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Five Loans to Avoid

New York State law limits the interest that may be charged on small loans to 25% per year, but out-of-state companies may be able to charge higher rates.  Always use a lender licensed by the State of New York  

Refund Anticipation Loans
A Refund Anticipation Loan (commonly known as a RAL) is a high-interest loan usually offered by your tax preparer.  After your tax preparer finishes calculating your taxes, you'll know your anticipated tax refund (money from the government).  A preparer may offer you a RAL rather than wait for the government to mail your refund.  Expensive fees and interest apply, reducing the amount of your refund.

An example of a RAL
Ava files her taxes at W&W Tax Prep.  At the end of the session, her tax preparer tells her that she can expect a $2,000 refund but that it could take up to four weeks to get the money.  The tax preparer tells her that she can get the money today if she signs up for a RAL.  Here are the fees:
RAL Loan Fee = $75
Administrative Filing Fee = $75
Tax Preparation Fee = $100
Total Fees = $250

If Ava takes out the RAL, she will be paying more than 10% of her expected refund on fees she could avoid by waiting for her refund from the government.  In this example, if the RAL is quicker than the mailed check by two weeks, the RAL's interest rate would be equivalent to a loan with 300% annual interest!

 Tips about Refund Anticipation Loans

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Pawnshop Loans
Pawnshops accept personal property, such as jewelry, electronics, cameras, or musical equipment as collateral for loans based on the value of the goods. Most pawnshops lend less than half of an item's resale value and give you several months to repay the loan. Pawnshops charge high interest rates until the loan is repaid. Many pawnshops also charge storage costs and insurance fees. If the loan is not repaid in four months, the pawnshop can keep and sell the pawned property.

An example of a Pawnshop Loan
Ava pawns her necklace, valued at $200, at RR Pawnshop for a $100 loan. She actually receives only $93 because the pawnbroker will deduct $7 as a service charge. Here is what can happen:

  • After one month, she must repay the $100 loan subject to 4% interest and a 2% storage fee. For a one-month loan of $100, the interest, storage fee, and service charge are equal to an Annual Percentage Rate (APR) of 156%! 
  • After four months, she pays $118 to get the necklace back. Including the $7 service charge, the effective APR on the four-month loan is 75%.
  • She doesn't repay the loan in four months. The pawnshop continues to charge interest until the loan is 15 months old and then sells the necklace. At that time, Ava’s costs for the $100 will total $69 plus the pawnbroker’s charge for selling the necklace.

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Rent-to-own Loans
Rent-to-own stores rent appliances, furniture and electronics to consumers for a specified period of time.  After the period ends, you own the goods.  However, if you miss a payment, the store will re-possess the merchandise even if you've already paid more than the market value (what it's currently worth).  Research shows that approximately 75% of rent-to-own store customers lose both their money and their merchandise when they can't make payments.

An example of a Rent-to-own Loan
Ava sees an ad that says, "Get a brand-new living room set for only $10 a week!"  She goes into the store and learns the following details:
Rent-to-own price: $10/week for 72 weeks = $720
Purchase price: $300

Stores that provide a Rent-to-own financing service must list the Rent-to-own total price and the total purchase price.  If Ava enrolls in the "rent-to-own" program, she will be paying more than double the cost of the living room set. 

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Cash Advances
Cash advances may seem like a convenient way to get quick cash, but these loans come with a hefty price tag.  Interest rates can be in excess of 20%.  Fees are also steep and range between 2% and 5% of the amount borrowed.

An example of a Cash Advance
Ava needs $200 in cash immediately and takes out a cash advance on her credit card.  Her credit card company charges her a 4% cash advance fee.  When she receives her bill, she will owe her credit card company $208 plus any interest.

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Overdraft Loans
Most checking accounts offer overdraft protection - a loan that allows you to draw money from your account, even if your account balance is $0.  On average, overdraft fees are $30 or $35.  Although the fee might seem small, multiple overdrafts - an all-too-common practice - can result in hefty charges.  To avoid overdrafts, ask your bank to tap into your savings account balance each time you go over your checking account balance.  Typically, there is a fee, but it is generally less expensive than the overdraft fee.

An example of an Overdraft Loan
Ava has $300 in her checking account and writes a check for $400 to make a car payment.  Since she has overdraft protection, her bank pays her car lender the $400 and charges Ava $30 for the transaction.  Now Ava owes the bank $130 for not having the $100 extra in her checking account.

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There is fine print in loan agreements that can lead you into deep debt if you're unable to make repayments on time.  Remember to read all of the terms and conditions of an agreement before signing up for a loan.