Financial Fright Night: 13 Loans That Scare Me To Death

Some people claim that fear is based on ignorance, but my personal fear of these financial vampires is based on knowledge. Some of these loans are scary because of how they’re structured, some loans are scary because of what you’re buying with them, still others qualify because of who you’re borrowing from. I plan to stay far away from these loan monsters:

1. Payday loans

Pay day loans thrust borrowers into a debt cycle that can be difficult to break because of their high interest rates and the fact that they’re designed to be extremely short-term. Many borrowers manage to pay only the weekly fee while the principle remains the same and the interest piles up. Payday loans are the monster that seems to never die.

2. Margin loans to buy stocks

Generally you can borrow up to half the value of the securities you wish to purchase and I know there are lots of people who have made a lot of money buying stocks on margin, but I’m not one of them … and I don’t plan to be. Buying stocks with a margin loan can make you a ton of money if the stock increases in value but it can magnify your losses if the stock loses value. If the stock loses large enough (usually 25 percent of the value of your loan), your broker can demand additional cash deposits to your account. If you can’t cover the demand for more money, your stocks can be sold by your broker. If your portfolio really hits the skids, you can end up with no stocks and owe money to your broker. That’s a lot of “ifs” but it happens all the time.

3. Tax refund anticipation loans

The best way to avoid needing this loan in the first place is to adjust your tax withholding. But if you do have a refund coming, getting a loan from your tax preparer is akin to using a loan shark. The interest rates (and fees) are so high they’re scary! You waited all year for this money, why not wait just a few more weeks and save the fees and interest? Hint: you’ll wait less if you use direct deposit to your checking or savings account.

4. Overdraft loans

I haven’t needed one of these loans in 15 years but that’s because I know how much money I have in my checking account and check it daily. These loans are scary because they indicate a lack of attention to your finances.

5. Car title loans

With a car title loan, a borrower secures a loans with a fully paid-for cars at one of these title loan shops. Failing to pay back the loan can have predictably severe consequences. If you don’t or can’t pay back the loan, the lender will take your car and sell it. And in many jurisdictions, the lender doesn’t have to give you back any profit from selling your car either.

6. Co-signed loans

Nothing like the responsibility of a financial obligation with none of the benefits. Co-signing a loan does just that, obligates you to pay for for something you don’t own. Sometimes parents help their children establish credit by co-signing a loan but a much better option is a secured credit card to build or re-build your credit score.

7. Debt consolidation loans

You can’t solve a debt problem by adding more debt. The biggest problem with a debt consolidation loan is that people typically charge their credit cards right back up after paying them off with a consolidation loan. Then they have TWO payments to make. A better plan is to implement a budget and a spending plan.

8. Credit card cash advance loans

Nothing like paying interest from day one, huh? I don’t have a problem with credit cards per se, so long as you pay them off each month to avoid the interest charges. My problem with a credit card cash advance is that it charges interest immediately.

9. Pawn shop loans

After watching Pawn Stars on cable, I’m amazed at how these guys negotiate. They are the masters at what professional negotiators call “bracketing,” where you know how much the other side wants up front, so you start way, way low, hoping to meet somewhere in the middle. The lower the pawn shop responds to the sellers initial offer, the lower that meeting point is. Pawn shops rarely lend anyone the full amount the borrower wants because the pawn shop values your stuff is much less than you do … and they have to make a profit should they have to sell it. When they do make a loan, it’s at exorbitant rates.

10. Loans with a longer term than the life of the product

Taking out a loan with a longer term than the life of the product is a bad deal for every person involved. The lender takes too much risk and the borrower is nuts! Who wants to be paying for something years after it’s useful life ends? If you do, the only incentive to repay is the fear of a lawsuit or damage to your credit report. Avoid any loan where the product will depreciate faster than the principle is paid.

11. Interest only loans

Taking out an interest only loan is like driving with one wheel in the sand – you’re going no where. Whether it’s for a home, a business, a product or a service, interest only loans favor the lender far more than the borrower. Use them with extreme caution in extreme circumstances.

12. Home equity loans

With the recent decline in home values, it’s hard to believe there could ever be people interested in borrowing against their home, but as the economy stabilizes, there’s a better than even chance that people and banks will renew their love of the home equity loan. Why is it scary? When you borrow against your home to pay for something, it’s usually indicative that your spending habits are out of control. Not only that, but to borrow against your home to pay off a car or credit cards, you’re using a 15 to 30 year loan to pay for products or services who’s useful life is only a fraction of those years.

13. Lifestyle loans

No matter what it is, a wedding, a vacation, a honeymoon, a recreational vehicle, a big screen television, hair implants, a car, a tummy tuck, whatever, borrowing money for a lifestyle change is a bad idea for your finances. The “bump” in your lifestyle is usually short lived yet the loan still has to be repaid.

There you have it, 13 of the most scary financial goblins around. I plan to stay far away from each of them.

What other loans or financial products scare YOU?

photo credit: Gilgongo

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