What are payday loans? The definitive guide to payday lending

Are you looking for a fast cash solution for your sudden financial emergencies? 

Is your current credit score preventing you from acquiring a good low interest loan? 

Have you been thinking about applying for a payday loan?

Think again. 

Payday loans are indeed a fast solution for small financial emergencies. However, these cash advances are wired with through the roof interest rates and processing fees. 

Unless you are very sure that you can pay off the entire loan on time, we suggest that you read this guide first and learn more about payday loans.

What is a Payday Loan?

Otherwise known as cash advances, payday loans are a special type of personal loan that basically runs through your next paycheck. It is a short-term loan lasting an average of two weeks or up until the borrower’s next paycheck.

The payday loan is a low balance agreement that can range from a few hundred dollars to a little more than a thousand. But here’s the catch. The borrower is charged with sky rocketing interest rates and processing fees. In most cases, borrowers are charged $18 to process a $100 loan and lenders often provide loans with an APR of 459% or even more. 

Payday loans are quite useful when it comes to covering various payables in your day to day life which include food, rent, heating, and other utilities. In some cases, these loans are used to take care of financial emergencies such as medical bills, home and car repairs, and last minute travel.

Across the United States of America, approximately 19 million Americans use payday loans to make ends meet every year. However, due to high financial charges, Only 14% of these borrowers are actually able to pay off the entire loan on time. The rest are left with rolling over their dues along with compounded interests and charges. And this obviously leads the borrowers into a more serious financial problem – the payday loan debt trap.

How Do You Get a Payday Loan?

Acquiring a payday loan can be as easy as 1,2,3!

Compared to a standard personal loan often offered by banks, payday loans don’t demand much paperwork and requirements. Often doubled as pawn shops, payday loan stores are quite easy to find especially if you’re in a state where payday lenders aren’t regulated. In fact, according to a recent research conducted, there are more payday loan establishments than McDonalds and Starbucks combined.

Just make sure you have with you a valid ID, your paystub, and a blank check. Once you are inside the store, the agent will offer you loan amount options ranging from $100 to $1,500. In some lenders, the loan amount can reach up to $2,000.

After you have decided how much you are going to borrow, the agent will discuss with you the terms of the loan along with its attached interest rate and the processing fee which is mostly $18 for every $100 loan. 

Prior to your loan’s approval, the lender will ask you to write a postdated check that covers everything on your loan – the amount to be borrowed, the interest, and the processing fee. This check will be encashed by the lender on your loan’s due which is within two weeks to one month.

In most cases, borrowers later on realize that their next paycheck is not enough to cover their current living expenses along with  the amount due on their loan. This compels them to request for a rollover or repayment extension from their lenders. With this, default charges are added on top of the interests and penalties which can easily spiral out of control within weeks.

What is the Payday Loan Debt Trap?

According to financial experts, the payday loan is a type of debt trap along with consumer lease, blackmail security, and credit management or credit repair services. Debt traps are financial management systems wherein borrowers are compelled or lured into securing high interest loans as a starting point for a vicious and seemingly endless cycle of debt.

Payday loans are a popular choice among minimum wage earners hoping to acquire a quick fix on their financial shortcomings. This is simply because a payday loan can be acquired in a matter of minutes provided that the borrower meets all the requirements. 

Compared to a standard loan, lenders offer payday loans with fewer requirements which include valid identification, a paystub, and an active checking account. Cash advance loans are also the go-to choice for borrowers with low credit scores.

Before the loan is approved, the lender requires the borrower to write a post-dated check covering the amount of the loan along with the interest and processing fees. The lender cashes this check on the borrower’s payday which in most cases, leaving barely a dime for the latter’s other essentials.

Other payday lenders work their way into the pockets of their borrowers through CPA or continuous payment authority. Lenders secure the bank card details of their customers so that they can automatically deduct payments straight from the borrowers’ bank accounts.

Regardless of how lenders secure payments from their lenders, payday loans are obviously too expensive for the majority of its borrowers to fully pay their debts. As a result, most of these borrowers hop into the bandwagon of  reborrowing and rolling overs – the ultimate result of a debt trap.

Here’s a video by the Consumer Financial Protection Bureau detailing the dangers of payday loans.

Payday Loan vs Personal Loan

Both payday loans and personal loans are reliable solutions whenever you are faced with financial emergencies. However, these two still have key differences that you should consider.

