An August 2020 survey from U.S. News & World Report shows that Americans have a little work to do when it comes to understanding how credit scores and different types of loans work.
Respondents were asked if missing a loan payment would hurt your credit score if you were not in a hardship program.
Here is a breakdown of the results:
- 41% don’t know whether a missed payment hurts your score.
- Close to 11% say it wouldn’t hurt your score unless you missed more than one payment.
- Almost 4% say a missed payment would not hurt your score.
- Nearly 45% know that missing a payment would hurt your credit score.
Payment history is 35% of your FICO score. A missed payment will make your score plummet. And the higher the score, the bigger the drop. Keep your score as high as possible right now just in case you need an emergency loan. This means on-time payments and low utilization ratios on credit cards.
Respondents were also asked if they understood the way different types of loans work. The results showed that there are some knowledge gaps when it comes to the riskiest types of loans.
A Majority Don’t Know How Deferred-Interest Loans Work
Deferred-interest loans are popular with stores that sell expensive items, such as furniture, electronics or appliances. It usually involves using a store credit card or applying for in-store financing. If you need, for instance, a new refrigerator during the pandemic but don’t have the money to pay for it, you might be tempted to get a deferred-interest loan.
With most of these loans, if you still have a balance at the end of the 0% introductory period, you must pay retroactive interest based on the original amount. Yes, interest doesn’t just apply to your remaining balance.
Survey respondents were asked what would happen if they still had a balance when the intro rate on a deferred-interest loan ended. Only about 24% know that you’d owe backdated interest if you didn’t pay off your balance in full before the intro period ended.
Here are the other responses:
- About 57% say they don’t know what would happen.
- Nearly 16% say interest only applies to the unpaid balance.
- Almost 4% say the 0% introductory annual percentage rate would stay the same, which implies that the 0% APR is indefinite.
It’s essential to understand how different types of loans work, especially what I consider to be “tricky” loans, such as deferred-interest loans. It’s easy to fall into debt if you don’t understand the terms of your loan. And when it comes to payday loans, what you don’t know can really hurt you.
Is a Payday Loan a Good Idea?
A little less than 57% say a payday loan isn’t a smart move. That’s the good news.
Here’s the bad news: A solid 37% say they don’t know whether a payday loan is a bad idea. And about 3% think it is a good idea even if you have to renew it.
Before you decide that a payday loan is your only option, please reconsider. Payday loans are usually small, for example, less than $500. The idea is that you get this loan to help you make it to payday. On payday, theoretically, you’d pay back the loan.
The problem is that whatever cash flow situation prompted you to get a quick loan probably still exists. So, you take out another loan to repay the first loan. This cycle repeats itself over and over. The typical payday loan has an APR of around 400%. You can see how this can lead to a mountain of debt pretty quickly.
Before you turn to a payday loan, talk to your lenders and see if they can help you. Also consider talking to a credit counselor via the National Foundation for Credit Counseling if you’re in deep debt.
Why Credit Literacy Is Important During a Pandemic
There are several issues at play right now that make the credit-savvy individual more likely to survive a financial crisis. Let’s take a look at each one.
Unemployment Is High
The Department of Labor recently reported that the seasonally adjusted insured unemployment rate was 11% for the week ending July 25. While this is showing some improvement over the previous week, there’s still a long way to go to get everyone back to work.
A good credit score helps you survive a crisis because you have options to obtain funds. And yes, if you have very good credit, you can get a loan while unemployed.
The CARES Act Expired
The Coronavirus Aid, Relief and Economic Security Act, along with the extra $600 that had been added to weekly unemployment checks, has expired.
On Aug. 8, President Donald Trump signed an executive action to give Americans $400 per week in supplemental unemployment aid. This move is temporary, so the federal government still needs to agree to a compromise to continue portions of the act – and, hopefully, to ensure that Americans receive another $1,200 stimulus check, which was not part of the executive actions.
In the meantime, millions are experiencing a financial crisis without the enhanced unemployment check. If you decide you need a loan, be sure you understand the terms and compare rates to get the lowest APR possible.
Credit Is Tight
This means that the credit industry is limiting access to loans and to credit cards. In some cases, credit limits are being lowered or accounts are even being closed.
During this time of mass unemployment, you want your credit score as high as possible in case you need an emergency loan. Never miss a payment on your loan or on a credit card. Unless you have a great credit history, you might have trouble getting approved for a personal loan or a credit card during this time.
Getting a loan is never ideal, but we’re in tumultuous times. More than a few Americans will need a temporary bridge to make ends meet until they’re employed again.
