Dangers of Payday Loans

Photo credit: taberandrew

In many parts of the country, you can find payday lenders every few blocks, advertising quick cash to people who are looking for a way to scrape by until their next paycheck. Although it might sound appealing to borrow several hundred dollars on the spot, payday lending is actually a very dangerous practice to get into, especially in states that have little regulation. Consider several top dangers of payday loans before walking in to sign your first loan agreement.

High Fees: Although most payday loans don’t formally charge interest, they do charge fees of anywhere between $10 and $20 per each $100 you borrow. This might not sound too bad because it is like an interest rate of 10 to 20 percent, which is comparable to a credit card. However, because it is a payday loan, this fee only covers the cost to borrow the loan for two weeks. In annual terms, payday loan fees are equivalent to interest rates of 300 percent or more, which makes borrowing very expensive.

Short Loan Period: When you get the loan, you have to write a post-dated check that the lender will cash in two weeks. At that point, some or all of the paycheck you received in the meantime goes to repay the loan and you only have whatever is left of your check to live on for the next two weeks. This short loan period makes it unlikely that you will be able to scrape up the cash for your living expenses during the next pay period.

Rolling Over: Because of the short loan period, many people who borrow from a payday loan once find themselves rolling over the loan, which is when you get a new loan every two weeks to replace the one you had to pay off with your paycheck. With each new loan, you have to pay the fee all over again, which adds up to a ridiculously high cost. All of these fees are not going toward reducing what you owe, but just toward pushing back the due date. Therefore, they keep you stuck in a situation of having to borrow over and over again.

Misleading Advertising: Payday lenders often advertise that their loans are less expensive than other types of borrowing, including credit card cash advances. Although this might be true on a two-week payday loan, few borrowers actually repay their loans in the intended two-week period. In the case of a longer payday loan in which the borrower pays the loan fee multiple times, a credit card cash advance is actually much less expensive. This is because you only have to pay the cash advance fee once. After that, you get to pay a reasonable interest rate of 30 percent or less.

Instead of heading to your payday lender, consider other options first. For example, you might be able to borrow from a friend or family member and repay the loan at a reasonable interest rate over several pay periods. If you have a credit card with available credit, you can get a cash advance and repay it on your own schedule. You also might be able to put off some expenses and cut back your spending in the meantime to get yourself back on track.

Filed Under: BudgetingCreditDebtfinancial education

Tags: , ,