Eligibility

One main reason why a lot of Americans go for payday loans is its flexibility when it comes to requirements. Personal loans offered mostly by banks require borrowers to have good credit backgrounds along with firm financial foundations. Payday loans, on the other hand, don’t really look at the borrower’s credit score. The only major requirement to qualify is a regular source of income.

Loan term

Personal loans run from as short as 12 months to as long as 10 years. Payday loans on the other hand have significantly much shorter terms which is just two weeks to one month. As its name implies, these cash advance loans are expected to be paid on your next paycheck.

Loan amount

Personal loans allow you to secure a couple thousand dollars to as much as $100,000. Payday loans on the other hand range from a few hundred bucks to $1,500. Just enough to cover minor emergencies until your next payday.

Interest rates

Although payday loans come in significantly smaller amounts, they are still hands down much more expensive compared to personal loans. Bear in mind that payday lenders are able to secure about 75% of their profits from absurdly high interest rates, processing fees, and default charges. On average, payday loan APRs can go beyond 400% whereas personal loan rates are capped at 36% or less.

Time

The loan amount and types of requirements from these loans play a crucial role in the amount of time it takes to secure the money in your hands. Payday lenders don’t do credit score checks and have less strict requirements. Approval of the loan and disbursement of funds is secured in as fast as 15 minutes.

On the other hand, personal loans are not that far behind thanks to the internet technology. Borrowers can now file their loan applications online which help them save a good deal of time. Loan approval and funding these days can take in one or two days.

Payday Loans Pros and Cons

Payday loans are not entirely bad. It has its own set of advantages and disadvantages. Your decision to acquire a payday loan must be based on these conveniences and drawbacks along with the consideration of your current financial circumstances.

Pros

  • Payday loans are very much accessible. If you are in a state that allows the operation of payday lenders, chances are that you’ll be able to find at least one physical office in a matter of minutes. Furthermore, payday lenders have stepped up the game and are now offering online applications 24/7.
  • Fewer requirements means faster approval and funding. Payday lenders require only one valid identification, an active checking account, and paystub. They don’t really check on their borrowers’ credit ratings and can approve the loan within 15 minutes or less.
  • Payday loans are unsecured loans. This simply means that the transaction doesn’t involve any form of collateral. In the event of non-payment of a loan, the lender can’t seize any property that you currently have.

Cons

  • Payday loans are downright expensive. Interest rates on these cash advance loans are through the roofs. Its average APR can reach beyond 400% compared to a high credit card rate which is capped at only 36%. On top of that, payday loans charge processing fees that can be as much as 18% or $18 for every $100 loan.
  • As discussed earlier, payday loans trap its borrowers in an endless cycle of debt. The loan’s terms and price are the very definition of a predatory loan. The interest rates are too high that can easily escalate into a bigger debt problem.
  • Payday lenders are relentless and notorious in accessing their borrowers’ bank accounts. As part of the requirement, lenders demand access on their borrowers’ active checking accounts. This way, the former can automatically take out money owed by their clients upon due. However, this often results in an overdraft and banks charge a fee of up to $35 per instance. An overdraft takes place when the lender attempts to take out more money than what your bank account actually has.
  • Being unable to pay on time can result in a barrage of collection calls from the lender or from a third party collection agency even at midnight. Lenders even go the extra mile by calling the borrower’s employer or relatives.

What are your Payday Loan Alternatives?

Payday loans aren’t the only solution for a quick financial fix. Here are a few reliable and non-predatory alternatives that you can consider during those “I need money now!” times.

Borrow funds from Mission Asset Fund

The Mission Asset Fund or MIA is a non-profit organization based in San Francisco. Its main goal is to deliver a fair financial marketplace for hardworking families, especially those categorized as low income earners. The MIA offers 0% interest loans while helping borrowers build-up their credit at the same time.

Get PALs from Federal Credit Union

Payday Alternative Loans (PALs) from Federal Credit Union are small dollar loans offered as an alternative to expensive payday loans. These loans have an interest rate of no more than 28% and charge a processing fee not exceeding $20. 

PALs loan amount ranges from $200 to $2,000 and the term can stretch up to 12 months. However, a borrower first needs to be a member of the credit union for at least one month before he or she is able to acquire PALs. 

Acquire personal loan with a cosigner

One main reason why a borrower is declined of his loan application is his bad credit score. However, this can still be turned around if a cosigner with good credit is involved. This cosigner can be a relative like either of your parents or your spouse with an impressive credit history. Having a cosigner for your loan gives you a better chance of getting approved on your personal loan along with a significantly lower interest rate.