Types of loans to avoid

Payday loans

Maybe you need money for an emergency or you’re looking to reduce the cost of your current debt, but your poor credit score limits your ability to consolidate your existing debt or take out a new loan. Payday lenders will offer loans at the absolute highest allowable effective interest rate legally permitted by each province.

Borrowers are sometimes simply drawn in by the convenience of those loans without fully appreciating the cost, or without knowing about cheaper alternatives. To get a sense in dollars of approximately how much you would owe with a standard payday loan interest rate versus a credit card cash advance rate of 24% interest, let’s take a look at the following example:

Payday loan vs. credit card advance
Loan Term Cost
Payday Loan $300 14 Days $63
Credit Card Cash Advance $300 14 Days $8 ($3 Interest + $5 fees)

Vilified as cash advances often are, they’re nonetheless typically cheaper than a payday loan; the above example’s payday loan costs nearly 8x the cash advance. And some lenders will even look upon any payday loan as a reason not to approve you in the future. So even though you may have paid it back on time, the very fact that you have a payday loan in your credit history can count against you. Regardless of the marketing spin, avoid payday loans like the plague.

More: Should you get a payday loan?

High-interest LOCs

line of credit—or LOC—can be a very convenient borrowing method, as it allows you to borrow and repay funds, repeatedly, up to a predetermined limit. Though good banks and credit unions typically offer LOCs with affordable interest rates to borrowers with strong credit scores, some digital lenders aimed at the sub-prime borrower market are giving LOCs a bad name, with interest rates of 45% or more. Exactly how does that beat a regular credit card with a 19.99% interest rate and the same means of revolving credit? It doesn’t.

Some lenders of overpriced LOCs may disingenuously advertise that credit cards’ minimum payments don’t pay off much of the principal borrowed, leading to an inevitable cycle of debt and greater total borrowing costs than even a high-interest LOC.

You have a choice to pay more than your credit card’s minimum payment (and you always should). In fact, if you repaid the same dollar amount each month on a standard credit card (19.99% interest) as you did to a predatory LOC charging 45% interest, you’d pay off your credit card debt twice as fast. And if your debt is tied to one of many credit cards that offer low purchase interest rates, your repayment period will be even faster.

High-interest LOCs should always be a last resort. If you’re feeling overwhelmed with credit card debt, consider consolidating it onto one of the many balance transfer credit cards out there (check out ‘Cash Advance Hacks’ below), or call your credit card company and see if they can reduce your interest rate or adjust your repayment terms (yes, that’s a thing).

Alternatives to explore

Cash advance hacks

If you need access to cash quickly, consider taking out a credit card cash advance with low-interest rates. While a standard cash advance will typically charge a flat fee of around $5, plus interest of around 24% from the time of withdrawal, today there are some select credit cards that offer low-interest cash advances with rates between 10% to 13%.

Another way to pay even lower interest on cash is to invoke the little-known combination of first taking out a cash advance and then transferring that cash onto another credit card via a low-interest balance transfer offer. Some balance transfer cards even offer balance transfer promotions at 0% interest, albeit only for a promotional period between 6 to 12 months. Nonetheless, this might be the overall cheapest means of borrowing in Canada today.

More: Is it possible to borrow a lump sum of cash at 0%?

Low-interest loans

You’ll be hard-pressed to find same-day loans with interest rates comparable to low-interest cash advances and/or balance transfers, but reputable same-day lenders will still charge less than payday lenders, particularly to borrowers with good credit scores. And if you can afford to wait a little longer to receive funds (say, a few days rather than 24 hours), it’s probably worthwhile to take out a regular, low-interest personal loan rather than a same-day loan. Below are a few that we recommend:

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Chequing account overdraft

If you don’t have a credit card or if a low credit score makes it infeasible to take out a loan, consider going into overdraft with your chequing account. Some of Canada’s best chequing accounts offer overdraft protection for around $5 or so per month, with maximum overdraft amounts usually between $2,500 to $5,000 or so.

Though this is a viable solution when you’re in a pinch, keep in mind that the interest rates a chequing account charges on overdrawn funds are typically higher than those charged with loans and credit cards.

Dig into savings and investments

We’re all justifiably reluctant to liquidate investments, withdraw from our savings accounts, or dip into our emergency funds. But no matter how strong a given investment might be performing or how high a savings account’s interest rate might be, it’s likely earning at a slower pace than most forms of debt will accumulate. In other words: You’ll probably lose less money if you tap into your assets (savings, investments, home equity, etc.) than you will if you take out a loan, cash advance, or charge an expense to a credit card.

Just be aware that you may be charged fees for withdrawing from investments or savings accounts (particularly registered accounts), so crunch the numbers first to be absolutely certain that the combined amount you’ll lose in earned interest plus the fees you’ll pay are still less than the debt you’d rack up from other borrowing methods.

More: Do you have an emergency fund? It’s easier to set up than you think

Skip it

Lastly, if the cash you’re looking for is not for a true emergency, and you don’t have access to a credit card or overdraft protection, consider passing on the purchase completely. It’s a bummer if your car breaks down and you don’t immediately have the cash to get it fixed. Still, the inconvenience of taking public transit for a while pales compared to the long-term ramifications of spiralling debt.

That said, there are rare circumstances in which you do need money immediately — for example, your car breaks down, and, as an Uber driver, you absolutely must have wheels to earn a living. Then and only then might a payday loan or high-interest LOC be a reasonable borrowing method, but only after all other viable avenues have been exhausted.

Bottom line

Don’t take out payday loans or high-interest lines of credit, even if it seems like it may be a last resort after all other options have been exhausted. There are a few different options available if you need cash immediately and don’t have access to credit or other forms of borrowing. One option is to tap into your savings or investments, though this may not be ideal if you’re already facing financial difficulty.

Finally, you could skip the purchase altogether if it’s not absolutely necessary. Whatever option you choose, make sure you understand the terms and conditions before committing to anything. You need to be extra vigilant to ensure you don’t get fooled into these loan traps.

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