Short or Long Term Loans: Which is Better for You
There are a myriad of loan products on the market today that come with a variety of terms. As a general rule, short-term loans will cost less overall while long-term loans allow for lower monthly payments. How do you decide which is right for you?
Are You Currently Employed?
If you are currently employed, it may be easier to pay your loan over a shorter period of time since you have money coming in on a regular basis. However, if you don't have regular employment, it could be weeks or months before you see a paycheck again. Even if you are on unemployment or disability benefits, that money may need to pay for food, medicine or to provide for your children. Therefore, a longer loan term may make it easier to fit the payment into your budget.
How Much Debt Do You Have?
Let's say that you have the option of paying $500 a month to pay off a loan in 12 months as opposed to paying $200 a month to pay it off in 36 months. While paying off the loan in 12 months may limit the amount of interest paid, it could be difficult to commit $500 each month to a new loan when you currently have student loan or other debt. Therefore, it may be in your best interest to take the longer loan term and try to make extra payments when you can. However, if you don't have a lot of existing debt, you should try to pay off your most recent loan as soon as possible.
What's the Interest Rate on the Loan?
If you borrowed $1,000 with no interest due to the lender, you would repay $1,000 whether it took you a year, three years or five years to do so. However, if you borrowed the money at an interest rate of 20 percent, you would pay $1,338 over 36 months. A lender would receive $1,590 on a $1,000 loan at 20 percent interest assuming that it was repaid over 60 months. Therefore, make it a point to pay off a loan with a high interest rate as quickly as possible regardless of the minimum monthly payment.
How Much Money Can You Get?
As a general rule, it is easier to repay larger sums of money over longer periods of time. Therefore, lenders may be willing to offer you larger loan balances if you choose to pay them off over several years or decades. This is because each loan payment is a lower percentage of your overall income. For example, a lender may allow you to borrow $10,000 to be repaid over 10 years as opposed to over a single year.
How Easily Can You Refinance the Loan?
Getting a short-term loan may be ideal if you think that you can refinance it before it is due to be repaid. This is because short-term loans like title loans are easier to get for those who have borderline credit. It can also be easier to get the money in a matter of hours instead of days. Therefore, those with good credit could apply for a short-term loan today and refinance it at a better interest rate over the next several days or weeks.
How Does Debt Impact You Mentally?
For some people, the stress of owing money to a lender is not that great. However, others may not be able to sleep at night or otherwise enjoy their lives knowing that they have debt payments due each month. If you are the type of person who likes to be debt-free, a short-term loan is likely better than a long-term loan. However, if you can handle the thought of making monthly payments over the next several years, a long-term loan may be an option.
What Are Your Future Job Prospects?
Long-term loans may be easier to handle if you believe that your income will increase over time. Let's say that you were paying $1,000 a month for a mortgage while making $3,000 a month overall. If your pay increased to $4,000 a month, your mortgage payment would only be a quarter of your monthly salary as opposed to one-third. Ideally, your debt will be no more than 35 percent of your monthly income.
The biggest factor when choosing a loan term is how affordable it is overall. Whether the loan is paid out over weeks, months or years, not being able to repay a lender could result in a lower credit score and a possible lawsuit.