Tag Archives: Annual Percentage Rate

Bad Credit/Good Credit

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OppLoans quoted me in Bad Credit Loan Coming Attractions! It opens,

Everyone is talking about bad credit loans these days, and Hollywood seems to be taking notice. (Editor’s note: They’re not.) All the newest films are about bad credit lenders! (Editor’s note: They’re really not.)

With so many people wondering what their loan options are, we thought you might enjoy hearing about the hottest upcoming films that deal with bad credit loans, which we may or may not have made up entirely (Editor’s note: We did).

If you have a not-so-hot credit score and you’re worried about getting a loan, these upcoming blockbusters might help you figure out which bad credit loan works best for you.

THE INTEREST RATE DECEIT

Tammy is just an everyday woman who needs a loan for some car repairs. Unfortunately, her credit is quite low. She sees some advertisements for bad credit loans, and figures the safest choice would be to pick the one with the lowest interest rate.

But, spoiler alert, there’s a big twist! The loan she chose had so many fees, it ended up being more expensive than the loans that had higher interest rates. If only Tammy had made sure to compare the loans using their APR, or annual percentage rate—she might have met a better fate. The APR tells you the full cost of a loan, including interest and fees, so it’s the best way to avoid an unpleasant twist in your story.

David Reiss, a law professor and editor of REFinBLOG.com (@REFinBlog), gave us an example of why APR is so important: “It would help a potential borrower compare the cost of credit between one loan with a 5 percent interest rate and one with a 4 percent interest rate that charges a point at origination.”

In other words, a loan that charges a fee when you take it out could actually be just as expensive or more expensive than a loan with higher interest rates and no fees.

Calculating APR

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photo by Scott Maxwell

OppLoans quoted me in How (and Why) to Calculate the APR for a Payday Loan. It reads, in part,

Sure, you may know that taking out a payday loan is generally a bad idea. You’ve heard a horror story or two about something called “rollover”, but if you’re in a jam, you might find yourself considering swinging by the local brick-and-mortar payday loan store or looking for an online payday loan. It’s just a one-time thing, you tell yourself.

It only gets worse from there… Once you start looking at the paperwork or speaking with the sales staff, you see that your payday loan will cost only $15 for every $100 that you borrow. That doesn’t sound that bad. But what’s this other number? This “APR” of 400%? The payday lender tells you not to worry about it. He says, “APR doesn’t matter.”

Well, let’s just interrupt this hypothetical to tell you this… When you’re borrowing money, the APR doesn’t just “matter”, it’s the single most important number you need to know.

APR stands for “annual percentage rate,” and it’s a way to measure how much a loan, credit card, or line of credit is going to cost you. APR is measured on a yearly basis and it is expressed as a percentage of the amount loaned. “By law, APR must include all fees charged by the lender to originate the loan,” says Casey Fleming (@TheLoanGuide), author of The Loan Guide: How to Get the Best Possible Mortgage.

But just because a loan or credit card includes a certain fee or charge, you shouldn’t assume that it’s always going to be included in the APR. Fleming points out that some fees, like title fees on a mortgage, are not considered part of the loan origination process and thus not included in APR calculations.

“Are DMV fees connected with a title loan? Some would say yes, but the law doesn’t specify that they must be included,” says Fleming.

According to David Reiss (@REFinBlog), a professor of law at Brooklyn Law School, “the APR adds in those additional costs and then spreads them out over the term of the loan. As a result, the APR is almost always higher than the interest rate—if it is not, that is a yellow flag that something is amiss with the APR.”

This is why it’s always a good idea to read your loan agreement and ask lots of questions when applying for a loan—any loan.

*     *     *

Why is the APR for payday loans so high?

According to David Reiss, “The APR takes into account the payment schedule for each loan, so it will account for differences in amortization and the length of the repayment term among different loan products.”

Keep in mind, that the average term length for a payday loan is only 14 days. So when you’re using APR to measure the cost of a payday loan, you are essentially taking the cost of the loan for that two-week period, and you’re assuming that that cost would be applied again every two weeks.

There are a little over 26 two-week periods in a year, so the APR for a 14-day payday loan is basically the finance charges times 26. That’s why payday loans have such a high APR!

But if the average payday loan is only 14 days long, then why would someone want to use APR to measure it’s cost? Wouldn’t it be more accurate to use the stated interest rate? After all, no one who takes out a payday loan plans to have it outstanding over a full year…

Short-term loans with long-term consequences

But here’s the thing about payday loans: many people who use them end up trapped in a long-term cycle of debt. When it comes time for the loan to be repaid, the borrower discovers that they cannot afford to pay it off without negatively affecting the rest of their finances.

