It's a rare individual who hasn't hit a financial brick wall at some point in life. A must-pay expense can explode in your path when your savings are depleted for one reason or another, and payday is two weeks away. A payday loan is designed to save the day in this kind of situation, but it's not without some risk and clear disadvantages, including very high fees.
How Do Payday Loans Work?
These short-term loans make cash available to you until your next payday when the loan comes due for repayment. In fact, they are much like a cash advance on your next paycheck. They are typically small loans. However, you should expect an exorbitant interest rate in exchange for putting your hands on the money when you need it.
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The loan amount is typically for about $500 or less. But that doesn't mean that you can't get one for more than this amount. The entire loan comes due on your next payday, thus the name. You would normally have two to four weeks to repay the money if your income derives from Social Security or a pension rather than a paycheck.
Repayment will include the amount you borrowed, plus interest, plus a fee for taking out the loan. The fee usually runs in the neighborhood of $15 for every $100 you borrow, according to Debt.org.
Where to Get Payday Loans
You most likely won't have to search far and wide for a payday lender. The Federal Trade Commission indicates that these loans are increasingly available via the internet from online lenders. They operate in brick-and-mortar establishments in 32 states, according to The Pew Charitable Trusts. Their most common locations are in pawn shops, check-cashing service businesses and storefronts, usually in low-income neighborhoods where residents are presumably most likely to have need of their products.
You'll need a pay stub or other proof of your income, ID, such as a driver's license, and a blank check. Yes, a blank check. This is where the danger of taking out a payday loan can come into the picture.
Payday loans work much like a cash advance on your next paycheck.
The Dangers of Payday Loans
About that blank check. A payday lender is not going to hand you $500 and hope that you return in two weeks to pay off the loan when you receive your next paycheck. There's no credit check. No one will look at your credit report or credit score with this kind of borrowing, so having bad credit can't disqualify you for the loan. By the same token, a payday loan borrower is obviously in some amount of financial distress or they wouldn't be seeking this type of loan. The lender will want assurance that it will be paid back.
You'll have to provide a post-dated check for the full amount you've borrowed, plus interest and fees, according to the Consumer Financial Protection Bureau (CFPB). You'll be asked to authorize a debit from your bank account on the due date if you don't have access to a paper check. The lender will cash the check or make an electronic withdraw on the due date if you don't repay the loan by that time.
These Are Very High-Cost Loans
It can result in some serious overdraft fees piling up in addition to what you're paying for the loan if you don't have the available funds in your checking account at the time the lender presents your check for payment or arranges for an electronic withdrawal. The lender may keep trying to cash your check or make the withdrawal until it successfully receives payment, according to Washington Law Help. You should receive your check or authorization back if you make payment by the due date.
Consumer.gov warns that you should be prepared to pay an annual percentage rate on the loan of about 390 percent or more, although the Military Lending Act limits this to 36 percent for active duty servicemembers and their dependents, according to the CFPB.
The Truth in Lending Act requires that the lender tell you exactly how much you'll be charged in the way of interest and fees at the time you take out the loan, but you can count on it being significantly more than interest on a credit card. The APR on a credit card is typically in the area of 12 to 30 percent, so you'll be paying dearly for this type of loan at a time when you're presumably already cash strapped.
Failing to Repay the Loan
Maybe you've taken out a payday loan, the payment deadline is fast approaching and you have no way of laying your hands on the money. Now what?
Payday lenders are permitted to extend your loan in some states. They refer to the practice as a "rollover" or "renewing" your loan, but it will cost you more money to take advantage of this option. You'll most likely be required to pay another fee. You could end up paying more in fees than the amount you initially borrowed if you're forced to roll the loan over multiple times.
Some lenders may allow you to repay the balance as an installment loan, although you'll probably have to pay additional fees in this case as well. Lenders are required to offer you this option in some states, including Washington, so it's worth looking into if you find yourself in a jam.
You definitely don't want to ignore the situation. That predated check you gave the lender will hit your bank account if you don't take steps to renew the loan. You'll be out the money anyway if your balance is sufficient to cover the check. Otherwise, both your bank and your lender will most likely charge you when the check bounces. Payday lenders can also send your account to a collection agency or sue you in court for the money you owe if it becomes clear that you're not going to repay it.
The Effect of State Laws
The National Conference of State Legislatures indicates that 37 states had passed legislation allowing payday lending as of November 2020, but this allows them to exert some control over these lenders. Some set limits as to how much you can borrow as well as on the amount of the fee you'll have to pay, limiting it to $10 to $30 for each $100 of your loan.
Eleven states and jurisdictions don't address payday lending in their statutes at all. They impose no legislative limits or restrictions. They include Connecticut, Guam, Maryland, Massachusetts, New Jersey, New York, Pennsylvania, Puerto Rico, Vermont, the Virgin Islands and West Virginia.
Arizona, Arkansas, the District of Columbia, Georgia, New Mexico and North Carolina prohibit payday lending.
Alternatives to Payday Loans
These loans should probably be reserved for only the most desperate financial situations when absolutely no other option is available to you. Consider asking a family member or friend for help instead.
Another option might be to negotiate with the company or individual that you're borrowing the money to pay, such as a credit card company, your mortgage lender or your landlord. You may be able to reduce what you owe them or delay the payment date to give you more time to explore other options. Maybe you could put off paying another debt in order to divert the money to the issue for which you're considering a payday loan.
Proceed with utmost caution if you can't come up with another alternative and you desperately need that payday loan money. Try to have a backup plan for repayment other than your anticipated paycheck. These loans are generally only semi-advisable if you know for certain that you're going to be solidly back on your financial feet within a short period of time. And you can probably take out a personal loan from your bank or credit union or use a credit card to meet your needs if that's the case.
- Consumer Financial Protection Bureau: What Is a Payday Loan?
- Consumer.gov: Payday Loans and Cash Advances
- Federal Trade Commission: Payday Lending
- National Conference of State Legislatures: Payday Lending State Statutes
- The Pew Charitable Trusts: Payday Loans Cost 4 Times More in States With Few Consumer Protections
- Debt.org: Payday Lenders and Loans
- WashingtonLawHelp.org: When You Cannot Pay Off Your Payday Loan
- Consumer Financial Protection Bureau: What Is the Military Lending Act and What Are My Rights?