Borrowing: What It Means to Borrow Money & Where to Go if You Need to Borrow Money (14th Blog Post)

If I give you money without asking for it to be paid back to me, that is a gift. On the other hand, if I give you money and ask that you pay it back to me, then that is a “loan”. And if I lend money to you, by definition you are borrowing money from me. So in order to borrow money, there has to be a lender on the other side of the transaction. That lender, otherwise referred to as a creditor, is taking money that belongs to them and allowing you, the borrower, to temporarily use it…….“temporarily” because of the lender’s expectation that you will return what you have borrowed.

If you want to borrow money, where do you go? Obviously, family and friends are potential sources of loans to consider. On the other hand, they may not have money to lend, they may not want to lend money out even if they have it, and they most likely are not in the business of lending money to others. So, in the event that family and friends are not an option available to you, where does that leave you if you need to borrow money?

In the event you wish to borrow money specifically to fund your education, then please first carefully review our 5th blog post (“How We Can Pay for a College Education: A Roadmap”). There we cover, among other topics related to paying for one’s education, the subject of student loans. In this blog post, we will cover from where to source other types of consumer loans. And, to be clear, where to go to get a loan in part can depend on what you want to do with the money that you borrow. For example, if you want to borrow money to pay for your education, you may or may not go to a different lender than the one you choose to go to if you want to borrow money to buy a new computer or new home appliance, cover an unexpected medical expense, deal with a family emergency, or cover an expensive home or car repair. And if you are going to borrow money to buy a car, you may or may not go to a different lender than the one you choose to go to if you want to borrow money to buy a home.

Common types of consumer loans include the following:

Personal loans are used by consumers for personal purposes although are considered a distinct type of loan. Obviously credit card loans, auto loans, home loans, and student loans are for personal purposes as well, but the banking industry considers these types of loans distinct from what it refers to as “personal loans”. Stated differently, personal loans are not intended to be used for buying a car, buying a home, or paying for your education, for example. Auto loans, home loans, and student loans are issued for those specific uses of funds. On the other hand, personal loans may be used to cover other types of expenses, for example buying a new computer, buying a new appliance for your home, doing a home repair or renovation, paying for a car repair or some other unexpected expense, dealing with a family emergency, paying off a medical bill, paying off higher interest rate debt, etc.

Traditional financial institutions like commercial banks and credit unions (which are like commercial banks but are non-profit organizations) are the most common place to go in order to obtain consumer loans.

These types of institutions are in the business of lending money to both consumers and businesses and frequently provide multiple types of consumer loans such as auto loans, home loans, student loans, and personal loans. To actually receive a loan from them, you apply for the loan and the lender will either approve the loan or deny the loan. Key to the bank’s or credit union’s consideration of a loan application is what is referred to as the “creditworthiness” of that borrower, i.e., how likely is it that you as the borrower will be able to pay back the loan.

Though many people do not realize it, even a credit card loan – which refers to money that you borrow on your credit card -- typically comes from commercial banks and credit unions. You may have heard of or be familiar with the brand names Mastercard and Visa. While their names are prominently displayed on credit cards, Mastercard and Visa are not actually credit card issuers. They are not the actual sources of loans to which a consumer has access through their credit card. Rather, commercial banks and credit unions typically are the ones that actually issue Mastercard and Visa credit cards and, therefore, are the ones who are extending the credit to the cardholders and who determine how much credit to extend to a given cardholder. (What Mastercard and Visa do is provide the technology that processes payments involving these cards and, in return for providing this service, they earn a small percentage of the value of each card transaction they process.)

Besides traditional financial institutions like commercial banks and credit unions, other common sources of loans to consumers include, for example, online banks (otherwise referred to as “digital banks” or “internet banks”), dedicated auto finance companies, dedicated mortgage origination companies, and dedicated student loan companies.

In the case of online banks, here we are referring to banks that have no physical bank branches but rather operate exclusively online.

Dedicated auto finance companies exclusively provide, as you might expect, loans to buy (or lease) cars. Many of these include captive divisions of the automotive manufacturers themselves. The following carmakers, for example, have in-house financing arms that provide loans to their customers.

Dedicated residential mortgage origination companies exclusively provide loans to buy homes and to replace existing home loans. (When a homeowner replaces their current home loan with a new home loan, the practice is referred to as “mortgage refinancing”.) Loans used to buy a home are commonly referred to as “mortgage loans” or “mortgages”.

Dedicated private student loan companies exclusively provide, as you would expect, education loans. Sallie Mae is considered the most established and well-known dedicated private student loan lender. But if you are thinking about how you will pay for your education, including taking out a loan, please be sure to carefully review our 5th blog post (“How We Can Pay for a College Education: A Roadmap”) before doing so.

When you borrow money, you are assuming debt. In addition to having costs associated with it, debt has to be paid back and if you do not pay it back the consequences are severe. (We will discuss costs and risks associated with debt, a critically important topic, in our next two blog posts.) The decision to take on personal debt, therefore, is a major personal decision and an enormously important one to fully think through before borrowing money. That said, the reality of the financial situation for many, often the result of limited incomes and a cost of living that bumps up against one’s limited income, unfortunately cannot be divorced from the subject of borrowing. Consider recent data published by the US Government’s Consumer Financial Protection Bureau[1]:

• Approximately 1/4 of US consumers have no savings set aside for emergencies; and

• Another approximately 40% of US consumers have less than 1 month of income saved for emergencies.

In other words, approximately 2/3 of US consumers have no more than 1 month worth of income set aside for unexpected larger expenses (e.g., covering an unexpected medical expense, dealing with a family emergency, covering an expensive home or car repair, etc.). So if you do end up needing to borrow money for your education or when you become an adult, as hopefully we have illustrated in this blog post, there are many types of loans out there available to consumers and there are many viable sources of loans that you can consider to help you cover larger expenses in life or to potentially help you manage through particularly challenging periods in your life.

I would love to hear from you. Any ideas, experiences, thoughts, comments and questions….please do share.

[1] Consumer Financial Protection Bureau, “Emergency Savings and Financial Security”, March 2022.

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