Many New Zealanders turn to personal loans to cover expenses such as home improvements, car repairs, or debt consolidation. These loans can be helpful, but they come with risks if not managed properly.
Taking on debt without fully understanding the terms can lead to unexpected costs and financial stress. Some borrowers accept high-interest rates, while others overlook hidden fees. Many people also borrow more than necessary, which increases repayments. Avoiding these mistakes can save you money and make loan repayments more manageable.
This guide outlines the most common pitfalls people face when applying for a personal loan.
1. Overlooking the True Cost of Borrowing
A common mistake people make when applying for a loan is focusing only on the interest rate. While the interest rate is important, it does not reflect the full cost of borrowing. Fees, penalties, and repayment terms all affect how much you will end up paying.
The Annual Percentage Rate (APR) is a better way to measure loan costs because it includes both the interest rate and additional charges. Some lenders advertise low interest rates but add high service fees, making the loan more expensive than it seems.
It is also essential to calculate the total amount repayable over the loan term. A longer repayment period might result in lower monthly payments, but you could end up paying significantly more in interest. Before agreeing to a loan, ask for a full breakdown of costs, including the total amount you will repay over time.
Using a personal loan calculator can help you see the true cost of borrowing. By entering the loan amount, interest rate, and repayment term, you can estimate your total repayment amount and monthly instalments. This can help you compare different loan options and avoid taking on more debt than you can manage.
2. Borrowing More Than Necessary
Some people apply for more money than they actually need, thinking it will give them extra financial flexibility. However, borrowing more increases the total interest paid and can lead to difficulties in meeting repayments.
Lenders may approve a higher amount than you requested based on your income and credit score, but that does not mean you should take it. A larger loan means higher repayments, which could put pressure on your budget. It also increases the overall cost of borrowing, making the loan harder to repay.
Before applying, assess how much you actually need and borrow only that amount. If you need funds for a specific purpose, such as home renovations or medical bills, get a clear estimate of costs first. This will help you avoid taking on unnecessary debt.
3. Choosing a Longer Loan Term Without Weighing the Costs
A longer loan term often means lower monthly payments, which can seem like an attractive option. However, spreading repayments over a longer period results in higher total interest costs. Many borrowers do not realise how much extra they will end up paying.
For example, a $10,000 loan repaid over three years will cost less in interest than the same loan repaid over five years, even if the interest rate remains the same. The extra two years add up to a significant amount in additional charges.
Shorter loan terms reduce the total interest paid, even though the monthly payments are higher. Use a loan calculator to compare different repayment periods before making a decision. If you can afford slightly higher payments, choosing a shorter term will save you money in the long run.
4. Ignoring Your Credit Score Before Applying
Your credit score plays a key role in determining the interest rate and loan terms you will receive. Many borrowers apply for loans without checking their credit score, only to be surprised when they receive a high-interest offer or get declined.
In New Zealand, credit scores range from 0 to 1,000, where higher scores indicate more creditworthiness. Lenders use this score to assess your risk as a borrower. If your score is low, you may be offered a loan with a much higher interest rate, increasing your repayment costs.
Checking your credit score before applying allows you to address any issues in advance. You can request a free credit report from Centrix or Illion. If you have a low score, you can improve it by paying off existing debts and avoiding multiple loan applications in a short period. A higher credit score can help you secure better loan terms and save money.
5. Not Paying Attention to Hidden Fees and Charges
Some borrowers assume that the interest rate is the only cost of taking out a personal loan. However, many lenders add extra charges that can increase the total repayment amount. If you do not review the loan terms carefully, you may end up paying more than expected.
Application fees, service fees, and early repayment penalties are common hidden costs. Some lenders also charge fees for missed payments, which can add up quickly. A loan with a low interest rate but high fees might be more expensive than a loan with a slightly higher interest rate and fewer charges.
Before signing a loan agreement, ask the lender for a detailed list of fees. Read the loan contract carefully and clarify any terms that seem unclear. If a lender is not transparent about costs, consider looking elsewhere. A loan should work in your favour, and not come with unexpected expenses.
6. Falling for Loan Scams and Unregulated Lenders
Scam lenders often target people looking for quick cash, promising easy approval with no credit checks. These scams can result in financial losses, high fees, or personal data theft. Borrowing from an unregistered lender is risky, as they do not follow legal lending practices.
In New Zealand, all legitimate lenders must be registered with the Financial Markets Authority (FMA) or the Commerce Commission. Before applying for a loan, check if the lender is on the official registry. Be cautious if a lender asks for upfront payments or pressures you into signing quickly.
If a loan offer seems too good to be true, it probably is. Always verify a lender’s credibility before sharing your personal or financial information. Reading online reviews and checking independent financial advice websites can help you avoid scams.
Taking out a personal loan can be a useful financial decision, but avoiding common mistakes is essential. Many borrowers focus on approval without considering interest rates, fees, or repayment strategies. Without proper planning, a loan can become a financial burden rather than a helpful solution.
Before applying for a loan, compare different lenders and understand all costs involved. Borrow only what you need and ensure that repayments fit within your budget. Checking your credit score, reading the fine print, and staying aware of loan scams can also prevent unnecessary problems.
