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The Dollar Stretcher |
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Dear Dollar Stretcher, I work with single moms who are often strapped for cash. They are sometimes suckered into "Rent To Own" where the interest is enormous. Is there any readily available, easily understood information out there to help me to teach them understand how expensive these loans are? How do I show them the true interest rate or is there a mathematical formula to figure those interest rates? I know that these are sucker loans, but how do I show them in real dollars what they are in for? Thanks for any help you can give me. Jan has asked about a type of business that, unfortunately, is growing and taking advantage of more people every day. And, as more of us struggle financially, you can expect to hear more about 'rent to own' stores. Many of you have probably never heard of 'rent to own'. So we'll start with a brief explanation. It depends on one simple fact. Sometimes people want something now, but can't afford to pay for it until later. That's nothing new. Virtually every mortgage ever issued depended on that. Same thing for car loans. What's different here is that the people who are loaning the money are charging very high interest rates. 'Rent to own' is really pretty simple. You'll
find a storefront, just like any other retailer. One company in our area has nineteen
locations spread out over a two county area. They even have an insert in the Sunday paper.
You'll find a variety of products. Electronics, appliances and furniture are the
mainstays, but you can also find jewelry and some other items. The merchandise is
typically new, just like your local retailer. Let's look at a couple of examples. We compared items using inserts from the Sunday paper. We'll start with a common item: the Sony PlayStation. For simplicity's sake, let's call our 'rent to own' merchant "R2O". They're offering the PlayStation for 'only $13.99' a week. If you rent it for 52 weeks it's yours for only $727.48. Seem a little expensive? Yes, when you consider that a national chain advertised the same PlayStation for $129.99. That's outrageous! But is it possible to calculate the interest rate? If you want an exact rate, you'll need a financial function calculator. But, we can come up with a reasonable estimate just using a simple $5 calculator. The first step is to subtract the normal price from the R2O price. In this case that's $597.49 ($727.48 minus $129.99). So we're paying nearly $600 more at R2O. We'll consider that the interest charged. Now the simple (but incorrect) way to calculate interest would be to divide the interest charged ($597.49) by the amount borrowed ($129.99). That works out to a 459% interest rate for the one year loan! The correct way would show that it's actually higher since we didn't borrow the whole $129.99 for all 52 weeks. Part of it was paid down each week as the year went on. The actual rate is about 557%. How about another one? This time we'll compare a Sharp video camera. Looks like a nice one, too. Has a 4" screen and even a remote control. The flyer from R2O offers it for 'only $21.99 a week'. If you rent it for 91 weeks it's yours for only $2,001.09. Or, if you prefer to pay cash, you can have it for $1,100.60. What about the competitors? A national catalog type showroom is offering the same camera for $449.99. If we follow our formula we'll find that the interest charges are $1,551.10 ($2,001.09 minus $449.99). This time we'll need to adjust the charges to an annual amount. The 'rental' period runs 91 weeks. That's 1.75 years (91 divided by 52 weeks). So we'll divide the interest charges by 1.75 to get the annual interest paid ($886.34). Now we can divide the annual interest charged by the retail price of $449.99 to get an estimated interest rate of 197%. Again, remember this is a method that's designed to be simple but only estimates the interest rate. The actual rate is 250%. Now I know some of you are scoffing at these rough interest rate estimates. And you're right. But, frankly, if someone isn't outraged by being charged 197% interest, they're probably willing to pay 250%. How can you convince people to avoid 'rent to own'? Perhaps by showing them the total price they'll pay versus the price at a regular retail outlet. The two items we highlighted here are typical of what you'll find. Perhaps keeping sale flyers for a side by side comparison would be a good tool. Is there a solution for the consumer? Sure! We're not talking about being unable to afford an item. It's a question of being willing to wait a short time. Take the PlayStation. If the customer will take the $13.99 that they were willing to pay in rental fees and save that for ten weeks they can go into any store and pay cash it. And if they keep making weekly 'rental payments' of $13.99 to themselves they'll end up with nearly $600 at the end of the year. The lesson is one that needs to be learned by anyone who wants to accumulate savings. When you have to have something right now it's going to cost you. One of the most important keys to money management is patience. We hope that Jan is able to demonstrate that to the people she advises. |
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