Personal loans: borrowing with an end date

A personal loan is borrowing at its most structured: a lender advances a fixed sum — for a car, a renovation, a holiday — and you repay it with interest over a set term, usually one to seven years in Moneysmart's description. The repayments are amortising — each scheduled payment covers that period's interest plus a slice of the debt itself, so the balance is engineered to reach zero on the final date. Sign the contract and the ending is already on the calendar.

That is the deep difference from a credit card, which is revolving credit — a limit you can draw on, repay and draw on again, with no scheduled finish line. A personal loan can't drift: the amount is fixed at the start, nothing can be re-borrowed, and every month the debt is contractually smaller. For a defined purchase, the structure does the discipline for you.

Two choices set the flavour. On rate: fixed means the repayments stay the same for the life of the loan — budgeting to the dollar, though paying it out early may attract fees — while variable means repayments can move up or down as interest rates change, usually with more freedom to pay extra; Moneysmart's advice is to check you could still afford the repayments if rates rose. On backing: a secured loan pledges an asset the lender can take and sell if you don't repay, and usually charges less for that comfort; an unsecured loan pledges nothing, usually costs more — and a default still isn't free, because the lender can take legal action to recover the money.

The big number in the ad is the advertised rate — the interest alone. The number built for comparing is the comparison rate, which Moneysmart describes as a guide to the true cost of a loan: a single percentage that folds in the interest and most fees. Two loans with the same advertised rate can carry very different comparison rates, and the gap between the two numbers is, roughly, the fees talking.

The fees come in layers. There can be an application or establishment fee to set the loan up, ongoing monthly account or administration fees just for keeping it open, missed-payment and default fees when things slip, and early-repayment fees for the audacity of finishing ahead of schedule. On loans arranged through a car dealership, Moneysmart adds broker and dealer "introducer" fees to the list — several parties in the chain, each of them paid. An ASIC report it cites found big differences in the fees consumers pay, which is the polite way of saying: shop around.

Exit terms deserve equal billing, because the cheapest loan is often the one you're allowed to leave. Paying extra reduces the total interest and clears the loan sooner — Moneysmart's words — but some loans, fixed-rate ones especially, limit extra repayments or charge for them. Before signing, ask what an extra hundred a month would trigger, and what closing the loan two years early would cost. A loan that penalises finishing early has quietly removed its own best feature.

Security is the lender's insurance policy, and you are the one providing it. On a secured car loan the vehicle itself backs the debt: in Moneysmart's plain wording, if you don't meet your repayments the lender can take your car and sell it to cover the loan. That fallback is why secured loans usually carry lower rates than unsecured ones — and the mirror image holds too: an unsecured loan can't cost you the asset, and charges more for the safety.

Car finance adds a quirk of its own: the balloon payment, also called a residual — a structure where the regular repayments cover only part of the loan, leaving a final lump sum due at the end. The monthly figure looks friendlier, which is exactly the point and exactly the trap: Moneysmart notes the total cost is generally higher, because the lump sum you're deferring is being repaid with interest. A balloon isn't a discount; it's a deferral with the meter running.

Where you sign matters too. Finance arranged at the dealership is convenient, but Moneysmart warns it can involve several parties — broker, lender, dealer — with fees attaching at each layer. Ask for the comparison rate, the single figure with interest and fees inside, before anything is signed in a showroom. And if the car would come through your salary instead, that is a different structure with its own page: novated leases.

At the desperate end of the market sit payday loans — small, fast loans repaid over short terms, which Moneysmart calls small amount loans. They rarely look expensive per week, and that is the trick: an establishment fee plus monthly fees stack up brutally fast on a small balance. Moneysmart's own worked example: repaying a $2,000 payday loan over a year can mean about $3,360 in total repayments — $1,360 in costs for borrowing $2,000.

The deeper danger is the spiral. A loan that expensive is hard to clear from the next pay, so the next loan arrives to cover the last one — and Moneysmart is blunt here: if you're getting a payday loan to pay off another loan, or struggling to make ends meet, talk to a financial counsellor. Borrowing to repay borrowing is the signature move of a debt spiral, and the way out is a plan, not another lender — that plan is the whole of Getting out of debt.

Payday loans are avoidable because cheaper help exists, most of it free. Moneysmart's urgent help with money page maps it: No Interest Loans for essential items, a Centrelink advance payment — money from your existing payment, just paid early — payment plans negotiated directly with the provider you owe (more in Hardship help), and emergency relief charities for food and part-payment of bills. A financial counsellor on the National Debt Helpline (1800 007 007) is free; Mob Strong Debt Help (1800 808 488) offers the same for Aboriginal and Torres Strait Islander peoples.