More Proof That Payday Loans Suck

Photo (cc) by taberandrew

Payday loans, no matter how reasonable they might look on the surface, are nothing less than a financial kick in the stomach, often delivered to those least able to afford it.

A February 2013 report by the Pew Charitable Trusts says almost 12 million Americans take out payday loans every year. And as you might imagine, the borrowers are frequently those least able to afford it. According to Pew, the typical borrower is white, female, 25 to 44 years old, without a college degree, and making less than $40,000 a year.

The report shows that a majority of those surveyed – 58 percent – had trouble meeting monthly expenses at least half the time and turned to payday loans as a financial option to handle the shortfall.

How payday loans work

Payday loans are small, short-term loans backed by your paycheck. You apply for a loan, listing your next two or three pay dates on the application. After getting approved, you write a postdated check for the loan amount plus interest and fees. On your next payday, the lender collects the balance, unless you choose to roll the loan over until your next payday.

Most payday lenders don’t consider your credit history, so people with bad credit can still get approved as long as they have a source of income. And many lenders will give you the cash in just a few days, or hours in some cases.

Why they suck

Payday loans come with steep fees and interest rates – upwards of 300 percent.

Take a look at Credit.com’s list of payday loan laws by state showing the maximum interest rate lenders can charge. Check out some of these terms:

Alabama – 17.5 percent
Colorado – 20 percent of the first $300, 7.5 percent for the remainder
Louisiana – 16.75 percent

These interest rates may not appear excessive – they seem similar to credit card rates. But credit cards quote the amount you’ll pay over a year, while payday lenders collect their interest in as little as a week. Annualize rates like those above and you’re paying triple-digit interest. Florida law, for example, allows only 10 percent interest, plus a $5 fee for loans from seven to 31 days. Do that for a year and you could be paying nearly 400 percent.

It’s when the loan gets extended – called a rollover – that the fees really add up. Lenders allow customers to extend their loans to the next payday if they pay the fee plus any accrued interest. The borrowers become trapped in a loop of paying fees and interest because they aren’t paying down the principal. And according to the Pew report, fewer than 2 out of 10 borrowers can afford to pay off the average loan when it comes due.

Average borrowers end up taking five months to pay off a loan, the report says, paying $520 in finance charges for loans averaging $375.

Why do we allow this?

While the industry claims “short-term credit products are an important financial tool for individuals who need funds to pay for an unexpected expense,” there’s evidence people can survive without them. From the Pew report:

In states that enact strong legal protections, the result is a large net decrease in payday loan usage…In states with no stores, just 5 out of every 100 would-be borrowers choose to obtain payday loans online or from alternative sources, while 95 choose not to use them.

There’s been an effort in some states for years to regulate payday loans. In our 2010 article Payday Lenders Dropping Like Flies, we reported payday lender Advance America closed all 47 of their locations in Arizona after a law passed limiting interest to an annualized 36 percent.

What’s the alternative?

The irony revealed by the Pew report is some borrowers end up turning to family and friends to repay their loans – something they could have done first and avoided the payday loan in the first place.

The Center for Responsible Lending offers other alternatives, including working out a payment plan with creditors, asking for an advance at work,

  • community-based emergency assistance programs, loans from
  • credit unions,
  • cash advances from credit cards, and
  • small consumer finance companies, where rates are often lower.

The long-term solution is not living paycheck to paycheck – obviously something tough for the working poor to do.

Using a financial windfall like a pay raise or a tax refund is a good way to start getting yourself out of the trap. And there are plenty of little ideas that could add up; see articles like 30 Tips to Spend Less and Save More.

Some of my favorite ways to trim spending include:

1. Start with the little things. Whether it’s beer, cigarettes, the lottery, lattes, or junk food, many people blow $5 a day because they think it doesn’t matter. It does: $5 a day for a month is $150. Over a year, it’s more than $1,800.

2. Brown bag it. It takes planning to bring your lunch to work, but in the long run it’s healthier and much cheaper than fast food. See 7 Cheap and Easy Work Lunches You Can Bring From Home.

3. Buy generic. Many products are the same regardless of the name on the package. Check out 7 Things You Should Always Buy Generic for ideas.

The bottom line

Payday loans may be convenient, but they’re a rip-off. There are only two ways out of the trap: make more or spend less. If you’ve done everything you can to trim your expenses, check out stories like 8 Weird Ways to Make Extra Money.

Disclosure: The information you read here is always objective. However, we sometimes receive compensation when you click links within our stories.

Read Next
What’s the Difference Between FICO and VantageScore Credit Scores?
What’s the Difference Between FICO and VantageScore Credit Scores?

