It's not always easy to pay for that new dishwasher or summer holiday out of our regular income, which is why many of us need a little credit every now and again.
There are various ways to borrow money but one of the most common is a personal loan, sometimes known as an unsecured loan. Personal loans are pretty straightforward: you agree to borrow a set amount for a certain period and pay off the debt in fixed monthly instalments over the term of the loan.
Budgeting made easy
Personal loans make it easy to budget because you know exactly how much the loan will cost and how long it will take to pay back. You can usually borrow up to £25,000 over a term of one, three or five years. Personal loans can therefore be ideal if you want to buy a big-ticket item, such as a car or a new sofa.
Some lenders label their loans as car loans, or home improvement loans, but you can spend the money how you wish. You can even use a personal loan to consolidate other debts - using the money to pay off your other loans and balances, so everything you owe is in one place.
Safe as houses?
So why 'unsecured' - what does that word mean in this context?
Personal loans are unsecured in that they are not taken out using an other asset as security in case you default of your payments. So, for example, you do not put your home at risk when you take out a personal loan, as would be the case with a secured loan such as a mortgage.
However, you still have to repay the debt, or the lender could chase you through the courts. So don't borrow more than you can afford.
The interest rate depends on a number of factors. The lender will take a close look at your credit score before it advances any money. Banks and building societies these days are much more choosy about their customers and anyone with a poor credit score could end up paying a high price to borrow - or could be refused a loan altogether.
Big or small loan?
The size of the loan will also influence the rate. Most lenders charge a higher rate if you want to borrow a smaller amount. In other words, it is cheaper to take out a big loan (although the total interest you pay back may be higher).
But don't let the lower rate tempt you into borrowing more than you need or can afford. You still have to pay the money back!
Banks and building societies these days are much more choosy about their customers and anyone with a poor credit score could end up paying a high price to borrow - or could be refused a loan altogether.
The term of the loan does not affect the rate but it does affect the monthly payments. Let's say you want to borrow £7,500 over three years at 5.1%. Your monthly payments would come in at £224.73 and the total cost of credit would be £590.28.
If you extend the term to five years, the monthly payments would drop to £141.48. However, you would pay £988.80 in total interest, so the loan would work out much more expensive.
You can pay back the debt early if you wish without incurring a redemption penalty - unless you took out the loan before February 1, 2011 when different rules were in force.
Lenders advertise their best loan rates and they can be eye-catching and wallet-tickling. However, you will not always be offered the advertised rate as it depends on your credit score. The advertised or representative rate need only apply to 51% of successful applicants, which means that nearly half might be offered a higher rate.
The perils of PPI
Watch out, too, for lenders that try to sell payment protection insurance (PPI). A PPI policy should cover your loan repayments if you fall ill or lose your job, but these contracts are riddled with exclusions and frequently missold. PPI might be right for you, but read our guide before you buy to make sure that you understand all the terms and conditions.
How to get the best deal
You can compare loan rates from some of the country's leading lenders on MoneySupermarket's free, independent comparison website. It's a great way to find the best personal loan for your needs without trudging up and down the high street or spending hours on the telephone.
Moneysupermarket is a credit broker – this means we’ll show you products offered by lenders. We never take a fee from customers for this broking service. Instead we are usually paid a fee by the lenders – though the size of that payment doesn’t affect how we show products to customers.