While your business could benefit more from debt financing, there are some lenders that would love to take advantage of you and your business. Predatory loans often use unfair and deceptive tactics that mislead borrowers to keep them trapped in debt so the lender can benefit from fines and fees.
If you or your business is put in a position where you need a cash flow sooner rather than later, you may be inclined to overlook some of the red flags that could put your financial wellbeing in danger.
Here are some ways to spot a predatory loan and the dangers they present.
Definition of Predatory
According to Debt.com, “Predatory lending is any lending practice that imposes unfair or abusive loan terms on a borrower. It is also any practice that convinces a borrower to accept unfair terms through deceptive, coercive, exploitative, or unscrupulous actions for a loan that a borrower doesn’t need, doesn’t want, or can’t afford.”
This doesn’t mean that any lender using financial jargon and charging interest rates is predatory. The lenders still need to be “paid” for their service in the form of interest, but should do their best to offer the right product.
Lenders seeking to benefit themselves while harming the borrower is what sets predatory lenders apart. They look and operate much differently than legitimate lenders. If your potential lender displays any of these characteristics, you should put some serious thought into whether you should borrow from them.
1. They Don’t Check Your Credit
If you have poor credit, it may seem like a dream come true for a lender who says they don’t need to check your credit to receive a loan. If it sounds too good to be true…
When a lender doesn’t care about your credit that means they don’t care if you’re able to repay the loan on schedule. Realistically, they hope that you don’t. If you can’t repay your loan, then they get to make even more money off you by charging fees or giving you another loan, trapping you in a vicious cycle of debt.
2. Incredibly High-Interest Rates and Fees
A loan’s average annual percentage rate (APR) is the interest rate. Rates below 36% APR are considered affordable.
According to CNBC, the national APR for payday loans is almost 400 percent. In Indiana, the average is 382%. These high rates can result in owing substantially more than the original amount borrowed.
For example, If you take out a $500 loan at 382% you’ll owe $580 two weeks later, but many borrowers need to “rollover” their loan multiple times. So, inside of three months, you owe nearly $1,000.
3. Access to Your Bank Account is Required
Some lenders, both legitimate and predatory, offer the option to pay online through access to your bank information. E-payments can be a convenient way to make payments, but you should ask for the lender’s reasoning behind requiring access to your bank account.
Predatory lenders use this access to take directly from your account if you fail to pay, often causing you to overdraft your account and resulting in more fees that you most likely can’t afford. Be mindful of fees that might be assessed by the lender and your bank for missing payments and Not-Sufficient-Funds (NSF).
4. Purposely Confusing
Predatory lenders try to take advantage of a borrower’s lack of understanding about loans, terms, or finances. All lenders are legally required to state a loan’s APR. You should be able to find basic product information on the lender’s website or in the branch regarding prepayment penalties, late fees, and other charges. If the information is missing or hidden in the fine print, ask your loan representative to answer those questions.
But if they avoid answering directly or spout a litany of confusing terms instead of giving you the rate, it’s time to walk away. A consumer-focused lender will be transparent about the total cost of the loan.
5. They Rush You to Sign Papers
Don’t let lenders talk you into something just because of their high-pressure tactics. Taking out a loan can affect plenty of other aspects of your life and business. If a lender is pushing you to sign before you’re ready, most likely they are more focused on securing your interest and fee payment than offering a solid loan product that will benefit you.
If you end up in a cycle of debt from a predatory loan then it could be difficult to seek funding from another source later. Your personal credit score may be damaged long-term, and the process of repairing your credit score, while possible, takes time.
Consider Other Alternatives Instead
Instead of using payday loans, consider other alternatives first. For example, the National Credit Union Administration allows federal credit unions to offer small-dollar loans called Payday Alternative Loans (PALs). PALs put restrictions on fees and term limits so that there is no long-term cycle of debt. Learn more about PALs here and contact your local federal credit union for the availability and free financial counseling services.
Some other alternatives:
- Talk with your creditors to negotiate more time to pay bills
- Shop for a credit offer with lower costs, like a low-rate credit card
- Inquire about an advance from your employer
- Borrow from family or friends
- Contact your state or local government to see if any emergency assistance programs are available
Just about any alternative is better than using a payday loan or other predatory lending services that trap you in debt. It’s always better to seek a loan from a legitimate source, such as the Build Fund, than it is to get immediate cash that comes attached with so many strings that you may just find yourself strangled.
“Access to credit is one of the vital pieces to create thriving neighborhoods,” says Evan Tester, the Build Fund’s Director of Lending. “Small business loans are meant to help a business owner fulfill their dreams of success, but predatory lending practices create spiraling debt that can destroy a successful business. When credit options are lacking or predatory, businesses and the communities they serve suffer.”
If you’re interested in lending to start or expand your Indianapolis-area business, the Build Fund, operated by Renew Indianapolis, may be able to connect you to flexible, affordable, and responsible funding options. Start the process now.