...The reason I ask is because a friend of mine had a loan .... so technically he ended up having a line of credit ....
Hi dammit
No, he didn't, unless the loan product was a Line of Credit to start with.
A term loan is an agreement that you can have the principal of the loan for an agreed term eg 30 years, and will repay the principal in 360 payments, plus interest as it is charged against the (usually) daily balance of the loan.
If the loan is in an Interest Only period, this is called a 'non-Principal Reducing Period', and at the end of that period, the loan then rolls to a Principal & Interest payment period
eg Term Loan 30 years
Non-Principal Reducing Period 5 years during which only the Interest is payable
Principal Reducing Period 25 years, during which the Principal, and Interest charged on the outstanding balance, will be repaid at agreed intervals, usually monthly.
I had a pointed conversation with a customer of mine today.
We are working on his refinance / personal loan consolidation / equity release application and today I made sure he understood the limitations of the loan product – very pointed, very direct, as he has a habit of ‘paying loans off earlier so as to accumulate some redraw in case he needs it’.
With this product, the brochure says – ‘Extra Payments – Yes, at any time’
What it doesn’t say, is that redraw is not available during an Interest only period – that all extra payments are taken as non-reversible reductions of principal.
If you – or your mate – are looking at loan products, you must be very clear with the Broker / Loans Officer as to what you intend or expect will happen during the life of the loan
If you want a discounted loan product, but also want some flexibility, you may be better off to split the loan funds into a standard term loan with a Line of Credit or standard Variable Rate smaller loan account, to ensure flexibility
For the ‘average’ borrower, Lines of Credit may be more expensive or otherwise not appropriate for the full loan amount but equally, the ‘average’ borrower may want to be able to pay extra into the loan – and may want to know that they can draw out the extra payments if the need arises.
Your mate may have a loan product which does not even allow redraw, let alone suspension of periodic payments or capitalisation of interest!
As always, read the brochures. Discuss the loan product, how you want to use it, do a thorough SWOT analysis on the product – there is more to a quality loan product than the advertised interest rate.
Some years ago I wrote a loan for a chap who was going to build on a block of land he had owned for twenty years. I have never met anyone who took as many notes. It took nearly nine months for him to decide on how much money he wanted to borrow and how he would manage it – he was going to Owner Build and wanted control over the money.
In the end, he decided on a basic home loan with $50 for each redraw, rather than a more flexible product with a monthly or annual fee. He figured that he was going to make five, or possibly six, redraws which would cost him about $300 – with no further fees for the life of the loan
For someone who wants to be able to use a debit card and buy petrol and bread and milk straight from their redraw, this product would have been disastrous, but for him it was tailor made.
Take some time to think about how you intend to use the loan before you decide on a lender or a loan product.
If you want to be able to be very flexible, capitalise the interest ie no set monthly date or amount of payment, there are certainly products which can accommodate that, but the common or garden variety of home loan would be in arrears in the first month if you didn’t make the payment.
Hope this helps – as with everything, an ounce of preparation is worth a pound of cure, but the Broker or Loans Officer can’t help if you don’t make it clear how you want to manage the loan
Cheers
Kristine
