Predatory lending occurs when a borrower is pushed (or tricked) into getting a loan with terms that are unclear or deliberately deceptive.
If you’ve ever felt pressured to take a loan where the terms weren’t what you expected, most likely you’ve had a brush with predatory lending. Maybe you also felt harassed — or even threatened — into signing a loan without fully understanding the terms, or before you were ready.
Any lender can engage in predatory lending, whether it’s for a mortgage, car purchase, home improvement loan or a similar borrowing situation. Here’s a guide to what you need to know about predatory lending: common warning signs, ways to fight back and some of the lending alternatives you might want to consider instead.
- How does predatory lending work?
- Coronavirus: Beware predatory lending practices
- Predatory lending practices: 8 warning signs
- Anti-predatory lending: What are the protections?
- Alternatives to predatory lending
- FAQ: Predatory lending
How does predatory lending work?
With a predatory loan, the loan is most often not what the lender initially described. For example, maybe you were promised a fixed-rate mortgage, as well as a long repayment term, for that new home. Instead, you’re handed an adjustable-rate mortgage — with a very short repayment term that makes it almost impossible to pay back without an expensive refinance that your lender offers to do too. If that happens, you’ve been subjected to a classic bait-and-switch move in predatory lending.
Some borrowers are especially vulnerable to this type of deceit. Elderly borrowers, for example, may have a lot of equity in their homes, but limited access to income or credit. Predatory lenders also prey on borrowers who need emergency cash to pay for unexpected medical bills, or home or auto repairs.
Taking out a payday loan often causes problems too. You might get your money quickly and with little fuss, perhaps at a storefront or online, but those loans almost always carry exorbitantly high interest rates.
Coronavirus: Beware predatory lending practices
In times of crisis, certain lenders may decide to take advantage of consumers who might be experiencing dire financial circumstances. The economic uncertainty caused by the new coronavirus pandemic is no exception, and U.S. lawmakers have already expressed concern about how financially vulnerable Americans may be as they face salary cuts, job losses and the prospect of an imminent recession.
If the pandemic has left you facing financial hardship, avoid using predatory loans to stay afloat. Instead, you may be able to access needed funds — as well as deferments on loan payments, like those that may be available for mortgages — from your bank or credit union. You might also be eligible for an Economic Impact Payment and other resources provided by the federal 2020 CARES Act. To learn more about this major piece of legislation, check this link from our parent company LendingTree.
Predatory lending practices: 8 warning signs
High interest rates and fees
High interest rates and fees are key signs of a predatory loan. If you’re applying for a loan and the interest rate or the loan and documentation fees seem high, ask your broker if they’ll be getting a yield-spread premium from the lender. This is a commission your lender may be paying the broker in exchange for offering an inflated interest rate.
Lack of information
If loan terms aren’t clear to you — or a lender can’t answer your borrowing questions directly — there’s a good chance you’re dealing with a predatory lender. Avoid signing on the dotted line if a lender can’t clearly tell you whether your interest rate (or any other terms) will change over the course of the loan, what fees will be included or if there are prepayment penalties.
Predatory lenders often misrepresent loan terms or may even lie about them. Beware of loan terms that seem too good to be true; they most likely are. Language like “easy payment terms, “no payments for 90 days” or “easy credit” should raise red flags.
Pledges not to perform credit check
Lenders routinely perform credit checks before approving and issuing loans to ensure the borrower can afford to repay. If a lender tells you “no credit check required,” chances are that lender is going to require some form of collateral, possibly in the form of the title to your car or access to a bank account. It’s never a good idea to put other assets at risk for a loan you might not even be able to repay.
Unusual prepayment penalties
When you take out a loan, you generally have the option of either repaying the loan early or refinancing, usually without paying any penalties, or at least with very limited fees. A predatory loan, however, may include steep fees for prepayment and refinancing, and these fees can add up to thousands of dollars.
Doesn’t report to credit bureaus
One of the advantages of taking out any kind of loan is that it can help you build a solid credit history, assuming you make payments on time and your lender reports the loan to credit bureaus. Lenders are not legally required to report loans to bureaus — however, if your loan isn’t reported, it might be a sign your lender doesn’t necessarily have your best financial interests in mind.
Lender access to bank account required
Payday lenders, in particular, are likely to ask for bank account information before handing over a high-interest, short-term loan. If you allow access — and are economically vulnerable — you may get hit with overdraft charges if sufficient funds aren’t available to cover the loan.
Hidden balloon payments
Often, a predatory lender may convince a borrower their loan comes with low monthly payments. The borrower later learns those low rates applied only for a short period of time, and that they will “balloon” at the end of the life of the loan unless the borrower doesn’t refinance. If you’re constantly feeling pressured to refinance your loan, persistent “flipping” may be costing you plenty in unnecessary fees and points.
