What is a payday loan?
Written by: Beth Lake ∙ Last Updated: Aug 14, 2024 ∙ 4 min read Payday loans are a quick way to get money fast. They are short-term loans, usually with high interest rates. The interest rate depends on your income, and the loan must be repaid from your next paycheck. Because lenders charge high interest rates for short money, you end up paying back much more money than you originally borrowed.
Not all states allow payday loans. In fact, 16 states prohibit them altogether, including Arizona, Arkansas, Colorado, Connecticut, Georgia, Maryland, Massachusetts, Montana, New Hampshire, New Jersey, New York, North Carolina, Pennsylvania, South Dakota, Vermont, West Virginia, and the District of Columbia. This is because payday loan lenders can charge excessive fees and interest rates. Which can ultimately lead some borrowers into even more debt.
Over the years, several laws have been passed to regulate interest rate fees on payday loans. These regulations are designed to protect consumers from falling into the debt trap.
Payday loan traps
Same day loans may seem like a quick fix, but they come at a high cost. Unlike a mortgage or car loan, lenders don't require collateral, but this convenience has its drawbacks.
Lenders charge high interest rates, and unfortunately some of them may charge hidden fees. In addition, they often don't care if you can actually pay off the loan. You end up in a debt trap where you are forced to take out another loan to cover the previous one, and with additional fees.
Consider other options before turning to payday lenders. There are safer loans available, such as personal loans with better terms and lower rates.
How payday loans work
Getting a cash advance loan can be simple and fast. With traditional creditors, they ask for a proof of income and bank information. If approved, you will get the cash instantly. Online lenders transfer funds electronically within one to two business days.
To secure the loan, you either provide a check with the repayment date stamped on it, or you authorize the lender to electronically debit your account on a designated date. In most cases, this is the next payday (usually within two weeks, but can be up to a month).
In-store loans can be more flexible. If you wish, you can pay off the loan early before the due date. If the loan is not repaid by the due date, the lender will typically try to collect payment in a way you authorized, such as by cashing a check or electronic withdrawal. Online lenders often automate this process by setting up scheduled debits from your checking account.
How much do payday loans cost?
Payday lenders are essentially loan sharks hunting desperate people. The interest rates on such loans can be as high as 1460% per annum, which is many times higher than the acceptable norms. Even the average rate on such loans is around 400% per annum, which is a prohibitively high credit burden on the borrower.
Most U.S. states have laws that limit interest rates on loans to between 5% and 30%. However, the lack of proper regulation of lending allows usurers to make money from borrowers.
In some states, such as Arizona and New York, payday loans are completely banned. But in others, such as Texas, where there is a $300 limit, usurers can still charge up to 15% commission. But just think that with a two-week loan of $300, this commission turns into 460% per annum!
Unfortunately, many people, due to their difficult financial situation, agree to predatory interest rates. Payday loans are positioned as a short-term solution to problems, but in fact, lenders often encourage loan extensions, plunging borrowers into an even deeper debt hole
Are payday loans legal?
Since 2016, the United States has been actively taking steps to protect borrowers from predatory lenders. The Consumer Financial Protection Bureau (CFPB), led by Richard Cordray (2016), initiated a series of rules aimed at preventing people from falling into "debt traps"-cycles of high-interest loans they cannot repay on time.
In 2019, under the Trump administration, the CFPB, under the leadership of Kathy Kraninger, attempted to roll back some of these rules. However, in 2020, the credit score requirement was reinstated. The debt collection restrictions remained in place.
In 2022, under the Biden administration, the CFPB implemented even stricter rules for payday lending. These rules went into effect in June 2022.
Are payday loans fixed or variable?
Payday loans are often marketed as a convenient way to get cash until your next paycheck. Unlike other loans with accruing interest, they have a fixed fee. Typically, the fee ranges from $10 to $30 per $100 borrowed. For example, if you borrow $200 and pay a fixed fee of $20, that means you'd pay back $240.
Payday loans and credit scores
It's important to note that not all lenders faithfully report loan repayments to the credit bureaus. This means that it is only when you fall behind on your payments that the information may be reported.
Your debt may be sent to collection agencies if you do not pay it. These companies report delinquencies to the credit bureaus. A negative mark on your credit score can remain on your credit report for up to seven years.
Depending on the laws in your state, unpaid debts may be subject to legal action. If the lender takes you to court, the debt collection information will be entered into the public record. This will also reflect badly on your credit report.
How to get a payday loan
- Prepare your documents. Prepare a government-issued ID, and proof of income such as a recent pay stub, and open a checking account if you don't already have one. Most lenders require these documents to verify your identity and determine how much you can borrow. Having them will speed up the application process, whether you visit a store or apply online.
- Check the disclosures. Payday lending rules vary by state, but some key details should always be transparent. A reputable lender will disclose his or her license, the total amount of the debt, and the repayment terms. Information about all of the fees associated with the loan, including the annual percentage rate (APR), will not be kept a secret. Knowing this upfront will help you make an informed decision and avoid paying more than necessary.
- Plan to repay. The golden rule when taking out a payday loan is to have a specific plan to repay the entire amount by the due date or sooner. Consider your regular expenses to make sure you can afford the loan payments without missing a beat. This responsible approach will help you avoid additional fees and the potential need to take out another loan to cover the first.
How quickly is a payday loan issued
1-hour payday loans can help you get the cash you need to cover unexpected expenses. These loans are no credit check loans, so even if you have bad credit, you may still be able to qualify. Apply online and get a decision on your loan offer in about an hour. If approved, you could have the funds deposited directly into your checking account by the end of the same business day or the next business day.
Payday loan alternative options
Payday loans can be a convenient option for those who need a small amount of money quickly. If you are considering taking out a loan, it is important to research alternatives:
- Borrow money from friends or family. This can save you fees, but be sure to agree on repayment terms in writing.
- Classic bank or credit union loan. Interest rates are much lower. There is a credit check. Repayment can be based on income.
- Cash advances from your employer. Some companies offer advances in case of emergencies. Repayment is made through payroll deductions.
- Assistance programs from nonprofits and government agencies. Provide funds for emergency needs without high fees.
- Local charitable and religious organizations. To help pay for basic necessities such as food, rent, and medical bills, many offer no-interest loans or grants.
- Credit unions. Often offer small dollar loans with lower interest rates and more favorable terms.
- Emergency fund building. Can provide financial protection for unexpected expenses. Even small contributions to this fund can grow over time. It can help cover emergencies without resorting to credit.
The above options require more effort than getting payday loans. However, they are much less financially risky.
Frequently asked questions
Payday loans are different from installment loans and credit cards. When you get a payday loan, you typically borrow a small amount of money and repay it in full, including fees, in one payment.
This is different from an installment loan. In an installment loan, you pay back the amount borrowed plus interest in several small payments over a period of time.
Credit cards, on the other hand, offer a revolving line of credit. You can borrow money up to your credit limit. You pay it off each month and borrow again as needed.
A payday loan, also known as a cash advance, provides a quick and convenient way to get access to money.
Poor or bad credit is considered during the application process. However, it's not the only factor. We encourage you to apply for a loan regardless of your credit score.
