10 Terrible Loans You Should Consider Only as a Last Resort
We've all been taught that most types of debt are bad news. But some loans are such egregiously awful financial instruments, we think they deserve special mention.
Below are 10 of the worst loan options available. They feature many things in common, such as exorbitant interest rates or enticements to make you spend and borrow more. These loans so bad, you should only consider them as an absolute last resort.
1. The Payday Loan. Payday lenders present themselves as a friendly, helpful, and practical solution to running out of money before the end of the month. You've seen the claims on storefronts, and you've probably heard the commercials by now: "Money as soon as tomorrow!"
What payday lenders really are, according to Sen. Elizabeth Warren, are "a credit product that can impose substantial costs on imperfectly informed and imperfectly rational borrowers." Warren decried payday lenders or cash advance companies in a paper "Making Credit Safer," which noted that a typical $30 fee on a $200 loan amounted to a nearly 400 percent annual interest rate. These companies make 90% of their profit on customers who roll their loans over, paying again and again for the money they've borrowed.
The Consumer Federation of America is so concerned about the long-term debt cycle which frequently traps borrowers that it set up a site to warn potential consumers of the risks of payday loans. Or maybe the Confessions of a Former Payday Loan Junkie will convince you.
2. The Car Title Loan. Car title loans are a notoriously awful option. The deal is, you borrow money at a high interest rate (typically 300 percent), and the loan is usually due in full in 30 days. As security, you sign over the title to a paid-for vehicle. That's a very bad idea, says the Consumer Federation of America.
"Car title lending risks repossession of major family asset," the organization warned in a paper that cited the forfeiture of thousands of vehicles in various states through these loans. The loan amount is generally a fraction of the car's market value.
3. The Tax Preparer Loan. Because of a regulatory crackdown, the big tax services have quit offering classic refund anticipation loans, where they would give you the money the IRS owes you weeks ahead of time in exchange for a hefty cut. But some of those same companies are now offering personal lines of credit with double-digit interest rates and a swarm of fees. Steer clear.
4. The Credit Card Cash Advance. Credit card cash advances seem appealing because you already have a relationship with your credit card, so there's no paperwork to fill out; they're instant, and there are no embarrassing face-to-face conversations involved. You've probably even gotten those "convenience checks" along with your credit card bill, or seen the logo of your credit card network on an automated teller machine.
Those perks come at a steep price: high fees and interest. The average fee is $10-$20, and the interest rate you'll pay ranges from 1 percent to 7 percent above your credit card rate. The only time you should even consider taking a cash advance is if your car breaks down out of town and the mechanic won't take a credit card. "It ought to be a last resort," David Jones, president of the Association of Independent Credit Card Counseling Agencies, told CreditCards.com.
5. The Casino Loan. Many casinos offer interest-free, fee-free lines of credit that can only be used to gamble. The only reason you should ever take advantage of such an offer is if you have the cash in your checking account and you prefer not to carry it. "Never borrow money while gambling. Chances are good that you'll lose it, making a bad situation even worse," advises part of the "Casino Gambling for Dummies" Cheat Sheet.
Like other lenders, casinos generally have the ability to put a lien on your home if you don't pay, setting the stage for a bad day at the tables to spin into a very bad year -- or even a terrible decade.
6. The Installment Loan. Similar to the payday loan, the installment loan gives the borrower a small amount of money -- often $1,000 -- on short notice at a high interest rate. But unlike payday loans, which are often due in full in just a few weeks, installment loans can be stretched over six months or a year.
These loans have skirted some of the scrutiny regulators put on payday lenders, but have landed consumers in much the same trouble. Take Naya Burks of St. Louis, who ended up having $5,300 taken from her paychecks after she defaulted on a $1,000 installment loan from AmeriCash. Those payments did nothing to chip away at the loan balance, which instead grew week by week because of the 240 percent interest rate, eventually ballooning into a $40,000 debt.
7. The Private Student Loan. Student loans may be a fact of life for many scholars nowadays, but think hard before turning to a private lender instead of federal programs. "While federal student loans offer options to avoid default through several loan modification and alternative repayment programs, lenders and servicers of private student loans generally do not," the Consumer Financial Protection Bureau warned in its annual student loan report. Private student lenders may also prevent you from selectively paying off higher-rate loans first, complained the blog Money Ning.
8. The Pawnshop Loan. If you live in a big city, you've probably passed pawn shops, which take jewelry, cameras, and other personal property as loan collateral, and keep the goods if the loan isn't paid in time. The New York City Department of Consumer Affairs warns that in addition to charging high interest rates, these shops often charge service and storage fees, driving the true interest rate sky-high. Many people end up paying more than the market value of their property to the pawnbroker, but can't pay all they owe and end up losing the property, anyway.
9. The Overdraft Loan. Your bank may have encouraged you to opt in to "overdraft protection," a program that allows you to write a check or withdraw funds from an ATM even if you have no money in your checking account. Tim Chen, CEO of NerdWallet, says you should never do this.
When your bank provides this "protection," it charges you a fee -- about $35 -- for that transaction and every other transaction on your account until the balance is above $0. In the end, you could end up paying even higher rates for that overdraft loan than you would borrowing from a payday lender, Chen warns.
10. The Lotto Winner Loan. Most of us will never be in the position to be victimized by this kind of loan, but if you ever win the lottery, watch out. The public radio program This American Life explained that these lenders go after people who have won jackpots to be paid out gradually over the years. They buy the winnings for an upfront payment, often pressuring the winners to sign off on a sum that is just a fraction of their winnings. Fortunately, now that most states offer a lump sum option, these lenders are no longer prevalent.