Payday loans provide quick cash infusions that can help you get to the next paycheck. But these loans come with high rates and interest rates, which could lead to "debt traps" for borrowers.
Payday loans may seem like a lifesaver if you need cash quickly, but high rates and low payment terms can lead to a cycle of debt.
A payday loan is a short-term loan for a small amount, usually $ 500 or less, that usually expires on the next payday, along with the rates.
These loans can be marketed as a way to close the gap between paychecks or help with an unexpected expense, but the Office of Consumer Financial Protection says that payday loans can become "debt traps."
Here's why: many borrowers cannot pay the loan and fees, so they end up paying even more fees repeatedly to delay the need to pay the loan, "renew" or refinance the debt until they end up paying more fees than the amount They borrowed first.
How payday loans work
Payday loans may have different names: cash advance loans, deferred deposit loans, advance check loans or later date check loans, but they generally work the same way.
To obtain a payday loan, you may need to issue a check with a later date extended to the lender for the total amount, plus any fees. Or you can authorize legit payday loan companies or the lender to charge your bank account electronically. The lender will usually give you cash.
The loan usually expires on your next payday, usually in two or four weeks. If you do not pay the loan plus the fees before the due date, the lender can cash your check or debit your account electronically.
Many states that allow such loans set a limit on the amount of the loan and the corresponding rates. Depending on the state, companies may be allowed to collect $ 10 to $ 30 for every $ 100 borrowed.
Problems with payday loans
The Pew Charitable Trusts estimates that 12 million Americans get payday loans every year, paying approximately $ 9 billion in loan fees. Borrowers generally earn about $ 30,000 a year. Many have trouble reaching the end of the month.
But while payday loans can provide the emergency cash you may need, there are dangers that you should consider:
High annual percentage rates
Let's say you get a $ 500 loan for two weeks that charges $ 15 in fees for every $ 100 you borrow. Expressed as an annual percentage rate, which results in an APR of almost 400%, according to the CFPB.
Generally, you must pay a payday loan within two to four weeks after the initial loan.
If you fail to repay the loan within a short time, you may be charged additional charges in addition to the initial loan charge. These rates begin to accrue if you transfer the debt or borrow again. The CFPB says that almost a quarter of the initial payday loans are borrowed nine times or more.
Additional fees may include...
Insufficient funds charge, if you do not have enough money available in your bank account when lenders try to cash your check or withdraw it electronically from your account
Charges for late payments or repayment payments to the lender if you do not pay on time
Reinvestment fees, charged on the original loan and the initial fee to delay the expiration date of your loan.
Payday Loan Alternatives
Although a payday loan may seem like a quick fix, other options can help you stay out of a debt cycle. The alternatives include:
Credit Cooperative Loan
If you are a member of a credit union, you can access personal loans with lower interests. Federal credit unions can also offer members "alternative payday loans" for amounts between $ 200 and $ 1,000. These generally come with terms of up to six months, an application fee of no more than $ 20 and APR of no more than 28%.
In some states, your employer can advance your paycheck without additional charges. It may depend on the discretion of your company, so ask your supervisor or the human resources contact about your options.
A debt agreement can affect your credit but it could help you resolve your debt and start over.
Emergency personal loan
These may also have high-interest rates, but if you need a loan and do not qualify for lower rates, it is important to make a price comparison. You may be eligible for a slightly better rate and longer terms than those offered by the store's payday lender and don't know it.
You should look for a loan with a lender who reports to the main credit bureaus. A positive history of loan payments on time can help you accumulate credit so you can eventually qualify for loans with better rates.
In the long term, you can also work to solve the underlying financial problems that take you to a payday loan counter. Try credit counselling, which could help you develop a budget, and work to start a savings account.
If you are looking for a cash infusion, payday loans may end up making your problems worse with their high rates.
A loan from a credit union, an emergency personal loan, a debt settlement or credit counselling can cost money or affect your credit, so proceed with caution. But in the longer term, they can help you develop your overall financial situation, rather than acting as a short-term band as a payday loan.