What are short-term loans?
To put it in a nutshell, these loans are given with little to no collateral, to be repaid in a year or less (could be weeks or months too). Most need proof of employment with a certain monthly salary, bank account, and driver’s license or another form of ID. Since there is often no collateral, with credit requirements being lower, the interest rate is extremely high and other fees and penalties could be included too.
What are the different types of short-term loans?
Payday loans
One of the most common short-term loans is payday loan, which provides cash for borrowers waiting for their next paycheck. Generally, the only criterion is a pay stub as proof that you have a job. These loans often demand quick payback, as soon as the next paycheck clears, and could come with enormous APRs and fees.
Car title loans
Another type of short-term lending is a car title loan where the borrower uses their vehicle as collateral as long as it is owned outright. These loans usually just pay out a part of the car’s market value (mostly up to half its worth), and can have APRs of 300% and repayment windows as short as 30 days!
Bank overdrafts
This is when customers get temporary coverage from their bank at a high interest rate when their accounts don’t have the necessary funds. Another form of such loans are installment loans, where borrowers make regular and frequent payments over a certain period of time till the principal and interest are paid off in full.
Do short-term loans affect your credit score?
The answer isn’t a simple yes or no. Short-term loans affect credit score, just like all other loans. Any time you borrow money and pay it back as per the loan’s terms, your credit score will get a boost. However, if you don’t pay the loan back, your credit score consequently suffers.
The risk of a short-term loan affecting your credit score is in the loan’s terms – most require daily or monthly payments, and come with higher interest rates than longer term loans. And even if you can’t pay, due to being tight on cash flow, or you haven’t got your incoming invoices paid yet, it still lands you in a tight spot. Not paying loan bills on time can be disastrous for your credit score.
To sum up, short-term loans might affect your credit score both positively and negatively. Apart from the score plummeting if you can’t pay up on time, whenever you apply for loans, it often initiates a hard inquiry on your credit, which causes the credit score to take a slight hit. Make sure you understand exactly what you are getting into, before applying for a short-term loan.
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