How to Identify and Avoid Predatory Lenders
A predatory lender is one who lends money – often referred to as a payday loan – with the intention of profiting from the loan and ignores or tries to obstruct the borrower who is trying to pay back the loan. Typically, those who practice payday lending attempt to take advantage of borrowers’ lack of knowledge about the loan terms or personal finances. When borrowers inevitably don’t have the ability to repay, these abusive practices trap them into a cycle of debt, making them another victim of predatory lending.
Who Do Predatory Lenders Target?
Predatory lenders tend to target certain groups, such as the elderly, low-income families, the unemployed, and those who are less educated. The most vulnerable demographics for these lending practices are African Americans, those who rent their homes, people aged 25-49, and employees who make between $15,000 and $25,000 a year.
Predatory lending practices usually hone in on low-income people who are struggling to find cash for a financial emergency, such as unexpected medical bills, a death in the family, or making a car repair payment. They also target people who have a less than stellar credit record —often referred to as subprime lending— which makes it difficult or impossible for them to borrow from more reliable sources such as banks or credit unions.
The Predatory Lending Trap
Many employees throughout the United States are struggling to get by from paycheck to paycheck. Around 12 million yearly payday loan borrowers take out loans because they cannot cover their daily expenses with their paychecks alone. Despite the dangers of these predatory practices, the business is booming. Let’s put this into perspective. The payday loan industry has grown 269% from 2014-2019. However, this does not mean that borrowers are benefiting from having access to this type of loan; far from it. One of the biggest problems with payday loans is that because of high-interest rates and hidden fees, many borrowers struggle to pay back the loan. As many as 80% of payday loan applicants end up re-borrowing from their predatory lender to pay a previous payday loan.
Although predatory lending is only legal in 36 states, the US has the largest payday loan industry in the world. People whose income is less than $40,000 per year are most susceptible to payday lenders, particularly when they are going through a financial emergency. Many borrowers are convinced that because payday loans are short-term loans (paid back in two or four weeks from the next paycheck) that the loan costs less than a traditional loan. This is what predatory lenders want them to believe.
The fact is that interest rates are so high on these loans – sometimes up to 400% – that it becomes very difficult for borrowers to repay the loan on time. This is exactly what predatory lenders want. Then they convince borrowers to take out another loan to pay off the first, or to roll over the payment for another month for an extra fee. All this does is prolong the borrower’s agony and suck them into a recurring cycle of debt.
Common Types of Predatory Lending
- Equity stripping: This involves strategies aimed at reducing a property’s equity by making it appear less attractive to lenders. Predatory lenders often use these abusive practices on homeowners who are foreclosing.
- Loan flipping: This is when a predatory lender convinces a homeowner to refinance their house, which ends up costing the homeowner much more in interest fees than they gain in cash in their pocket.
- Insurance packing: This refers to when a predatory lender slips an insurance clause into a homeowner’s equity contract. The clause results in additional costs the borrower was unaware of.
- Bait and switch: This is the illegal action of advertising services or goods for a certain fee and then replacing them with inferior services or goods.
- Prepayment penalties: A prepayment fee is charged when the loan is paid off before the final due date.
- Mortgage servicing abuses: This involves fraudulent or deceptive mortgage services.
- Hidden balloon payments: A mortgage borrower believes that he or she has applied for a loan with low-interest rates and low monthly payments only to find out at closing that they signed for a short-term loan and must refinance within 2-3 years.
Borrowers Might Be Talking to a Predatory Lender If….
Here are some warning signs that borrowers should watch out for to avoid predatory lenders:
- The offer seems too good to be true: The loan may be attractive because it does not require a credit check and the interest rates initially seem reasonable or low — that’s why it’s important to look at all the loan terms.
- The lender obscures the actual cost: Often, predatory lenders will avoid telling borrowers what the final cost of the loan is actually going to be. Because of high-interest rates and hidden fees, borrowers can end up paying back as much as $1,500 on a $300 loan.
- The lender gives more than the borrower asked for: Predatory lenders will often try to talk borrowers into borrowing more than they originally asked for. Although this might seem attractive to the borrower at the time, when they are unable to pay back the loan due to high rates and fees, they become sucked into a cycle of debt.
- The lender asks for access to a borrower’s bank account: Predatory lenders frequently ask borrowers for their bank account details, claiming that this will make repayments easier. The problem is, if the borrower is unable to make a repayment due to lack of funds, the lender can withdraw it anyway. This leaves the borrower in greater debt because of bank overdraft fees.
- The lender rushes the borrower through the applications process: This is a common strategy with predatory lenders because they don’t want borrowers to notice the real facts about the loan that they are signing for and the additional payments they’ll have to make.
- The lender has bad ratings or a bad reputation: Obviously, this is a sign that someone has been burned by this borrower before. Borrowers can check a lender’s reputation by contacting the Better Business Bureau and checking the lender’s address to see if it is legitimate.
How to Avoid Predatory Lenders
Although there are some predatory lending laws in place, there are a lot of people who disguise their abusive practices or find ways around anti-predatory lending regulations. Borrowers can avoid predatory lenders by looking for the warning signs mentioned above.
They should always be prepared to ask lenders the right questions, such as is the interest a fixed rate, how much is the interest, and are there any other fees. Before signing for a loan, borrowers should always read the fine print, even if there are several pages. Those who practice responsible lending would be open to questions and explaining the terms of the loan in a way the borrower can understand.
Most importantly, borrowers should always get a loan from a reputable source, such as TrueConnect. As an employer, it is to your advantage to help your workers avoid predatory lenders. When employees are going through financial difficulties, the stress not only causes mental and physical problems, it also leads to absenteeism, lower engagement, and poor concentration. All of these symptoms mean a drop in productivity and ROI for your company. You can be part of the solution by offering TrueConnect loans to your employees, at no cost to your company. Find out more about creating financial wellness for your team.