Given the choice to pay their loan off on time or fall beyond on their other expenses (for instance: rent, utilities, car payments, groceries), many people choose to roll their loan over or immediately take out a new loan to cover paying off the old one. When people do this, they are effectively increasing their cost of borrowing.

Remember when we said that payday loans don’t amortize? Well, that actually makes the loans costlier. Every time the loan is rolled over or reborrowed, interest is charged at the exact same rate as before. A new payment term means a new finance charge, which means more money spent to borrow the same amount of money.

“As the principal is paid down the cost of the interest declines,” says Casey Fleming. “If you are not making principal payments then your lifetime interest costs will be higher.”

According to the Consumer Financial Protection Bureau (CFPB), a whopping 80% of payday loans are the result of rollover or re-borrowing and the average payday loan customer takes out 10 payday loans a year.

Reiss says that “the best way to use APR is make an apples-to-apples comparison between two or more loans. If different loans have different fee structures, such as variations in upfront fees and interest rates, the APRs allow the borrower to compare the total cost of credit for each product.

So the next time you’re considering a payday loan, make sure you calculate its APR. When it comes to predatory payday lending, it’s important to crunch the numbers—before they crunch you!

Who’s a Predatory Lender?

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photo by Taber Andrew Bain

US News & World Report quoted me in 5 Clues That You’re Dealing with a Predatory Lender.  It opens,

Consumers are often told to stay away from predatory lenders, but the problem with that advice is a predatory lender doesn’t advertise itself as such.

Fortunately, if you’re on guard, you should be able to spot the signs that will let you know a loan is bad news. If you’re afraid you’re about to sign your life away on a dotted line, watch for these clues first.

You’re being offered credit, even though your credit score and history are terrible. This is probably the biggest red flag there is, according to John Breyault, the vice president for public policy, telecommunications and fraud at the National Consumers League, a private nonprofit advocacy group in the District of Columbia.

“A lender is in business because they think they’re going to get paid back,” Breyault says. “So if they aren’t checking to see if you have the ability to pay them back, by doing a credit check, then they’re planning on getting their bank through a different way, like offering a high fee for the loan and setting it up in a way that locks you into a cycle of debt that is very difficult to get out of.”

But, of course, as big of a clue as this is to stay away, it can be hard to listen to your inner voice of reason. After all, if nowhere else will give you a loan, you may decide to work with the predatory lender anyway. That’s why many industry experts feel that even if a bad loan is transparent about how bad it is, it probably shouldn’t exist. After all, only consumers who are desperate for cash are likely to take a gamble that they can pay back a loan with 200 percent interest – and get through it unscathed.

Your loan has an insanely high interest rate. Most states have usury laws preventing interest rates from going into that 200 APR territory, but the laws are generally weak, industry experts say, and lenders get around them all the time. So you can’t assume an interest rate that seems really high is considered normal or even within the parameters of the law. After all, attorney generals successfully sue payday loan services and other lending companies fairly frequently. For instance, in January of this year, it was announced that after the District of Columbia attorney general sued the lending company CashCall, they settled for millions of dollars. According to media reports, CashCall was accused of offering loans with interest rates around 300 percent annually.

The lender is making promises that seem too good to be true. If you’re asking questions and getting answers that are making you sigh with relief, that could be a problem.

Nobody’s suggesting you be a cynic and assume everybody’s out to get you, but you should scrutinize your paperwork, says David Reiss, a professor of law at Brooklyn Law School in New York.

“Often predators will make all sorts of oral promises, but when it comes time to sign on the dotted line, their documents don’t match the promises,” Reiss says.

And if they aren’t in sync, assume the documentation is correct. Do not go with what the lender told you.

“Courts will, in all likelihood, hold you to the promises you made in the signed documents, and your testimony about oral promises probably won’t hold that much water,” Reiss says. ” Read what you are signing and make sure it matches up with your understanding of the transaction.”

No-Credit-Check Loan Red Flags

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photo by Rutger van Waveren

OppLoan quoted me in 6 No Credit Check Loan Red Flags. It opens,

Welp. A kid just threw a baseball through your window and ran away before you could get his parents’ information. Now you need a loan to fix it. But what if your credit score isn’t exactly a home run? What are you going to do now?

