Personal Loans and Pawn Shop Loans: Understand the Difference

If you've got a pawn shop habit, you need to learn about personal loans. It's easy to get sucked in -- your car won't start, your credit cards are maxed and you're about two weeks away from payday. It's an emergency! You've got a class ring from college and a wedding ring from your ex-wife, so off to the pawn shop you go. Stop! There are a few things to consider before making a drastic financial decision.

How Pawn Shops Work

Pawn shops can offer fast cash, but it comes with stratospheric finance charges. If you go to a pawn shop, they'll typically offer you two options. You can accept an offer for your personal property and sell it outright, or you can take a short term loan using your personal property as collateral. Taking a pawn shop loan allows you to repay the loan and regain possession of your personal items when the loan is paid off. It can be difficult to repay a pawn shop loan if you're already broke (and you probably are, since people typically don't take out pawn shop loans unless they need money right away and can't get it anywhere else.)

Consider shopping for personal loans before taking out a pawn shop loan. It takes less time than a trip to the pawn shop, and can save you big bucks.

Pawn Shop Finance Charges: Beyond Sky-High

The Federal Trade Commission (FTC) cautions consumers to be aware of the high cost of short-term loans such as pawn shop loans and pay day loans, which typically involve an initial set up fee and a very high interest rate for the term of the loan. Short-term lenders are required to show you the amount of your loan, the term of the loan and the finance charges you'll pay. Read these figures carefully as they tell you exactly how much your loan will cost.

Interest rates for pawn shop loans typically run in the triple digits; and will go higher than the original rate if you "roll over" or renew your short term loan (on average, borrowers renew these loans eight times and incur a new set of fees each time). The FTC says that borrowing $100 with finance charges of $15 for a term of two weeks and rolling it over twice would cost $45. In addition, there's about $1.07 in daily interest -- total charges equal an annual interest rate of 391 percent, or $390.55 annually to borrow $100!

Personal Loan Bargains

In contrast with the above example, imagine taking a $100 personal loan with an annual interest rate of 10 percent for one year. You would make 12 monthly payments of approximately $10.46 and pay a total of $125.57. No collateral is required; your jewelry is safe! Personal loans may require a one-time set up fee, which is included in the lender's annual percentage rate (APR) disclosure. The APR includes any loan fees plus the interest charged. APR allows you to compare personal loan offers from competing providers. For example, if one $100 loan has a set up fee of $0 and a rate of 15 percent, and another has a set up fee of $15 but an 8.25 percent interest rate, which is the better deal? Their APRs are 15 percent and 35.41 percent, so the first loan with the higher rate is the better deal.

Things to Know:

  • Federal law requires lenders to provide a statement for your review before you sign loan agreements. This statement includes the loan amount and the cost of the loan expressed in a dollar amount and as a percentage of the loan amount (APR). This requirement applies to both pawn shop and personal loans.
  • Pawn shop loans don't require a credit check, but the cost of a personal loan will be based on your credit score. You can check yours here for free.
  • Personal finance experts encourage consumers to consider risks involved in providing collateral for a loan. What if you use a family heirloom and the pawn shop burns down, gets robbed or is leveled by a tornado? More likely, something could happen to keep you from repaying the loan, and you would lose your collateral. Maybe an outside chance, but the risk is too high if your special possession can't be replaced.
  • Request several quotes for personal loans to find your best option.

Ask questions and make note of answers if you are unsure about any aspect of a loan transaction. Beware of a lender that brushes off your concerns or fails to answer your questions to your satisfaction.

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