Poor Credit Loans Essentially a Tax on Being Broke

Being poor can be expensive, especially if the problem is compounded by a bad credit score. Should an unexpected expense arise, borrowers with a negative credit history will be unable to qualify for a traditional bank loan, arrange financing with a retailer or use a credit card to cover the expense. In many instances, there are no options for struggling Americans with bad credit other than poor credit loans. However, there are those who claim that poor credit lending practices are usurious and that poor credit loans are nothing more than a tax on being broke.

Are Poor Credit Loans Essential a Tax on Being Broke?

It is true that borrowers who take out poor credit loans will pay more in fees and interest than borrowers with excellent credit who borrow from a bank. Loans with poor credit are more expensive for a simple reason — the risk of default is greater. Bad credit normally results from late payments or non-payment of debt.

There may be extraneous circumstances; perhaps the family’s main breadwinner died or became seriously ill, a natural disaster could have destroyed the home or a company might have closed, resulting in unemployment. Regardless of the reason, however, traditional lenders are hesitant to loan money to those with impaired credit, especially after the financial crisis of 2008.

However, it is too simplistic to single out poor credit loans as a tax on being broke. Economically disadvantaged Americans are paying more for services and financial products than those with higher earnings. It is far more than poor credit lending practices that need to be addressed if the economic playing field is to be leveled.

Bad Credit Causes Multiple Problems

Typically, the less money someone earns, the greater the likelihood that he or she will have bad credit. Although many people assume that if someone has a negative credit history, it simply means that he or she will be unable to obtain a mortgage or receive the best interest rate on a credit card. At one time, this would not have been an unfair assumption.

However, in the modern world, many employers run credit checks on job candidates or employees, and a negative credit history can prevent a candidate from being hired or prevent a current employee from being promoted. Renting a home or apartment also becomes much more difficult, often requiring an extremely high deposit — if the landlord or property manager is willing to rent to someone with impaired credit at all.

Perhaps the most significant impact, however, is the difference that people with lower credit scores pay in interest compared to what those with excellent credit pay. The Simple Dollar posted an excellent illustration. Assume there are three people; one has excellent credit, one has fair credit and the third has poor credit.

Each borrower has the same debts — a mortgage, some credit card debt and a car loan. The lifetime cost of the debts for the person with excellent credit would be $159,543. The person with fair credit would pay $208,578, but the individual with poor credit would pay $329,908. Assuming that the person with poor credit managed to qualify, he or she would pay more than twice as much in interest as the individual with excellent credit.

The Poor Also Tend to Be Underbanked

A paper appearing in the Emory Law Journal claims that there are two separate banking systems in the United States — one for the poor and one for the rich. This is a fairly recent development. At one time, savings and loan institutions, Morris Banks and credit unions were focused specifically on helping those with lower incomes. These institutions have been largely replaced by payday lenders, check cashers and lenders providing poor credit loans online.

There are several reasons that the poor are often underbanked. One reason is that banks seek the highest possible profit from all operations. A wealthy individual’s checking account, for example, will have a larger balance than a poor person’s; the bank can use these funds to float overnight loans that earn interest for the bank. People who need to rely on loans with poor credit may have more overdrafts on their checking accounts, requiring additional paperwork for the bank that may not be offset by the fees that the bank charges.

Geography can also play a role in the banking problems of the poor. There are many neighborhoods in which banks simply will not place a branch, leaving residents without easy access to a traditional financial institution. The practice of “redlining” also means that many banks will not make loans in certain neighborhoods.

Furthermore, to open a bank account, most institutions require a great deal of documentation. Documentation typically involves providing a Social Security number, driver’s license and at least one utility bill. Many poor people do not have all of these. For example, the utility bills may be in a relative’s name or the consumer might not possess a driver’s license.

The Banking System Forces Low Earners to Rely on Poor Credit Loans

Loans with poor credit are difficult or impossible to obtain from traditional sources. Ironically, although the poor credit lending practices may help alleviate a temporary financial crisis, it will do little or nothing to improve the borrower’s credit rating. Poor credit loans are not typically reported to the credit bureaus, so borrowers are unable to use their repayment histories to improve their credit scores so that they can qualify for traditional banking services.

Without access to a traditional bank, low-income Americans are forced to rely on the so-called fringe banking services. They purchase money orders to pay their utility bills instead of writing a check; the fees on money orders are typically much more than a check would cost. They pawn possessions to make it until the next payday, paying exorbitant fees and losing the use of the possession until they can redeem it. Alternatively, they turn to poor credit loans to handle a financial emergency. All of these options result in expenses that the poor can ill afford.

However, unless and until the system is reformed, low-income Americans need fringe banking services, including poor credit loans. Access to credit is an essential part of improving the quality of life. Instead of decrying poor credit lending practices, perhaps critics should be looking for ways to resolve the issues that make poor credit loans the only viable solution to the financial woes that many working-class Americans face.

Where to Learn More About Poor Credit Lending

The overall issues related to poor credit lending are not easily resolved. Payday loans and other types of loans with poor credit can help you weather a financial setback. However, it would be wise to learn all that you can about your various options before making a decision. A visit to the Personal Money Store will allow you to access many informative articles on loans with poor credit and other matters related to personal finances.

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