It’s a fact of modern life: a “good” credit score (a FICO score of 680 or higher) can make little financial emergencies like these much more bearable. Unfortunately, just over half of American consumers have weak or bad credit. According to credit expert David Hosterman of Castle and Cooke Mortgage (@CastleandCooke), “Customers with bad credit can have trouble financing a home, renting a home, obtaining credit cards, car loans, student loans, and more.” And it’s not a problem that goes away overnight. Hosterman says rebuilding credit can “sometimes take years to complete.”

So how can people with bad credit get a loan if an urgent need arises? One option is a “no credit check” loan. And if these loans sound too good to be true, it’s because they often are. Many “no credit check” loans are nothing more than financial traps designed to suck away as much of your paycheck as possible. Keep an eye out for these red flags before you end up in a very bad situation.

1. They Don’t Care About Your Income

Lenders see a bad credit rating and take it as a sign that a potential borrower might never pay them back. That’s why a good “no credit check” lender will make sure that you have a source of income—so they know they’ll get their money back eventually.

But not every “no credit check” lender will check your income. So how do they know you’ll pay it back? They don’t. In fact, it’s worse than that. They’re expecting you not to. Because if you can’t pay your loan in time, you’ll be forced to roll it over and pay an additional fee to extend it. These predatory practices are often associated with payday lenders, because you could end up having to turn over your paycheck as soon as you get it to pay back the loan. That doesn’t leave much money for luxuries like rent, so you could find yourself having to take out another loan or pay to extend the first one. This can easily trap you in a dangerous cycle, having to continually rollover your loan without any hope of paying it off. You want to avoid this situation at all costs.

2. Short Payment Terms

Any good lender wants you to have a real shot at actually paying back your loan in full. A bad lender, on the other hand, wants you to be trapped into rolling over your loans so that you can give them money forever. They’ll require you to pay back the entire loan, with interest, after only a few weeks—and sometimes less!

Instead, find a lender that will offer you an installment loan. David Bakke (@YourFinances101), a finance expert at MoneyCrashers.com, says that one of the main benefits of installment loans is that they “usually come with fixed interest rates, meaning that you know what your monthly payment is going to be.” A good “no credit check” lender will be certain that you have a source of income and then work with you to create a repayment plan that you can handle.

3. They Talk About Interest Rates Instead of APR

APR stands for Annual Percentage Rate. According to David Reiss (@REFinBlog), a law professor and editor of REFinBlog.com, the APR number shows the total cost of a loan, including fees and interest. Reiss points out that APRs allow potential borrowers to make an “apples-to-apples” comparison between loans. It gives you a full and clear picture of how expensive a loan really is. In other words, it’s a number that many “no credit check” lenders would prefer you never see.

They’d rather show you a basic interest rate, even though federal law requires APRs be used in most cases. Not only can that hide all sorts of fees, but it forces you to do some pretty complex math if you want to actually know how much you’ll be expected to pay. Friends never make friends do complex math problems, so if a lender isn’t talking in terms of APR, they’re likely not your friend.

Low, Low, Low Mortgage Rates

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photo by Martin Abegglen

TheStreet.com quoted me in Top 5 Lowest 15-Year Mortgage Rates. It opens,

U.S. mortgage rates have continued to decline in the aftermath of the Brexit vote, low Treasury rates and the stagnant economy, giving potential homeowners an opportunity to save money because of the dip.

The current market conditions give homeowners in the U.S. an opportunity to take advantage of the continuation of low mortgage rates since the Federal Reserve has not increased interest rates.

But, how do you snag the absolute lowest rates?

How to Get a Low Rate

Low mortgage rates can play a large factor in homeowners’ ability to save tens of thousands of dollars in interest. Even a 1% difference in the mortgage rate can save a homeowner $40,000 over 30 years for a mortgage valued at $200,000. Having a top notch credit score plays a critical factor in determining what interest rate lenders will offer consumers, but other issues such as the amount of your down payment also impact it.

A high credit score is the key to ensuring that borrowers receive a low mortgage rate. Here’s a quick rundown of what the numbers mean – a score of anything below 620 ranks as poor, 620 to 699 is fair, 700 to 749 is good and anything over 750 is excellent. Think carefully before canceling a credit card with a long, positive history, but decrease your debt. One of the biggest factors which impact your credit score is your credit utilization rate.

Many potential homeowners focus only on the interest rate or the monthly payment. The APR or annual percentage rate gives you a better idea of the true cost of borrowing money, which includes all the fees and points for the loan.

The origination fee or points is charged by a lender to process a loan. This fee shows up on your good faith estimate (GFE) as one item called the origination charge. However, the origination fee can be made up of a few different fees such as: processing fees, underwriting fees and an origination charge.

