Beware The Lure Of Zero Percent Financing Deals

We’ve all seen them.  They’re in every Sunday newspaper and across numerous television commercials.  I’m talking about offers for zero percent financing.

You can buy everything from appliances to TVs to stereos without paying a dime in interest and usually it requires just opening up a store credit card.  Sounds like a reasonable enough idea if you can afford it (and that’s a big “if” we’ll discuss in a moment) but there can be some downside for going this route.  It’s important to be fully aware of all potential consequences of such a transaction before loading that new high definition TV into the back of your truck.

0% financing

First of all, let’s return back to this concept of affordability.  Zero percent financing deals tend to make things you currently may not have the cash for suddenly seem more affordable and that’s part of the appeal for retailers to offer them.  Consumers will convince themselves that even though they don’t have $1500 for that TV right now, they will in the next 18 months.  Therein lies the potential problem – make sure you’re going to have the money.  Stores wouldn’t offer these deals if they didn’t help them increase sales.

Second, consider what making such a purchase will do to your credit score.  It may seem innocent enough but flags start going up at the credit agencies when you open a new line of credit.  The simple act of opening a new credit line will adversely affect your credit score for about a year.  You’ll likely be utilizing the full credit line you’ve been approved for at the store to finance your purchase and that “maxed out” credit line will hit your credit score too.  If that weren’t enough, your utilization rate (total credit used divided by total credit available) will go up and that too will affect your credit score.  These considerations in total may not be deal breakers but it is something worth being aware of.

Finally, contemplate what happens if you don’t make every monthly payment.  Often times, the cardholder agreement will stipulate that you’ll get dinged with late penalties and interest charges for as much as the full purchase price of the item if you don’t keep your payments current.  Worse, the interest rates on store credit cards are usually quite high – often times 30% or more.  In the end, you could find yourself paying for the item you purchased as well as hundreds of extra dollars in fees.  All the more reason to make sure you can afford the item before you buy.

Keep in mind though that using a zero percent financing deal can make sense for some consumers.  Back when interest rates were higher, I knew people who would buy items on a zero percent financing deal, take the money they would have used to buy the item and put it in a bank account.  They’d essentially be earning interest on the store’s free credit.

The bottom line here though is to make sure you have the money to pay for the item you’re buying.  Free financing doesn’t make a new TV affordable.  It simply delays the amount you’ll need to pay either way.  There are consequences for every financial action we take.  Make sure a zero percent financing deal isn’t one you ultimately wish you’d never taken.

 

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Author Info

This post was written by David Dierking. David lives outside Milwaukee, Wisconsin and has been working in the financial services industry for over 13 years with a background in investments, accounting, and marketing. He earned his Chartered Financial Analyst designation from the CFA Institute in 2004 and was recently published in the Milwaukee Business Journal. You can also check him out at The Ultimate Fit Challenge

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