Understanding Subprime Lending

One of the keys to long-term financial security is being knowledgeable about the credit and lending market. Having a strong grip on your personal finances includes understanding the different types of loans available to you and knowing which ones can be beneficial and which ones should be avoided.

Subprime loans are generally given to consumers who have less-than-perfect credit histories. Some may be considered a form of predatory lending. This means they have excessive fees and interest rates attached to them or they are marketed to consumers in a deceptive manner.

Subprime/high interest lenders target people of all ages, income levels, ethnic groups, and occupations. What most of these consumers have in common are these credit problems:

In addition to consumers with blemished credit histories, subprime lenders also cater to people with no credit history. These individuals are more or less "invisible" to traditional lenders because there is no information in their credit files which lenders can use to determine their credit-worthiness.

Prime and Subprime Loans - What Is The Cost?

Qualifying for a prime loan rather than a subprime one can save you hundreds or even thousands of dollars over the life of your loan. Subprime rates can range from 1-2% to over 10% more than the cost of a traditional loan. The actual amount will vary based upon the lender's rates and your personal credit history.

While this may not seem like a huge difference in rates at first glance, when you calculate an actual loan in monthly payments and interest charges the results can be startling. As proof, the following table shows the calculations for a $100,000, 30-year fixed mortgage, both with prime and subprime interest rates:

Credit Score Interest Rate Monthly Payment Total Interest Paid
620-674 (Prime) 7.761 $717 $158182
561-619 (Subprime) 13.802 $1,169 $320,918

As you can see, over the life of the mortgage loan, the interest payments are nearly double for the subprime loan and the monthly payments are also substantially greater.

Avoiding Subprime Loans

If at all possible, you should try to avoid subprime/high interest loans. They are very expensive and can end up costing you hundreds (or thousands) of dollars more than a conventional loan, especially for long loans.

Here are some suggestions to help you avoid using subprime loans for your borrowing needs:

When you apply for new credit, whether it's a credit card, car loan, or even a mortgage, be cautious when making this important financial decision. Take time to investigate all your borrowing options and be aware of the "warning signs" of subprime lending. With a little time and effort on your part you can protect yourself from the risks of subprime borrowing. Knowing the facts about high interest loans can potentially save you thousands of dollars over time.

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