Loans : A Financial Blessing Or a Curse ?

A Loan and other kinds of credit are great financial tools, if used and wielded wisely. In this debt-addicted society, most people seem to forget that taking out a loan of any kind is a huge responsibility- one that can significantly impact your life for the better… or for the worse.

Here, we’ll look take a look at how dangerous loans can be, and how you, as a responsible debtor, can stay on top of your loan payments.

Different Types of Loans

Credit comes in a variety of forms. You have your standard credit cards, personal loans, mortgages, bonds, and others. You have have loans that can help you finance certain goals in your life (like a university education, for example), and loans that can help you break down a large expense (eg. a house or an automobile) into more manageable, bite-sized payments. At its core, a loan is anything that is borrowed (usually money), that is expected to be paid back to the lender at a later date, usually with an interest.

However, loans are not created equally. Depending on your current financial situation and life circumstances, some types of loans might be more suited for you than others.

Most loans fall into two encompassing categories: secured loans and unsecured loans.

-Secured Loans

Secured loans means that the lender requires some form of security for their money (also known as a “collateral”) in the event that the lendee won’t be able to repay the loan as per the terms that were agreed upon. This collateral is usually in the form of a physical assets like a house or a car. In some cases, future paychecks can also be used as a collateral, something which is commonly enforced in extreme short-term loans like payday loans. Some types of credit cards can be secured, usually backed by money deposited in a bank account. If you default on the debt, the bank will take away the debt amount from the account. The same goes true for mortgages and car loans- if you stopped paying your mortgages, your house might get repossessed, if you default on your car loan, the lender might take away your car.

-Unsecured Loans

Unsecured loans, as the name suggests, is a type of loan where the lender has no instant monetary recourse when you, the debtor, defaults on your debt. However, if you do stop payments, the lender or financial institution that you’ve borrowed from has the right to take legal steps against you. Because these kinds of loans do not require collateral, lenders base their interest rates solely on your credit score and history. This is the reason why unsecured loans have higher interest rates, as well as lower loan amounts, than secured loans. Sure, you won’t lose your house or your car if you suddenly stop payments, but once you do, not only do you run the risk of encountering legal trouble, your lender might also report you to the credit bureau, thus negatively affecting your credit score. A lower credit score = lower chances to get approved on future loans. Popular examples of unsecured loans include student loans and payday loans.

Types of Loans You Must Avoid

In this day and age, it’s almost impossible to live a debt-free life. Loans aren’t inherently bad in and of themselves. There are good kinds of debt; stuff like mortgages and student loans are things that most people will have to go through if they want quality education and a roof over their heads, and these types of loans can uplift and empower a person’s life in the long run.

However, there are some kinds of loans that are just designed to prey on people who are desperate for money. Or loans that come packaged with outrageous fees, penalties, and sky-high interest rates. These are the types of loans that you should try to avoid at all costs. Here are a few examples:

Payday Loan

Payday loans are notorious for being one of the most predatory and most devastating kinds of credit there is, often targeting low income workers who are having a hard time making ends meet on a monthly basis. Sure, payday lenders can lend you money on short notice, but they’ll also burden you with monstrously high annual interest rates that may reach upwards of 400 percent.

Car Title Loan

Also called as a fast auto loan, a car title loan are short term loans that require you to use your car as a collateral. You must own (100% ownership) or have equity in the car for you to be able to use it as collateral for the loan. Once approved, you must give your car title to the lender. Not only are you saddled with high interest rates, you also run the risk of having your car taken away from you.

Credit Card Cash Advance

It might seem innocuous at first glance since there’s no paperwork to sign and fill out, but a credit card cash advance is probably one of the worst things you can possibly do with your credit card. Use it for emergencies and emergencies only (such as when your car broke down in the middle of nowhere, and the nearest mechanic can only accept cash).

Casino Credit

The casino loan is a prime example of bad and malicious debt- loans like these just seek to feed off people’s vulnerabilities. Casino credit is what the name implies, loans or credit that you can use to gamble. They usually come interest-free to further lure in people with gambling problems. Loans and gambling should absolutely not go together and will only set you up for future financial ruin.

There are other kinds of “bad loans” out there, like tax refund loans, overdraft loans, pawnshop loans, etc. Most of them share some very distinct qualities- they don’t require much in terms of requirements, use precious collateral like your paycheck or car, have high interest rates, and are extremely short term. If that loan you’re applying for meet most or all of the qualities mentioned above, then it’s time to step back and reconsider.

A Note About No-Interest Loans

There’s another kind of loan called a no-interest loan or Zero percent financing , that is in a bit of a gray spot. A no-interest loan means that you’re only paying back the principal amount that you’ve borrowed without any kind of interest tacked on top of it. Yes, there are truly some legit no-interest loans that are offered out there, however, that does not mean that they are 100 percent no-cost. Usually these kinds of loans have additional charges; an example of this would be an origination fee, which is an amount that you pay up front to cover the cost of the processing and the paying out of the funds.

No-interest loans also offer something called “deferred interest.” These loans are no-interest for a set amount of time, but if you’re late on payments or aren’t able to pay off your debt within a certain agreed upon time frame, the interest will then be charged retroactively on the whole balance.

Why You Should Always Read The Fine Print

Aside from no-interest loans, there are also loans that lure people in with “low-interest” promises. They might look enticing at first glance, but once you dig deeper into the fine print, you’ll find that you would also have to contend with hidden interest rate increases, high penalties, late fees, origination fees, balance transfer fees, etc. In the case of credit cards, there’s also an annual membership fee that you would need to pay out. All of these could add up to a huge amount without you even noticing it.

If a loan seems too good to be true, then it probably is. Read the fine print to see the hidden rates and charges that the lender is deliberately obscuring.

Paying Off Your Debts

As per prior posts, we have to mention the two distinct ways to manage debts. The snowball method and the avalanche method.

With the debt snowball method, you will settle your debts starting from the one with the smallest balance, then work your way up to the one with the highest balance. This method is efficient since clearing those little debts (doctor’s bills, store credit cards, and so on) can give you a huge boost of confidence to tackle the larger ones later on.

The debt avalanche is recommended for those that are saddled with large loans. Here you’ll be making minimum payments on all of your debts, then use the remaining money to pay the one with the highest interest rate. You’ll be able to get rid of pesky high interest rate loans faster with this kind of method.

Settling debts should be a high priority when it comes to your financial life. They are a huge responsibility and should always be approached with a sense of urgency. The nature of loans is that once you let a debt go unchecked and unpaid, the whole thing can easily grow into an insurmountable financial mountain of regret that can trap you for years and decades to come. Thus the never-ending cycle of debt continues.