On paper, short-term loans seem like the perfect problem solver to a lot of common problems, like an emergency fund or particularly long salary month, but are they really right for you?
There are a lot of pros and cons to short-term loans, and you will have to weigh them all up to ensure that it is what you think is best for your current situation. That’s where we come in. In this guide we’ll show you the pros and cons of taking out a short-term loan as well as alternatives if you think it doesn’t fit your situation.
What are short-term loans?
Short-term loans are a quick little injection of money, useful for a rainy day. Generally, they are personal loans borrowed over a matter of months or a few years. They are also unsecured, meaning you won’t need any backup assets to qualify for them. They have high interest rates and are arranged to be paid off over a shorter period of time.
They come in two main categories: payday loans and installment loans. Payday loans are typically taken out to last you during a trying month and will be paid off once your salary comes in as a lump sum, whereas installment loans are typically for more money and the repayments are spread across a longer period of time.
In the last decade they have become very popular, rising in 2010 from 11 million US residents taking them out, doubling to 21 million in 2020. These customers range in demographic and circumstance.
What are the benefits?
The thing about short-term loans is that it is a catch-all term for any type of personal loan with a shorter repayment period, which means within that vague description you are likely to find something that fits your needs.
Payday loans have somewhat gone out of favor, since their high interest rates cause some people to miss their payments, resulting in a hit to their credit score. However, it is a useful small injection of money if it’s been a long month, and other short-term loans don’t carry such harsh consequences.
You can find short-term personal loans with fairer interest rates, longer and repayment times, no fees for early payoff, larger values, etc. Short-term loans can be helpful in getting a project off the ground, making sudden repairs, dealing with an unexpected bill, etc.
Plus, short-term loans take a lot less paperwork. They will come in quickly, with a simpler process, so that you don’t have to wait around to deal with that added expense.
Adding to the nature of short-term loans being a lot easier to get is the fact that it doesn’t take much to qualify for one. They have high approval ratings that allow for bad credit history.
What are the consequences?
The main problem with short-term loans, as mentioned above, is that they often come with high interest rates. Payday loans are particularly famous for this, but they aren’t the only short-term loans that suffer from high interest rates.
It can be easy to get yourself in a hole that way. If you are repaying a short-term loan with high interest rate, you might find that your balance isn’t going down with the minimum monthly repayments. If you can’t find a loan with a reasonable amount of interest, your best move is to secure one that at least as an early repayment discount.
The very nature of short-term loans means that you will also have to make repayments more frequently. You might need to make weekly, or even daily repayments in order to get it all paid off before your term is up.
What can you do to avoid it?
There are a lot of options out there beyond taking out a short-term loan, and a lot of them don’t come with the harsh consequences that come with short-term loans either.
For example, you can borrow from your 401k. Your 401k is the portion of your retirement fund that is sponsored by your employer, and it is available to dip into if you need to. You can’t outright withdraw without fees or interest, but you can take out a loan.
The main perk here is that you don’t need to worry about any credit requirements, but due to this they won’t build your credit. You can borrow as much as $50,000 or 50% of your account balance and pay it back over typically five years. But you can ask to pay it off sooner and if you are buying a home, you can repay it up to 25 years in some plans.
If you’re looking for something a lot quicker, another option is to get an overdraft on your bank account. There are fees, but they’re a lot smaller than a short-term loan and they are flexible so you only need to borrow what you need and repay it when you can. Plus, there are usually no fees if you are paying it off earlier than agreed and it won’t affect your credit score as long as you repay it on time.
If you need something a little more substantial, you can look into a guarantor loan. You will be able to borrow for longer and means someone will be vouching for you but also taking responsibility if you are missing payments.
Conclusion
There are a lot of options available to you if you find yourself in need of a quick injection of money, but short-term loans come with a lot of pressure. They are a good option if you know for sure that your next salary can cover it, but sometimes a long term loan is easier to repay, with lower interest rates.