There are lots of credit scores out there, but if you’re keeping an eye on your credit, here’s the one to watch.

20 Generic Brands That Amazon Created
20 Generic Brands That Amazon Created

Amazon’s growing collection of private brands offers everything from toilet paper and coffee to motor oil and clothing.

8 Products That Solve Everyday Annoyances
8 Products That Solve Everyday Annoyances

These items put an end to the daily irritations that bug you the most.

It’s Worth Paying More for These 7 Things
It’s Worth Paying More for These 7 Things

Sometimes, the difference in quality makes it worthwhile to open your wallet a little wider.

Never Buy These 12 Things at a Thrift Store
Never Buy These 12 Things at a Thrift Store

Sometimes a great deal is not worth it — or, even worse, is dangerous.

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Most Popular
9 Things You’ll Never See at Costco Again
9 Things You’ll Never See at Costco Again

The warehouse store offers an enormous selection, but these products aren’t coming back.

11 Things Retirees Should Always Buy at Costco
11 Things Retirees Should Always Buy at Costco

This leader in bulk shopping is a great place to find discounts in the fixed-income years.

Over 50? The CDC Says You Need These 4 Vaccines
Over 50? The CDC Says You Need These 4 Vaccines

Fall is the time to schedule vaccines that can keep you healthy — and even save your life.

11 Household Items That Go Bad — or Become Dangerous
11 Household Items That Go Bad — or Become Dangerous

When you get the impulse to stockpile these everyday items, pay close attention to their expiration dates.

8 Things You Can Get for Free at Pharmacies
8 Things You Can Get for Free at Pharmacies

In this age of higher-priced drugs and complex health care systems, a trip to the pharmacy can spark worry. Freebies sure do help.

7 Ways to Boost Your Credit Score Fast
7 Ways to Boost Your Credit Score Fast

Your financial security might soon depend upon the strength of your credit score.

These Are the 4 Best Medicare Advantage Plans for 2020
These Are the 4 Best Medicare Advantage Plans for 2020

Medicare Advantage customers themselves rate these plans highest.

11 Senior Discounts for Anyone Age 55 or Older
11 Senior Discounts for Anyone Age 55 or Older

There is no need to wait until you’re 65 to take advantage of so-called “senior” discounts.

The 10 Most Commonly Stolen Vehicles in America
The 10 Most Commonly Stolen Vehicles in America

A new model parks atop the list of vehicles that thieves love to pilfer.

The 15 Worst States for Retirees in 2020
The 15 Worst States for Retirees in 2020

Based on dozens of metrics tied to affordability, quality of life and health care, these are not ideal places to spend retirement.

9 Deep Discounts Available on Amazon This Friday
9 Deep Discounts Available on Amazon This Friday

These items are all steeply discounted — but the deals won’t last long.

19 High-Paying Jobs You Can Get With a 2-Year Degree
19 High-Paying Jobs You Can Get With a 2-Year Degree

These jobs pay more than the typical job in the U.S. — and no bachelor’s degree is required.

5 Ways to Get Amazon Prime for Free
5 Ways to Get Amazon Prime for Free

Hesitant to drop $119 a year on an Amazon Prime membership? Here’s how to get it for free.

26 States That Do Not Tax Social Security Income
26 States That Do Not Tax Social Security Income

These states won’t tax any of your Social Security income — and in some cases, other types of retirement income.

10 Reasons Why You Should Actually Retire at 62
10 Reasons Why You Should Actually Retire at 62

If you can, here are several good reasons to retire earlier than we’re told to.

3 Ways to Get Microsoft Office for Free
3 Ways to Get Microsoft Office for Free

With a little ingenuity, you can cut Office costs to zero.

5 Keys to Making Your Car Last for 200,000 Miles
5 Keys to Making Your Car Last for 200,000 Miles

Pushing your car to 200,000 miles — and beyond — can save you piles of cash. Here’s how to get there.

7 Surprising Features That Boost Your Home Value
7 Surprising Features That Boost Your Home Value

You can add value to your home without hiring a contractor to do expensive renovations.

5 Things That Make Life More Meaningful for Retirees
5 Things That Make Life More Meaningful for Retirees

Retirees agree: These are the things that give them purpose and fulfillment in their golden years.

View More Articles

View this page without ads

Help us produce more money-saving articles and videos by subscribing to a membership.

Get Started

Add a Comment

Our Policy: We welcome relevant and respectful comments in order to foster healthy and informative discussions. All other comments may be removed. Comments with links are automatically held for moderation.