June 13, 2018
Unbiased Financial Information Provided by Financial Finesse
An unexpected expense is all it takes for consumers with little or no savings to get into trouble. Borrowers facing an emergency rarely take the time to shop around or understand all the terms of the loan they're offered. That hastiness can be extremely expensive, especially if you end up with a high-cost loan or, worse, become the victim of a loan scam.
Loan Fees and Terms to Be Aware Of
When getting any type of loan, it's important to determine the annual percentage rate (APR). The APR will be higher than the interest rate you're quoted because it takes into consideration other charges, like loan origination fees.
Here are some of the fees and features that add to the cost of a loan:
- Origination charges. Many lenders charge "points" or other fees at the time the loan is made (or originated). These extra charges could make a loan with a lower interest rate cost more than a no-fee loan with a higher interest rate.
- Credit insurance. Credit insurance is intended to pay off your loan or make your payments over a period of time if something should happen to you (for example, you become unemployed or disabled, or you die). The premiums are generally added to your monthly payment. Most experts recommend you skip the credit insurance.
- Prepayment penalties. Some loans impose a significant penalty if you pay off the loan before its maturity date, essentially locking you into paying a certain amount of interest and removing any incentive you have to get out of debt early.
- Variable interest rates. These aren't necessarily a bad thing, but make sure you know just how much and how often the rate can change. Also find out whether rate changes are tied to some objective benchmark, such as the prime rate.
- Balloon payments. Some loans require small monthly payments for a few years followed by a single "balloon" payment of the remaining balance. While this may be a good loan structure for some borrowers, it can get you into trouble if you don't have the funds to make the balloon payment and aren't able to refinance the loan.
Supposedly Attractive Terms May Turn Out to Be a Bad Deal
There are many loans or credit arrangements that, while legal, may not be in your best interest.
Rent-to-own: Customers without the cash or credit to buy the big-ticket items they need (like appliances, electronics and furniture) often "rent-to-own." Because only a relatively small part of the monthly rental fee is applied towards the purchase of the item, the renter ends up paying much, much more for the item in the long run than he or she would using some other form of financing.
Paycheck loans: Some companies offer loans, or advances, on your paycheck. Typically, you write the lender a post-dated check in exchange for cash now -- less a fee, of course. For instance, you might write a check for $250 and be given $225 in cash. When your payday rolls around, the lender cashes the check and recoups the loan amount. The fee on these loans is typically about 10 to 15 percent of the amount of the check, effectively a much higher interest rate than a credit union or bank would charge. For example, a $500 advance payable in two weeks with a fee of $75 (15 percent) works out to an interest rate of nearly 400 percent a year!
Advance loan fees: If a loan broker guarantees that you will be approved for a loan but wants you to pay a fee before the application is submitted or the loan offer is confirmed in writing, you may want to think twice about continuing with the transaction. There have been many scam artists who have simply taken applicants' up-front fee and disappeared.
Here are some of the things you can do to avoid high-cost loans and protect yourself from scams:
- Shop around. Apply for loans from many lenders so that you can compare terms and identify loans that have unusually high rates and fees.
- Read the fine print. Read all parts of your loan agreement. If you need help understanding it, you can consult an attorney, but there are consumer protection groups out there that will give you guidance for free.
- Ask questions. If you don't understand it, make the lender explain it to your satisfaction, or find someone else who can. Ask about specific terms and fees.
- Prepare yourself. By managing your money wisely, making monthly deposits into a savings account, and establishing a good credit history, you can avoid needing an emergency loan or having to turn to a questionable lender for money.
- Take action if you're cheated. If you feel a lender has misled you about the terms of a loan, complain to the Better Business Bureau in your area, file a complaint with the Federal Trade Commission, or talk to a lawyer.
Look out for others. If you know someone who might be a target for high-cost or disreputable lenders (typically the elderly, the financially inexperienced, and those with poor credit), alert him or her to the danger of signing any loan agreement without someone else reviewing it.