Payday [pā-ˌdā]: A great day that most of us regard fondly.
Payday loan [pā-ˌdā ˈlōn]: A financially detrimental debt arrangement that only benefits the lender.
There’s a huge difference between these two terms. Unfortunately, while the former is pretty straightforward, there’s a lot of confusion surrounding the latter – something that shady or disreputable lenders use to their advantage.
A payday loan is short-term credit based on a borrower’s income and credit profile. The principal is usually a portion of the borrower’s next paycheck. Hence the name: The idea is to pay it all back when you get paid next.
Payday loans also go by other names, like a cash advance loan or check advance loan – and have even adopted such monikers as deferred deposit or deferred presentment. Regardless of the name, they can be a financially devastating trap.
Let’s take a look at some of the specific reasons not to get a payday loan, so you don’t fall victim to this risky borrowing situation.
Why Should You Avoid Payday Loans?
There’s very little to the application process or the approval requirements. Usually all you need to prove is some form of income and a checking account. If you need funds ASAP – say, to cover your mortgage payment before your next paycheck comes in – this type of credit can seem very appealing because you can get it immediately.
Sure, an easy credit application that results in immediate cash sounds great! But such swiftness comes at a price: You’ll pay an ultra-high interest rate and often extra fees tacked on through hidden provisions. It’s no wonder these are considered predatory loans.
In particular, you’ll have to watch out for:
1. Ridiculous APR: If you visit a storefront payday lender, the Consumer Financial Protection Bureau (CPFB) says you can expect fees something in the neighborhood of $15 for every $100 borrowed. For a two-week loan, which is a common paycheck duration, you’re looking at a 391% APR.
If you think that’s exorbitant, just wait: By claiming exemption from state rate limits, online payday lenders are raking in an average of $23.53 per $100 borrowed, according to CFPB research. That’s a whopping 613% APR.
2. Repayment Woes: If you find yourself unable to repay your payday loan, your lender will still try to recover the funds. They have your checking account information, so they will continue attempting to withdraw money from your account. But if you don’t have the funds to cover their withdrawal, each failed attempt will trigger bank fees against you. At the same time, payday lenders will start calling you and sending letters from their lawyers. They may even call your personal references.
As the fees pile up and the interest compounds, you might face a debt collector or even a civil lawsuit. The resulting court judgment remains public for seven years, and a successful lawsuit can lead to garnishment of your wages or even seizure of your assets.
3. Little Uniformity or Transparency: Payday loans have different regulations from state to state, with a wide range of borrowing limits. And storefront operations can run differently than online lenders. To complicate matters even more, you never know who might end up owning your loan. If you’re lucky, you end up with a direct lender who makes their own decisions about loans… if you’re unlucky, your loan will go through a broker who will sell your loan to the highest bidder.
4. No Benefit to Your Credit Score: There’s no reward for diligently paying back your loan. Payday lenders don’t generally report on-time payments to the credit bureaus, so your timely payment won’t help your credit score or even build up your credit. Conversely, though, your credit can definitely be damaged if you don’t pay the loans back promptly. Some payday lenders are quick to report default or sell loans to a collections agency.
How Can Protect Yourself If You Need a Payday Loan?
If you’ve started considering a payday loan, just stop now. Instead, look at other options, such as:
- Reducing your expenses
- Delaying paying some bills
- Getting a loan from a bank or credit union
- Using a credit card
- Borrowing from family and friends
- Borrowing from employer
But if you truly can’t make any of these other options work – or if you’ve already resorted to a payday loan – do everything in your power to pay it off immediately when your next paycheck comes in. If you think that’s just not going to happen, contact your lender ASAP.
If you candidly explain your situation, you might be able to negotiate a solution that doesn’t leave you high and dry. Tell them know you can’t pay the promised amount, let alone when it balloons over the next weeks (or months or years!), so if the loan continues to grow, you could be looking at bankruptcy – and that means the lender won’t get a dime back. Stress to the lender that you’re willing to pay them something to settle the loan – it’s just not realistic to expect all of it when the credit comes due.
Keep in mind that they’ll likely reject your initial proposal. They will demand you pay in full. So be persistent and follow up with another call (or two or three) to reiterate your position. Remind them that they’re still getting the better deal – more money than they originally lent you – and if they don’t agree to your terms, they’ll wind up getting nothing.
Once you do get your lender to agree, be sure you get that in writing!
Have you fallen victim to one of these predatory loans? Are you in over your head trying to break the payday loan cycle? Turn to the friendly folks at DebtGuru.com for real advice on getting a handle on your debt.