5 Types of Personal Loans to Avoid

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ByChristopher Boston
Reviewed byAlvin Yam, CFP
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ByChristopher Boston
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Reviewed byAlvin Yam, CFP
Edited byCasie McCoskey
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Updated: March 7, 2024

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When faced with sudden financial needs like an unexpected medical expense or urgent car repairs, many turn to loan-based solutions for relief. Personal loans are a popular choice, offering immediate financial assistance you can repay over an agreed period. In fact, as of the third quarter of 2023, the total personal loan balance in the U.S. was $241 billion, according to TransUnion.

However, not all personal loans are created equal. Some come with high interest rates, steep fees and unfavorable terms that can turn a short-term financial relief into a long-term financial burden. MoneyGeek explored which loans to avoid to help safeguard your financial well-being.

Key Takeaways

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While many personal loan types are helpful to borrowers, some bring more risks than benefits.

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We recommend avoiding cash advance apps, credit card advances, payday loans, pawnshops and title loans.

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These types of personal loans have multiple disadvantages, including high-interest rates and other fees.

Cash Advance Apps

Cash advance apps offer a modern solution for those in need of quick funds, acting as a bridge to the next paycheck. These apps provide immediate access to a portion of the user's earned wages before payday, aiming to alleviate short-term financial crunches. As a result, they can be helpful for an unexpected bill or a sudden expense that can't wait until the next payday, such as a car repair or a medical emergency.

To use a cash advance app, users typically need to provide proof of regular income, such as pay stubs or direct deposit records, and connect their bank account to the app. The app then analyzes the user's income and spending patterns to determine how much they can borrow. The qualification process is usually quick, with minimal requirements compared to traditional loans, making it an appealing option for instant financial assistance.

When considering a cash advance app, it's important to look at the fee structure; some apps charge fixed fees, while others ask for voluntary "tips" that can quickly accumulate. Transparency is key — opt for apps that disclose all costs upfront to avoid hidden charges.

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When you apply for a cash advance, the lender will typically do a "hard pull" of your credit report, which can lower your score a few points temporarily. Multiple hard inquiries in a short period will impact your score more.

Another consideration is that not all cash advance providers report repayment activity to the credit bureaus, so your timely payments may not directly improve your credit score. Late or missed payments will hurt it more than the initial hard inquiry. — Alvin Yam, CFP®

What Are the Risks?

While cash advance apps provide quick access to funds, it's smart to approach them cautiously due to inherent risks that can affect your financial well-being. These include:

  • Cycle of Dependency: Regular reliance on cash advances can lead to a cycle where you're always playing catch-up with your finances. This cycle makes establishing a stable financial footing challenging without depending on advances.

  • Privacy Concerns: Cash advance apps require access to your bank account and personal financial information. Sharing sensitive data increases the risk of privacy breaches and unauthorized transactions.

  • Impact on Financial Habits: Using cash advance apps may discourage good financial practices, such as budgeting and saving. It can create a reliance on external financial aids for managing routine expenses.

How to Use Cash Advance Apps Wisely

While cash advance apps are typically among the personal loans to approach with caution, there are ways to use them wisely if you find yourself in a bind. By being mindful and strategic, you can minimize potential risks and make these apps work for you in emergencies.

  • Use Sparingly: Reserve cash advance apps for genuine emergencies, not regular expenses. Using them only when absolutely necessary helps prevent dependency and keeps fees to a minimum.

  • Understand the Fees: Before taking an advance, make sure you fully understand any fees or suggested tips. Choose apps with the lowest costs and avoid hidden fees to keep your borrowing costs down.

  • Set a Repayment Plan: Have a clear plan for repayment that aligns with your next paycheck or income source. Timely repayment helps avoid a cycle of debt and maintains your financial stability.

With these tips in mind, you can set yourself up to avoid the pitfalls that cash advance apps tend to set for borrowers.

Credit Card Advances

A credit card advance is a feature many credit card issuers offer that allows cardholders to withdraw a portion of their credit limit in cash. This can be particularly appealing in situations when you need cash in hand quickly, such as unexpected car repairs, medical emergencies or when traveling in places that do not accept credit cards.

Unlike traditional loans, which often require a detailed application process, including credit checks, income verification and sometimes collateral, you can quickly obtain a credit card advance if you already have an active credit card with the feature and available credit. There's no need for approval time or additional paperwork, and you can get your funds immediately up to the limit set by the card issuer.

You can access funds from a credit card advance in several ways. The most common method is an ATM, where the cardholder can use their credit card and PIN to withdraw cash up to the available limit. Additionally, some banks allow cardholders to receive cash advances in person at a branch. Another option is to use convenience checks provided by the credit card issuer, which you can write out to yourself and cash or deposit.

