Paying to borrow your own money – Bankrate

  • November 9, 2020
  • By: Greenpath Financial Wellness

Does it make sense to pay to borrow your own money? BankRate asked GreenPath’s Katie Bossler to weigh in.

 

You may be familiar with the term “passbook loan.” It is a type of loan that uses your savings account balance as collateral.

Each institution will have its own terms and conditions which vary widely.

Typically, you would continue earning interest on the portion of your savings that’s serving as collateral for the passbook loan.

The point to note is that until you repay the loan, you will not have access to those funds in your savings account. If loan payments are not made, the bank keeps the money from your savings account.

Why Get a Passbook Loan?

Why would anyone pay to borrow their own money? Why not just use the money in the savings account?

One reason is to establish credit, which will build out your history on a credit report.

If the goal is to improve your credit profile, it’s a good idea to check with your bank about whether it reports passbook loans to Experian, Equifax or TransUnion before proceeding.

It can be a psychological reason for some borrowers as well. Some just hate to see their savings account balance drop; others are worried that they’ll never again have the discipline to replenish the account. Instead of depleting their savings account, some people prefer to take a passbook loan.

GreenPath Weighs In

If borrowing money is the best way forward for a borrower, a passbook loan may be one of the best options. “The advantages of passbook loans include typically much lower interest rates compared to unsecured loans or credit cards and easy credit approval,” says Katie Bossler of GreenPath Financial Wellness, a nonprofit financial coaching organization. The interest rates on passbook loans may be as low as 2 percentage points above the APY of the savings account, meaning that if your savings account earns 1 percent, you may only have to pay 3 percent in interest on your loan.

Some Downsides

It is best to keep in mind several downsides with regard to passbook loans.

For starters,  it’s not always a good idea to rely on passbook loans for credit building, as not all lenders report passbook loans to credit bureaus. And if you make late payments on your passbook loan, your credit will take a hit.

Perhaps most critically, if an unexpected expense comes along that must be paid, you might find it necessary to default on the passbook loan. Even if you aren’t in danger of defaulting on the loan, your savings account, up to the balance of the loan, is collateral, and you have no access to those funds. So that makes it more difficult when planning for emergencies.

The Bottom Line

The best option is to proceed with caution.

Since the loan is secured by some or all of your savings balance, you will have limited access to your savings until the money you borrowed has been repaid.

In addition, you’ll be responsible for paying interest on your own money, and making late payments can hurt your credit score.

If you’re looking for the best way to borrow money, be sure to do plenty of research to do what is right for you.

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Katie Bossler
Katie Bossler has been with GreenPath since 2003.  She currently serves as a Quality Assurance Specialist and is based out of our Detroit office.  Katie passionately believes everyone can achieve financial wellness and is grateful to dedicate her work in helping GreenPath remix the American Dream so it works for everyone.