Q. We bought something on one of those no-interest-for-two-years advertisements with all intent of saving enough money to pay off the loan before the interest rate kicked in. Well, we forgot about it and now they sent us a notice that our $6,000 loan amount is now $10,233 and the interest rate is 26.99 percent, with a minimum monthly payment of $250 beginning late next month. We have a little over $6,000 in a Roth IRA my parents helped fund a few years ago, but theyd kill me if I took this out for anything other than a down payment for a home. Arent there laws prohibiting companies from charging these outrageous interest rates? We are sick to our stomachs about this and feel kind of paralyzed. Any guidance would be appreciated.
A. Yikes! There are usury laws, and each state has its own statute that dictates how much interest can be charged before it is considered usurious or unlawful. When an interest rate is so high that it unfairly enriches the lender and is considered unethical or immoral, the lender is called a usurer (or worse). In many states, different types of loans and even amounts are treated differently under the usury laws. Time payment contracts such as retail installment contracts and revolving accounts are sometimes not regarded as loans, and usury laws generally dont apply. Youd need to hire a lawyer in your state to determine if the usury laws apply to the type of interest free loan you have. If you are dealing with a company, they probably have their own legal team and have determined this is allowed and not subject to your states usury laws so you may want to save your money and skip the visit to a lawyer.
You need to take action now. If you dont pay the entire balance before the interest free period ends, you will be stuck owing $10,233 instead of $6,000. If that happens, it will take you nine and a half years to pay off the loan if you pay the minimum (which if you had started paying two years ago the loan balance would now be zero) costing you a total of $28,500. Can you borrow the money from anyone? There is probably a friend or relative who has $6,000 sitting in a low interest rate account that wouldnt mind taking the risk with you and earning a bit more on their money. There are some nonprofit organizations that will make small interest-free loans. Two that you may want to contact are the Hebrew Free Loan Society and the Jewish Free Loan Association. There are also peer-to-peer lending platforms you could approach. You will be prescreened for creditworthiness and will need a credit score at least in the mid-600s. The better your creditworthiness, the lower the interest rate assigned to your loan.
I can understand why your parents wouldnt be happy if you take a large distribution from your Roth IRA, but if you need to do so to pay off this loan, they will probably understand. If you contribute the $250 a month to your IRA, in two years you will have contributed $6,000. Contributions can be taken out without any tax consequences, and any growth will be subject to income tax and a 10 percent early withdrawal penalty.
Holly Nicholson is a certified financial planner in Raleigh. She cannot answer every question. Reach her at askholly.com or P.O. Box 97128, Raleigh, NC 27624