In this lesson, we'll explore what the basics of borrowing are and what types of borrowing might be available to you.

Key Learnings

  • The different types of borrowing
  • Which ones may be right for you

Read time: 

7 mins

Chapter 1 

Credit cards, loans and overdrafts

Read time: 

2 mins

Why borrow? An example

 

Samira's two children are getting too big for their current beds. She wants to get them a set of bunk beds that will last until they're older and give them more space in their bedroom.

After looking at some bunk beds, she realises she doesn't have enough money in the bank to buy the ones she wants, so she's exploring the option of credit.

What is credit?

Credit is when you borrow money, goods or services from a lender, with the understanding that you'll repay what you owe later.

Lenders can be banks or private firms that loan you money. This is usually paid back in monthly instalments, at an amount agreed before you borrow the money.

Most lenders will also charge you interest (a percentage of what was borrowed or a set fee) on top of your repayments.

 

Let's look at some examples:

Credit cards

A credit card is an account with a credit allowance; money you borrow and will pay back. The total amount you can borrow is called your credit limit.

Your credit card account is separate to your bank account. The money you spend is borrowed from the card provider, rather than taken from your bank account. Most credit card lenders will also charge you interest to borrow this money.

Credit cards can be issued by banks, finance companies and some retail shops.

You can use credit cards to pay for goods or services in shops and online, and they can let you spread the cost for large purchases.

Using a credit card effectively can help build your credit score. This is something we'll explore in the 'Understanding your credit score' lesson.

Personal loans

A personal loan is a single amount of money paid into your bank account. You borrow this from a lender and you need to pay it back. The amount you can borrow is set by the lender and is based on your circumstances.

Personal loans are issued by banks and finance companies.

Most lenders will charge interest to borrow the money, and if you don't pay back the money and interest on time, you might not be able to get more credit in the future.

You can use the money from a loan to buy goods and services, just like you would use money in your bank account normally.

Personal loans are typically used for larger purchases than those made on a credit card.

Overdrafts

An overdraft lets you borrow money through your bank account by taking out more money than you have in your account. This is sometimes called being 'overdrawn' or 'going into your overdraft'.

There is usually a charge for this, and you can agree the size of your overdraft with your bank.

An overdraft should be used for short-term borrowing and emergencies only.

Chapter 2

Other types of borrowing

Read time: 

5 mins

Different ways to borrow

Now you've seen the most common types of borrowing, let's take a look at some more.

Select each item to find out more.

  • Payday loans are when you borrow a small amount of money over a short period of time to cover emergency costs until your next pay day. These loans are usually no more than £1500 for up to a month.

    These types of loans are an expensive way to borrow. Never take out a payday loan unless you're certain you can repay it on time and in full – otherwise, the costs can soon spiral out of control.

    The interest rates and fees for a payday loan are very high and very strict, so it is best to check if another type of credit, or support from your bank, would be more suitable before you apply for one.

  • Buy now pay later (also called BNPL) is an agreement to buy a product and pay for it later. You might hear this called buying 'on credit'. Sometimes this means paying in full, but at a later date. Other BNPL schemes let you pay in instalments to spread the cost. Most lenders will charge interest and fees for this type of borrowing.

    BNPL is becoming common both in shops and online. It's important to make repayments on time to avoid penalty fees, charges and damaging your credit score. It's also important to keep track of how many agreements you have (and which companies they're with).

    While buying something you can't afford and paying later may seem tempting, it can be a slippery slope to buying more than you are able to repay.

  • A pawnbroker is someone who will lend you money in exchange for you leaving a valuable item with them for usually at least six months. For instance, jewellery, a games console or furniture. The pawnbroker would only lend you what the item is worth if they were to resell it.

    You can make an agreement with the pawnbroker; they can keep hold of the item and you repay the money to get it back or you can keep the money and they sell the item. Pawnbrokers will charge you interest which you'll pay along with the repayments.

  • Some shops offer their customers credit accounts known as store cards. Stores usually offer these when you're buying something from them and can include an incentive like 10% off your purchase. Store cards can only be used to buy goods from that shop (or chain of shops) and most lenders will charge you interest and fees for using a store card.

    There are two types of store card account:

    1. A monthly account where you're charged interest if you don't repay everything in full at the end of the month (this is similar to a credit card)
    2. A budget account where you repay a regular amount each month to pay off the cost of goods bought throughout the year (this is similar to a loan)
  • A credit union is a group of people who decide to put their savings together to lend money to other people in their group. You must be part of a credit union group to use a credit union for borrowing.

    You can find out more about borrowing from a credit union by visiting the MoneyHelper website.

    Because the group members are connected, they charge a low interest rate. This can mean that a credit union would be a cheaper option than other forms of credit.

  • Equity release is when you borrow against the value of your home (if you own all or part of your home) without having to sell your home and move out. Sometimes this is called 'remortgaging'. There are different types of equity release schemes but all of them will charge interest on the money borrowed.

    In some schemes, the money borrowed is repaid much later when the house is sold, because the homeowner died, or the homeowner moved into a care home.

    In other equity release schemes, you sell your house but remain in it as a tenant, paying rent.

  • You can get a salary advance when a wage advance company works with your employer to let you access part of your salary as you earn it, rather than having to wait until your payday.

    Salary advances are often seen as an alternative to payday loans, used only in an emergency or for unexpected costs, though the difference is that it's your own money you're 'borrowing'.

    As these are salary advances rather than loans, borrowing this way doesn't result in a credit check, but you are likely to pay a fee each time you access your salary early. As with all forms of borrowing, it's important to consider if a salary advance is the right option for you.

Want to know more?

We've looked here at different ways to borrow. If you're interested in learning more about the different options, the MoneyHelper website has detailed guides and tools to help.

Secured and unsecured borrowing

You may hear the terms 'secured' and 'unsecured' when you start to look at borrowing options.

 

This is what they each mean:

Secured borrowing

This is when the money you borrow is given to you with the understanding that if you don't pay back the money as agreed, an item of yours will be taken or sold to repay the amount owed.

Examples of secured lending include:

  • Your house if you have a mortgage or have remortgaged it
  • Your car if you have taken out credit to pay for it

The item of yours - your house or car for example - is the 'security'. The lender knows that it's equal to the value of the loan, so they won't lose money if you can't repay the loan.

Unsecured borrowing

Unsecured borrowing is when you borrow money and agree to make regular payments until the loan is repaid in full, together with any interest you owe. This borrowing is not secured against an asset you own like a car or a house. Because of this, interest rates on unsecured lending tend to be higher than secured lending.

Examples of unsecured lending include:

  • Loans
  • Credit cards
  • Buy now, pay later
  • Store cards

The most common type of borrowing in the UK is unsecured borrowing. However, there is still a risk of your items or property being taken if you have borrowed lots of money and you can't repay it. This is when people called bailiffs are sent by the court. You can find out more about this in our When you can't make repayments lesson.

Types of borrowing: completed!

In this lesson you've explored the different types of borrowing and learnt the difference between unsecured and secured borrowing.

Learn with Halifax is committed to providing information in a way that is accessible and useful for our users. This information, however, is not in any way intended to amount to authority or advice on which reliance should be placed. You should seek professional advice as appropriate and required. Any sites, products or services named in this module are just examples of what's available. Halifax a division of Bank of Scotland plc does not endorse the services they provide. The information in this module was last updated on 21st November 2024.