When Are Bad Credit Loans Dangerous?
Most people know that you need good credit to get a low interest rate on a personal loan. Fewer people know what to do when they need that personal loan but their credit is… let’s say, imperfect.
If this describes you, then you may find yourself looking for a “bad credit loan.”
Now, maybe you’ve heard that bad credit loans are dangerous. That’s because many of them are! Predatory lenders know that folks with bad or no credit are often desperate for money to cover unexpected expenses like car repairs and medical bills. If you have a financial emergency and no savings or credit to rely on, then you’re more likely to let yourself get walked into a bad loan that will eventually trap you in a cycle of debt.
But not every bad credit loan is the same. While some are predatory and dangerous, there are others that can get you through your financial emergency in a safe and financially responsible way. So how can you tell the difference? The next time you need a bad credit loan, be sure to ask your lender…
IF THEY WANT YOU TO PAY AN “ADVANCE FEE”…
Lenders judge how likely a borrower is to repay a loan based on their credit rating. If a potential borrower has “good credit”, then they’re likely going to pay what they owe. If a potential borrower has “bad credit”, then they’ll be considered a riskier prospect. A lender might be willing to look past a bad credit score if they can verify your income and ability to repay your loan at the end of the term. But if they want you to pay something in advance of the loan, something is definitely up.
Brett Graff (@BrettGraff), writer at The Home Economist and author of Not Buying It: Stop Overspending and Start Raising Happier, Healthier, More Successful Kids explains the risk: “If you have bad credit, you may be tempted by advance-fee loans. Here, the lenders tell you they guarantee the loans and they don’t care about your credit history, but they are total scams. Real, legitimate lenders always care about creditworthiness and scammers tell you what you want to hear, take your fee, and disappear.”
Advance-fee loans are, unfortunately, an increasingly common scam. The “lender” may be an online outfit that looks legitimate at a glance. They tell you your credit score isn’t a problem, so long as you pay an “application” or “processing fee” upfront before they give you the loan. You pay the fee, and the lender disappears with your money.1
IF THEY HAVE SHORT REPAYMENT TERMS….
One reason why payday lenders are so dangerous is because they give you so little time to pay back your loan. You’ll be expected to repay the full principal, with interest and fees, in as little as two weeks.
Can’t pay it back? Well, you’ll have the option to extend the loan for another couple weeks (for a costly fee). And this is where people get trapped. You can end up in the dreaded “cycle of debt,” forever extending your loan and never able to fully pay it back.
There’s a reason payday lenders have gained a bad reputation.
Andrew Fiebart (@AndyFieb), co-owner of the Listen Money Matters (@MoneyMattersMan) podcast and blog, warns that “the APR on payday loans is extremely high, so you’ll pay more each time you extend your loan.”
APR (or annual percentage rate) includes fees and interest, so you can get a full picture of how much a loan will truly cost you. When you compare the average APR of a payday loan (nearly 400%2) with the APR of an average credit card (12%3), you’ll see just how outrageous these predatory fees really are.
IF THEY’RE TRYING TO TAKE YOUR CAR…
Fiebart singled out another dangerous bad credit loan you should steer clear of:
“Title loans require you to give your car’s title to the title loan company in exchange for an amount equal to the appraised value of your car. If you can’t pay back the loan, you run the risk of the lender repossessing your car.”
Since the APRs and payment terms of title lenders are similar to those of your bread and butter payday lenders, it’s terrifyingly easy to lose your car.
No matter how sure you might be that you can pay it back, it isn’t worth risking your car over.
WHAT KIND OF CREDIT CHECK ARE THEY PERFORMING?
Not all dangers are major and not all of them are exclusive to bad credit loans.
Before applying for a loan, you should find out if the lender is going to perform a hard or a soft credit check.
As mentioned above, you should expect a legitimate lender to perform a credit check. But a “hard credit check” can negatively affect your credit score.
If you need a loan and you already have bad credit, try to find a lender who will perform a “soft credit check”, which won’t affect your credit score.
We can’t imagine anything less fair than being rejected from a loan you need AND having it further hurt your credit.
IS THERE ANYTHING HIDDEN IN THE CONTRACT?
At the end of the day, the reason why many bad credit loans become dangerous is because lenders aren’t upfront about the risks you’re being asked to take on.
All of the things we’ve mentioned so far are risks that dangerous lenders will try to hide from you.
We touched on some of the major concerns, but it’s important that you read through anything you’re signing very carefully, look at the loan in terms of its APR, and ask as many questions as you need.
A good lender will want to work with you to make sure you’re getting the best loan possible.
About the Contributors:
Andrew Fiebert, is the Co-Founder and Chief Nerd at Listen Money Matters, a finance blog and podcast. After working as a data engineer at an investment bank, Andrew realized that there weren’t any good places to learn about personal finance. Often left to his own devices to learn what was needed for finances, Andrew put together Listen Money Matters. Listen Money Matters is a community to help others get their financial situation straight.
Brett Graff, has been seen writing and reporting on money and personal finance in The LA Times, Yahoo! Finance, Cosmopolitan, The New York Times and the Fiscal Policy Institute, to name a few. Brett also provides her insight in the column, The Home Economist, which is nationally syndicated and published in newspapers all over the country. Her book NOT BUYING IT: Raising Happier, Healthier & More Successful Kids is now available!
- “Advance-Fee Loan Scams” Michigan.gov. Accessed February 22, 2017 from http://www.michigan.gov/ag/0,4534,7-164-17337-252538–,00.html
- “Average Credit Card Interest Rates (APR) – 2017” Valuepenguin.com. Accessed February 22, 2017 from https://www.valuepenguin.com/average-credit-card-interest-rates
- “What is a Payday Loan?” ConsumerFinance.gov. Accessed February 22, 2017 from https://www.consumerfinance.gov/askcfpb/1567/what-payday-loan.html