Types of borrowing

The lender will usually lend you a fixed amount (for example £5,000). You will then agree to a fixed repayment period – usually between one and 10 years – over which you will make monthly repayments to pay back the amount you borrowed, plus the interest the lender charges.

Once your repayment term is up, and assuming you have not missed any payments, you will no longer owe anything to the lender. Because you pay interest, you will pay back more than you borrowed. This may enable you to borrow more than you would be able to borrow using a credit card.

Crucially a personal loan is usually a fixed amount lent to you at the start that you repay over time, which means that (unlike a credit card) you cannot be tempted to continue adding to the debt and never repaying your loan.

In some instances, you can take out a loan to consolidate other debts including credit cards. This could reduce the amount you are paying each month and make your debt more manageable, although you may end up paying more over time and you need to be careful not to build up the debt on the credit cards again.

The minimum amount that most lenders will lend is typically £1,000. So if you need less, you might be tempted to take out a bigger loan than you need or use a payday loan company who generally loan smaller amounts over shorter time frames but with large fees.

Some providers might also charge you a higher rate of interest if they consider you to be a higher risk borrower (for example if your credit score is low).

You can search online for price comparison websites which provide a wide range of options.

Many banks will offer an overdraft facility as standard on your current account. An overdraft allows you to take out more money from your account than you have in there.

In April 2020 the rules for overdrafts changed. Banks can now only charge a simple annual interest rate and no additional charges or fees will be allowed. 

An overdraft can be useful if things are a little tight towards the end of the month for example, and you need a cushion to tide you over until you get paid.

This is different to a debit card you may have for your bank account. A credit card allows you to buy things, transfer balances or withdraw cash up to the credit limit the card provider has given you. Each month you will receive a statement telling you how much you owe, what the minimum repayment is and how much interest will be charged if you do not pay the balance in full that month.

Using a credit card to borrow money can be tempting. Some providers may offer deals whereby you pay no interest on what you borrow for several months. You can also pay a credit card balance off whenever you want, so it can be a good way to cover short-term costs.

However, once the interest rate kicks in, the cost of having an outstanding balance on a credit card can be high. Depending on the limit on your credit card balance, it might also be tempting to spend more than you need to because the option is there – it therefore calls for some discipline to ensure that you don’t overspend.

Borrowing from a family member or a friend might help you avoid the costs of borrowing through a bank – which will charge you by applying an interest rate to your loan repayments.

However, the clear downside is that mixing relationships and money has the potential to sour. If you cannot repay the loan on time – which in turn could put a loved one in financial difficulty – then it can cause tension in a relationship.

These are typically smaller financial companies and communities, set up by members who share a common bond. They offer small loans and generally the interest rate is far lower than payday loan companies. There are 240 credit unions in the UK but you’ll need to find one where you share a common bond – this could be where you live, your profession or your membership of groups like a church or union.

Some employers may provide access to personal loans through payroll so it is worth checking with your employer to see if they offer this. If so, they will have a relationship with a loan company where you can take out a loan for a variety of needs. The monthly repayments are then deducted from your salary.

This can help you make sure you make the repayments on time each month. Some providers allow you to switch your money from paying off the debt to a savings plan once the loan is repaid.

This is a relatively new form of borrowing and became regulated in 2014. It’s pretty similar to a bank loan except peer-to-peer lending websites match borrowers with savers, cutting out the bank in the middle. You can be a borrower or a lender (by locking away your savings) using these sites.

Depending on how good a risk you are, you may be able to get a better interest rate than through a bank and sometimes the payments are flexible.

Learn more about peer-to-peer loans on the MoneyHelper website.

A payday loan is, as the name suggests, a very short-term loan to help you get through to payday. So some people turn to a payday loan provider simply to cover costs until their next payday.

These loans can be very expensive.

There are now caps in place on the amount of interest and default fees that can be charged. There is also an overall cost cap of 100% of what you borrowed, meaning that you will never pay back more than twice the amount you borrowed.

Although this has lowered the cost for most people, a payday loan is expensive and could make your situation worse if you can’t afford to pay it back on time. You should think carefully before choosing one so do shop around and consider alternatives if you can.

Learn more about payday loans on the MoneyHelper website.