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People who need to borrow money but whose credit is spotty or nonexistent often face a particularly vexing issue. They don’t have a wide range of options and it often comes down to choosing the least bad choice rather than the best choice. Many financially challenged people turn to payday loans, which have earned quite a dreadful reputation in the past few years, to the point that they have become a sort of dubious gold standard for undesirable loan options. In fact, the debt charity Citizens Advice has recently declared so-called guarantor loans to be potentially just as damaging for borrowers as payday loans. The fact that the charity did not apparently feel a need to elaborate on why payday loans can be so damaging speaks volumes.
Guarantors can unknowingly put themselves at risk
A guarantor loan is a loan in which a friend or relative is obliged to pay off the debt in the event that the original borrower cannot do so. On the surface this may sound fine if the borrower has someone who is willing to take on that responsibility, but Citizens Advice cautions that there are numerous pitfalls, with many guarantors being unaware that they are signing up for excessively large debts. Guarantor loans can carry interest rates of up to 46% per year, and even in the event of the borrower’s death, debt collectors can legally continue to pursue those who guarantee the loan. This should make even the most solicitous relative or friend think twice before signing.
Gillian Guy, the chief executive of Citizens Advice, says, “Guarantor loans carry with them huge risks, and our evidence shows people are getting involved without being fully aware of the dangers.” In an astonishing 43% of cases studied by the charity, the guarantors were not fully aware of the risks they had assumed.
Yet an estimated 50,000 people take out guarantor loans each year. Since the Financial Conduct Authority (FCA) imposed new rules on the payday loan sector, the number of people taking out payday loans has decreased. Guarantor loans, which have so far mostly been ignored by regulators, have stepped up to fill in that gap. They are attractive because of their availability to people with poor credit histories, and also because they can be repaid over a period as long as five years.
Citizens Advice and other advocacy organizations are working to persuade the FCA to impose tighter restrictions on guarantor lenders. Meanwhile, potential borrowers and co-signers alike can avoid disaster if they do their research carefully before committing to a guarantor loan.
So…are payday loans really so bad?
This brings us back to the point about payday loans being perceived as the epitome of bad loan options. Payday loans have their pitfalls to be sure. Despite the reforms of recent years, some payday lenders still engage in unacceptable practices, such as encouraging rollovers and hounding borrowers who do not pay back the loan on a timely basis. And the interest rates are still exorbitant in comparison to more conventional loans.
But the news isn’t all bad. Despite its acknowledgment of the possible harm of payday loans, Citizens Advice has actually reported a significant decrease in problems with payday loans since the FCA’s clampdown in 2014. The number of payday loan problems reported to the charity has nearly halved in comparison to a year ago. Citizens Advice points out that this is good news for consumers and is proof of the positive impact that a strong stance against irresponsible lending can have on people’s lives.
Despite their potential disadvantages, payday loans are not always the worst option for those who need to borrow a relatively small amount of money for a short period of time, and who are unable to get a conventional loan. And disasters can be avoided. The first key to dodging a payday loan disaster is to make a firm commitment to pay the loan back on a timely basis. A payday loan is costly enough as it is, but if you don’t pay it back on time it will cost you even more. The second key to avoiding trouble with a payday loan is to do your research diligently. Compare costs and lender ratings, and read the experiences of real consumers of the product you are considering.
Many people find themselves financially strapped at one time or another in their lives. Needing to borrow money is not a shameful thing. But no matter which type of loan you choose, you owe it to your own peace of mind – now and in the future – to research your options carefully and make a commitment to handle your loan responsibly.
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