The average American is carrying close to $40,000 of debt. That debt comes from a variety of sources.

Medical expenses, home loans, school debt … The list goes on.

While it may seem as though all of that debt is a bad thing, that’s not necessarily true.

Think about it… Somebody needed to get surgery and they were able to get a company to loan them the money they needed for the procedure. Somebody wanted a house that they couldn’t pay for and an entity was there to foot the bill.

This “borrowed money” typically comes in the form of loans and when you manage loans responsibly, they can be incredible tools for unlocking a great life for yourself.

Below, we answer the question, “How does a loan work?” by outlining 7 things that all borrowers should know before signing their name on a dotted line.

Loans Are for Adults

If you’re 15 years old and asking, “How do loans work?” our response to you is that you probably don’t need to know all of the particulars yet because no established lender is likely to give you money.

In almost every case, a base requirement to take out a loan is being over 18 years of age.

While this age requirement may not be the case in all countries, in the United States, you’d be hard-pressed to find lending programs for minors and that’s a good thing because there would be a lot of capacity for abuse if pre-adult lending was common practice.

You’ll Likely Need to Prove Some Sort of Income

Lenders let people borrow money under the assumption that borrowers will eventually pay them back. If a borrower doesn’t pay back their lender, the lender has very little recourse for recouping their losses.

So then, it makes sense that lenders will want to verify that you have enough income to eventually pay down the debt you’re taking on.

This is why lenders don’t lend to people that don’t have jobs.

In order to get a loan, you’ll need to present bank statements that show direct-deposits from an employer, pay stubs or at very least an offer letter from a new job.

Your Credit May Be Checked

If you don’t know what a credit score is, it’s important that you learn before you start applying for personal loans. That’s because your credit score is going to make up a large part of your lender’s decision on whether or not they’re going to loan you money.

Your credit score is basically a record of how good you’ve been about managing your debt in the past.

If you’ve borrowed money before and have never missed a payment, you’re going to have an excellent credit score and lenders will line up to let you borrow. If you’ve been delinquent on payments in the past, your credit score will be bad and it will be hard to find loan products.

If you’ve never borrowed money before, you won’t have a credit score yet which means that you’ll need to look for loans that are targeted at first-time borrowers.

Loans Are Not Free

People don’t lend you money out of the kindness of their heart. They lend you money because they want you to pay them back plus interest.

Interest is a percentage on top of what you borrowed that your lender will expect from you.

For example, if somebody loaned you $100.00 at a 10% interest rate to be paid back by the end of the month, you’d pay them back their original $100.00 (this is called principal) plus $10.00 in interest.

Loans Save Many People’s Quality of Life

Loans get a bad rap because a lot of people fall victim to them (more on that in a moment). The truth is though, loans managed responsibly are a beautiful thing.

If it was always your dream to study dance and the school that you want to go to charged $50,000 for a 4-year education, how would you pay for that without a loan? Chances are, you couldn’t.

Loans enable us to do wonderful things that we ordinarily couldn’t and they also save us when we’re caught off guard by emergency expenses.

Loans Can Ruin People’s Lives

As we mentioned previously, loans aren’t free. If you borrow amounts of money that you can’t responsibly pay back and take out loans with ultra-high interest rates, you’ll eventually fall behind on payments and find yourself unable to pay.

That will lead to bankruptcy which will ruin your credit score and disable you from doing things like taking out money or even renting a nice apartment later on down the line.

Not All Lenders Are Created Equal

Now that you have most of the how does a loan work question answered, you might be tempted to run out and get one.

Before you do, understand that different lenders offer similar loan products that carry vastly different terms, interest rates and fees.

Getting a loan from Bonsai Finance isn’t the same as getting a loan from Dale’s Discount Loan Emporium.

Bottom line – Read over your loan’s conditions carefully. Vet your lender.

The more you know, the safer you’re going to be as a borrower.

Wrapping Up How Does a Loan Work

Congratulations! At this point, you should be able to confidently answer your loan questions and are a much better borrower thanks to that education.

If you feel that a loan is a good option for you, shop around and find once that suits your lifestyle.

If you’re still scratching your head in regard to our how does a loan work question, browse more of our helpful content to address your lingering curiosity.