Disadvantages of Short-Term Loans

Disadvantages of Short-Term Loans
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Short-term loans might seem harmless. After all, you're probably just borrowing a little bit of money for a short period of time. However, many short-term loans are expensive and can carry other unfavorable requirements. Needing them can also be a sign that you are having deeper financial issues.

High Costs

Even if you don't think you're paying very much for a short-term loan, any fees can add up very quickly. For instance, if you pay a $20 fee for a $200 payday loan that you pay back in two weeks, the fee is 10 percent. However, if you were to pay that 10 percent fee every two weeks for a year, you'd pay a total of $520, which is 260 percent of the original $200 loan.

Falling Into a Spiral

As an isolated event, a short-term loan can be harmless or, if you need to pay high fees for it, expensive but otherwise not a problem. But needing a short-term loan suggests the presence of an underlying financial instability. If you need to borrow money now to pay a recurring bill, for example, you'll need the money to pay that back, as well as a similar amount to pay the next month's bill when it comes due again. For some people, taking out short-term loans can turn into a spiral of repeated borrowing without a way to surmount the ever-increasing debt.

Secured Loan Dangers

Some short-term loans are also secured. A payday loan gets secured by a check that you draw against your account, while an auto title loan gets secured by your ownership of your car. If you don't have the money to pay back a payday loan, if the lender deposit your check, it will bounce. With an auto title loan, the lender can eventually take your car. Both of these penalties could be more severe than the penalty that you would suffer for not borrowing the money to pay the expense in the first place.

Alternatives to Short-Term Loans

If you need money for a short period of time, you may have other options. One choice is to work out an agreement with the people or company to whom you need money. Even if they hit you with a late charge or other fee, it may be less expensive than taking out a high-cost short-term loan. Sometimes, a bank, credit union or community organization will make short-term loans at more favorable terms. If you're a student, your school's financial aid office might also be able to make you a short-term loan to get you through an emergency. If you can get out of taking short-term loans, saving the money that you would have been paying on loan fees can help build up a cushion to carry you through future financial problems.