Maybe you’ve heard the advice that you should never take out a payday loan. Or maybe you applied for a different kind of loan with limited credit and are staring at a loan estimate with higher-than-expected interest rates.
Either way, if you need to borrow money, it’s important to know that there are other options than applying for high-interest loans. They may not be as easy or convenient to get, but in the long run, your future self will thank you for doing the extra work.
What Are High-interest Loans?
You might think that high-interest loans are ones with triple-digit interest rates that some payday loans charge, and that’s true. But the reality of what most experts consider to be “high interest” might surprise you.
Many economists consider loans with annual percentage rates (APRs) higher than 36% to be high-interest loans.
Why Are High-interest Loans Bad?
Taking out a high-interest loan means that your monthly payments will be higher, and you’ll end up spending more money on interest by the time you pay off the loan.
For example, if you take out a $1,000 loan with a 36% interest rate and pay it back over the course of a year, you’ll have to make a payment of $100.46 each month. By the time you pay off the loan, you’ll have paid $205.55 in interest, over a fifth of the total amount you borrowed. If your interest rate was only 6%, however, you’d pay $14.39 less each month and save $172.75 in interest.
How to Pay Off High-interest Loans
Repaying high-interest loans isn’t easy. However, there are several ways you can pay it off faster:
- Increase your income. Ask for a raise at work, get a temporary part-time job, start a side gig or sell things in your home you don’t need anymore.
- Lower your expenses. Make a game of finding ways to lower your spending. Every dollar you save is one more that can go toward paying off your debt sooner.
- Start budgeting. This can help you develop positive financial habits. It doesn’t have to be as dreadful as you might think; there are many ways to budget these days, such as with a budgeting app.
- Consolidate your debt. You can refinance your high-interest debts with a loan that has a lower interest rate. This process is called debt consolidation.
High-interest Loan Alternatives
If you have poor credit, high-interest loans are only one of several options available to you if you need money. While this kind of loan might be a good choice for you in some cases, here are some other alternatives to consider first:
1. Consider Payday Alternative Loans (PALs)
Some federal credit unions offer small-dollar loans called PALs. However, not all credit unions provide these loans, so you’ll need to shop around in your area or online. In addition, you must have been in the credit union for a month before you’ll be eligible for a PAL.
But once you qualify, you’ll find that this kind of loan is far better than an actual payday loan. You may be able to borrow up to $1,000, and the application fee is capped at just $20. Credit unions can also offer more services for people looking for help with managing their finances, such as free one-on-one counseling.
2. Ask Your Creditors to Work With You
If you need help paying bills, reach out to your creditors first before you take out a high-interest loan. It can be a humbling experience, but you’d be surprised with the number of options companies typically offer people who are struggling with bills.
3. Look Into Credit Counseling
You also can contact the National Foundation for Credit Counseling. They can refer you to a reputable credit counseling agency that can work with you one on one to sort out your options and get you back on track to a better financial situation. Best of all, these services are very affordable or even free in some cases.
4. Explore Mutual Aid and Community Support
Another option is to reach out to your local government and research the available benefits. This can range from financial assistance, food stamps, unemployment benefits, welfare and Medicaid.
You may also be able to get support directly through your community. If you are not connected or don’t know what your options are, contact 211.org (you can also dial 2-1-1 on your phone to speak with someone). This will connect you with a local United Way volunteer who can personally help you find the options available to you in your community. You can even get help anonymously if you prefer.
5. Build Your Savings and Credit
If you’re considering a high-interest loan, chances are you don’t have savings or a high credit score to back you up. Now’s a good time to gather your motivation and find ways to improve your credit and build your savings so you’re not in this position again.
To improve your credit score, pay down existing debt and continue to make your monthly payments on time. Your payment history is a key component of your credit score as it makes up 35% of your FICO score.
You should also look for ways to reduce your monthly expenses to start saving more money without increasing your income. For example, cut out unnecessary subscriptions, reduce driving and the use of gas, ask your auto insurer about safe driving discounts or choose to cook at home instead of eating out. Use the extra money you save after cutting out these expenses to build up your savings.
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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
