Don't let nontraditional loans lure you to debt

By Marianne Curphey

With rising household debt and a higher demand for credit and loans, many Brits are turning to nontraditional providers (that is, lenders besides banks and traditional credit cards) to get their money faster. But these forms of borrowing come with high interest and payments, which can add up quickly and leave you worse off than you started.

But there are ways to use these types of loans to your advantage, and to make sure you aren't trapped in a cycle of debt.

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Credit card borrowing and household debt are at their highest points since 2009. Banking industry group BBA says credit card borrowing is growing 5.5% annually, and The Money Charity says the average household debt (excluding mortgages) is £6,000.

It's no coincidence that these components are rising simultaneously. People often turn to credit when they struggle with their household budget, says Paul Crayston, spokesperson for debt charity National Debtline.

But in a study by the Debt Advisory Centre, nearly half of respondents said their debt came from nontraditional providers, such as store credit cards and doorstep loans, purchases bought on credit from catalogues or websites, 0% finance or "buy now, pay later" deals, and purchases paid in weekly or monthly instalments. And, of course, there are payday loans -- the fastest-growing form of unsecured credit -- which have recently come under fire for having exorbitant interest rates.

"The problem with non-traditional borrowing is that the interest you pay for it is frequently a lot higher than it is on traditional loans and credit cards," says Debt Advisory Centre spokesperson Ian Williams.

For example, store credit cards generally have much higher APR rates than traditional credit cards. And doorstep loans are not subject to credit checks, resulting in higher interest rates or repayment terms than a personal loan from the bank. With 0% finance or "buy now, pay later" deals, the interest still racks up, even if you don't have to pay it for the first few months. Then, when the introductory period is over, you are slammed with high interest or payments.

So why do consumers turn to such loans? Most likely because they are quicker to apply for and receive, says Crayston. Personal loans and credit cards are not approved as quickly -- though they can, and often do, offer lower interest rates.

"Because people often borrow small amounts at a time, they don't realize how fast these debts can mount up," says Williams. These short-term "fixes" turn into long-term debt, and you're in even deeper than you were before, which could lead you to turn to an even more expensive solution: payday loans.

Our advice? If you decide to borrow money in any way -- be it from your bank, a payday lender, a doorstep loan, a credit card or even your parents -- make sure there is a clear and sustainable repayment plan.

"Different credit forms will suit different people, depending on the specific circumstances [such as limit, and spending and repayment flexibility]," says Crayston. "However, all of these borrowing types can be extremely expensive if you are not able to repay in full and on time."

So how can you make a plan to do that? Here are a couple of tips:

1. Choose from two common repayment methods: the snowball method or the high-interest method. For the former, you organise your debts in ascending order, from smallest to largest. Pay the smallest first, and make minimum payments on the rest. This method allows for instant (or at least quick) gratification. For the high-interest method, pay off debts with the highest interest first, even if they are your largest. This method takes a little longer, but you save a little more money and you'll see your results in a big payoff at the end of the road.

2. If you can, consider transferring your debt to a 0% interest credit card rather than a nontraditional loan (whether you qualify will depend on the type of debt you have and your credit history). Don't take on more debt or use your new zero interest credit card for spending -- it should be just part of your debt repayment plan.

See related: Payday lenders face severe crackdowns, 5 payoff strategies for attacking your debt

Published: 30 April 2014