Holiday Loans: Dangers and Pitfalls

Holiday loans are loans that are designed to cover holiday-related expenses. They are issued in advance of a tax refund. In theory, this allows borrowers to essentially get their tax refund early, allowing them to spend the money when needed and pay it off when the real refund arrives. But the harsh reality of the matter is that holiday loans come with dangerous pitfalls that can turn a short-term convenience into a long-term financial drain.

Understanding Holiday Loans

Traditionally, the holiday loans were given after the tax returns arrived. Borrowers filled it out, calculated the rebate and the lenders gave them the equivalent loan. More recently, though, some lenders have been letting borrowers take out a holiday loan even earlier - the refund is estimated based on a borrower's pay stubs. This allows borrowers to use the loan for winter holidays, which tend to be more expensive than any other holidays. Unfortunately, it also means that the borrowers have to deal with the pitfalls even earlier than they otherwise would.

Short-Term and Long-Term Fees

Holiday loans are short-term loans. This means that, for the first few weeks after taking it out, the lenders charge between $15 and $50 in finance charges (the lenders' fee) for every $90 borrowed. The fees are high, but depending on how much money is borrowed, it can be managed. However, once that period runs out, the borrowers have to either repay the full amount or pay it back in installments. Repayment in full can be problematic, since the initial period usually runs out long before the actual tax refund arrives. This is particularly true with holiday loans that are calculated using pay stub information. In all likelihood, a borrower will have trouble coming up with the necessary sum. If the borrower chooses to pay in installments, financial charges will rise dramatically and the borrower will have to pay interest.

High Interest Rates

Another major pitfall of holiday loans is high interest rates. They start out fairly high compared to other loans and they only get steeper the longer it takes for the borrower to repay the amount owed. In some cases, the lender encourage borrowers to roll over the amount owned into another, bigger loan, but that tends to only compound the problem.

Hidden Extras

In addition to the pitfalls described above, borrowers should be weary of the hidden fees written into their contracts. Some banks, for example, include a non-refundable tax preparation fee into the financial charges. While the borrowers don't have to use the service, the fact that they wind up being charged regardless of what they decide can be a fairly compelling incentive. In other words, such fees can coerce borrowers into doing things that may not necessarily be in their best interests.

Avoiding the pitfalls

The Truth in Lending Act allows borrowers to compel lenders to disclose the full costs of their holiday loans, including finance charges and interest rates. If the lender violates the act, the borrowers have the right to file a complaint with Federal Trade Commission. As with any other deal, borrowers should examine the contract carefully, preferably with a legal professional on hand. If the borrowers are looking for a way to get some extra money for the holidays, they may be better off turning to community banks, credit unions and small loan companies. There, they might be able to get loans that don't come with high fees and high interest rates. Of course, those institutions should be given as much scrutiny as lenders that offer holiday loans. Regardless of which loan they choose, borrowers should understand exactly what they are getting into.

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