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Payday Loans
The Hard Truth About Some "Easy" Money

Short on cash?  Need just a little more to get you through to payday?  Step right up and take out a payday loan.  This increasingly popular line of credit will provide you with the $100 or $200 you need to get by until your next paycheck arrives.  The price for this easy cash?  At most check-cashing outlets, only interest rates from 261% APR (annual percentage rate) on up.

Alternatively known as cash-advance loans, post-dated check loans, or delayed deposit check loans, payday loans are a star product at check-cashing outlets.  Touted as a convenient financial Band-Aid, they exact exorbitant fees from consumers, many of whom already are in troubled financial straits.

Because of their triple-digit interest rates, payday loans shouldn't be even the financial choice of last resort, says the Consumer Federation of America (CFA) in Washington, DC.  By looking at the true price of payday loans in comparison with other credit sources, consumers can see the long-term financial benefits of avoiding such costly short-term fixes.

A new profit source

Payday loans are a relatively new offering among check-cashing outlets, having broken onto the scene within the past several years.  "When the government passed a law that all government payments had to be made electronically by January 1999, it caught the attention of check cashers," says John Caskey, an associate professor of economics at Swarthmore College, and author of "Fringe Banking: Check-Cashing Outlets, Pawnshops, and the Poor."  "The check-cashing outlets had to find a new source of revenue.  That resulted in a push to get into payday loans."

So what are payday loans?  Typically, a customer writes a postdated personal check to a check casher for the amount he or she wishes to borrow - plus a fee.  The customer and check casher both understand there are insufficient funds, at that time, to clear the check.  The check casher holds the check until the customer's next payday, say two weeks down the road, at which time the consumer can:

  • Redeem the check with cash or a money order;
  • Allow the check to be deposited; or
  • Renew, or roll over, the loan, by paying an additional fee.

The price is not right

What do customers pay for this service?  Companies frquently assess fees per $100 borrowed.  For example, if the fee is $20 per $100, a customer needing $100 would write a postdated check for $120, dated 14 days down the road.

When stated as an APR, the fees are astounding.  According to a 2000 CFA survey of 230 payday lenders, the APR on a $100 loan borrowed for 14 days ranged from 195% to 1092%.  Compare that with 22% APR for credit card cash advances, or even the 36% interest some small loan companies charge.

Although payday loan lenders must disclose the APR as part of the Truth in Lending Act, many customers are shocked to learn what they've actually paid.

"Some of our members thought it was a very legitimate, very easy, very convenient way they could get an advance on their payroll check," says Daniel Ige, president of the Ripon Community Credit Union.  "When they actually saw the figures we drew up for them as far as the interest rate, they were appalled.  They said, had they known that, they not only wouldn't have taken out a payday loan but would have tried to come to the credit union first."

The fees climb even higher if a consumer renews, or rolls over, the payday loan.  Before long, the escalating charges dwarf the original balance.  "They're paying a lot of money for a very small amount of credit," says Jean Ann Fox, director of comsumer protection for CFA.  "If they can't live until this payday without borrowing, when they pay the loan back it will be just as hard to live until the next payday."

Smarter solutions

What alternatives exist?  The CFA survey found that licensed small-loan companies, secured credit cards, or overdraft protection on checking accounts, while expensive, offer better terms than the triple-digit interest rates of payday loans.

However, your first stop should be Stark Federal Credit Union.  "Credit unions are very proactive in providing financial counseling for their members," Ige says.  "Members should feel free to walk into a credit union to ask questions, gather information and look at some of the other avenues available."

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