First Person: Loan Fine-Print to Watch Out For

Both in my business loans, personal mortgage, car loans and credit cards, I have missed fine-print details that cost me sometimes as much as 100% of the original amount borrowed. Knowing which details to look for any given loan agreement is vital to choosing the best financing option for you. Here's important loan fine-print to watch out for before you sign the dotted line.

Annual Percentage Rate (APR)

When talking to a lender always discuss the APR on a loan, not the interest rate. Though the interest rate represents the rate you will pay for borrowing the funds, the annual percentage rate includes additional costs, which the lender may add to the loan for its procurement or maintenance. Be sure to find out if the APR is fixed or variable, and, if variable, what are the terms of the increase and at which point will it be capped. So, for example, a 4.5% variable mortgage rate for 5 years may increase by half a percent every 6 months until a cap of 7% is reached. The Tip to remember is this: judge a loan by its APR not its interest rate.

Loan Term

When considering lowering your payments with a longer term loan, for example a 7-year car loan instead of a 4-year loan, consider also the question of compound interest. After the first year of the loan, not only will your bank continue charging interest on the outstanding debt, it will also charge interest on the outstanding interest. This approach to the interest collection(known as usury) allows banks to make a tidy profit on a loan, even when the APR is relatively low. The longer the loan, the greater the compound interest you will pay over its duration.

Amount Financed and Finance Charge

To help you decide if a long-term loan will work for you, ask to see the total finance charge you will pay over the duration of the loan. This will allow you to compare the dollar amount you borrowed with the dollar amount you will pay in interest. With 20- or 30-year loans, for example, you'll find that you actually pay more in interest than you borrowed in the first place-that's a 100%+ interest payment despite the fact that the APR may only be around 5%. However, if the loan is fixed at a rate lower than rising inflation, your monthly payments will become relatively less and less expensive, because everything around you will rise in price including your income, while your loan will remain the same. Don't be fooled by the APR; look at the dollar amount in interest that you will pay on the loan.

Early Pay Off Penalty

As you've probably heard, you should confirm that there is no early pay off penalty associated with the loan you're considering, but take into account also that the early pay off penalty can be a bit of a moot point. Unlike credit cards, with whom you carry a revolving credit, personal and business loans, mortgagees and car loans, all bind you to paying a fixed Dollar amount whether you take the full term of the loan to make payments or make a full pay off tomorrow. In other words, the loan does not include an early pay off bonus. If you agreed to pay 100% of the borrowed amount in interest, you'll be bound to do so to complete the terms of the agreement. Paying off a loan early is not always wise; instead, invest your money and let it grow.

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