More people are struggling financially as we head towards the end of 2020 after a tumultuous year dominated by the COVID-19 pandemic. Millions have lost their jobs, the cost of living has spiralled upwards, and many households face a bleak Christmas season.

To see them through a financial crisis, people turn to short-term loans. These financial products are available through private lending companies, and the application process is straightforward. If you are thinking of applying for a short-term loan, here are some pitfalls to avoid:

Not understanding terms and conditions

When an emergency strikes, people are too focused on getting funds they need from a lender to pay careful attention to the loan’s terms and conditions. While a quick short-term loan is an excellent solution to a financial crisis, borrowers need to comprehend a loan transaction’s nature and what is expected from them.

A short-term loan is taken out over a few months at most. Payday loans are an example of short-term loans, although they are typically settled within weeks. However, some lenders offer extended repayment periods when borrowers take out a loan over a specified amount. It would need to be over a thousand pounds before you could expect such accommodation. Most lenders give an average of three months to repay a short-term loan.

As with any loan, there is an interest rate attached to a short-term loan. It is usually relatively high for two reasons. First, a short-term loan is unsecured, meaning that you do not offer any assets as collateral for the lender to seize should you default. Second, interest rates tend to get higher as a loan repayment period decreases. Therefore, interest charged on a short-term loan is higher than that on a personal loan or a mortgage.

Not grasping the implications of a failure to pay

Like any loan, failure to pay is a problem for the borrower. Creditors add interest to an outstanding balance as soon as you miss a payment. After that, interest keeps accumulating, not only on the loan amount but also on the interest. Some lenders may charge an even higher interest rate on unpaid balances than they do on the loans. You will not know this unless you take a deep dive into the fine print of your loan contract.

Before they know it, borrowers are in over their heads and have little or no chance of settling the loan. Some wind up borrowing more money to repay existing debts. This starts a cycle of borrowing that is challenging to break.

Failing to repay a short-term loan can also adversely impact your credit score, which might harm future attempts to secure loans. A damaged credit score takes time and patience to rehabilitate and becomes an obstacle in a financial crisis when you need access to credit.

Not shopping around

You have a plethora of lending companies at your disposal from which to secure a short-term loan. Now that most lenders take online applications, you are no longer at the mercy of geography. Before online applications, you would be limited to lenders running brick-and-mortar operations in your area.

Not all lending companies offer the same services and interest rates. You should shop around before settling on one. Most sites allow you to complete a calculation of your instalments based on the loan amount and repayment period. A slight difference in the interest rate charged could make a substantial difference to your repayment amount.

Expect to have lending companies do a credit check but do so on the understanding that some are more understanding of a less than stellar credit history than others. If you have a troubled financial past, look for companies specialising in loans for people with bad credit scores. However, expect to pay a higher interest rate that the company charges to cover the risk of lending you money.

Not knowing who you are getting into bed with

Unscrupulous people run operations that look legitimate but are, in fact, illegal. Their companies are not registered with the relevant authorities. By operating this way, they break the law, committing a crime commonly known as loan sharking.

To spot a potential loan shark, look for the warning signs. A lender who is reluctant to commit your agreement to paper or give you a specific repayment timeline and amount should be viewed with some suspicion. If the company you are dealing with offers you cash, look at it as a red flag. Legitimate private lenders deposit the loan amount into your bank account.

Loan sharks use coercive tactics such as intimidation or threats, or acts of violence to seek payment. They might also ask you to surrender something of value, such as your passport, as collateral. If you are at the mercy of a loan shark, report this matter to authorities. The lender is engaged in criminal behaviour, not the borrower.

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