What Are the Risks?

Opting for a credit card advance might seem like a convenient way to access quick cash, but it's important to proceed with caution. The immediate availability of funds can lead to long-term financial repercussions if not managed wisely. Here are some risks to consider before using a credit card advance:

  • High-Interest Rates: Credit card advances often have significantly higher interest rates than regular purchases. This means the amount you owe can quickly escalate unless paid off promptly.

  • Additional Fees: On top of high interest, cash advances usually incur a fee per transaction, which can be a fixed amount or a percentage of the advance. These fees add to the total cost of borrowing.

  • Impact on Credit Score: Frequent use of cash advances can signal to lenders that you're under financial stress, potentially affecting your credit score. A lower credit score can hinder your ability to secure loans in the future.

How to Use Credit Card Advances Wisely

Although we consider a credit card advance as a type of personal loan to avoid due to its high costs, there are situations where it might be necessary. In such cases, thoughtfully using a credit card advance is key to minimizing its financial impact.

  • Limit Usage to Emergencies: Only consider a credit card advance when you have no other options. This helps prevent unnecessary debt and keeps the high costs associated with advances to a minimum.

  • Know the Terms: Before taking out an advance, understand the interest rates, fees and how interest accrues. Being fully informed helps you manage the cost more effectively.

  • Repay Quickly: Aim to repay the advance as soon as possible to reduce the interest on your balance. The faster you pay it off, the less interest you'll have to pay.

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Credit card advances are reported as part of your credit card balance, which means they can increase your credit utilization ratio. This is the amount of available credit you're using compared to the total credit limit on your card. A high credit utilization ratio (above 30%) can negatively impact your credit score.

Credit card issuers typically give you around 25 days to repay an advance before charging interest. But your interest begins accruing on the advance immediately. To avoid interest, pay off the total balance, including the amount advanced, by the due date on your billing statement. — Alvin Yam, CFP®

Payday Loans

A payday loan is a short-term, high-interest loan you can use to cover immediate expenses, such as unexpected bills or emergencies when funds are tight.

Payday loans allow borrowers to take out a small amount of money, usually between $100 and $500, which they must repay within a short period, often by the next payday. To qualify, individuals typically need to show proof of income, a bank account and valid identification. The requirements are minimal compared to traditional loans, making payday loans easily accessible to many people, even those with low credit scores.

However, the convenience of payday loans comes at a significant cost. The interest rates are exorbitantly high, which can trap borrowers in a debt cycle, where they take out new loans to pay off previous ones, continually accruing more interest and fees.

What Are the Risks?

Payday loans might seem like a quick solution to immediate financial needs, but they come with risks that can exacerbate financial woes rather than alleviate them. Here's why caution is advised:

  • Exorbitant Interest Rates: Payday loans carry incredibly high interest rates, often leading to an annual percentage rate (APR) of almost 400%. This can significantly increase the amount you owe, making it challenging to repay the loan without compromising your financial health.

  • Debt Cycle: The structure of payday loans often traps borrowers in a continuous cycle of debt. When struggling to repay an initial loan, individuals may find themselves taking out additional loans to cover the previous one, perpetuating a cycle of borrowing and indebtedness.

  • Short Repayment Terms: The short repayment period of payday loans, typically by your next payday, can create a financial strain. Many borrowers find it challenging to repay the full amount plus interest and fees in such a short timeframe, leading to further financial difficulties.

How to Use Payday Loans Wisely

Payday loans are generally considered a risky financial option due to their high costs, but there may be cases where they feel like the only option available. We’ve highlighted some strategies to utilize if you're in this position:

  • Consider Alternatives First: Always explore other financial options before resorting to a payday loan. This might include asking for an extension on your bills, seeking assistance from friends or family or looking into a small personal loan with better terms.

  • Compare Rates: Before deciding on a payday loan, compare rates and terms from different lenders. This can help you find the most affordable option with the lowest interest rates and fees, ensuring you don't pay more than necessary.

  • Plan for Repayment: Have a clear repayment plan in place before taking out the loan. Consider how and when you'll have the funds to pay it back, ideally by the next payday, to avoid falling into a debt cycle.

If you're considering a payday loan, the above tips can help mitigate some of the associated risks.

Pawnshop Loans

A pawnshop loan is a type of secured loan where borrowers use an item of value as collateral to receive a short-term loan. These loans are popular for those who need quick cash and may not have access to traditional banking services or prefer not to undergo a credit check.

