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often less than $1000, the borrower gives the lender a check for the full amount of the loan plus a large finance fee. The lender holds on the the check. On the borrower’s next payday, they must repay the loan or the check is cashed. If there is not enough money in the account to cover the check, additional fees apply. When cash is tight, some people turn to payday loans to make ends meet. Although these loans offer quick access to cash, they can carry an average annual interest rate of over 300 percent . For many people, these loans are debt traps from which it can take years to escape. Crowdlending. Crowdlending has recently cropped up online and quickly gone mainstream. Crowdlending is also referred to as peer-to-peer lending or P2P Lending . It is an alternative to traditional bank lending. Online crowdlending platforms connect people who need money with people who have money to lend. Some popular crowdlending sites are the Lending Club and Prosper. IV. The Dangers of Consumer Credit There are plenty of historical and modern day benefits of credit, but plenty of downsides too: Consumer Debt. For every credit there is debt. Every time you use a credit card or take out a loan, you are burdening yourself with debt. You are spending money you haven’t even earned yet! You are committing future earnings to repay that debt . That means those funds will no longer be available to make investments to build wealth, buy other things you need, or pay bills. This can create long-term problems that slow progress toward financial goals and stability. Debt incurred for the purpose of acquiring consumer goods, particularly credit card debt, is called consumer debt . Overspending. Another downside of consumer credit is overspending. When credit is easily available, many people are tempted to spend it on things they don’t really need. In fact, a 2009 Census report calculated that Americans spend $1.33 for every dollar they earn and that 69% of U.S. households are in serious debt . Many people simply can’t manage credit responsibly — they borrow too much, spend recklessly, miss payments, and go broke. If you are a person who gives in to temptation and can’t resist the urge to spend, be acutely aware of your weakness. Don’t apply for a credit card, or if you have one, pay it off in full every month, and don’t carry it to the mall. (You'll learn more about credit cards in a later chapter.) Be aware that the ease of online shopping fuels the urge to overspend . Experts advise impulse buyers to delay a purchase for 24 hours . Often, the temptation subsides. The Cost. Another downside of credit is the cost. It isn’t free. In fact, credit can be very expensive . A borrower has to repay everything they borrow, plus interest , which is a fee charged for the privilege of using the money. The size of the fee is determined by the interest rate , which is expressed as a percentage of the loan. For example, if you borrowed $100 at a 5% interest rate, you would have to pay back $105. But the cost of borrowing doesn’t stop there! Many loans also come with other fees in addition to interest. Sometimes people look only at the interest rate to determine the cost of credit. However, this is a mistake. The true cost of the loan is revealed by the Annual Percentage Rate (APR) because it includes interest, plus the fees and other charges. Reflect on Learning Have you ever shopped for something that has a price tag of $X, but by the time you go to pay for it, “extras” have driven the price up, far over the price tag? Credit is like that. The interest rate is only the PRODUCT PREVIEW
THE 21st CENTURY STUDENT’S GUIDE TO FINANCIAL LITERACY 119
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