Loans that Hurt So Good: Confessions of a Credit Counselor
Have you ever felt like if you just had a loan for (insert your number here), you could get on track and start breathing again? Me too. In fact, I still have times like that. Luckily, somewhere along the line I figured out that the way I borrow that money makes a huge difference in whether it ends up as a saving grace or a noose around my neck.
I decided to write this post after seeing a request in a Buy/Sell/Trade group I belong to on Facebook. A woman asked if anyone knew where to get a personal loan. She said she had asked her bank and they said, “They don’t do those types of loans.” She also said she didn’t have credit.
My guess is that the lack of credit is what caused her to be turned away from her bank. But what I found really frustrating was the number of people recommending finance companies as the best alternative for borrowing. I could feel the anxiety rising in my chest as I read post after post suggesting she visit the local offices of these big-league secondary finance companies.
In the past, I turned to lenders who had borrowing terms that were horrible. High interest rates, fees, insurance add-ons, and unfavorable ways of applying payments. I learned the hard way how expensive those loans can be. Below is the breakdown of a typical borrower, the related loan, and the collateral used to secure the loan of a lender from a typical lender (taken from a national finance company's offering memorandum).
When you look at this profile, the big items that jump out are borrowers with:
- Low FICO scores,
- High interest rates, and
- Loans secured by collateral.
We all know a low score means to a lender – that we are a higher risk to miss payments on a loan. That in turn dictates the interest rate we will pay – it will be higher! In addition to charging us a higher interest rate, this business is also securing the loan with our personal property. We pay more and we risk losing the assets we already own.
Taking the average starting balance ($4,300) and the interest rate (26.1%) we would end up paying $6,245 for this loan. In reality, we will probably pay much more. This does not take into account any loan fees or the cost of insurance that might be added to the loan.
So, I’ve spent half of a page talking about how these loans can hurt you, but nothing about alternatives. There are some.
First, like this woman, try your bank or your credit union. You have already established a relationship with them and they may be willing to help. This is also where having a credit union may be more beneficial than a bank. Credit unions are created for the members and run by the members. Sometimes they have special programs for people trying to establish or reestablish credit.
Second, ask a friend or family member for help. I know, it can be hard to take that step. But I would rather loan my family or friend money than see them go to a loan company like the ones outlined here. Or, perhaps worse yet, see them turn to a payday loan company.
Third, you might accept the loan through the finance company. Pay close attention to the terms of the loan and any fees they may add. Make payments that are more than the minimum and be sure to indicate you want that extra payment applied toward the principal – not insurance or future payments. That will help keep the cost of the loan down.*
Finally, take a look at your budget or contact a credit counseling agency like ours to talk to a credit counselor about options for paying debt and maximizing your budget. One of the best things you can do for your finances is to get a second opinion. This is YOUR money and your job is to keep it where it does the best work for you – not someone else.
Published Nov 6, 2014.