Payday loans provide cash in a pinch during emergencies. The terms are simple. If you have verifiable income coming in the near future, a payday lender may be able to advance a small amount of cash. The terms are not always great, though. Payday loans do not play a role in healthy budget management. Here are some of the problems associated with these loans.
Payday Loans Carry High Interest Rates
The average annual percentage rate (APR) for payday loans is 400%, but there are some loans that carry rates as high as 5,000%. Contrast this with a loan for someone with poor credit, which might have an APR of 27%, and you quickly see how expensive a payday loan can be. But, it’s not only high interest that comprises their cost.
Fees Are High For These Loans As Well
Payday loans are often used for emergencies, or to get one out of a jam. If the borrower cannot solve their financial problem that led to the emergency, they may miss even an automated payback that would be scheduled under the terms of the loan. Then, fees kick in which can increase the finance charge of the borrowing to astronomical levels.
The Loans Target Those With Less Income
Another problem with payday loans is how they result in the highest-cost credit for the consumers who can least afford the expense. It’s often the working poor who use these loans, so the effective cost of credit is amplified. The 400 percent is steep, but someone who is making enough to pay their bills might be able to afford the charge. For those living paycheck to paycheck, however, a payday loan is unsustainable.
People Can Become Dependent On The Loans, Snowballing Their Debt Costs
The main problem with payday loans is how they bury those who need cash. People don’t get a payday loan to make a routine credit transaction, such as paying for a high-ticket item over time. They need the money to live. Once they pay the loan back and the high interest and fees, they often come back for more, and their paycheck ends up dwindling away each pay period.
Several States Ban Payday Loans Outright
Many states recognize the toll these loans take on the poor, and the often predatory nature of the companies offering them. New York has banned them entirely. Other states, such as Georgia and New Jersey also make the lending practice illegal, while others limit the interest rate that can be charged. Other states, such as Washington, limit the number of payday loans a consumer can take out in a year. These legal controls recognize that payday loans are prohibitively expensive and can be habit-forming for those who can least afford their drawbacks.