Considering a Payday Loan? Know the Pros and Cons

If you make less than $40,000 a year, don’t have a college degree, don’t own your own home and are divorced or separated, you’re a prime candidate for a payday loan.

When you apply for a payday loan, the lender won’t give you the whole story. It’s important that you fully understand the risks before you borrow.

Key points

• Payday loans are easy to get
• There’s no credit check
• Payday lenders charge crushing interest rates of 300% APR — or even higher
• They’re dangerous because they leave borrowers trapped in a cycle of debt

Payday loan pros and cons at a glance

Pros	Cons
Speed	They’re expensive
No credit check	They lead to regret
Easy access	They target low-income and minority populations
No collateral required	They’re predatory
Few requirements	You’ll have to provide access to your bank account
	There are a lot of scams
	You could get sued
	You’ll likely get stuck in the payday loan debt cycle
	They won’t help you build credit

Pros of payday loans

They’re quick and easy

These loans are quick, easy, flexible, convenient, invaluable for emergencies, use the money for anything, and usually do not require a credit check. All you need is an ID and bank account. 

There’s no credit check

Payday loan lenders won’t check your credit reports with the three major credit bureaus, so you’ll still qualify even if you have bad credit or your credit score is less than perfect. All you need is an ID and proof of income. Payday lenders don’t report your loan to the major credit bureaus (Experian, Equifax, TransUnion) if you pay back the loan on time and in full. They will, though, report your loan to FactorTrust and Clarity, which payday lenders primarily utilize. But if you lose a court case against the lender, that information could appear in your credit report and lower your credit scores.

They’re easy to access

When you’re in a bind and need quick financial relief, it is easy to stop by any of the 23,000 payday lenders in the U.S.; that’s twice the number of McDonald’s restaurants. Most offer a same-day funding option until 2 p.m. CST, or next business day funds delivery.

It’s an unsecured loan

Payday loans are considered a form of unsecured debt, unlike a mortgage, which means you do not have to give the lender any collateral or put anything up in return, like if you went to a pawn shop.

READ MORE: Is a payday loan secured or unsecured?

There are fewer requirements than in traditional financial services

Borrowing from payday lenders is not as rigorous as lending from traditional sources like a bank or credit union. There are little to underwriting requirements for this fast approval.

Its basic requirements are:

• Be at least 18
• Have a government-issued ID or Social Security number
• Have a steady job or another source of income
• Have a bank account

Cons of payday loans

While advocates can tout the benefits of a payday loan, their disadvantages outweigh their advantages.

They’re expensive

Payday loans are notorious for sky-high fees and annual percentage rates. Repayment on the next payday makes it challenging to come up with enough money to repay the total amount of the loan as scheduled, thus pulling you into a payday loan death trap.
A typical two-week payday loan with a $15 per $100 fee equates to an annual percentage rate (APR) of almost 400%. APRs on credit cards can range from about 12% to about 30%.

They lead to regret

A 2021 DebtHammer survey in 2021 found that more than 90% of payday loan borrowers regret taking out their original loan. Roughly 80% of those surveyed said that their payday loan left them in a worse position than they were in before they took out the loan.

Payday loan lenders target low-income, minority communities

According to a report from the Center for Responsible Lending, there are about 8.1 payday loan stores per 100,000 people in Black and Latino communities. Mostly white neighborhoods had about 4 for every 100,000 people.

These communities are targeted because these low-income, minority communities have more residents that make less than $40,000 a year, don’t have a college degree, and more than likely don’t own a home.

They’re considered predatory

Predatory lending is any lending practice that imposes unfair and abusive loan terms on borrowers, including high-interest rates, high fees, and terms that strip the borrower of equity. Predatory lenders use pressure tactics and deception to get borrowers to take out loans they can’t afford.

According to Bloomberg.com, these predatory lenders charging 589% made record profits during the 2020 pandemic targeting Black and Latino communities.

You’ll have to provide access to your bank account

Payday lenders want this access to your account so they can verify your income, set up payments, and deposit funds. By writing a check on your account, you authorize the payday lender to remove cash directly from the account. Authorizing a payday lender alone should be enough to make anyone uncomfortable.

Online lenders ask for a routing and account number, while brick and mortar lenders ask for a voided check containing your routing and account number. It’s possible to stop these ACH payments from being debited from your account, but it requires some specific actions.

