Loan Deal Could Become Costly

Expenses can easily outpace income during the holidays, so the lure from your credit card company this time of year can be especially tempting: Cash this check, and the money is yours for a super-low interest rate.

Judy Foster found out that the deal was indeed too good to be true.

Foster, a former market researcher, recently received checks in the mail from her credit card company. The offer: She could cash the checks for up to $10,000 and pay 1.99% interest on the money for six months.

Foster, looking to celebrate her recent retirement, took out the $10,000 loan to finance a vacation. But later, when the Torrance resident mailed her credit card company an $8,000 check to pay off her charge card, she found that the money was used to pay off the 1.99% loan -- and not the credit card, which charges her 19.9% interest.

To make matters worse, she said, the offer letter that came with the checks gave no clue that would happen.

“I’m not a stupe. I read every word of the letter, which said that they were making this offer because I was such a good client,” she said.

Foster said she called the credit card company to find out why she couldn’t apply the money toward the higher-interest charge card, and to ask about a “transaction fee” she was assessed.

“They kept saying, ‘Per your credit card agreement ... per your credit card agreement.’ I finally asked them, ‘Are you talking about the slip of paper that fell out of the envelope 13 years ago when I got this card?’ ” she said.

The answer was yes. Or if the terms were not disclosed in the initial agreement for the card, they probably were disclosed in a subsequent mailing, consumer credit experts said.

What the credit card company did may have been misleading, but it’s not illegal, said Ken McEldowney, executive director of Consumer Action, a San Francisco group that does annual credit card surveys.

McEldowney said Foster almost certainly received a disclosure detailing the terms of the deal but probably didn’t recognize it because it was separated from the loan pitch. In fact, she had probably received several updates to the disclosure agreement she received 13 years ago, he said, through statement stuffers that many consumers simply throw away.

“Unfortunately, this is standard industry practice,” said Greg McBride, financial analyst at Bankrate Inc., a credit-tracking firm based in North Palm Beach, Fla., that operates a financial services website.

Millions of blank checks like the one Foster received are mailed out each year, he noted. What they represent are cash advance loans, which are covered by that same agreement that governs charges on a credit card. Despite attractive teaser rates, like the 1.99% offered to Foster, consumers must be very careful about how they handle other charges or the low rate can quickly evaporate.

Why? The devil is in the details. When consumers take out a cash advance loan, the loan amount is shown on their credit card statements, but it’s separated from the consumer’s day-to-day charge balance. The reason: The interest rate and some of the terms related to charges are different from the rates and terms for a cash advance.

There are three important details that cash advance borrowers must understand, McBride said. The low rates are usually teasers that expire at a set time. Leave a balance outstanding a day longer and the rate rises, sometimes dramatically.

There’s also a charge -- typically called a transfer or transaction fee -- that can amount to 2% to 5% of the loan amount, McEldowney said. Transaction fees are usually capped at $50 or $75, McBride said, so they’re not deal killers for people borrowing large sums. But they can significantly boost the rate for borrowing relatively small amounts for short periods.

Foster, for example, paid a $50 transaction fee on her $10,000 cash advance loan. The fee boosted the annual cost of the 1.99% loan by half of 1 percentage point -- still a bargain.

If, on the other hand, she’d borrowed $1,000 to finance holiday bills and had paid it off in just three months, that $50 fee would represent an interest rate of 20% on an annual basis.

But the most complicated trap -- and the one most onerous to Foster -- relates to how payments are applied once a cash advance loan has been taken out.

Foster wanted to direct the credit card company to pay off her charge balance, which accrued interest at a 19.9% rate, and leave the low-rate cash advance loan outstanding. But the terms of Foster’s credit card agreement stipulated that any payments she made would pay off the lowest-rate balance first.

So, when Foster sent in an $8,000 payment to pay off the charge balance, the money was instead used to pay down her $10,000 cash advance loan. By the end of that month, she had a $2,000 loan balance at 1.99%, and still had $8,000 in old charges on her card, on which she was paying interest at 19.9% rate.

“Instead of paying $8 in interest, as I expected, I was charged $141,” she complained.

Her experience is typical, McBride said. Almost all credit card agreements stipulate that the lowest-cost balance will be paid off first, leaving the high-rate balances to rack up huge interest charges.

That’s a common complaint among people who take cash advances to pay off other credit card balances, he added. Often the pitch on a balance transfer loan is similar to the one Foster received. The company offers a low rate to get consumers to switch cards. But, if the consumer uses the new card for purchases, they’ll find -- as Foster did --that payments are applied to the bargain-rate balance until it’s paid off. Only then can the consumer whittle down the high-cost charge balance.

There are ways, however, for a careful consumer to win this game, McEldowney said.

For instance, if Foster had accepted a 1.99% cash advance offer on a credit card that she never used, she’d have only that low-rate balance outstanding. Her rate would be exactly as advertised, plus the cash advance fee. McEldowney suggests that consumers take cash advance loans only on a zero-balance credit card -- and keep it that way. If a credit card is needed for charges, use one that’s not connected to a cash advance loan.

As for Foster, her credit card company agreed to reverse the $50 fee, simply because she had been a good customer and felt misled. She cashed in an investment and paid off the cash advance and the charges on her credit card, vowing never to be as gullible again.

She said she received more blank checks from credit card companies almost as soon as she got back from the post office to mail her payment. One of the loan pitches offered a 0.99% rate, she said.

“Even knowing what I know, I thought, ‘Wow. That’s a great deal,’ ” she said. But she didn’t cash the check.

Kathy M. Kristof, author of “Investing 101” and “Taming the Tuition Tiger,” welcomes your comments and suggestions but regrets that she cannot respond individually to letters or phone calls. Write to Personal Finance, Business Section, Los Angeles Times, 202 W. 1st St., Los Angeles, CA 90012, or e-mail kathy.kristof @latimes.com. For past columns, visit latimes.com/kristof.