What happens if you can’t afford to repay a payday loan?

Defaulting on a payday loan can damage your credit score, trigger a barrage of harassing phone calls from debt collectors, and in extreme cases with a proper scumbag lender, land you in court. Make it a priority to settle the debt and escape the payday loan cycle trap.

What are payday loans and how are they typically used?

Payday loans are often advertised as a short-term solution for unexpected expenses such as vehicle repairs or medical bills. A fast way to get your hands on much needed cash between paychecks. In reality however, 69% of payday loans are used to deal with recurring expenses like credit card bills, rent payments, or groceries. 

In fact, only 16% dealt with an unexpected expense as mentioned above, according to a report published by The Pew Charitable Trusts. 

Loan amounts typically range between $200 to $1,000 lasting an average of 18 days. Upon the due date the borrower has the option to pay the loan amount plus the fee (usually around $15 per $100 borrowed) or rollover the loan for an additional fee. For the average payday borrower, a payday loan leads to a 5-month cycle of debt and then 7 times out of 10 the borrower turns right back around and takes out another loan. This is where the payday loan trap begins. 

Though the fees charged by payday lenders aren’t technically interest (most of the time), the resulting annual percentage rate (APR) due to these fees is upwards of 400%, compared to a credit card where the APR typically hovers around 24%. 

Features of a payday loan:

  • Higher interest rates and fees (mainly fees)
  • Repay with next paycheck ― hence the name payday loans
  • Disbursed by cash, check, prepaid card or electronic deposit
  • Borrower authorizes access to his or her account or writes a post-dated check

Payday loans are a type of unsecured loan. An unsecured loan is a loan that is authorized solely based on the borrower’s creditworthiness, rather than by any type of collateral like car title loans or title pawns. Which brings us to the last point of authorizing access to the borrower’s bank account or writing a post-dated check. This is what gives the lender leverage to collect their money without collateral.

I know what you may be thinking…

What happens if you get a payday loan and close your bank account?

This tactic will only worsen an already rough financial situation. You may close your bank account before the debit hits but this doesn’t release you of your legal obligation to repay the loan. It will simply leave you with a bad banking record. Furthermore, the payday lender could send your debt to collections. Though this is often the last thing the lender wants to do, given they would earn only pennies on the dollar for the debt.

Consider trying to negotiate with your payday lender

It’s worth contacting your payday lender the moment you realize that you are not going to be able to repay the loan and are in danger of defaulting. It may be a humbling conversation to have but remember, the lender does not want to send your debt to collections simply because it is not nearly as profitable as settling the debt directly with you, the borrower. Ideally they would collect payment in full but negotiations to settle under these circumstances are often a win-win for both the lender and borrower. The lender still gets to recoup a portion of the principal amount borrowed, whereas the borrower is rid of a bad debt for a fraction of the cost. 

If you have the means to pay only a portion of the debt, start by offering half of what you owe to settle the debt and work up from there. (Side note: I have personally used this tactic to settle medical debt that was inhibiting me from qualifying for grad school loans.) 

You will likely face resistance from the lender over the phone. When this happens tell the lender that you can’t afford to pay and are considering bankruptcy. To the lender, this is a worst case scenario ― even worse than sending the debt to collections ― because this means they will get nothing. 

Any agreement reached should be in writing clearly stating that the amount you owe will be reduced to zero before you pay a penny.

Failing to contact your payday lender will cause them to exercise their right to withdraw the money directly from your bank account or via post-dated check.

What happens if you don’t have the money in your bank account when the payday lender attempts to debit your account?

Firstly, be aware that your lender absolutely will debit your bank account without communication or regard to your financial situation. Without sufficient funds in your account there will be an overdraft fee. In some situations, the lender will repeatedly attempt to withdraw the money from the account, leaving the borrower with multiple overdraft charges stemming from the same incident. 

Thankfully, there are legal interventions that you can take to have your bank remove the overdraft fees and wave permission from the lender to access your account. But this doesn’t solve the root of the problem. The borrower still legally owes the lender money, and the tactics used to collect the debt are aggressive and exasperating.

Assuming that the borrower cannot amass the balance due on the payday loan, after a time period of 60 days the lender will likely move on to the collections phase of the process.

Debt Collections

Contrary to common belief, the debt will not get written off. Debt doesn’t simply just go away. The debt will be sold to a third-party debt collection agency that will contact your employer, anyone who may have financially covered your loan in the past, and anyone who you may have identified as a reference on your initial application for the loan ― whether they have the legal authority to or not.

Remember we aren’t talking about your typical credit card loan default. We’re talking about payday lenders, who are notorious for operating within the greyest area of the law in order to make a buck.

Just to get in contact with you, debt collectors will

  • Pretend to be someone else despite laws that state debt collectors must identify themselves
  • Call repeatedly at odd hours outside of the legally defined 8 am to 9 pm window
  • Lie about the amount you owe 
  • Make threats of court summons or jail times with unrealistic timelines to collect the debt owed

If you’re facing scrutiny from debt collectors, make sure to understand your rights under the Fair Debt Collection Practices Act (FDCPA) and stop their empty threats.

Some payday lenders who are unwilling to send their precious debt to third-party debt collection agencies may skip this step of the process and skip straight to court summons and lawsuits themselves.

Legal Repercussions: Lawsuits and Wage Garnishment

Arresting people, or threatening to do so, over unpaid debts has been illegal for years now. However, this doesn’t stop payday lenders from illegally using the criminal justice system to coerce repayment from borrowers.

If you don’t think lenders will sue for minuscule dollar amounts, think again.

Texas Appleseed, public interest justice center, analyzed over 1,500 criminal complaints filed by more than a dozen payday lenders between 2012 and mid-2014. What they found was that most lenders actually win in court. Why? Simply because the borrowers don’t show up. When in reality, there is at least a small chance that the case could be dismissed for lack of proof.

These people are already in tons of debt and the fear of having to hire a lawyer and pay court fees deter them from showing up to the courtroom. This results in the judges “taking the lender’s word for it” and rubber stamping the court order warning that the borrower could face arrest if they don’t immediately pay their debt. Even though most state laws clearly state that bouncing a check that is intended to repay a payday loan is not enough to pursue criminal charges.

Most of the time these groundless threats scare the borrower enough to spur them into taking out another loan just to pay off the original debt that triggered legal action to begin with. Where else are they going to find the money at this point?

However, if the loan is still not paid off at this point, the lender may garnish the borrower’s wages on the grounds that the borrower does in fact legally owe the payday lender money. At this stage in the process, bankruptcy is the only alternative for many borrowers.

An alternative to high cost payday loans in the future

Next time you may be able to avoid the payday loan trap altogether. The best alternative to a payday loan is a Payday Alternative Loan administered by a federal credit union. Legally, federal credit unions can charge up to 28% ― similar to the annual percentage rate of a credit card Payday Alternative Loan or PALs include consumer protection features.

Consumer protection features of PALs:

  • Between $200 and $1,000
  • Must be a member for at least one month
  • Loan term of 1 to 6 months
  • Application maxes out at $20
  • Loan cannot be rolled over

To learn more about PALs, visit the National Credit Union Administration’s website.

Remember, if you must proceed with a payday loan…

  • Shop for lowest fees and penalties
  • Borrow only what you can afford to pay back
  • Avoid borrowing from more than one lender
  • Federal law requires lenders to outline finance charges and annual percentage rates
  • Know that state laws influence how much you can borrow and fees charged

If you’re in need of payday loan consolidation, please consider scheduling a free consultation with us by clicking here.

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