You could get scammed

Scammers are everywhere, including the payday loan industry. To avoid potential scams, never provide information if the company asks for your login credentials over the phone. If the site login page is insecure and your browser gives you a notification, choose a different lender. And if a company says you need to pay a fee before you apply, that’s a red flag.

READ MORE: How to protect yourself from payday loan scams

You could end up in court and have your wages garnished 

If you decide not to pay your loan and are taken to court by the lender, and you lose, only then can your employer hold back the legally required portion of your wages to service your debt.

They could leave you stuck in a cycle of debt

Payday lenders use payday loans to exploit financial needs by trapping you in a debt cycle with high-interest rates, also known as the debt trap. 

Each time you cannot repay the last loan and are forced to roll over into a new loan, additional fees increase your out-of-pocket costs. It is estimated that 1 in 4 payday loans are borrowed nine times.

READ MORE: How to get out of payday loan debt in 8 steps

Payday loans will not help you build credit

Because they do not report to the big three credit bureaus, which most financial institutions rely upon to deem your creditworthiness, payday loans will not help you build or contribute to your credit history. If you are unsure if they do — ask.

What you need to know about payday loans

Payday loans are low-limit short-term loans with high-interest rates, meant to be repaid from your next paycheck. Annual percentage rates are triple digits, sometimes higher than 600% APR. Loan amounts are small, generally less than $500. All you need is an ID and bank account. The lender often doesn’t check your credit report but does verify your income and banking information. Many payday loan borrowers won’t qualify for a traditional loan or don’t have the time to wait for the loan process.

How payday loans work

Payday loans should only be used when you need quick emergency cash and only as a last resort. You visit a brick-and-mortar payday lending storefront or online payday loan lender and fill out a loan application. You’ll get the funds almost immediately. You will be expected to provide checking account information, and the lender will usually debit the money from your account on the next payday.

According to the Consumer Financial Protection Bureau (CFPB):

“To repay the loan, you generally write a post-dated check for the full balance, including fees, or you provide the lender with authorization to electronically debit the funds from your bank, credit union, or prepaid card account. If you don’t repay the loan on or before the due date, the lender can cash the check or electronically withdraw money from your account.”

Not really a quick solution

Payday loans are promoted as a quick solution to a financial fix. But in the end, long-term debt is more typical of the borrower experience and its core business model. With each new loan rollover, borrowers cannot repay the lender and have enough money left until the next payday arrives. Payday loans are a debt trap by design and lead to an avalanche of other financial consequences such as increased overdraft fees, property repossessions, and even bankruptcy. 

Payday lenders also have the option for you to make multi-payment “payday installment” loans, which can be for more significant amounts and extend the cycle of high-cost debt even longer.

What’s the difference between a payday loan and a tribal lender?

Tribal lenders offer short-term, small-dollar payday loans owned and operated by a recognized Native American tribal government. They are payday lenders based on tribal land, with loans from companies owned by Native American tribes.

The big differentiator between tribal loans and traditional payday lenders is that conventional lenders are mandated to follow the federal payday lending guidelines to ensure proper lending practices; tribal lenders are not. Tribal loans are NOT regulated by the federal government but by the tribal laws of a specific tribe and have an autonomous set of rules and have tribal immunity.

Traditional payday loans are considered so predatory that they are banned in many states. Tribal loans are not the case and are untouchable by state laws. This means tribal lenders can do as they please. Tribal loans can charge any interest rate they wish that far exceeds state limits, provide loans with balances higher than state minimums, and even break the terms of their loan agreements with no federal ramifications.

Check out this video to learn more about the problems with payday loans:

Payday loan collection practices

Money will be debited from your account on payday. If there isn’t enough money in your account, it could lead to an overdraft fee in addition to the fees you’re already paying. 

If you don’t have the money, you can rollover your loan into a new loan, but you’ll pay even more fees and interest. About 80% of payday loan borrowers end up rolling their loan into a new loan, according to the Consumer Financial Protection Bureau (CFPB).

If you don’t pay the lender, your payday loan debt will be sent to collections. At this point, your credit score will be damaged, and the debt collectors will start calling.

