Payday loans can seem quite attractive to credit poor, cash strapped consumers. The loans give them the opportunity to take care of minor emergencies when they simply don’t have the money to do it themselves. However, not everything about the prospect of payday loans comes up roses. The Consumer Federation of America (CFA) warns consumers to be cautious when it comes to payday loans, because these loans can cost up to $30 per $100 borrowed, and because borrowers typically face annual percentage rates of 650 percent or more with each one.
Risks
Payday loans involving electronic access to consumers’ checking accounts pose a greater risk to consumers when borrowing money and transmitting personal financial information online, especially without added layers of security, privacy or data protection.
Payday loan lenders typically renew outstanding loans by electronically withdrawing the finance charge and the principal on the consumers’ next payday. In some cases, the lender will allow consumers to stretch out the loan by paying off the finance charge each payday or adding a small payment to the principal each payday, but even this is a costly practice. In the event that consumers do not have enough money to cover the finance charge or repayment, they will be hit with insufficient funds fees from their lender and from their bank.
Payday loan marketing
Typically, payday loans are marketed via e-mail, found through online searches, marketed through paid ads and even completed through referrals.
Applying for payday loans
The process of applying for a payday loan is simple. Consumers simply fill out an application online or at the lender’s physical location – or by faxing the application – giving the lender all of their relevant personal information, bank account numbers, Social Security Numbers and employment information. With that, the borrower also supplies their bank account information or sends the lender a copy of a check with his or her signed paperwork. Once complete, the payday loan is directly deposited into the consumer’s checking account and the loan payment and finance charge is automatically withdrawn on the borrower’s next payday.
However, a $500 loan can cost a consumer $100 or more every two weeks in finance charges; far more than what they would expect to pay using a credit card or personal loan.
Payday loan contract terms
Another aspect that should cause consumers to be wary of these seemingly too good to be true loans are the contract terms. Payday loan contracts usually include a range of one-sided terms favoring only the lender. Some examples are their mandatory arbitration clauses, agreements to not participate in class action lawsuits and agreements that the consumer still has to pay the loan in full (with interest) even in the event that he or she files bankruptcy. Some lenders require applicants to agree to keep their bank accounts open until loans are repaid.
The bottom line on payday loans
For most consumers, payday loans are simply too expensive and too hard to repay in a timely manner. Intelligent consumers need to shop for credit that doesn’t cost as much because these are over the top and interest heavy options. Of course, the best strategy is to have a liquid emergency fund in a savings account to take care of all of life’s little mishaps, helping you avoid the need to shop for these sorts of costly loans now or in the future.