Loans can be a good credit-building tool when used wisely. There are many types of loans at your disposal: loans that can help you with credit-building and loans that will drive you further down the bad side of the road.
There are some loan offerings that will look very appealing but will turn out to be very sketchy. These are the types of loans that you need to avoid at all cost.
Some characteristics of loans that must be avoided include extremely high interest rates, short repayment times, and overly complicated consequences for defaulting.
For this reason, it is important that potential borrowers are educated on which loans to avoid. By learning which types of loans should be avoided, you will be better equipped with knowledge that will help you differentiate between loans that could help you build up your credit, and loans that could bring you down even more.
These are the types of loans that should be avoided at all cost.
Pawnshop Loans
Tons of pawnshops exist in large urban areas that offer you easy cash loans if you put up some of your things as collateral. Virtually any stuff can be put up as collateral (cameras, jewelry, TVs, phones, etc.). What you don’t know is that they charge a pretty high interest rate, which could reach as high as 120%. Additionally, they charge you fees for storage of your stuff and for the service that they give you. Repayment of the loan should also be done within 30 to 90 days. Failure to pay the debt within this timeframe could lead to forfeiture of your stuff and they get to keep it, which they sell for a higher price than they loaned.
Payday Loans
Payday loans are one of the most devastating types of loan since they exploit lower income workers who have a hard time making ends meet with oppressive interest rates that send them further into financial trouble. The interest rates of these types of loans are often disguised as fees and could range from 200% to 500%. They are typically treated as a small cash advance that you’re expected to pay out of your pay check, which decreases the amount of pay that you can take home. By the time you run out of money, you borrow more money, and you enter into an endless cycle of debt.
Credit Card Cash Advances
Upon first glance, a cash advance obtained using your credit card might not sound like a bad idea since you’re going to be paying that balance anyway. Banks might even encourage doing it by sending blank personal “convenience” checks that resemble that of your checking account but are really an extension of your credit line. However, the fees for these advances are immense. These are treated like cash advances so they are charged like so. You end up paying for interest for your cash advance on top of the interest you would need to pay for your credit.
Overdraft Protection Loans
This is not a typical loan. An overdraft occurs when an account holder withdraws more than he has from his checking account and is charged a fee for the overdraft. Basically, you are given an overdraft limit and you can withdraw a sum of money greater than your limit up to the overdraft limit. As an example, if you have an overdraft limit of $500 and you have $400 on your account, you can withdraw up to $900. Although the bank offers you the opportunity to avoid paying overdraft fees, you would still need to pay for the interest on the amount loaned, which is very high.
Car Title Loans
This type of loan is similar to a pawnshop loan wherein you are charged with exorbitant fees in order to make it difficult for you to pay and they end up owning your possession. The key difference here is that you put up your car as collateral. The lender will typically grant you a loan that amounts up to 50% of the total value of the vehicle. Unfortunately, the interest rate that is placed on the amount loaned could reach up to 300%, which must be repaid within 30 days. If you really need the cash, perhaps you’d be better off selling your car.
No matter what loan you end up choosing, always make sure to read the entire agreement, especially the fine print. You never know if people are trying to scam you into borrowing money you can never repay. This will end up hurting your credit.