High Risk Loans Are Full Of Pitfalls

High risk loans are loans that put the lender at increased risk of losing the money that is loaned out. Loans made to borrowers with poor credit are the most common type of high risk loan.

Typically these loans are for four figure amounts or smaller, and the terms are less than ideal. The fees will generally be high, the interest rate will be high, and stiff penalties for late or missed payments will be part of the loan contract.

These loans are easier to get if the borrower has collateral, that is, property that the lender can lay claim to should the borrower default on the loan. High risk loans that require collateral are called “secured” loans.

One common type of small, secured high risk loan is a secured credit card. The person applying for the card deposits money in the financial institution issuing the card to “secure” the debt. The money on deposit cannot be withdrawn. The borrower makes payments at a high interest rate to show that he or she can be counted on to pay on time. The intent is to rebuild good credit so that later on, the borrower can qualify for a better rate.

Some high risk unsecured loans are quite bad and should not be used, ever, period. Payday loans are a good example of this.

A payday loan shop will promise to hold a check written from a personal account until the borrower’s payday, at which time they cash the check, with a fee. The fee commonly amounts to an APR of up to 400%, and if the borrower can’t pay back the loan on the pay date, the amount owed increases rapidly.

“Usury” is a term that means the loaning of money at a rate above what is legal. While payday loan shops are often legal, their rates are so far above what is customary they are clearly usurious.

Secured high risk loans are somewhat easier to get, although that has probably changed in recent months with the rash of defaults on subprime mortgages and home equity lines of credit. Lenders have been pulling back even from the safest loans in 2008. For a period of time, even customers with stellar credit could not qualify for mortgages, and it is not likely that creative financing terms will continue to be popular.

High risk loans are not always good for the borrower either. Sometimes the best thing you can do when your credit has gone bad is to examine why it happened and start the slow process of rebuilding.

Borrowers should be extremely wary of loan terms that sound great when they know they are high risk. The lender could be hiding any number of unpleasant terms and conditions that in the long run will do much more damage to the borrower than the lender.

If you must look for a loan and your credit is bad, try to stick with reputable lenders that require some kind of collateral. Be scrupulous about making payments on time and keep working on whatever problems caused your bad credit rating to begin with. High risk means just what it sounds like: Both sides should proceed with caution.