4 types of bad loans to avoid
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Getting a personal loan can be difficult if you have a limited credit history or bad credit. Some lenders who target borrowers with bad credit promise no credit checks and fast financing. But these loans often come with high fees that can trap you in a cycle of debt.
If you’re struggling to choose the right personal loan — or find it downright impossible — you may start to feel discouraged. Before you settle for an expensive loan product, here are some bad credit loans you should avoid – whether you just need a few hundred dollars, want a $10,000 loanor anything in between.
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1. Payday Loans
A payday loan is a small, short-term loan designed to tide you over with an advance until your next payday. Storefront payday lenders usually offer these loans, but you can also find them online. Depending on your state, there may also be a maximum borrowing limit, often $500 or less. Lenders typically require borrowers to repay these loans within two to four weeks, in a lump sum, plus fees.
If you’re struggling to make ends meet before your paycheck arrives, this might sound like an enticing loan option, especially if you need same day funds.
Why should they be avoided: Most payday lenders don’t have strict credit or income qualifications, so they often lend money to people who might struggle to pay off debt. Moreover, these loans are notoriously expensive. While most states cap the interest that can be charged per $100 borrowed, it’s usually between $10 and $30.
While that doesn’t sound like a stretch, considering the loan term and low borrowing limits, this fee is an astronomical APR. For example, a $100 payday loan with a two-week repayment term and a $15 fee equates to an APR of nearly 400%, according to the Consumer Financial Protection Bureau (CFPB).
Compare that to the average interest rate on a 24-month personal loan — 8.73% as of May 2022, according to the Federal Reserve — and it’s easy to see what a “deal” payday loan really is.
2. Cash Advance Loans
A cash advance loan is similar to a payday loan in that you can use its short-term funds to help cover immediate or unexpected expenses. These loans can even be funded as quickly as the same day, depending on the lender.
However, cash advance loans differ from payday loans in some important ways. For starters, you can usually borrow a lot more with a cash advance loan, with some lenders offering up to $5,000. You don’t always have to pay off a cash advance loan in weeks either; you may be able to take out a cash advance that you can repay in monthly installments.
Why should they be avoided: Cash advance loans are still significantly more expensive than traditional personal loans, or even credit cards. Depending on the lender, your cash advance loan might have an APR of 299% or more.
3. Car Title Loans
If you have bad credit and need to borrow money, using your vehicle as collateral for a car title loan might be an option. But car title loans aren’t a good choice for most borrowers.
Title loans often have repayment terms as short as 30 days, although you can find installment options of up to 24 months. The amount you can borrow depends on your location, as well as the value of your vehicle, as long as you own your vehicle freely.
Why should they be avoided: The wrong side? You’ve probably guessed it already: you’ll pay a lot more interest with a title loan than with a traditional personal loan. It’s not uncommon for car title loans to have three-digit APRs.
More than that, however, you’re securing the loan with one of your most important assets: your car. If you were to default on your title loan, the lender could take possession of your vehicle.
A pawnbroker is a short-term loan secured by something you own, such as jewelry or other valuables. These loans usually give you quick access to cash, depending on the value of your valuables.
Pawnshops don’t usually do credit checks, so these loans might seem like a good option for borrowers with poor credit or those looking for a loan without credit check. The pawnbroker usually offers a percentage of the value of the pawned item as a loan. You will need to repay the loan on an agreed date or the store will keep the item.
Why should they be avoided: If you repay the loan as agreed, you can get your valuables back. But your pawn loan will have accrued interest in the meantime, which you will also have to pay. These loans also tend to have a variety of fees, such as storage, setup, and even appraisal fees. For this reason, a lower interest rate can be misleading, as the loan will end up costing you much more in the end.
Try a personal loan instead
If you need funds for an unexpected expense, a major purchase, or even to refinance high-interest debt, a traditional personal loan is often your best bet, even if you have bad credit. Here are some things you can do to increase your chances of qualifying for one:
- Apply with a co-signer. Adding a co-signer with good credit to your personal loan application can be the key to getting approved or getting better interest rates. Just note that your co-signer will be responsible for making loan repayments in the event of default, and the debt will be carried over to their credit.
- Check your credit reports. If your low credit score is preventing you from getting a personal loan, it’s important to understand why. Check your credit reports to see what kinds of negative items are lowering your score. In some cases, you may find errors that you can dispute, which will help you improve your score quickly if corrected.
- Consider a secured personal loan. A secured loan uses one or more of your assets as collateral for the debt. Because of this added protection, lenders often have lower credit rating requirements for secured loans and may even approve borrowers with poor credit ratings. Some financial institutions may not even require a minimum credit score, as long as you secure the loan with an asset. But keep in mind that if you are behind on your loan repayments, the lender may take your collateral.
If you’re ready to apply for a personal loan, visit Credible for quick and easy compare personal loan rates.