Anti-predatory lending: What are the protections?
Fortunately, there are legal protections in place to reduce the practice of predatory lending and help consumers fight back. Here are some of the laws that provide support and resources:
- Equal Credit Opportunity Act (ECOA): This law protects consumers from lending discrimination due to age, gender, race or ethnicity. This law aims to rectify the denial of lending opportunities to minority borrowers, who may have encountered predatory lendering because of discrimination by more traditional lending institutions. If you think you’ve been discriminated against, report it to your state attorney general’s office.
- Truth in Lending Act (TILA): This legislation requires lenders to clearly, accurately and fairly disclose credit and loan terms to borrowers. It also gives borrowers three days to back out of a potential loan without having to pay a financial penalty.
- Home Ownership and Equity Protection Act (HOEPA): Lawmakers passed this law in 1994 with the specific goal of protecting borrowers from abusive home lending practices and high-cost mortgages, and further amended it in the years following its enactment. For borrowers getting high-cost mortgages, the act directs lenders to provide them with all necessary disclosures and loan terms, and encourages or requires homeownership counseling.
Most states also have laws designed to protect borrowers from predatory lending. These laws range from those that prevent payday loan companies from operating within the states, to caps on the interest rates the companies can charge. Illinois, for example, limits the interest rate that can be charged on payday loans to 15.5%.
To find more about what’s allowed in your state, visit this site from the National Conference of State Legislatures.
Alternatives to predatory lending
Some credit unions offer payday alternative loans, or PALs, to account holders with poor credit who need a short-term loan. A PAL usually offers more financial stability and less risk than a payday loan; for example, you can pay it back over a period of up to six months. PALs are regulated by the National Credit Union Administration, a federal agency. In order to apply for a PAL, you’ll need to belong to a federal credit union.
If you’re in a tight financial spot, you may be able to receive a payroll advance where you work. Many employers let employees borrow against upcoming paychecks to cover a critical, unexpected expense. In general, you can expect a payroll advance to be far less expensive what a payday loan might cost.
If you have either poor credit or no credit, you can still get a personal loan while steering clear of predatory lending practices. Credit unions, in particular, can be solid sources of personal loans for members who have poor credit, and even traditional lenders may be willing to provide a personal loan to someone with bad credit who also has a cosigner.
A credit card is basically a revolving line of credit you can use to borrow up to the credit limit set by the lender, depending on how much credit you have available and as long as you meet the required monthly minimum payments. Pick a credit card with the lowest interest rate you can get, or take advantage of the introductory 0% interest rates many lenders offer. Then, pay off your credit debt as quickly as possible.
It may feel awkward asking family or friends for a loan, but it may give you more flexible repayment terms. The biggest drawback: If you fail to pay back the loan or make timely payments, your relationship may suffer.
If you’re having trouble meeting financial obligations, tap your lender for potential options. For example, a credit card company might be willing to offer a lower monthly minimum payment or a lower interest rate.
FAQ: Predatory lending
Predatory lending occurs when lenders push (or trick) a borrower into getting a loan with terms that are unclear or deliberately deceptive. With any loan you should always feel comfortable with the terms, and the working relationship you have with your lender. If you don’t, it might be time to step back.
Balloon-type mortgages can be predatory if a lender misrepresents or doesn’t ensure a borrower understands payments will escalate over time. The Federal Trade Commission warns consumers to avoid car title loans, as they’re typically short-term loans that come with a triple-digit annual percentage rate (APR). Because the loans require borrowers to hand over the title to their automobile as collateral, you risk losing a much-needed possession.
Predatory student loans often feature excessively high interest rates. The current interest rate on a federal student loan ranges between 4.32% and 7.08%, so be careful if you spot a much higher rate. Student loans that have prepayment penalties or require a car or home as collateral might also be considered predatory.
Be on the lookout for automobile dealers who load up a loan with extra “junk” fees, like for service contracts, rustproofing and theft deterrents. Also look for loans that dealers finance in-house; they may come with an APR that’s far higher than what a bank or credit union might offer.
To get out of a predatory loan, try refinancing the loan with a reputable lender. Credit counselors, often working for free, may be able to help too; you could start by contacting the nonprofit Legal Services Corporation, or HUD, if you need housing help. In addition, the aforementioned NFCC says it will work with clients regardless of their financial situation; according to the organization’s website, “we don’t turn anyone away.”
If you think you’ve been a victim of predatory lending, report it to the Federal Trade Commission or to your state attorney general’s office. If the predatory lending involves a local home improvement contractor, contact the Better Business Bureau for guidance.