What is a payday loan?


A payday loan, also variously referred to as a payday or cash advance, is a small, short-term loan. The amount loaned, generally around $500 or less, is given to a borrower by a bank or other financial institution with the guarantee that it will be paid back on the borrower’s next payday. A payday loan is an unsecured loan, meaning that there is no collateral – house, car, etc. – involved and all the lender has is the lender’s word and proof of income.

This type of loan is specifically designed to offer the consumer immediate access to funds when they are in need, and often without the same lengthy process that would prevent such convenience. The main drawback of a payday loan is the interest rate, which is comparably high so as to reflect the high risk taken by the bank or other financial institution. There are also applied fees to be paid, which will then accumulate if one is unable to repay the loan or chooses to let it roll over and extend until the borrower’s next payday.

The key features of payday loans:

  • They are for small amounts, typically for a few hundred dollars.
  • They are due to be repaid on the borrower’s next payday.
  • Evidence must be supplied as proof of income including the date of the next payday which will is when the loan must be repaid.
  • The borrower must give the lender access to their checking account or write a check for the full balance in advance.

“This type of loan is specifically designed to offer the consumer immediate access to funds when they are in need, and often without the same lengthy process that would prevent such convenience.”

Is a payday loan right for me?

The key advantages of payday loans:

  • The main advantage of payday loans is obviously the ability for borrowers to access money immediately, when they need it.
  • Payday loans can be compared to bad credit loans in that the financial establishments that provide and advertise them them are often willing to do so even if a prospective borrower has a bad credit history.
  • It can be argued that payday loans are indeed a cheaper alternative than bounced check or overdraft fees.

The key disadvantages of payday loans:

  • Payday are considered to be extremely expensive, carrying an annual percentage rate that may amount to several hundred percent. There are also borrowing fees to be applied on top of the interest rates.
  • While payday loans are convenient in that they can solve a borrower’s financial struggles immediately, the high costs and fees mean that these problems really aren’t solved at all. Payday loans will only add a high level of interest to those struggles, exacerbating such financial problems.
  • While designed to offer people the access to money quickly, they are also designed to take advantage of a consumer’s weaknesses. Is it only too easy to allow a payday loan to roll over and stretch out, costing more money in interest in fees.

What is predatory lending?

To continue from this last listed disadvantage, payday loans are often associated with predatory lending. This is defined as the unfair, deceptive or fraudulent practice of some lenders in their providing of loans. Mainly, the imposing of unfair or difficult terms on borrowers so as to increase the probability of borrowers failing to meet the demands of a loan and thus, gaining more money in fees. This can be compared to the deceptive practices associated with certain credit card companies whose interest rates are considered to be unreasonably high. Lenders may also be accused to tricking a prospective borrower into believing that a rate is lower than it really is. Predatory lending will often occur on secured loans, where the loan is supplied along with some kind of collateral which can then be claimed once the borrower defaults on the loan.

What about alternatives to payday loans?

  • While often easier said than done, one alternative to a payday loan would be to build up an emergency cash fund in your savings account that can then be accessed upon running into financial difficulties.
  • Similarly, keeping an open credit card might be a good idea, just so as to cover emergency expenses should they occur.
  • Another obvious alternative would be to build one’s credit so that one can borrow small amounts from mainstream lenders at a better rate.
  • Renegotiate your current payment plan on an existing loan to allow you access to more funds, without the need to take out a new loan.
  • An auto title loan would be a good alternative to a payday loan, if the consumer owns their own vehicle.

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