Gregory McTaggart

Payday Loan Centers: Borrower Beware

If you're strapped for cash it may be tempting to get a payday advance to tide you over for a week or two until you get your next paycheck. What could be the harm? By nature, these loans are designed to keep borrowers in debt, not to help them out of a bad financial situation. Critics argue that the lenders are simply exploiting people who are in a financial crisis.

If you're strapped for cash it may be tempting to get a payday advance to tide you over for a week or two until you get your next paycheck. What could be the harm? The industry claims they're providing needed credit to consumers who aren't able to qualify for conventional loans. Many others see these businesses as predatory and nothing more than old-fashioned usury, leading the borrower further into financial crisis.

What is Payday Lending?

Payday lending, or cash advance, is a practice of using a post-dated check or electronic account information as collateral for a short-term loan. Borrowers only need identification, a bank account, and an income from a job or benefits such as Social Security or disability. Loans aren't dependent upon the borrowers credit history. By nature, these loans are designed to keep borrowers in debt, not to help them out of a bad financial situation. Typically, lenders don't accept partial payments, so if you can't pay it off, you may feel the only way out is to renew the loan. According to the Center for Responsible Lending, 90% of payday loans go to repeat borrowers-five or more loans per year. They've also found that the lenders receive $4.2 billion every year from Americans in fees.

How do Payday loans Work?

Let's say you need a $400 loan and will pay it back on your next payday. You give a post-dated check for $460 and get the $400 cash. The lender agrees to hold the check until your next payday. Then, when the loan is due, the borrower has the option to redeem the check by paying $460 in cash, or renew the loan (called flipping) by paying off the $460 while immediately taking another loan of $400, or allowing the lender to cash the check. The cost of the initial loan is a $60 finance charge, or 390% APR! If the borrower decides to renew the loan three times (like most do), the finance charge would end up to be $240 to borrow just $400.

Conclusion

You can see from this example why this practice is very controversial. Critics argue that the lenders are simply exploiting people who are in a financial crisis. The borrowers get trapped in a cycle of debt and the lenders depend on this for their business. They don't rely on the one time borrower. Fourteen states have made payday lending illegal. Access to credit card must be fair and responsible.

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