Special purpose loan – what is it and what is it for?

The banks are quite shy about trying to encourage us to use financing for a specific purpose. From the bank’s point of view, such lending seems less risky and creates the opportunity to propose a lower price for the loan.

Among the special purpose loans, we include a mortgage. The bank then knows what the borrower takes out the loan for, which distinguishes this situation from the case when the cash loan is granted. How does the issue of specific loan offers look like in reality? We checked!

Special-purpose loan – what is it for?

Special-purpose loan - what is it for?

Usually, when we arrive at the bank, or even earlier when we look around among the available loan offers that seem favorable to us – we already know what we will allocate the funds possibly obtained from this institution. This is how we get to the heart of the matter, i.e. to review the subject of earmarked loans. It is worth being interested in them.

So what is an earmarked loan? This term applies to loans for which banks require a specific purpose for which the money will be spent. These can be various types of loans, including car, mortgage or installment loans. They are granted for many products or services, although most often we deal with loans for the purchase of an apartment.

It can also be said that a special-purpose loan is a bank loan that is intended for a specific purpose. This is a factor that clearly distinguishes specific loans from other credit or loan obligations.

A characteristic feature of special-purpose loans is that the money paid by the bank does not go to the borrower’s account or pocket, but to the account of the person selling the apartment or car, for example.

Special-purpose cash loan

Special-purpose cash loan

In general, a special-purpose loan must have a clearly defined purpose of spending the acquired funds, and a cash loan can be issued for any purpose that you do not need to notify the bank of.

However, if you are applying for a special-purpose cash loan, you must state in your loan application what you want to take it for, e.g. for holidays, the purchase of home electronics and household appliances or for the renovation of an apartment. An installment loan can also be considered an earmarked loan – a cash loan repaid in installments.

Advantages of the special-purpose loan over cash

Special purpose loans are usually cheaper than cash loans. They pose less risk to lenders, which is why they can offer customers a lower interest rate for such a commitment.

The reduced interest rate automatically reduces the total cost of the loan. The maximum loan amount we can get is also increasing and the loan period is getting longer.

Special purpose mortgage

A mortgage, i.e. a long-term loan secured by a mortgage on a residential property for the bank, is a special-purpose loan. The entry to the real estate mortgage, valid until the loan is repaid in full, is a loan that allows you to finance the purchase of the property, but you can also buy a construction plot or carry out extensive renovations.

A special-purpose mortgage usually has a lower interest rate, as the debt is secured by a valid entry in the real estate mortgage, which means that the credit risk is very low.

Conditions for granting a special purpose loan

bank

A special-purpose loan is a great solution for all borrowers who know exactly what they want to spend on the loan or credit. The condition for granting a special-purpose loan is to document the expenditure made using the special-purpose loan in the form of bills or invoices. In this case, the bank is willing to grant a higher loan.

The basic condition for granting a special-purpose loan is entering the purpose for which the funds will be spent in the loan application. If the subject of financing is also to be collateral for loan repayment, then it is necessary to present along with the loan application documents that will enable such collateral to be established.

Specific loan costs

The components of the cost of an earmarked loan are actually the same as for other loans, although usually lower. They include, among others:

  • credit interest accrued at the interest rate agreed with the bank,
  • the commission charged for joining the loan,
  • costs of establishing loan repayment security,
  • possible credit insurance.

Thanks to solid security and knowledge of the purpose of spending funds from a special-purpose loan, the bank can offer the customer a more favorable interest rate on such an obligation.

Target loan interest rate

What interest rate will the targeted loan have? It will certainly be lower than the interest rate on cash loans whose purpose is unknown to the bank. The lending institution is confident that the funds transferred will be used properly.

The interest rate reduction on a special-purpose loan is also influenced by the fact that the loan repayment security is most often set in connection with it.

Special-purpose loan collateral

An earmarked loan, e.g. a mortgage for a flat or a car loan, has collateral to pay off the liability. It could be:

  • mortgage on residential property;
  • loan repayment insurance, e.g. fire and other random events insurance;
  • assignment of the car as security;
  • assignment of rights from a vehicle insurance policy;
  • civil bail, etc.

It depends on the bank and the individual arrangements related to the granting of a special-purpose loan.

Loan period with a special purpose loan

Depending on the type of special-purpose loan granted, the loan period may be from several months to even several dozen years, as is the case with a mortgage. The loan period also depends on the age of the oldest borrower submitting the loan application.

Repayment of a special purpose loan

A special-purpose loan is repaid on the same terms as any other loan, e.g. cash loan. Most often this is done in installments set in the repayment schedule. The principal and interest installments are repaid gradually, every month, until the end of the loan period.

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