When you need to pay for something, but don't have the money available, there are normally two options – you can borrow at a cost, or you can save up for the purchase.
Both options have their benefits and drawbacks, though the best choice will probably be determined by your circumstances. Here's a helpful rundown of what's involved in borrowing or saving.
Saving money is more of a long-term and cheaper option. There's usually no charge to open a savings account, and the interest rate provides some extra money.
The interest rate on savings accounts is known as the AER, or Annual Equivalent Rate. It takes into consideration whether it's a simple or compound rate, as well as how often the interest payments are made.
Some accounts may require regular deposits, or a deposit to open the account, which can range from just £1 to over £1,000.
If your end goal is quite big, then a savings account may take time to build up. Plus some account providers may either charge for withdrawals or require a notice period before you access the money.
Saving money is a good idea for:
- A deposit for a mortgage
- A special holiday
- Your retirement
Taking out a loan is a quicker way to get the money you need, but it's usually at a cost.
Lenders typically charge an interest rate for the money they lend you, known as the APR or Annual Percentage Rate. The APR includes compound interest as well as any other fees to give you a clear picture of how much the loan will cost you.
Different types of loans will offer various interest rates and term lengths. For instance the longer the term the more you'll pay in interest, but a long term can also provide cheaper monthly repayments.
Loans can also be secured or unsecured. A secured loan is tied to some form of collateral, such as a mortgage secured on a property or car finance secured on a vehicle. Lenders can repossess the property or asset if repayments aren't made.
An unsecured loan is not protected by either guarantor or collateral on the asset. These loans might have a higher interest rates due to the higher risk for the lender.
Some loan providers charge a fee for making early repayments, which varies depending on the loan.
You may want to take out a loan for:
- Home improvements
- Buying a car
- Pay for your wedding
Which is the better option?
What you need the money for and how soon you'll need it will influence your decision to either save or borrow. If you need the money sooner, then the loan may be the best option. But if you can save, it could be the cheaper option in the long run.
AA Financial Services offers personal loans and savings accounts. Loans are provided by Bank of Ireland UK. AA Financial Services Limited is a credit broker and not a lender. AA Savings accounts are provided by Bank of Ireland UK.
Published 2 June 2020.