Questions & Answers

The Small-Dollar, Personal Installment Loan

1. Why are small-dollar, personal installment loans considered “disciplined and responsible,” so that even the military approves of them?

The process of providing a personal consumer installment loan is a time-tested interactive transaction. It involves a one-on-one opportunity for the consumer to discuss their needs and budget constraints with the loan manager. Incomes are verified, budgets reviewed and affordable repayment terms are worked out to assure success and credit repayment.

The United States Military watches over the financial obligations of their personnel and families, and continue to support loans that feature the disciplined and responsible traits of the small-dollar, personal installment loan. These loans are simple and easy to understand, with fixed rates and a set loan agreement, with realistic payment expectations set after budget review at the origination of the loan.

2. What does APR mean and how does that differ from interest rate?

The intended function of the APR (Annual Percentage Rate) is to ensure that all lenders utilize the same methodology when calculating the estimated annualized costs of a loan. APR is not the interest rate charged on the loan. While APR is very helpful and is used to compare different loan options, APR can also be confusing. You must compare all the costs, fees, and repayment terms to determine what is best for your situation and whether the loan is actually a good deal or not.

The APR will tell you what the “annual” cost of a loan is as a percentage, but it will not tell you what the total cost in dollars will eventually be. How much you pay in interest and fees—in actual dollars—is determined by the terms of the loan. This includes any charges (such as late fees, over the limit fees, etc.) that you might end up paying.

Click Here To Enlarge

3. Aren’t small-dollar, personal installment loans “high cost,” because of the higher APR?

The affordability of a loan, especially a small dollar loan, is not based on its interest rate or APR, but instead on its monthly payment and the borrower’s budget. For example, the difference between a 12% interest rate and a 36% interest rate, when borrowing $500 for six months on a traditional installment loan, is just $6 a month. And if we add a $25 loan fee to our loan example, that $6 a month is the difference between a 29.27% APR and a 54% APR. The actual monthly payment in our example, with the loan fee, is $90.59 for the 12% loan and $96.91 for the 36% loan.

So, when we do the math, we see that although the difference in APR looks huge, and the interest rates appear significantly different, both are affordable as the actual monthly payment of the loan to the borrower is nearly the same.

The difference of twenty cents a day is not “high cost” and ensuring access to this credit can make a big difference in someone’s life when they need a small dollar loan that is safe and affordable, which also offers a disciplined repayment schedule.

4. Don’t these types of loans create financial distress for families?

As Elizabeth Warren, leader of the Consumer Protection Bureau has stated, the main culprits and most dangerous features of unsafe credit are “complexity” and “changing terms.” The hallmark traits of the small-dollar, personal installment loan are the very features Warren indicates we should expect in responsible credit: 1. simplicity; 2. fixed rates; 3. set loan agreement; 4. realistic payment expectations and budget review at the origination of the loan.

2:42 Minute Video

Personal Loan Story – I Just Wanted A Loan With Dignity

5. Aren’t the higher rates meant to cover the losses for bad loans?

Losses, while a part of any lending business, are not the main reason that small-dollar installment loans have a higher rate. These personal loans often have a higher rate because of the cost of giving “high-touch” installment features. The cost reflects the cost of running a finance office itself—including the staff, the location, and everything it takes to make it work. Spending time talking with customers, reviewing budgets and determining their ability to repay a loan is an important part of the process that allows for the small-dollar installment loan to be given successfully.

The truth is, small-dollar, personal installment loans earn very little in actual interest dollars, so the higher rate is necessary to cover the cost of providing the service and being in business. It costs the same to underwrite and manage a $500 loan each month as it does a $5,000 loan—while the $5,000 will bring in much more in actual dollars. For example, a one year installment loan for $500 at 36%, only averages $8.56 a month in interest. A one year installment loan for $5,000 at 12%, averages $18.28 a month. And operating costs are paid in dollars, not APR.

6. Aren’t there better options to small-dollar installment loans, such as going to your family or friends?

The recent FDIC Small Loan Study meetings revealed that “family and friends” are clearly not an option for most people. Very few people want to place that burden on family or friends even if they were able to do so. In fact, the FDIC Small Loan study clearly demonstrated that the need for small-dollar loans was so significant that having access to safe credit is a critical priority to address. And learning to handle money and a budget successfully often begins with accepting personal responsibility for one’s needs and goals.

7. Don’t these types of loans place struggling families in an even worse bind?

Small-dollar personal installment loans can help individuals and families struggling with debt. When it comes to debt, the responsible and disciplined approach to underwriting and granting small-dollar installment credit, helps assure affordability and financial success. Budgets are reviewed. Information is verified. The disciplined approach to the small-dollar installment loan generally offers a path to financial control that most other credit options do not, even those with a lower APR. Financial distress is often avoided with the small-dollar installment loan because of its disciplined features. In fact, this type of installment loan is often the safest solution to meet the everyday credit needs for families from all walks of life.

8. Isn’t the need for these loans just a symptom of the economic problem of the last ten years, and won’t more available loans just make things worse?

The need for the small-dollar loan has never really changed. If we look back to when the installment loan was created, in the early 1900’s, we understand that this type of loan was historically created to combat the very same problems we are now facing. Unfortunately, despite its many benefits for individual credit needs, this responsible form of credit has been overshadowed by seemingly easier or cheaper products. It is important for consumers, legislators and community leaders to be aware of the safety and soundness of the small-dollar installment loan and its considerable impact on the overall health of our economy.

0:58 Minute Video