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ISSUE
Payday Loans

Published:2016-Jun-02
Last Updated:2016-Aug-25
Principal Writer:Barry Shatzman

Issue Sections

Understanding The Issue
Issue Status
What You Can Do
More Information

Reported News

Consumer Issues: Unfair Practices

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Borrowing is different if you're struggling

People borrow money for various reasons. According to the Consumer Financial Protection Bureau (CFPB), most consumer loans are for specific purposes...

o Mortgage ($10 trillion in outstanding balances)
o Education ($1.3 trillion in outstanding balances)
o Auto ($1 trillion in outstanding balances)

These loans are used to buy things with lasting value.

For many people, a loan might be needed to cover basic living expenses. The cause might be an emergency expense such as a car repair or a fluctuating work schedule with fewer hours in a particular pay period.

One way people cover these shortfalls is through a short term loan referred to as a liquidity loan. Payday loans are one type of liquidity loan.

What is a payday loan?

There is no official definition for the term payday loan, but the term refers to a type of loan with certain characteristics...

o Small amounts - typically a few hundred dollars.
o Short terms - typically two 2 weeks.
o No credit checks

Here's a typical way it works. The cost of the loan is about $15 for each $100 borrowed. Let's say you want to borrow $300 from a Payday Loan store.

o You write them a check for $345 - dated two weeks in advance.
o You get $300
o In two weeks, the store will cash your check.

A similar payday loan practice is for the borrower to give the lender electronic access to his checking account, rather than writing a paper check. When the loan becomes due, the lender accesses the account and withdraws the owed money.

Payday loans also are referred to as cash advance loans, deferred deposit, and deferred presentment loans - depending on the laws in a particular state.

Millions of Americans have used payday loans

Who uses payday loans? Lots of people. In 2013, more than 2.5 million households (that's 1 out of every 50 U.S. households) used payday loans.

While the loans are used mostly by those struggling financially, they aren't for the poorest families. To even get a payday loan, someone must have a job and a checking account..

A 2012 study by the Pew Charitable Trusts showed that almost 1 in 10 renters earning between $40,000 and $100,000 a year have used them.

And they aren't only for emergencies. In 2011, 4 out of every 5 borrowers used payday loans for a recurring expense, rather than an unexpected one.

The problem is when the borrower can't pay the loan back

The $45 fee (for a $300 loan) can be a significant burden to the type of person most likely to need a payday loan.

The fee also makes these loans much more expensive than a traditional loan or even a credit card cash advance. The annual interest on a credit card cash advance might be 20 percent. The 15-percent fee on a payday loan - which is for only 2 weeks - translates to almost 400 percent per year.

It still can be worthwhile for someone who has no other options - especially if it's for something like fixing a car that they can't get to work without.

The problem is what happens when their next paycheck is effectively $345 less (from paying back the loan and the fee). In many instances, that paycheck won't be enough to repay the loan and still cover living expenses.

Several things can happen then...

If the lender tries to cash the $345 check (or electronically withdraw the money) but there isn't enough money, the bank will charge the borrower a fee for insufficient funds. The lender may try multiple times - each time resulting in a bank fee to the borrower.

One way the borrower can prevent the bank fees is to extend the loan for another two weeks - by paying another $45 fee.

Renewing loans is the rule rather than the exception

More than 8 out of every 10 payday loans are renewed (or followed by a subsequent loan) within two weeks, according to the CFPB.

In 2012, the average borrower took out 8 payday loans, the Pew Charitable Trust reported. The average loan was $375, and borrowers paid an average of $520 in interest.

On the average, borrowers are indebted for 5 months of the year.

Where did we get our data?

The numbers we cite come from a few sources...

There is much data regarding payday loans in the 2016 Consumer Financial Protection Bureau proposal to regulate payday loans.

You can learn more about who uses payday loans from this 2012 Pew Charitable Trusts report.


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