Without credit, it may be difficult, even seemingly impossible, to participate in modern society. But some credit comes with high-interest rates, tricky terms, and other potential risks that could send you into excessive debt. What should you know before you open a new line of credit? Here are three types of credit borrowing for which consumers should proceed with caution.
Credit Cards
In Nov. 2022, the average credit card annual percentage rate (APR) hit its all-time high of just over 19%.1 This rate may be higher for those with poor credit or relatively new credit histories. And if you do not pay off your full credit card statement balance each month, this may mean paying almost $20 in annual interest for each $100 of your balance.
Credit cards may offer advantages, such as cash-back rewards, fraud protection, and the ability to make large purchases and pay them off over time. Nevertheless, it is worth comparing cards and evaluating your spending habits before you begin putting purchases on a credit card.
Some things you may want to watch out for include:
● High APRs
● Fees assessed on common transactions
● Annual fees
Cards that offer lower interest rates, flexible payment options or cash-back rewards might be a better choice.
Paycheck Advance Loans
Another source of quick cash is a "payday loan" or cash advance loan. These loans come through an app or a storefront and rely on proof of income to determine your loan amount. Unlike other forms of credit, which may be unavailable if you have a low credit score, paycheck advance loans rely more heavily on your employment and the money you earn. The loan (plus fees) is due when you receive your next paycheck—usually just a week or two away.
Common paycheck advance amounts range from the low hundreds to $1,000 or more, with the average paycheck advance being $375 repaid over a two-week term.2 While paycheck advances may seem like a quick, hassle-free way to get an advance of some funds from your next paycheck, they come at a cost.
Paycheck advance loans may have high-interest rates and excessive fees. Interest rates may be unregulated or regulated by each state. Some states, like Texas, allow payday loans with interest rates up to 664%.2 If you cannot repay the loan and fees when it is due, you may feel pressured to extend the term of the loan costing even more fees, and quickly find yourself in a high-interest-rate cycle of debt that is difficult to escape.
Consider paycheck advances with caution. Use them only for emergencies and when your other credit options (a credit card, credit card cash advance, home equity line of credit or personal loan) are not available.
Auto Loans
It may be tempting to consider only the overall monthly payment when taking out an auto loan. But with interest rates rising along with the prices of used and new vehicles, many lenders are extending the term of auto loans. The loan term is changing from the industry standard of 36 to 60 months to 72 to 84 months. This extended term is six to seven years from the vehicle's purchase. Loans of 72 to 84 months account for one in every three auto loans issued.3
This long-term loan may not be a problem for consumers with good credit or those who plan to keep their vehicle until paying off the loan. However, for those who tend to trade in their cars frequently or have high-mileage commutes, extending the payoff term of an auto loan beyond the auto's life span may lead to being "upside down" on the loan, which means owing more than the vehicle is worth.
Important Disclosures:
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
All information is believed to be from reliable sources; however LPL Financial makes no representation as to its completeness or accuracy.
This article was prepared by WriterAccess.
LPL Tracking # 1-05355828.
Footnotes
1. Average credit card rate hits record high
https://www.bankrate.com/finance/credit-cards/average-credit-card-rate-hits-record-high/
2. Payday loan statistics
https://www.bankrate.com/loans/personal-loans/payday-loan-statistics/
3. As Car Prices Get Higher, Auto Loans Get Longer, And Longer — And Longer
https://www.forbes.com/sites/jimhenry/2022/02/28/as-balances-get-higher-auto-loans-get-longer-and-longer---and-longer/?sh=706a4c6c1cf3