There are some situations where borrowing money can be useful. And while it isn’t always a good idea, in the right circumstances debt can help you achieve your goals and leave you better off in the long run.
There are also lots of different ways to borrow money, depending on your situation and what you’ll use the money for.
So if you’re thinking about borrowing money, ask yourself these 9 questions first.
1. What’s it for?
Be clear about why you’re borrowing money and understand exactly what you’re planning to use it for.
Is it for a single purchase like a new sofa, or lots of little things like groceries? Maybe you want a buffer for emergencies, so you know it’s there just in case?
Understanding exactly how you’ll spend the money should help you manage it responsibly. And it can also help you decide what type of credit is best for you.
2. Do you really need to?
Next, work out whether or not you really need to borrow money.
If you have a large cost to cover, it can be better (and cheaper!) to wait and save up if you can. But if you can’t afford to pay for unexpected costs, you might not have much choice. And borrowing money can also be useful for spreading the cost of unexpected charges over time.
Say you need a new car for your work, but you haven’t saved up enough to buy one outright. So you buy an affordable car using a loan, which you repay over a set period of time. You have to pay interest, so the car does cost more. But you’re better off because the loan makes it possible for you to drive to work and earn a living.
3. Will you be better off in the long run?
In some cases, borrowing money can leave you better off in the long run. For example, you can use debt to make sensible investments like getting a mortgage to buy a house that increases in value, or taking out a student loan to cover education that will increase your earning potential.
Debt can even help you save money sometimes, like if you use a loan to pay for a season ticket for the train. If the amount you save by buying a season ticket outstrips the amount you pay in interest, in this example going into debt will have actually helped you save money.
Borrowing money can also be useful if you want to take advantage of prices and offers that won’t be available forever (as long as you can actually afford them and any interest you’ll pay on top).
Say you find good value flights or see something you need on sale, but it’s a few days before payday and you don’t have enough to cover the cost right now. If you are eligible for an arranged overdraft, you could dip into it for a few days to buy them and take advantage of the deal. You’ll pay charges for using your arranged overdraft, but could save money overall. You’ll need to do the maths to check this works out cheaper.
4. How much do you need to borrow?
It’s smart to borrow only what you need – you don’t want to rack up debt by buying unnecessary things.
Try not to underestimate the costs you need to cover though, as you may find it difficult to increase your borrowing limit later.
5. What kind of credit should you get?
There’s plenty of choice when it comes to credit, with common options including overdrafts, loans and credit cards.
It’s best to pick credit that’s suitable for your needs and financial situation. Get started by learning about the different types of credit and how they work.
6. Who should you borrow from?
Shop around or use a comparison site to better understand your options. This’ll help you find a good deal from a lender you trust.
7. How much will it cost?
You’ll usually pay interest for using credit. Lenders calculate interest as a percentage of the amount you owe – this is called the interest rate.
To give a simple example: if you borrow £2,000 at a fixed rate of 10%, you’ll pay £200 in interest. Bear in mind that a fixed rate will stay the same, while a variable rate can go up and down.
Some lenders will charge you fees instead of (or as well as) interest. So remember to bear that in mind when you’re working out how much borrowing is going to cost you overall.
If you want to compare different products side by side, it’s helpful to look at the APR (Annual Percentage Rate). This takes into account interest and any mandatory charges. Typically, the lower the APR, the cheaper the product.
8. Can you afford it?
Once you have an idea of how much you need and what it’ll cost, it’s time to see if you can afford the repayments.
A good place to start is your monthly income and outgoings. Your income is anything paid into your bank account, like a salary or student loan. And your outgoings are payments coming out of your account, like rent, bills and other living expenses.
Work out how much you’ll have left at the end of the month, then see if it’ll cover the repayments to your lender. If not, you risk racking up debt, which can be stressful and expensive.
It’s also sensible to think about how you’ll cope if something goes wrong. What if you lose your job, or your student loan is late? When you borrow money, it’s important to avoid late payments as they can lead to fines, a damaged credit score, and even legal action.
9. How’s your credit score?
Your credit score (or ‘rating’) reflects your chances of getting approved for credit. A high credit score can help you get approved for credit, at bigger limits and cheaper rates. So it’s worth checking your credit score and if you need to, trying to improve it before you apply.
Bear in mind that each time you apply to borrow money (or make a ‘credit application), you’ll temporarily lower your credit score – whether you’re accepted or not.
If you’re making multiple applications, try and spread them out over several months to reduce the damage.
Credit isn’t always bad for your score though. In fact, making full repayments to your lender on time should improve your score over the long term.
Did you know? You could get a loan from Monzo
We won’t ask you to fill in long, complicated application forms. Answer three quick questions to see if you could get a loan with us.
Then we’ll show you what you could borrow and how much it’ll cost you, all without affecting your credit score.
If you are eligible, we offer 3.7% APR representative on loans of £7,500 to £15,000, and 19.5% APR representative on loans up to £7,500.
Choose how much you want to borrow and for how long. And see at a glance what you’ve paid, how much is left to pay, and how much it costs. We’ll always show you how much you’ll pay clearly, in pounds and as a percentage.
You can choose a repayment date that suits you, get your money on the same day, and we won’t charge you if you want to repay your loan early.
Plus, we take your repayments automatically and remind you beforehand, so you’re never caught out.
We also offer arranged overdrafts
Arranged overdrafts are ideal if you need a little extra money to tide you over every now and then. And if you’re eligible, you could get one with your Monzo account.
We charge everyone with a Monzo overdraft an EAR of 19%, 29% or 39% (variable).
As a representative example, if you use an arranged overdraft of £1,200 for 30 days, with 19% EAR/APR (variable), it would cost you £17.28. Your exact rate will depend on your credit score, and you can see what rate you’re on in your Monzo app.
Your rate will depend on your credit score, and we’ll always tell you the exact rate you’ll pay, and what that means in pounds, before you borrow from us.
EAR stands for effective annual rate. This is equivalent to the rate of interest you'll pay if you're overdrawn for a year. You'll pay interest on the amount you're overdrawn by, and on the interest that builds up from being overdrawn. So you'll pay less if you regularly pay off your overdraft. EAR doesn’t include other fees, like hidden or late fees – but we don’t charge these anyway.
Variable means we have the right to change the rate, but we’ll always give you notice if we do.
We’ll let you know before we charge you anything, and show you any charges clearly in the app.
Next, learn more about how interest works and how to compare interest rates.