Securing the right financing for your needs is crucial. However, while most lenders work to serve your best interest, certain providers are out to make a quick buck at your expense. These predatory lending scams can wreak havoc on your budget. And they can leave you with serious debt and credits problems in their wake.
What is predatory lending?
Predatory lending refers to any lending practice that imposes unfair or abusive loan terms on the borrower. The lender gets you to accept a predatory loan through deception, coercion and other abusive practices. The goal is to push you into a bad decision, leading to a loan that’s difficult or downright impossible to manage.
How can I prevent predatory lending?
Predatory lending scams rely on a borrower’s lack of knowledge and education. People are often intimidated and unsure when applying for financing. You may not understand basic lending terms, how interest gets applied or how fees and penalties typically work. The lender uses that lack of knowledge to lead you into a bad deal. A predatory loan provides profit to the lender by preying on the weakness the borrower.
In order to prevent predatory lending, you have to be educated. The following information can help you avoid predatory lending scams by ensuring you’re fully informed.
5 Ways to Avoid Predatory Lending Scams
#1: Always make sure to review your Truth-in-Lending disclosure
Anytime you apply for a loan, you should receive a truth-in-lending disclosure statement before you sign the final paperwork. This statement details:
- The total amount you want finance or borrow with the loan
- APR (annual percentage rate) – the interest rate applied to your loan
- Total finance charges – i.e. the total amount it will cost with interest charges and fees to borrow the money
- Monthly payment amount
- Total number of payments
- Penalties and how they are applied, including if there are penalties for pre-payments and late payments
The easiest way to see if a loan is biased against you is to look at the Truth-in-lending disclosure. First, if the disclosure is not provided up front, be cautious because it should be readily provided. If a company skips this step, they’re breaking the law and chances are high you’re buying into a lending scam.
But even if the lender gives it readily, make sure to read it carefully. Make sure the details included match what the lender told you. If there is any discrepancy between what they tell you and what the disclosure states, get clarity before you sign anything!
#2: Be aware of total costs
A prevalent type of predatory lending keeps you in debt as long as possible to drive up your costs. If a loan has excessively high interest charges or a range of hidden fees, the cost of the loan may not be worth the financing you receive.
A big thing to avoid with high-cost loans is “negative amortization.” This is where monthly interest charges and fees exceed the monthly payment amount. So even if you pay month after month, the amount you owe increases instead of decreases.
This also happens when you decrease the monthly payment amount so much that payments cannot effectively reduce the debt. As a result, predatory lenders often use this scam on borrowers with limited income and tight budgets. You think the lender is working with you to get a payment that works for your budget. But at the same time, they’re getting you into a loan that can’t feasibly be paid off.
Again, check your truth-in-lending disclosure statement to see how long it will take to pay off the debt in-full. Then check the total costs incurred during that payoff. If the terms aren’t in your favor, walk away
#3: Avoid add-ons you don’t need
Another predatory lending practice convinces you to purchase add-ons and features that you don’t need. One of the most common examples is when the lender convinces you to purchase “credit insurance.” This guarantees to pay off the loan in the event of the borrower’s death. However, there are already procedures in place for lenders to make claims on an estate if someone passes away. So why would you pay for insurance you don’t need?
Make sure to review any added features or add-on services carefully. Also make sure to review fees to look for hidden charges that don’t appear on normal loans. If you see a fee that seems excessively high, ask the lender to explain it.
#4: Don’t fall for loan flipping or asset-based lending
Loan flipping is where a lender pushes a borrower to refinance an existing loan for a larger amount with higher rates and fees. To be clear, refinancing is a legitimate financial process that can benefit you greatly. But predatory refinancing never works in your favor.
When you refinance a loan, you should avoid accepting a higher interest rate or additional fees. In addition, the monthly payments should be based on what you can afford to pay, and not the assets that you have available. Some predatory lenders push borrowers to finance more than they can afford because “why not use the equity you have available?”
Even if you refinance, you should receive a Truth-in-lending disclosure statement. Review it carefully and compare it to the terms you have now. If the interest rate, finance charges, monthly payments or penalties change significantly from your original, proceed with caution!
#5: Always check a lender’s credential
Make sure to check that any lender you work with is properly licensed. You need to be especially careful with lenders who contact you unsolicited. If a lender sends you an email, calls or emails you or even shows up on your doorstep without you contacting them first, be careful!
You should also be cautious of blanket guarantees from lenders who haven’t reviewed your credit. Any claim that seems too good to be true probably is.
Subprime vs. predatory
If you have bad credit and limited income, your options for financing may be limited, too. Qualifying for traditional mortgage or even auto loans through your bank may be difficult. In this case, you may work with a “subprime” lender who is willing to extend financing in spite of your challenges.
Subprime loans are usually more flexible than traditional loans. You can qualify with a low credit score, although you usually face higher interest charges. The lender often lets you extend the term, resulting in lower payments that work for your budget. But the tradeoff is that the total cost of the loan is usually higher.
Unfortunately, this means subprime loans often walk a fine line between flexibility to help the borrower qualify and loans that are downright predatory. This means you have to be especially diligent if you’re getting a subprime loan. Always review the lending disclosure carefully and trust your gut.
- If something doesn’t feel right, walk away.
- If the lender pressures you to make a same-day decision or wants your signature immediately, it may be a scam.
- Ask questions – even if you feel dumb for asking, there is no dumb question when it comes to your money
- Read everything before you sign
- Don’t be shy about asking for time to make your decision – if a loan offer is only good for one day, it’s probably a scam anyway!