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Payday Loan Pros & Cons

The payday loan industry has come to the forefront of public scrutiny for their lending practices and the high rate of interest charged for the loan. The payday industry is lucrative for those who lend and can be an addictive disaster for those who borrow.

How It Works
Everyone finds himself or herself a little short of cash from time to time; there is no disputing that. Having a ready lender makes it easier to borrow for purchases that might otherwise be put off, but sometimes there are needs that cannot wait. Things like car repairs so you can continue to work, money for needed medication, or a host of other emergency necessities come up that require cash. That is when a person may turn to a payday loan. 

The person seeking such a loan can either locate a local lender through the phone book or get online in the privacy of their home to apply. The lender provides the requested amount of cash, up to certain restricted amounts, usually not more than $1,500. In return the borrower write a check to the lender, which the lender holds until the borrower’s next payday. The check is written for the amount of money requested, plus whatever applicable fees the lender imposes. When the borrower’s payday rolls around the lender presents the check at the bank for payment.

Often times, when the paycheck comes in it barely covers a borrower’s current expenses, in which case the loan can be rolled over. Rolling the loan over however incurs another lending fee for the privilege of borrowing the cash for yet another two weeks. The numbers would look something like this: 

Borrow $100
Loan fee $15
Write a check for $115
When the loan is promptly repaid the fee amounts to an annualized interest rate of 391%.

In this case it cost $10 to borrow the $100. If the loan were rolled over it would look like this:

Borrow $100
Loan fee $15
Write a check for $115
Roll over the loan $15
Write a new check for $125 that would be cashed on the next payday – unless it had to be rolled over again, incurring a $15 fee for each of the two-week periods the money was borrowed.

Getting Back On Track
It is easy to get caught up in a downward spiral of borrowing and never quite getting your finances back on track. Critics point out that there are better alternatives than getting a payday loan.

Often times a credit union or local bank can lend small amounts of money to those who are creditworthy. Credit cards usually offer a cash option as well. The interest rates are usually higher than they would be on a purchase, and there is no grace period on a cash advance. In a real pinch there may be local organizations willing to loan small amounts for necessitates. 

Of course there are also the traditional places to look for money too, such as parents, other family members, friends, or employers who may be willing to give a partial advance on a paycheck. In addition, it is worthwhile to ask creditors for an extension on bills such as phone, utilities and rent. Find out if there is an additional fee, late penalty or other factor to consider when comparing the cost of a payday loan versus the cost of extending payment on household bills. 

Sometimes a banking institution will grant overdraft privileges to cover checks even when the account is short on cash. There is usually a fee of $15 to $30 for each instance of overdraft honored and can lead to a damaged credit rating and financial problems just as the overuse of any kind of emergency cash access. 

Make a budget to determine where expenses can be cut and money saved. It is surprising how small amounts of money saved on a daily basis can really add up to substantial savings. For example, a daily stop at the designer coffee house on the way to work at $3.00 per drink totals a minimum of $60 per month. Sending laundry to the dry cleaners also adds up. Try machine-washing garments for which it is safe and avoid wearing those that require special treatment. Look for other ways to save money. The purchase of fast food can be a budget buster, as can other bad habits such as smoking, gambling, and drinking.

Anyone who experiences addiction should immediately get help for that addiction as it nearly always involves financial ruin if it isn’t brought under control and treated quickly. There are many wonderful, non-profit, self-help organizations available to help addict of any kind take back control of their lives from the habit. 

The Other Side
Critics of payday loan purveyors cite the high interest rates and claim they should be more highly regulated. Payday loan lenders claim there are no interest rates, but rather a fee based on a percentage of the amount borrowed. They point out that any short-term borrowing incurs a higher fee than a long-term purchase or lease. For example it would cost more to rent a car in two-week increments over time than purchasing that same car.

Let’s use the critics’ method of calculation where a two-week payday loan with a fee of $15 would constitute an annual interest rate of 391%. A full sized rental car taken out for two weeks would cost $692. Expand that to figure the cost of a new Dodge Stratus, the same car used in the rental example, and the car would cost over $89,000! The MSRP is only $20,000.

Same thing happens when looking at the cost of a hotel room versus a lease on a rental unit. The short-term transactions always cost more. On top of that most people seeking a payday loan have limited resources. They often have poor credit little to no savings; that is how they ended up in such dire straights and need to apply for a payday loan in the first place.

So what are these people supposed to do? Many times they don’t want to ask for money from friends and family yet again. They don’t want to ask the boss for an advance. For some that is not an alternative. A payday loan is a poor alternative to budgeting, self control in spending, and managing finances, but these are working adults and they, like anyone else has a right to spend money foolishly. 

Outlawing payday loans would remove from the most desperate individuals a means of last resort for quick cash in an emergency. Some have suggested permitting only a very low fee on these loans, but since they are high risk, short-term loans, there would not be enough profit to make the service viable for most enterprises and reduce the availability to those who need them most. 

All in all, a payday loan is a poor financial strategy that can trap the poor in ever increasing debt and fees, but for those who have no alternative and use them wisely, they can be one tool in the occasional tight spot. 

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