have used and are required to make payments monthly against the principal and accrued interest charges. As the principal is reduced by a given amount, that amount is restored to your credit line. The interest on this “revolving credit” is usually higher than the interest on installment loans, but you can often arrange with the bank to have a specific sum taken from your checking or savings account each month to pay off the obligation.

Passbook Loans

The least expensive form of credit available at banks is usually a passbook loan which uses the borrower’s savings at a bank as collateral. Most passbook loans are written as installment loans and specify a repayment schedule.

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