You’ve probably heard of payday loans, even if you’ve never gotten one. And good for you if you haven’t heard of payday loans because they are a really bad idea.
Let’s put it this way: they’re one of those financial arrangements that’s incredibly easy to get into, but painfully difficult to get out of.
In this article, I’m unpacking what payday loans are, and why you should look for alternatives to this type of loan.
What is a payday loan?
A payday loan is a very short-term loan. That’s short-term, as in no more than a few weeks. They’re usually available through payday lenders operating out of storefronts, but some are now also operating online.
Payday loans work best for people who need cash in a hurry. That’s because the entire application process can be completed in a matter of minutes. Literally!
Payday lenders will verify your income and a bank checking account. They verify the income to determine your ability to repay. But the bank account online payday OH has a more specific purpose.
How do payday loans work?
When your loan is approved, the funds are deposited into the verified bank account. But even more important, the lender will require that you write a postdated check in payment of both the loan amount and the interest charged on it.
For example, let’s say that you’re granted a $500 loan on October 16. Since the loan will require repayment within two weeks, you will write a check back to the lender that’s dated for October 30. The check will be for $575 – $500 for their loan repayment, plus $75 for interest.
The postdated check ensures that the lender will be paid back by the scheduled date and that they won’t have to chase you to get it. Borrowers tolerate the postdated check arrangement because the other major component that lenders normally look at – credit history – is ignored by payday lenders.
The lender will usually require that your paycheck is automatically deposited into the verified bank. The postdated check will then be set to coincide with the payroll deposit, ensuring that the post-dated check will clear the account.
The reasons people take payday loans
People with poor credit are natural clientele for payday loans. The borrower can apply for the loan, and not be at all concerned that his credit is either ugly or nonexistent.
People with little or no savings represent another natural erica live on a paycheck-to-paycheck basis. A 2019 survey by Go Banking Rates found that 69% of American households have less than $1,000 in savings. That demonstrates the enormous potential market for payday loans, and why they’re so stubbornly popular.
For example, if you have bad credit, no savings, and car trouble and you find out that it will take $700 to fix it. You need the car to get to work, and since you have no available credit and no savings, you turn to payday lenders. You may have no idea how to come up with $700 (plus interest) in two weeks, but the loan buys you some time – and you have no idea that there are actually great alternatives to a payday loan.
Payday loans are used in place of emergency savings accounts, although the trust has found that many also use them for regular living expenses.
The bad part about payday loans
The most obvious problem with payday loans is the cost. We just did an example of a borrower who pays $75 in interest for a $500 loan. If that was the cost of interest for a full year, the interest rate would be 15%. That would be a decent rate for someone who has either bad credit or no credit, and is taking an unsecured loan.