Payday Loans are Just Bad News

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Payday Loans are Just Bad News

If Visa offered you a credit card with an annual percentage rate of 391%, would you take it?

It sounds like a joke, but to the recipients of one of the most sinister and underhanded lending practices in the marketplace, it's truly no laughing matter.

The typical story goes something like this. Jim is strapped for cash, several of his bills are due (or past due), and payday isn't for another week. So rather than get hit with late fees or hurt his credit any worse than it already is, Jim decides to seek out what is known as a payday loan. He figures, "it's just like an advance on money that's coming my way anyway, right? Why not?"

So Jim takes a walk to his local payday loan center and writes a postdated check for $575 for a $500 loan. Two weeks from now, he'll have to allow the check to be cashed, pay back the full amount of the check by some other means (such as cash), or pay another fee to extend the loan.

Can you guess what $75 on a two-week loan for $500 works out to be in annual interest? That's right, 391% APR-- and what's worse, that's actually the low end of the spectrum when it comes to these types of loans. Payday loans have been known to reach upwards of 700+% APR (often the highest rates come from online lenders) with averages usually in the four to five hundreds. As an example, California's average is 460%.

Once is Rarely Enough

If Jim only had to do this kind of thing once, it might be painful but at least it would be over quickly. The problem, however, is that using this kind of loan often creates a cycle of debt that can't be easily undone. The average borrower spends $793 to pay off a $325 loan because he or she ends up needing to take out more payday loans just to pay off the original, either because of a lack of funds available or because two weeks just isn't enough time to regroup.

According to the Washington State Department of Financial Institutions, one in four payday borrowers in that state took out loans between 10 and 19 times a year.

The Very Definition of Usury

Payday loans often fall directly under the definition of usury, which is the act of lending money at an unreasonably high interest rate, as dictated by the state. Now, of course, many states have allowed payday loans, or payday lenders have used lending loopholes to their advantage, but certainly a loan with an APR in the three-digit realm can't be considered anything except "unreasonable."

As an interesting point of reference, the Roman Empire had a 12% cap on interest rates. The ancient Chinese had a 36% cap. The American colonies had caps between five and 12%. And between 1900 and the late 1970's, most U.S. states had usury caps between 18 and 42%. So historically we are way over the limit and into what amounts to legalized loan sharking.

What Choice Do You Have?

The argument for payday loans is that they serve competition and may be the only alternative for people with severe credit problems. For those people, these loans could be the only thing standing in the way of bouncing checks or having to pawn their personal items. But if you know someone like Jim or have been tempted to take out a payday loan yourself, consider these alternatives:

  • A small loan from your credit union or small loan company.
  • A loan from family or friends.
  • An advance on pay from your employer.
  • A cash advance on a credit card (though it may have a higher interest rate than your other sources of funds).
  • A local, community-based organization may make small business loans to individuals.
  • Ask your creditors for more time to pay your bills. Find out what they will charge for that service - as a late charge, an additional finance charge, or a higher annual interest rate.
  • Try working out a debt repayment plan with creditors and developing a budget.
  • Find out if you have, or can get, overdraft protection on your checking account. The fees can be high but may still be lower than those of payday loans.
  • Contact your local consumer credit counseling service. There are non-profit groups in every state that offer credit guidance to consumers and these services are available at little or no cost.
  • Your employer, credit union, or housing authority may also offer credit counseling programs.

No matter what you choose, it's extremely important to shop carefully, compare offers, and look for the option with the lowest APR.

Buyers Beware

Between 2000 and 2004, the number of payday lender locations skyrocketed from 10,000 to 22,000. As of last month, University of Utah law professor Christopher Peterson said, nationally, there are now more payday lenders than McDonalds, Burger King, J.C. Penneys and Target stores combined.

The numbers are scary and several consumer watchdog organizations have released strong warnings against payday loans. The FTC posted a "Consumer Alert," the Consumer Federation of America set up as an educational resource, the United States Defense Department has a program in place that warns military service personnel against them, and our nation's capitol has effectively outlawed the practice by capping the interest rate at 24% (Payday Loan Consumer Protection Act).

The moral of the story? Stay away from payday loans. No matter how bad your financial troubles may seem now, they can always be worse.

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All Comments

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5 Contributions
61 People Helped

Helpful to 56 out of 57 people

For the folks who use payday loans a few times a time you pay one off,  open an account at a different bank, and for the following 2-3 paychecks pretend you still have the payday loan, but make the "payment" to  yourself in that savings account . Next time you need money you can "borrow" at least part of what you need from your personal "payday loan account" , pay yourself the fees, and by the end of the year you'll be a paycheck ahead & should never need a payday loan again.

Make sure you get a savings account that doesn't have monthly fees.

Top Contributor
116 Contributions
1322 People Helped

Helpful to 10 out of 10 people

For most people who do payday loans these are predator loans. some advice bring up your annual free credit reports dispute in accuracys and get you two easy to get credit cards that don;t require annual fees or deposits. capital one student and barclay rewards are two good choices for rebuilding. find out with your score first if you qualify if not then get secure ones. at least then your using something that will actually help rebuild your credit. pay them off about two weeks after used. won't cost you and you have credit building at same time. regardless of what you been told try not to carry balance on your credit cards but use for stuff you would generally buy each month and keep utilization between 10 and 20 percent margin

1 Contribution
16 People Helped

Helpful to 16 out of 16 people

I took out payday loans for about a year, I was doing it because I wasn't making enough to make my bills. They are right it is a vicious circle. I ended up defaulting on a loan. Sixteen months after I defaulted, they sent my check through my account again. The bank  honored it and I am now paying overdrawn fees to my bank. The trouble that I am going through now could have been prevented, if I had found someother way to handle my finances. SO don't take out loans. So you can be prevented from my problems.

1 Contribution
27 People Helped

Helpful to 27 out of 28 people

I know this is true, I did get one once and I couldn't stop with one because I had to pay it out of my paycheck and I didn't have enough for the rest of my bills and had to borrow again and it was a vicious cycle.  I was lucky enough to have a good boss at work to help me get out of the problem.  It is a big bad thing to get in to.

1 Contribution
15 People Helped

Helpful to 15 out of 16 people

I'm with you people!  These companies are nothing more than legalized LOANSHARKS! I took out a loan asking for only $300.00. They generously gave me $500.00 instead. (lowest they could lend & all that crap) . I ended up paying them a thousand back & had I not had the finances it would have been more, Much more. That taught me a lesson.I WILL NEVER DO THAT AGAIN! These companies remind me of organizes crime sharks & they need to be seen that way no matter what star has his name on them. They lost this customer!

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