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Big purchase financing alternatives are popular but pricey

Kelly Dilworth

As more millennials buy new homes and furnish rented apartments, it seems as if there are more options than ever these days for financing those first sofas and new appliances – even if you don’t have a traditional credit score.

Credit card issuers, alternative lenders and other financial services providers have launched a  range of alternative financing tools in recent years that seem tailor-made for tech-savvy millennials.

Among the most ubiquitous: nontraditional installment plans designed to appeal to cautious consumers who want to know exactly how much it will cost them to finance a big purchase.

Here is a quick look at some of these new installment plans:

Affirm's installment loan plansAffirm

The alternative lender Affirm offers single-use installment plans for retail purchases that it claims are simpler and more transparent than traditional credit cards – a message that seems to appeal to younger borrowers. It’s also attracted consumers with thin to nonexistent credit files by offering an alternative credit scoring system that uses nontraditional data to size up potential borrowers.

Affirm dramatically expanded its reach when it recently announced that it was partnering with Apple Pay on a digital “card” shoppers can use to finance in-store purchases with a one-time installment loan. It also launched an app that consumers who don’t have Apple Pay can use at participating stores.

American Express's Pay It, Plan ItAmerican Express

American Express has added a payment option called “Plan It” that allows consumers to mark certain big-ticket purchases for installment loans that charge a monthly fee rather than interest.

In an interview with MarketWatch, American Express executive Kartik Mani admitted that the installment plan fees aren’t necessarily that much cheaper than a traditional APR.

Amazon

The giant online retailer has added special financing and an Equal Pay option on Amazon Rewards Visa and Amazon Prime Rewards Visa purchases.

For example, with the special financing, cardholders can get 0 percent interest for six months on Amazon.com purchases of $50 or more, for 12 months with purchases of $250 or more and 18 months for purchases of $500 or more.

With Amazon’s Equal Pay, after the months of 0 percent interest mentioned above, the standard variable purchase APR will apply and your purchase amount will be divided equally over the six, 12 or 18 months of billing cycles and added to your minimum payment.

Personal loan option for big purchases

Other financial startups, such as Bread, have also started offering installment loans that are marketed as “straightforward” alternatives to credit cards.

The pitches appear to be successful. According to a recent survey by TransUnion, personal loans are becoming increasingly popular with millennials.

But are these alternative lending options really a better choice for budget-minded shoppers?

It depends. If you’re willing to pay a premium for more certainty and peace of mind, then an installment loan with clear, transparent terms may be a good fit. But if you’re looking for the cheapest way to finance a big purchase, you’ll likely save more money picking a traditional credit card with a 0 percent financing option.

Installment plans are often expensive

Many of the nontraditional installment plans popping up these days charge substantial APRs that may be higher than what you’ll qualify for on a traditional card. For example, rates at Affirm start at a relatively low 10 percent, which is well below what the average credit card charges, but Affirm’s APRs can also run as high as 30 percent – way more than most credit cards charge.

Similarly, Bread charges rates between 0 and 29.99 percent.

Affirm uses a nontraditional scoring system that looks at a range of data points that aren’t necessarily included in your credit score. What this means: It may be worth trying to see if you can qualify for a low rate – even if you have a thin credit history.

Bread looks at traditional credit data, but for borrowers with excellent credit, you may able to get a pretty good deal.

The terms on the loans are stated clearly and the lenders do a good job of demonstrating just how much interest you’ll owe if you try to finance a certain amount. That’s helpful if you need to carry a balance, but want some precision and predictability with how much you’ll owe.

You may also be able to qualify for a personal loan with a low interest rate if you’re willing to share a range of personal details about yourself, such as your bank statements and education history. Alternative lenders, such as SoFi, Upstart and Earnest, offer relatively low rates to borrowers with thin credit files, but excellent credentials (such as a robust bank account balance or elite degree).

A 0 percent interest card is probably cheaper

However, if your credit is strong enough to qualify for a 0 percent APR credit card, you’ll almost certainly save more money overall going with the card.

For example, if you need about a year to pay off a purchase, you should have little trouble finding a credit card that gives you at least 12 to 15 months to carry a balance interest-free. Some cards give cardholders as long as 18 months to pay off a new balance before incurring any interest.

Check the CreditCards.com “Best 0 percent APR credit cards” page to see the cards with the longest interest-free intro offers.

Even if you can’t afford to pay off the total balance in full, you’ll likely still pay less interest since you’ll have a smaller amount of debt leftover.

That said, if you’re young, with a limited credit history, you might not qualify for the most generous interest-free offers. However, even a deferred interest credit card from a retailer may be a cheaper option for you – as long as you’re disciplined enough to repay the full balance before the card’s promotion expires.

Deferred interest loans – which are typically found at retailers, such as home goods stores and electronics shops – are known for being extremely risky. If you still owe money after the card’s promotional period expires, you’ll have to pay interest on the entire purchase amount, not just the remaining balance. These cards also tend to carry extremely high interest rates.

But they tend to be easier to qualify for than the best 0 APR credit cards, and if you’re certain you’ll be able to pay off the balance in full by the end of the promotion, they give you the chance to save a lot of money on interest.

When you’re shopping around for a financing option and deciding which kind of loan is right for you, do the math on how much each loan will cost you and think carefully about how much risk you can stomach.

Don’t overestimate your ability to aggressively pay down a loan before the end of a promotion, but don’t be afraid of 0 APR credit cards either. They can be genuinely good deals – as long as you can afford to pay them off.

See related: How to avoid big costs of deferred-interest financing deals, CFPB report: Deferred interest problems grow

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