What is the interest rate for?
Intuitively, we could say that the interest rate reflects the “cost of the loan”. When doing a credit, you’ll have to repay the borrowed amount plus the interest. But let’s go further. What does this rate cover? The answer to that question comes in three parts:
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- Risk coverage: if the majority of borrowers repay the loan amount on time, there is always a risk that the lender can not be reimbursed. The interest rate covers this risk. Thus, the money obtained through the interests of various loans granted will cover the rare cases where the refund is problematic.
- Services: making a credit involves to address an institution that will offer you a service and take care of your request. The interest will also be used to pay the service qui are requesting:s: management of your case, analysis of your situation, advice, administrative support, preparation of contract … All different elements that take time for the employees.
- Additional services:
some contracts consistently deliver a loan insurance (in case of death, illness, accident) to cover the credit repayment in case of problem, while other companies may not provide these services. When you inquire about the interest rate, you should take this element also in consideration.
How to explain the differences in interest rates?
While most agencies praise a low interest rate, it is unfortunately, often the minimum and not the actual rate. That means that the promised rate will generally only be available to persons with an excellent financial position. Indeed, the rate covering the credit risk, a better situation will lower the cost. Each bank calculates the rate in different ways, but in general, this will depend on:
- Your budget: a higher income, with lower expenses (rent, insurance, …) will free up more budget to repay your credit, and so will reduce the risk, making you eligible for a better rate.
- Your situation: married people can add to their income that of their partner, and thus improve their budget and loan conditions. Similarly, banks do not hesitate to take into account how long you work at your present employer or even consider your age into the rate calculation.
- Your credit: finally, even if the terms of credit (amount and repaymentshould not be taken into consideration, it may happen that unscrupulous brokers propose a higher rate in order to increase the earner commission.
Total cost of the loan and factors to be taken into account
In finality, we find that the interest rate is not the major factor when calculating the cost of a loan. The repayment duration is the main element. So if you want a loan for 36 months, for example, it is much more interesting to receive an offer with an “average” rate than choosing another offer with a lower rate, but where the lender requires a 48 months contract claiming a lower monthly repayment. Let’s check that for a 5,000 Chf credit:
- Over 36 months, with a 11.9% interest rate: the total cost of the interest will be 940 Chf.
- Over 48 months, with a 8.9% interest rate: the total cost of the interest will be 952 Chf.
It is also worth inquiring about any additional services included or not in the credit offer. Faced with these issues, it is best to contact a trusted agency and perhaps focus more on credit conditions and services than on the interest rate only.
Article translated by Creditloan: Loan in Switzerland – www.creditloan.ch