To obtain a pawnshop loan, borrowers bring a valuable item — such as jewelry, electronics or tools — to the pawnshop. The pawnbroker assesses the item's value and offers a loan amount based on a percentage of the item's appraised worth. The process is quick, with no need for a credit check, income verification or extensive paperwork, making it accessible to many.

Borrowers typically have a set period (usually between 30 and 90 days) to repay the loan, including interest and fees, to reclaim their collateral. If the loan is not repaid within the agreed-upon timeframe, the pawnshop has the right to sell the item to recover the loan amount.

What Are the Risks?

Pawnshop loans might seem like a straightforward solution for quick cash, but they carry significant risks that can outweigh their immediate benefits. Be aware of these drawbacks before using your valuable items as collateral for this type of loan.

  • High-Interest Rates and Fees: Pawnshop loans often come with high interest rates and additional fees that can amount to as much as 120% APR. These costs can make borrowing a small amount of money expensive, significantly increasing the total repayment amount.

  • Risk of Losing Valuable Items: If you're unable to repay the loan within the agreed period, the pawnshop has the right to sell your item. This means you could lose possessions that are financially or sentimentally valuable.

  • Low Loan Value: The amount you can borrow is usually much less than the actual value of the item you pawn. This means you receive only a fraction of your item's worth in cash, which might not be sufficient for your needs.

How to Use Pawnshop Loans Wisely

While pawnshop loans come with their set of challenges, there are situations where they might be the only option available. If you decide to use a pawnshop loan, you can try to minimize risks and financial strain.

  • Assess the Value of Your Item: Before pawning, research or have an understanding of your item's value. This knowledge can help you negotiate a better loan amount and ensure you are not accepting an unfairly low sum.

  • Check the Credentials: Choose a pawnshop registered with the National Pawnbrokers Association to ensure its legitimacy. You can also check their profile on the Better Business Bureau to see whether other consumers filed complaints against them.

  • Understand the Terms Completely: Make sure you fully understand the loan's interest rate, fees and repayment schedule before agreeing. Knowing the total cost of the loan helps you plan for repayment and avoid unexpected expenses.

We recommend considering these strategies and available alternatives before using a pawnshop loan for your funds.

Title Loans

A title loan is a type of secured loan where borrowers use their vehicle as collateral to cover emergency costs such as medical bills, home repairs or unexpected expenses. People opt for title loans because they can provide fast access to cash, usually without a credit check, making them appealing to those with less-than-stellar credit histories.

With a title loan, lenders typically offer a loan amount based on a percentage of the vehicle’s value, often ranging from 25% to 50%. The process involves handing over the vehicle's title to the lender in exchange for the loan.

To qualify, borrowers must present their vehicle, the clear title, government-issued identification and sometimes proof of income to demonstrate the ability to repay the loan. The loan term is usually short, about 30 days, and if the borrower cannot repay within this period, they may face the risk of vehicle repossession.

What Are the Risks?

Opting for a title loan during financial emergencies might offer immediate relief, but it's important to be aware of the risks involved. These include:

  • High-Interest Rates: Title loans often carry exorbitantly high APRs — up to about 300% — making it difficult for borrowers to pay off the loan. The compounded interest can quickly grow beyond the original loan amount, creating a debt trap for the unwary.

  • Risk of Repossession: If you fail to repay the loan on time, the lender has the right to repossess your vehicle. Losing your car can significantly impact your ability to work, further exacerbating financial troubles.

  • Short Repayment Terms: Title loans typically have short repayment periods, usually 15 to 30 days. This short time frame can be challenging for borrowers to manage, often leading to rollovers that increase the total debt owed.

How to Use Title Loans Wisely

Navigating the complexities of a title loan requires careful consideration and strategic planning. When a title loan is the only financial option, it's best to approach it cautiously.

  • Explore All Other Options: Exhaust all other financial avenues before resorting to a title loan. This may include personal savings, help from family or friends, or other less risky loan options that won't jeopardize your assets.

  • Keep Up with Payments: Make payments on time to avoid late fees and the potential for repossession. If you anticipate difficulty meeting a payment, immediately communicate with the lender to discuss possible solutions.

  • Avoid Rollovers: If you're unable to repay the loan when it's due, lenders may offer to roll over the loan into a new one, but this comes with additional fees and interest. To avoid this costly cycle, strive to repay the loan by the original due date.