Homeowners who are able to afford a 20% down payment do not have to pay private mortgage insurance (PMI), which costs another 0.5% to 1.0% and can tack on more money each month. Having at least 20% in equity shows lenders that there is a lower chance of the individual defaulting on the loan.

Choosing Between 15-year and 30-year Mortgages

Obtaining a 15-year fixed rate mortgage instead of a traditional 30-year mortgage means homeowners can save thousands of dollars in interest. One drawback of a 15-year mortgage is that consumers will be locked into higher monthly compared to a traditional 30-year mortgage or a 5-year or 7-year adjustable rate mortgage, “which could put the squeeze on homeowners when times are tight,” said Bruce McClary, spokesperson for the National Foundation for Credit Counseling, a Washington, D.C.-based non-profit organization.

Many households would not benefit from a 15-year mortgage because it “does more to limit their financial flexibility than to enhance it,” said Greg McBride, chief financial analyst of Bankrate, a North Palm Beach, Fla.-based financial content company.

“Locking into higher monthly payments makes the household budget tighter and for what?,” he said “So you can pay down a low, fixed rate loan? On an after tax, after-inflation basis you’re essentially borrowing for free.”

McBride suggests that this strategy does not bode well for homeowners, especially if they are not paying down their higher interest rate debts and maximizing their tax-advantaged retirement savings options such as IRAs and 401(k)s.

“Even then, you might be better off investing your money elsewhere than tying up more of your wealth in the most illiquid asset you have – your home,” he said. “Just 28% of American households have a sufficient emergency savings cushion, so why the hurry to pay off a low, fixed rate, tax deductible debt. Money in the bank will pay the bills, home equity will not.”

The current economic situation has pushed down rates with 15-year mortgages becoming “relatively more attractive” than even 5-year adjustable rate mortgages (ARMs) over the last year, said David Reiss, a law professor at the Brooklyn Law School in New York. Last week Freddie Mac announced the average 15-year mortgage rate was 2.74% and the average for the 5-year ARM was 2.75%.

“These rates are virtually the same,” he said. “A year ago, the 15-year was relatively more expensive than the 5-year by about 0.16%. If you can swing the higher principal payments for the 15-year mortgage you will be getting about as good an interest rate as you could hope for.”

What Are Mortgage Borrowers Thinking?

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Freud’s Sofa

The Consumer Financial Protection Bureau (CFPB) and the Federal Housing Finance Agency (FHFA) have released A Profile of 2013 Mortgage Borrowers: Statistics from the National Survey of Mortgage Originations. While sounding dull and perhaps a bit dated, this document is actually an extraordinary overview of the much discussed but rarely seen mortgage borrower. And while the information is from 2013, it provides a good baseline for the post-financial crisis and post-Dodd Frank world we live in.

Historically, it has been difficult for government and academic researchers to get comprehensive data about mortgage borrowers. The impetus for this report was the Housing and Economic Recover Act of 2008 which requires the FHFA to conduct a monthly mortgage market survey. In the long term, this survey will help policymakers respond to the rapid changes that are so common in our dynamic mortgage market.

The National Survey of Mortgage Originations (NMSO) focuses on

mortgage shopping behavior, mortgage closing experiences, and other information that cannot be obtained from any other source, such as expectations regarding house price appreciation, critical household financial events, and life events such as unemployment, large medical expenses, or divorce. In general, borrowers are not asked to provide information about mortgage terms in the questionnaire since these fields are available [from other sources]. (1)

Here are some of the findings that I found interesting, albeit not always surprising:

  • Mortgage shopping behavior differed significantly by borrower characteristics and by whether the consumer was also shopping for a home at the same time as the mortgage. (14)
  • First-time home buyers differed significantly from repeat home buyers in their mortgage search behavior and repeat borrowers differed significantly in their mortgage search behavior depending on whether they were refinancing or purchasing a home. (14)
  • Slightly more than 40 percent of all respondents reported having a difficult time explaining the difference between a prime and a subprime loan. (16)
  • Overall about one- quarter of borrowers reported that they could not explain amortization or the difference between the interest rate and APR on a loan.(18)
  • Roughly one in five borrowers had to delay their closing date. (26)
  • In general, respondents believe that mortgage lenders treat borrowers well. (35)
  • Fifteen percent of respondents expected to have difficulties in making their mortgage payments in the next couple of years. (44)

There are a lot more interesting nuggets about the subjective views of borrowers in the report. I hope that later reports offer more analysis that ties this information into other objective sources of data about borrowers and their mortgages. How well do they know themselves and how good are they at predicting their ability to maintain their mortgages over the long-term?