Shopping for a loan?

As you consider taking on additional debt, whether its a loan to purchase a home, a home equity loan, an auto loan, a student loan, or an additional credit card, youll want to think about potential pros and cons of borrowing, and what to look for when shopping for a loan.

Credit cards

When used responsibly, credit cards can play an important role in helping you manage your financial life, as they provide convenience and security.

An essential part of smart credit card borrowing is choosing the right card and the right card issuera bank, credit union, or other financial services company. Thats because each issuer determines its own:

• APR, or annual percentage rate
• Grace period
• Method for calculating outstanding balance
• Fees that may apply
• Minimum payment amount

These factors, in turn, determine what using this form of credit costs you.

APR

The APR, or annual percentage rate, is a way of expressing how much borrowing will cost you on a yearly basis if you carry a balance. In the case of credit cards, you should be aware that there can be various APRsincluding an introductory APR for new cardmembers, a standard APR for purchases, an APR for balance transfers and an often higher APR for cash advances.

Grace period

The grace period is the number of days you have to pay for a purchase before a finance charge is added to what you owe. If you always pay your outstanding balance in full within any allowed grace period, you wont pay finance charges. But if you only pay the minimum payment or a payment less than the full outstanding balance, finance charges apply from the date a purchase is made.

Calculating outstanding balance

The method of calculating your outstanding balance on which interest is charged can also vary based on the credit card issuer and is explained in your credit agreement. What you pay in finance charges, which is the dollar amount you pay for use of credit, is based on how your outstanding balance is determined and the APR on your account.

• Average daily balance is the most common method. It is calculated by adding the amount you owe each day in your billing cycle divided by the number of days in the cycle to arrive at your average balance for that period or cycle. So if you pay off a large portion of your balance early in the cycle, your finance charge will be less than if you paid later in the cycle.
• The adjusted balance method can be the most economical. Your payments during the cycle are subtracted from your beginning balance and charges apply only to the difference.
• The previous balance method is the most costly. Interest is charged based on your previous balance without regard to any payments made during the cycle.

Fees

Some credit card issuers charge an annual fee for using their cards, but some do not. Most card issuers charge late fees that apply if you dont pay at least the minimum on time, and over-limit fees if you charge more than your credit limit. All these fees are in addition to the APR.

Mortgage and home equity

For many people, becoming a homeowner involves borrowing money from a lender in the form of a mortgage loan. Because a mortgage loan payment is probably the largest expense within a household budget, there are some important things to consider before you commit yourself to this major expense.

First is the type of mortgage loan you select to purchase your home. While lenders offer many different products, youll want to be sure the one you choose fits your financial situation. If the uncertainty of having a mortgage payment that can go up or down over time makes you uncomfortable, youll want to be cautious when considering an adjustable rate mortgage, or ARM. The question is whether you could handle payment increases, especially if you were also facing unanticipated personal problems, such as job loss, unexpected illness, or divorce.

In addition, if you need two incomes to meet the initial payments on a mortgage loan, ask yourself how youd manage with just one income, should that turn out to be the reality. Before you commit yourself to this potentially stressful situation, take the time to re-evaluate the type of loan you are seeking, the amount you plan to borrow, and even whether now is the right time to purchase a home.

Refinancing

If you have equity in your home, you may be able to refinance, or take a new loan to pay off the old one. Refinancing is an advantage if the new rate is sufficiently lower than your existing rate to result in real savings over the period you live in your home. In some cases, it can also be beneficial to refinance to a different type of loanfrom adjustable to fixed, for example, or from a 30-year loan to a 15-year loan. Whats much riskier is refinancing in order to access the extra cash you can take against your homes value, which is known as cash-out refinancing. If your home loses value, as it can in a stalled real estate market, you may owe more on your loan than you could sell your home for (sometimes referred to as being underwater).

Auto loans

If youre borrowing to buy a car, you generally have at least two options in choosing a lender. One is to arrange direct lending through a bank or credit unionperhaps the one where you maintain your checking and savings accounts.

The other way to finance the car is through dealership financing, in which case the car dealer arranges your loan. While you may be able to arrange favorable terms, especially in a competitive market, there may be additional charges you arent aware of or items you agree to in the excitement of buying that turn out to have a high price tag.

Sometimes a dealership may offer 0% financing or other incentives to attract buyers. But that deal may apply to only a limited number of models or to consumers with very high credit scores. You may also risk significant finance charges if you are ever late with a loan payment. The bottom line is to be extremely cautious about any loan thats too easy to arrange or any rate thats significantly cheaper than the rate other lenders are offering. If it seems too good to be true, it probably is and you should ensure you fully understand all terms of the deal.

Loan Shopping Checklist

Ask the following questions before deciding to borrow.

• What is the total amount of money I am borrowing?
• What is the interest rate on the loan? Is this the best rate offered?
• What are all the fees and costs associated with this loan? Can any of these be negotiated?
• What is the annual percentage rate (APR) of the loan, once all fees and costs are included?
• What is the total amount of interest I will pay over the term of the loan, assuming all payments are made on time?
• Is the loan a fixed rate or variable rate loan?
• If the loan is a fixed rate loan, how long is the term?
• If the loan is a variable rate loan

• What index is the loan tied to?
• How can I track this index? (to help you gauge how often this index changes, which can impact your minimum payments)
• How often can the rate change?
• How often can my payments change?
• Are there any annual caps on how much the interest rate and payment can change? What are they?
• Are there interest rate or payment increase caps over the life of the loan? What are they?