Finance — 1 year ago

What are Payday Loans?

by Eric C.

Payday Loan, Payday Loans, What are Payday Loans

How Do Payday Loans Work?

Payday loans, also known as micro, small, or cash loans, are often used as a short- term money solution for cash strapped individual. While there are no set definitions for payday loans, they can be generally described as loans averaging at $500, due on the next payday. Depending on the various state laws, payday loans may either be available through storefront lenders or online.

Payday Loan Advantages

Most people take out a payday loan when they find themselves strapped for cash during an emergency. The situation can range from needing money for repairing your car, or even emergency plumbing services. Broadly stated, there are three reasons why individuals take out payday loans, including:

  • A fast solution for financial emergencies.
  • They usually have a speedy approval time.
  • The loan amount is deposited directly to the bank account of the borrower.
Payday Loan

How to Obtain a Payday Loan

Obtaining a payday loan is a relatively simple process. The borrower must provide proof of salary from their employer, to show their current levels of income. As there is no fixed interest rate, most lenders base their interest on a percentage of the borrower's projected short term income. Moreover, the credit score and credit history of the borrower also play a role.

The Payday Loan Debt Trap

The business model of a payday loan shark depends on 'predatory loans.' In California, for example, a payday lender can charge Annual Percentage Rates (APR) up to 459% for an amount of $100. Furthermore, finance fees are also charged, averaging at $18 for every $100. However, for a person in a financial emergency, these numbers hardly matter. Most loan amounts in California range from $1000 to $1500, and have a time period of 30 days or less.

Payday Loans

Moreover, the amount is always supposed to be paid back in a single repayment. With the interest and finance fees, the repayment amount leaves no space for other important purchases like groceries, or payment of bills. These loans tend to accumulate over a period of time, and more often than not, the borrower has to end up paying far more than the original loan amount. Thus, the borrower is compelled to take out more payday loans. This is known as the 'Debt Trap.'

Currently, the average borrower takes out 10 payday loans and has to pay a further 391% in interest and fees. 75% of the payday lenders benefit from these repeat borrowers. Unfortunately, the debt trap is a core component in the business model of payday lenders.

What are Payday Loans

Why Do Payday Loans Still Work?

Despite the obvious high costs and a loan shark tendency, payday loans are highly popular among Americans, with an average of 2.5 million people taking out these loans each year.

  • Most people who take out these loans have bad credit loans or negligible income. A payday loan helps them to cover their expenses in a fairly swift manner.
  • A payday loan is fairly easy to secure. Most lenders do not look at credit scores and credit history. As long as the borrower has a steady income, they are legible for the loan.
  • Most people do not like asking family or friends for money. Furthermore, alternatives for payday loans are not always easy to find. Thus, these loans have ease of access.

A payday loan can quickly solve monetary issues in the short term. However, they have unreasonably high APRs. Thus, it is very easy to get caught up in a vicious cycle of debt. It is always best to consider all options, keeping payday loans as a last resort.

Payday Loans Online

Payday Loans Online

Aside from a face-to-face payday loan, you can also get payday loans online. When you search for payday loans online, you have to be careful; there have been numerous cases where online lenders committed fraud or broke loan regulations, which hurt borrowers.

To make sure you do not fall into an online payday loan fraud, or to prevent yourself from getting in over your head, you need to take certain precautions. First of all, make sure to use only reputable online lenders, like credit unions, that have experience with payday loans. If you use a less than known online lender, check reviews about them; read other people's opinions, check for good and bad reviews, and find out if the service you are considering is legitimate.

Then, narrow down the list to several payday loans online companies that are legitimate and compare interest rates and other factors that can affect your decision. After you read all the fine print and find out the terms of the loans, only then you should choose the best payday loan for you and sign up for it.

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