If you’re planning to take advantage of new-year sales on furniture and other big-ticket items, should you also take advantage of the financing the store offers?
It can be an enticing prospect. In-store financing has a reputation for being easier for high-risk borrowers to qualify for, compared with mainstream credit products. It’s also common for stores to offer lengthy 0 percent interest periods. So, financing a sectional sofa may seem like a good way to bulk up your credit report and avoid interest.
But in-store financing can be treacherous for those who haven’t carefully read all the terms.
Common types of in-store financing
The options vary from store to store, but, in general, you’re most likely to be offered one of the following:
0 percent interest financing: This is a credit account (often a credit card issued by a partner bank with the store’s logo on it), which charges no interest for a certain number of months. The store will check your credit and, if you’re approved, your purchase will be placed on this account. The length of the interest-free period, as well as the size of down payment and the monthly payments, will depend on the amount of the purchase.
“If the purchase is big enough, it will be zero down, 0 percent interest for a year to a year and a half,” says Paul Richard, president of the Institute of Consumer Financial Education, a non-profit consumer education organization based in San Diego.
“However,” Richard warns, “whenever someone offers you a deal like that, you can bet you’re going to pay for it one way or the other.”
One way you might pay: The monthly payment might seem so affordable that you don’t negotiate the discount you would have worked for if paying cash. Furniture generally has a 500 percent mark-up on average, Richard notes.
The biggest trap, however, is the fact that 0 percent offers on in-store credit are almost always deferred interest plans, says Chi Chi Wu, staff attorney at the National Consumer Law Center. While you may not be charged interest during the promotional period, it’s building up in the background. If you have any balance remaining when that period ends, you’ll get charged all that built-up interest retroactively. Interest may also be triggered if you miss a payment.
Here’s an example from Wu: You buy $2,000 worth of furniture and get a 0 percent deal for 12 months. At month 13, you have just $200 remaining. Even so, it’s the $2,000 balance you’ll pay interest on – not $200. To make matters worse, furniture store financing often comes with high interest rates (often above 20 percent). With a $2,000 purchase and a 29 percent interest rate, you’re looking at $580 in interest, assuming you let the promotional period expire.
“It’s a bit of a trap for the unwary,” Wu says.
Of course, it’ll all be there in the fine print (see the example below from a major furniture store):
Yet even when consumers fully understand the fine print, they can still get tripped up.
“Life happens,” Wu says. “You think ‘I can pay this off in time, no problem.’ But something happens, such as an unexpected medical expense, or you lose your job.”
No-credit-check financing: If your credit isn’t good enough for a store line of credit, some businesses offer you the chance to prove you have enough income or money in the bank to make payments. Requirements vary, but furniture stores offering this option may use a combination of any of the following:
- Bank account balance
- A certain number of bank account deposits per month
- Income (based on pay stubs)
- Age of checking account (for example, must be open at least three months prior to purchase)
- Length of employment at the same company
“What they’re doing is looking at the cash flow of the potential customer,” Richard says. “They’re just looking for another angle, another way to approve somebody.”
However, Richard emphasizes, furniture stores will often include in your contract that they can repossess your furniture if you fall behind.
A good way to build credit?
If you’ve had trouble getting credit in the past, getting a line of credit from a furniture store (or any store for that matter) might be an attractive route, as retail cards tend to set the approval bar lower. But keep in mind that they’re subsidizing that risk via some of the consumer snares mentioned above.
That’s why Wu and Richard aren’t fans of furniture financing as a means to a good- credit end.
“The idea of using a furniture store to get a good credit rating, I don’t think it’s so hot,” Richard says.
In addition to being rather consumer-unfriendly, store credit may not get you the results you’d hoped for. If your end game is qualifying for a mortgage, for example, the lender is going to look carefully at your credit reports – and may not be impressed if it sees nothing but a line of credit from a furniture store.
“They’ll wonder, ‘why are they doing that, why are they going that route?'” Richard says.
If you’re going the no-credit-check-financing route, there’s another possible hitch: The company servicing that account may not report to the credit bureaus. While some stores (and third parties working with the stores) boast that they report to all three major credit bureaus, others are vague or disclose that they don’t report to the bureaus at all:
Even if your on-time payments are reported for your no-credit-check-financing plan, mainstream lending institutions probably won’t be any more impressed than they would be with a store line of credit, Richard says.
So, if you need to build excellent credit for a mortgage or other major loan, what are your options?
You might start with a secured credit card, which requires a deposit to secure the credit line, making this type of product easier to get for those with poor or thin credit, Wu says.
Richard suggests working directly with your bank or credit union.
“Sit down and talk with that credit union official or banker and tell them you need to build credit,” he says. Some credit unions, for example, offer loan products specifically designed for credit building.
If you do decide to finance furniture via a store card or even a regular bank card, your biggest defense (for your finances and credit) is money in the bank.
“The first thing to think about is whether you can afford the item,” Wu says. “If you put something on a credit card and really don’t have the money for it, you’re going to wind up with unmanageable debt.”