When you’re in a financial bind, it may seem like taking out a loan is an easy out. However, that’s not always the case. Sometimes, you risk losing a lot more than you’ve gained.
Unless absolutely needed, most of the time, certain loans aren’t worth it. Which ones, you ask? Steer clear of these particular loans:
1. Payday loan. The good part about a payday loan is that you get an advance on your next paycheck. But the bad news is, you’re also paying the lender fees and interest.
"A payday loan can be approved within a matter of hours and there is typically no credit check," explains Theodore W. Connolly, author of The Road Out of Debt. "Usually, you write a personal check payable to the payday lender for the amount you wish to borrow plus a fee. The check is dated for your next payday or another agreeable date within the next couple of weeks when you figure you'll be able to repay the loan."
It may be easy money, but in the long run, you’re probably going to pay much more than you were lended.
"You will most likely end up paying three, four or even 10 times the amount you originally borrowed. Debt created by payday loans will often quadruple in just one year," says Connolly. "One tiny mistake can mean lifelong debt."
2. Pawnshop loan. This type of short-term loan is when you offer a valuable personal item — jewelry, electronics, musical equipment, etc. — to a pawnshop. In return, the shop gives you a loan that’s a percentage of what the item is worth. Already, you’re subject to a possible service charge, but there are many other fees involved, too.
"Pawnshop loans are nearly all state-regulated, and 'finance charges' can vary from five percent per month to 25 percent per month. In Indiana, the 'interest rate' is capped at 36 percent APR or three percent per month, but pawnshops can charge an additional 20 percent per month service charge, making the total allowable finance charge 23 percent per month," says Steve Krupnik of South Bend, Ind., and author of the book Pawnonomics. If you’re unable to repay the loan and interest when the loan period ends, the pawnshop keeps the item for profit.
3. Car title loans. A car title loan is where someone uses their car as collateral to borrow money. The bad news: it charges 300 percent interest, plus you run the risk of losing your car.
“We consider these loans to be a triple threat for borrowers," says Ginna Green, spokeswoman for the Center for Responsible Lending in Durham, NC. Whereas most car loan lenders take into consideration the borrower’s financial situation (their income, mortgage, credit and other bills) to make sure the payments are affordable. "Car title lenders don't do that," Green says. "They get a lot of folks trapped in debt, and to the point where they've got their family vehicle on the hook."
4. Tax refund loan. Offered by some tax preparation services, these loans are what are given to you in anticipation of what you’ll get back for your actual tax refund. You’d then pay them back once you get your refund. So if you were looking to use your tax refund on something that you’d like to have or need right away, this may sound like a good option, but realistically, like other loans, there are fixed fees and interest costs attached to them. Tax refunds loans are typically pretty small, meaning that with the high costs associated with the loan, you’ll end up paying much more than you’d like.