The Federal Trade Commission (FTC) and Consumer Financial Protection Bureau (CFPB) have rules to protect you from evil debt collections. Know your rights.

The Fair Debt Collection Practices Act (FDCPA) protects you as an individual. It was designed to establish legal consumer protection against abusive, deceptive and unfair debt collection practices.

One way to protect yourself and make sure these rules are enforced is to let debt collectors know that you are aware of your rights under the FDCPA. Any violation should be documented and sent to the Federal Trade Commission, the Consumer Financial Protection Bureau, and your state attorney general’s office.

Other types of loans if you need quick cash

Don’t feel trapped that your only option is to use a payday lender. There are plenty of other financial services available for borrowers with poor credit.

• Cash advance apps: A cash advance app allows borrowers paycheck advances, sometimes up to two days earlier, with direct deposit or gives access to monies already earned before payday. These online lenders offer small cash advances with no interest. Some charge a small monthly membership fee. 
• Payday Alternative Loans: Credit unions’ Payday Alternative Loans often come with low rates and fees, which results in a lower overall cost of borrowing. It can be easier to get approval for a loan through a credit union than a traditional bank as an additional benefit. You would have to sign up for a membership, open up an account and make a small deposit. Then you can apply for a loan.
• Personal loans: A personal loan is also known as a consumer loan or multipurpose loan. This loan is unsecured credit provided by a financial institution and a type of installment debt that allows lump-sum funding repaid over time. Try an online lender, bank or credit union, or even family member or credit card cash advance.
• Peer-to-peer lending: Peer-to-peer lending websites connect borrowers directly to lenders or investors, also known as crowdfunding. You would state how you would spend the money and why lending you the money is a reasonable risk. People looking for help with their medical bills have had great success with P2P lending.
• Credit card cash advance: You can make a cash advance on a credit card. It is just as convenient as taking money out from the ATM. Just remember that your credit card company will charge you cash advance fees and an interest rate higher than your purchase APR. Credit card companies give you anywhere from a 20% to 50% cash advance cap based on your spending limit.

Other alternatives

• Negotiate with your creditors: You can try a DIY debt settlement, but you will have to be an excellent negotiator for this type of do-it-yourself debt settlement. Or you can hire a third-party credit counseling agency that can set up a repayment plan or hire an attorney to negotiate on your behalf. It’s essential to know the maximum amount you can afford as a monthly settlement and the exact date you can pay.
• Pay another bill late: Paying a bill late to cover a short is not the ideal situation. But the late fee you’ll pay on a late mortgage payment, rent payment, or phone bill will be lower than the fees you pay a payday lender. Make sure that you’re no more than two weeks late paying that bill with the late fee so that you don’t hurt your credit score and aren’t at risk of having that service cut off. Do not try this unless you’re entirely sure that you’ll have the money on your next payday.

READ MORE: What is payday loan consolidation?

Next steps

Once you’re through your immediate crisis, take the following steps to protect yourself and your finances.

Start an emergency fund

An emergency fund gives you financial resilience. The fund will help you with unplanned expenses without jeopardizing your financial stability or increasing your debt. It can help you avoid costly financial decisions and allows you to live for a few months if you lose your job or if something unexpected pops up that requires a fair chunk of change to cover.

Build your credit

If your credit took a hit, rebuild your credit. There are a few ways to do this:

• Credit builder loans: These are small limit loan amounts typically less than $1000, where the money is set aside for you in a secured savings account or certificate of deposit while you pay off the loan. You receive the funds minus any interest and administration fees when the CD unlocks. These loans allow you to build credit while you save money.
• Secured Loan: A secured loan is a loan that is backed by collateral, financial assets you own, like a home or a car. These loans not only allow you to use a financial institution’s funds, but they can also help you create a positive credit history.
• Credit card account authorized user: Make sure it is a person with good credit. The primary cardholder is responsible for paying the bill, but any missed or late payments appear on both parties’ credit reports.
• Secured credit card: A secured credit card requires you to deposit. Your deposit amount is equal to your credit limit. If you put down a security deposit of $500, your credit line will also be $500.

The bottom line

Payday loans are an easy, enticing avenue to pursue when in a financial pinch. But these types of loans should be a last resort. These loans are not long-term solutions, and consumers pay a steep price for that convenience. 

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