Personal loans are some of the most common credit products in the financial markets. A personal loan is a loan extended for the borrower’s personal use. They differ from other forms of credit because they do not have conditions for use.
The borrowed money is extended as a lump sum, and the borrower is then required to pay within a pre-agreed period of time with pre-defined minimum payments. Some personal loans are unsecured - the lending institution only requires a credit report and an active bank account to assess your creditworthiness.
However, other forms of personal loans, such as those extended by SACCOs are secured through deposits and guarantors. Whether secured or non-secured, here are five ways a personal loan can positively transform your life.
The nature of life is that while you may have a kitty to cater to future financial needs, emergency situations might require an unforeseen amount of money. Examples of common emergencies include sickness, the death of a loved one, a car accident, and a house fire.
Having an emergency and being unable to raise the money required to attend to it can be a frustrating experience. Sometimes, it can be a life-saving situation - say, an emergency surgery where a downpayment is compulsory. Thus, a personal loan can come in handy in such situations.
Personal loans are typically unsecured, although some have some form of security - take the case of SACCO loans that rely on a member’s deposits and guarantors. However, most unsecured loans will consider the borrower’s credit score and financial statements such as bank account statements.
Thus, for you to be in a position where you can access a personal loan for emergency situations, it is advisable to keep a solid financial record. If you are a freelancer or a business person, make sure your income or revenues are banked regularly to build your credit portfolio. It is also important to research the criteria that various banks use to determine qualification for a personal loan - and choose the institution that best works for you.
If you are employed, you should consult your employer or Human Resource manager on potential agreements (Memorandum of Understanding) that your employer may have signed to allow staff to access negotiated personal loans.
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One of the major obstacles to financial independence is expensive credit. Some of the popular and readily available credit products, overdrafts, credit cards, shylock loans, and mobile digital loans - have relatively higher expenses than personal loans.
If you are in a situation where you have multiple, high-interest rates, it can be overwhelming as the interest can significantly eat into your sources of income. Expensive credit can also take up funds that would otherwise be saved or pay for more pressing financial needs.
Further, the credit scoring method used by Credit Reference Bureaus (CRBs) takes into account the existence of multiple short-term loans which negatively affect your rating.
However, if you have access to a personal loan that has relatively low interest, you can take up a lumpsum and clear your many small-time loans. Consolidating your loan helps you better plan your finances since personal loans typically have an interest cap in Kenya. They also have a greater repayment period, giving you the legroom to reorganise your finances.
Personal loans are an excellent way for you to invest for the future. They allow you access to huge amounts of money that you would otherwise spend more time accumulating - say through savings.
Some of the assets or acquisitions are great investment decisions that enhance your net worth in the long term. For example, a personal loan to buy a house or a piece of land could translate to a substantial gain by the time you have cleared the loan. Some assets appreciate at a rate that is higher than the inflation rate. For instance, land appreciation in some Nairobi Metropolitan areas has an annual appreciation of 15-18%.
Considering a 15% appreciation rate for a plot of land worth Ksh2 million, the value after three years would be Ksh2.64 million - assuming no development is done on the plot of land.
A Ksh2 million personal loan, taken at an annual interest of 12%, would see the borrower repay Ksh2.39 million, much lower than the value of the plot of land.
Other acquisitions, for example, starting a business - may offer even greater returns - allowing you to improve your net worth from the personal loan. Strategic investments are not always for monetary gain. Personal loans often help you improve the quality of your lifestyle, say through the purchase of a family car, building a vacation home, or even upgrading your current home.
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A personal loan can be a great tool to reduce your long-term expenses. This is possible through strategic acquisitions as an individual or as a business. Numerous expenses could be reduced through capital-intensive investments.
For example, if you are struggling with high electricity bills, buying a solar system may be cost-intensive in the short term - but ultimately takes away electricity bills as a regular expense. The same applies to rental payments. If you have access to a personal loan, you can use it to buy land or build a house, and instead of paying rent - you could channel the money to servicing the personal loan.
The same logic applies to your business, say a side hustle, that is doing well but is dragged down by high business expenses. Some long-term assets will reduce recurrent expenses and ultimately increase your profit margins.
Consider the example of a hardware business owner facing high operational costs from hiring a lorry to deliver materials to clients. If the owner could access a personal loan and purchase a lorry, then transportation expenses would be reduced. After repaying the loan - the business assets would have improved.
Financial discipline is a positive attribute to have and can be an easy ticket to wealth. However, financial discipline does not come naturally to most people. You probably have been planning to save a certain percentage of your income - and you succeeded for a few months.
But there are always emerging distractions that push you away from your goal. Self-awareness is a great place to start. You have to understand your naturally-inclined impulses and deliberately work on overcoming them. Personal loans can help build financial discipline - especially if you are salaried.
You could take a personal loan and channel it towards the investments you intended to save for - say, buying a piece of land. You then agree with your employer to have the debt-serving payments automatically deducted and remitted to your employer before hitting your salary account.
However, it is important to introspect on the factors compromising your financial discipline since the problem could be elsewhere. For example, it could be that you are living beyond your means and the regular expenses eat away money you intended to save. In such a scenario, the personal loan may work against you as it means you would have to borrow more - perhaps from informal lenders, to cover the gap created by the debt service repayments.
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A personal loan can be a great step in your financial independence journey. There are various benefits that come from taking a personal loan, including more legroom to organise your expenditure, increasing your net worth in the long term, catering to emergency needs, reducing long-term expenses, and building a culture of financial discipline.
However, before taking a personal loan - consider the various options available to you, including full disclosures on the direct and indirect costs of taking the loan. Money254 is a dedicated platform that allows you to compare the cost of financial products, including loans, and can be a great starting point.
Further, ensure you are fully able to meet and honor your obligations after taking the loan - to avoid defaulting which not only ruins your credit score - but runs the risk of exposing you to auctioneers and debt collectors.