Red flag 4: Super-long loans
Borrowing is all about affordability. Reducing your monthly payments could get you into a better home, allow you to buy that new car or truck you’ve got your eye on or just let you breathe more easily each month. So it’s understandable that a 40-year mortgage or a seven-year vehicle loan would seem attractive.
Longer loans lower your payments a bit by stretching them over more years. But you pay through the nose for the privilege, and the payments aren’t that much smaller. Get the lender to break down and compare costs so you can see how much more you’d pay for a longer loan. A super-long loan is better than an interest-only loan, but not by much since most of your monthly payment goes to interest instead of equity — your ownership share of the property.
Red flag 5: Advance fees
Just hang up if you get a phone call offering you a loan (or “grant”). It’s illegal for U.S. companies to promise credit cards or loans over the phone and require payment in advance. Calls like this are probably not lenders anyway. It could be a scammer trying to convince you to send upfront “fees” or “down payments.” You, then, have to wait for the loan to arrive. And wait, and wait ….
Rule of thumb: Pay no fees until you have the loan money in your hands.
Red flag 6: Payday loans
Payday loans are expensive short-term loans with certain risky features. Typically, you give the lender a post-dated check for the amount you’re borrowing plus fees, to be taken from your next paycheck. Failure to repay on time sets off more fees and interest charges that drag some borrowers deep into debt.
Red-flag features include:
- Astronomical interest rates: On average, short-term payday loans charge 391 percent APR (annual percentage rate), according to the Center for Responsible Lending (CRL). For comparison, Money Talks News’ credit-card center shows credit-card rates ranging around 10 percent to 20 percent. APRs on personal loans can be cheaper.
- Fees that pile up: Payday lenders cater to people in financial trouble. If you fall behind or your check bounces, you can rack up fees, which lead to a debt bigger than your original loan.
- Repeat borrowing: Borrowers who can’t pay off a loan by the end of its term often get new loans, leading to a cycle of debt that buries them. “Payday loan stores reap billions of dollars in interest and fees on a product designed to force borrowers into repeat loans,” the CRL says.
- Collection practices: Payday lenders vary, but the worst have a reputation for harassment and relentless collection practices.
Some states ban or regulate payday loans. However, 32 states “permit payday lenders and permit loans based on checks written on consumers’ bank accounts at triple-digit interest rates, or with no rate cap at all,” according to the Consumer Federation of America. Find your state’s status on this CFA map.
4 safety tips
- Mortgages: Stick with federally “Qualified Mortgages” that have safeguards built in. If you can’t get one yet, double down on improving your eligibility rather than accepting a risky, higher-cost mortgage. The Consumer Financial Protection Bureau compares pros, cons and features of various mortgage types.
- Vehicle loans: Get the best deal on a vehicle loan by ignoring the sales talk and avoiding longer loans. Get a four-year or five-year loan, and focus on the APR.
- Emergency borrowing: It’s better to borrow from friends or family or even a credit card if you must. If you use a payday lender, read the CFPB’s guidance. Payday lenders vary, so shop for the best deal — don’t choose based on convenience.
- Plan ahead: Everyone gets into a pinch occasionally. Prepare by improving your credit so you’re eligible for a small personal loan with a safer fixed interest rate. Find a credit union that charges less than a bank and join now as insurance. Build an emergency savings account (hands off except for true emergencies) and fatten it by earning extra money.
Have you encountered these or other red flags when shopping for loans? Share with us in comments below or on our Facebook page.