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Title loan terms can be complex. Be aware of the specific interest rates, how interest accrues daily and any administrative or late fees which can drive up the total repayment amount over time. Know the exact due date of the loan and requirements for repayment in full or options for rollovers, and be sure to carefully read the entire loan agreement before signing. — Alvin Yam, CFP®

Smart Borrowing Strategies to Consider

Adopting smart borrowing strategies when considering a personal loan empowers you to make informed decisions that align with your financial goals and circumstances. We highlight some different approaches below:

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    Do Your Research

    Understanding the landscape of personal loans is the first step toward making an informed borrowing decision. This involves familiarizing yourself with the types of loans available, including those to be wary of, such as payday loans, title loans and pawnshop loans, which can carry high-interest rates and unfavorable terms.

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    Shop Around for the Best Offer

    Don’t settle for the first loan offer you come across. Take the time to compare offers from multiple lenders, including banks, credit unions and online lenders. Look at interest rates, fees, loan terms and additional charges to find the best deal that suits your needs and financial situation.

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    Use Online Calculators and Tools

    Numerous online calculators and tools can help you understand the costs associated with different loan options. These resources can simulate your potential monthly payments, total interest paid and the cost of the loan over time, helping you gauge its affordability and impact on your finances.

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    Read the Fine Print

    Carefully read the terms and conditions before signing any loan agreement. Pay special attention to the interest rate, repayment schedule, fees (both upfront and hidden) and any penalties for late or missed payments. Understanding these details can prevent surprises down the line and ensure you're aware of your obligations.

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    Seek Financial Counseling

    If you’re unsure about the best borrowing option for your situation, consider seeking advice from a financial counselor. A professional can offer personalized guidance, help you weigh the pros and cons of different loan types and develop a strategy that aligns with your financial goals and capabilities.

Utilizing these tips can help you secure favorable terms, minimize costs and avoid potential financial pitfalls with your personal loan.

Alternatives to Personal Loans

Exploring all available options before taking out a personal loan is essential for making informed financial decisions. Alternatives to personal loans can offer more favorable terms, lower interest rates or more flexible repayment schedules, potentially saving you money and aligning better with your financial situation and goals. Here are some noteworthy alternatives:

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    0% APR Credit Card

    A 0% APR credit card offers an interest-free period, typically 12 to 18 months, making it a cost-effective option for managing short-term expenses or consolidating debt. This can be particularly advantageous if you plan to pay off the borrowed amount before the promotional period ends, as it allows you to avoid the high-interest rates associated with some personal loans.

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    Home Equity Loan

    Leveraging the equity in your home can be a smart alternative to a personal loan, especially for significant expenses like home renovations or consolidating high-interest debt. Home equity loans typically offer lower interest rates than unsecured personal loans because your home serves as collateral, reducing the lender's risk.

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    Home Equity Line of Credit

    Similar to a home equity loan, a home equity line of credit (HELOC) provides access to funds based on the equity in your home but functions more like a credit card, offering a revolving line of credit. This flexibility makes it an attractive option for ongoing projects or expenses, allowing you to borrow as needed and potentially at a lower interest rate compared to personal loans.

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    401(k) Loan

    Borrowing from your 401(k) can be another alternative, especially if other options are not viable. This approach involves borrowing against your retirement savings but has the advantage of paying the interest back to yourself. If you leave your job for any reason before repaying the loan, it becomes due in full immediately. Failing to repay results in the outstanding amount being considered an early withdrawal, which is subject to income taxes on the amount withdrawn plus a 10% penalty if you’re under age 59 ½.

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For home equity loans and home equity lines of credit, know that if you default, the lender can initiate foreclosure proceedings and force the sale of your house to recoup their costs. This could damage your credit and even cause you to lose your home. Foreclosure is a lengthy process, so you may still be responsible for mortgage payments during this period. Consider your ability to make payments before tapping into home equity. — Alvin Yam, CFP®

FAQ About Personal Loan Types to Avoid

With the number of personal loan types available, it’s wise to know which ones to avoid. We compiled a list of frequently asked questions to help you make informed decisions.

What type of personal loan doesn’t require collateral?
What are the common risks involved in personal loans?
How do I get a personal loan with a low credit score?
What is the average interest rate on a personal loan?
Are personal loans bad?
How can a personal loan help build credit?
Is a personal loan an installment or revolving loan?

About Christopher Boston

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Christopher (Croix) Boston was the Head of Loans content at MoneyGeek, with over five years of experience researching higher education, mortgage and personal loans.

Boston has a bachelor's degree from the Seattle Pacific University. They pride themselves in using their skills and experience to create quality content that helps people save and spend efficiently.

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The content on this page is accurate as of the posting/last updated date; however, some of the rates mentioned may have changed. We recommend visiting the lender's website for the most up-to-date information available.

Editorial Disclosure: Opinions, reviews, analyses and recommendations are the author’s alone and have not been reviewed, endorsed or approved by any bank, lender or other entity. Learn more about our editorial policies and expert editorial team.