What to look out for when taking out a short-term loan
Consumers often pursue short-term loans to get access to a little extra cash to get by when needed. While this type of borrowing is helpful, it’s important to understand how quickly these loans can spiral out of control if not careful. Before signing on the dotted line, always be sure to thoroughly understand how the short-term loan process and its payback terms work.
What is a short-term loan?
Short-term loans are small personal loans. People generally use them to pay unexpected or out of the ordinary expenses, such as doctor or car repair bills. To qualify for a short term loan, the borrower must meet specific criteria.
- Possess a bank or credit union account (or a prepaid debit card)
- Proof of income
- Possess valid identification
- Be at least 18 years old
To cover the cost of the short-term loan, borrowers are often expected to write a post-dated check for the amount borrowed plus any fees. Borrowers can usually extend loans, but this results in additional fees.
Pros and cons of short-term loans
Short-term loans are ideal for consumers who are in a financial pinch, need quick money, and don’t want to put down collateral or a down-payment. Consumers who are underbanked also often pursue these loans because they’re easier to obtain than traditional loans.
- Easy application process
- Little is required to qualify
- Poor or lack of a credit score doesn’t matter
- Money is immediately in hand
While these benefits are appealing, there are also some steep drawbacks to consider.
- Fees run high
- Interest rates average about 400% APR (and can go as high as 700%!)
- Extensions result in additional fees
- Don’t help consumers build credit
- Lenders can have access to borrower’s bank account
The Consumer Financial Protection Bureau (CFPB) reports almost one in four short term loans are re-borrowed nine or more times. According to the Federal Reserve Bank of St. Louis, consumers collectively pay approximately $9 billion in short-term loan fees each year. As a result, many borrowers end up snowballing themselves into higher debt.
Rules associated with short-term loans
The rules associated with short-term loans vary from state to state. Several states prohibit the practice entirely because they consider these to be predatory loans. Other states cap interest rates or the amount allowed to be borrowed while some have little regulation. In 2017 the CFPB initiated rules to put restrictions on short term loans, however, according to a recent CNBC report, this initiative may be rolled back.
Credit scores or ratings aren’t taken into consideration when consumers seek out a short term loan, but if these loans spiral out of control, this usually causes consumers to default on other financial obligations which do directly impact credit standing.
If you’ve found yourself in a situation where your credit standing is negatively impacted, PRBC can help. Our alternative credit score will enable you to rebuild your credit by paying your usual expenses, such as utility or phone bills. To find out more about our services, contact us today.