In 2008 the United States experienced a major financial crisis after lenders made an outstanding number of subprime loans to the tune of nearly $2 trillion dollars.
The private lenders behind these loans were exempt from federal regulations, making it easier for them to lend money to those who were financially incapable of honoring the loan's terms.
As a result, many people lost their homes and the equity that they had invested up to that point. Not only that, but contractors, real estate agents, and the overall economy suffered immensely.
Since then, predatory lending practices have been a source of concern and widespread media discussion. However, this hasn't stopped many lenders from preying on unsuspecting loan applicants.
Read on to learn about 8 predatory lending practices that you should watch out for!
Are We Bound to Repeat History?
Predatory lending practices are nothing new. In 2008, America witnessed a financial fallout that for many was an unprecedented experience. Many financial experts have publicly credited the 2008 financial crisis to the risky lending practices that preceded it.
Despite some economic improvements over the past several years, analysts warn of red flags that could signal trouble ahead.
Some of the most notable worries are the troubling amount of student loan debt and credit card debt that Americans hold. There also is concern over questionable automobile loans and other lending practices.
Predatory loans fail to ensure the recipient's ability to repay the funds they're lent.
One of the problems may be that we tend to trust lenders, even when their behavior suggests that they aren't looking out for our best interests.
Want to guard your financial wellbeing?
If you're aware of the most common predatory lending practices, you can avoid their trap.
Here are some of the warning signs of shady loans to watch out for.
It's not uncommon for predatory lenders to attach exorbitant fees or charges to loans. Because the fees and/or charges are not part of the actual loan amount, many applicants overlook these expenses.
Lenders will squeeze in extra fees in hopes that desperate customers won't notice them, or will just accept the high charges in exchange for receiving credit when they most need it.
This is common with credit cards issued to those who may not have the best credit scores. Lenders take advantage of applicants with low credit scores because they know that it's harder for these customers to get funding.
Creditors also often go after unassuming customers with little or no credit history. These customers may not be aware of this tactic so they don't consider it as a possibility.
If you're applying for credit, especially as a customer with a poor or unestablished credit history, be sure to carefully read your loan's terms.
Sometimes, these charges are hidden in the fine print. But, unfortunately, hidden terms won't protect you when it comes time to "pay the piper", so to speak.
Rarely, loans have interest rates that creep into the three-digit range. If this is the case, you should be leery of signing or accepting such terms.
Payday loans and title loans are notorious for having extraordinarily high-interest rates. For example, charging 300% interest may be their "standard" rate. This means that in the long run, customers might end up paying three times the funds they actually receive.
According to the National Consumer Law Center, interest rates are capped at 36% APR (annual percentage rate). This is the maximum amount of interest which is legally perceived as affordable for customers. Anything with an APR over 36% should be regarded as suspect.
This practice is often the case with "risk-based lending". Risk-based lending bases your interest rate on your credit history. Applicants with bad credit or poor credit history, who are most likely to default, are assigned a much higher interest rate than other customers.
Although the lenders are aware that the high-interest rates will make a loan even more difficult to repay, they still lend funds to "risky" customers.
When the customer defaults on the loan, they may have already made payments equalling the amount of money they were originally lent. Still, the interest on the loan has absorbed most of their payments. Therefore, the amount they have paid doesn't keep their credit score intact, and they end up in a worse position than when they started.
A balloon mortgage is one that may have a series of smaller payments leading to one much-larger payment that is due at the end of the loan.
Often, the entire balance of the loan is the amount of your final payment. This could mean that your final payment equals thousands or even tens of thousands of dollars.
Today, there are only rare instances that allow a balloon mortgage. But, it's still a lending practice that you should be aware of and think twice before entertaining.
If you notice any unusual penalties, be sure to ask your lender to review them with you prior to signing a loan agreement.
Sometimes, lenders will attach a "pre-payment penalty", for example. A pre-payment penalty requires that you pay a hefty fee before allowing you to refinance.
This type of penalty can end up costing you thousands of dollars. And, the prepayment penalty period could last for years.
Predatory lenders don't always operate on the "up and up" with their customers. Unfortunately, they may try to misrepresent the loan terms. Or, they might conveniently leave out important information that could carry costly consequences.
The Truth In Lending Act was first passed as federal legislation in 1968. Since then, a number of disclosures have been added to the initial legislation. Its' purpose is to educate consumers and give them the opportunity to adequately understand and compare loans prior to making an agreement.
Despite this important legislation, predatory lenders still continue to dishonestly represent terms to consumers. Even with a degree of federal protection in place, it's often up to the customer to exercise wisdom and caution in financial affairs.
Be sure to ask your lending officer to review a full loan disclosure before making any final decisions. And, if something isn't clear, ask them for a further explanation of the terms.
This predatory practice is common with mortgage loans. First-time buyers or unassuming loan applicants may not find out if taxes or insurance is part of their loan payment. Then, they can be hit with a major additional payment for these items.
If your home's insurance and taxes aren't part of your mortgage loan, you could end up owing thousands of dollars that you aren't prepared to pay.
Refinancing a loan can potentially be a smart financial move. It can often mean a lower interest rate or reduced payment for loan applicants.
But, there are some lenders who will take advantage of their customers by refinancing at a higher rate. Or, they may tack on a pricey loan origination fee. In the end, this type of refinancing can cost you a lot more than your original loan.
When lenders "flip" your loan for a loan with less-appealing terms, this is called loan-flipping. Not only is it unethical, but it's also expensive for the customer.
If you are approached to refinance your loan, make sure that the new agreement is worth the process. In other words, find out how a new loan will benefit you. If there doesn't appear to be any advantages to refinancing your loan, it's probably not a wise move.
If you notice that your loan has a mandatory arbitration clause, there could be cause for concern. Mandatory arbitration typically means that it's illegal for the borrower to take future legal action against the creditor for fraud or misrepresentation. The borrower instead is forced to seek arbitration, which may not provide justice in their situation.
If a lender requires its customers to arbitrate, rather than take legal action against them, it may be a red flag. Take heed of this warning sign and dig deeper if you are feeling uncertain before you sign anything that you may regret later on.
If you need cash fast, there are ways to get the funds you need without falling prey to predatory lending practices.
Are you looking for a lender that you can trust?
Don't surrender to unfair lending terms. Instead, find out what to watch for so that you don't get caught in a trap, and can still get the quick loan you're looking for.
Check out this post for tips on finding a trustworthy lender to help you get fast cash when you need it most!