Payday loans small short-term loans with high interest rates that become due at the time of the borrower’s next paycheck are a common form of lending to people with low income in the United States. Do borrowers taking out these loans make rational decisions, or do they borrow more than they expect or would like to in the long run? Researchers partnered with a large payday lender in Indiana to conduct an evaluation to better understand consumers’ decision making.
The results suggest that average borrowers can anticipate their probability of taking loans in the future. However, people focus too much on the present when making decisions about payday loans, a behavior that they would like to change.
What is a payday loan?
While there is no set definition of a payday loan, it is usually a short-term, high cost loan, generally for $500 or less, that is typically due on your next payday. Depending on your state law, payday loans may be available through storefront payday lenders or online.
Table Of Content
- What is a payday loan? Understanding Of Payday Loan
- Some common features of a payday loan
- Cost of a payday loan
- Protections for service members
- Efforts to Regulate Payday Loans
- Payday Loan Interest Rates
- Are Payday Loans Fixed or Variable?
- Can You Get a Payday Loan Without a Bank Account?
- Can Payday Loan Debt Be Forgiven?
- How Long Do Payday Loans Stay in the System?
- Is a Payday Loan Secured or Unsecured?
Some common features of a payday loan
The loans are for small amounts, and many states set a limit on payday loan size. $500 is a common loan limit although limits range above and below this amount.
- A payday loan is usually repaid in a single payment on the borrower’s next payday, or when income is received from another source such as a pension or Social Security. The due date is typically two to four weeks from the date the loan was made. The specific due date is set in the payday loan agreement.
- To repay the loan, you generally write a post-dated check for the full balance, including fees, or you provide the lender with authorization to electronically debit the funds from your bank, credit union, or prepaid card account. If you don’t repay the loan on or before the due date, the lender can cash the check or electronically withdraw money from your account.
- Your ability to repay the loan while meeting your other financial obligations is generally not considered by a payday lender.
- The loan proceeds may be provided to you by cash or check, electronically deposited into your account, or loaded on a prepaid debit card.
Other loan features can vary. For example, payday loans are often structured to be paid off in one lump-sum payment. Some state laws permit lenders to “rollover” or “renew” a loan when it becomes due so that the consumer pays only the fees due and the lender extends the due date of the loan. In some cases, payday loans may be structured so that they are repayable in installments over a longer period of time.
Cost of a payday loan
Many state laws set a maximum amount for payday loan fees ranging from $10 to $30 for every $100 borrowed. A typical two-week payday loan with a $15 per $100 fee equates to an annual percentage rate (APR) of almost 400 percent. By comparison, APRs on credit cards can range from about 12 percent to about 30 percent. In many states that permit payday lending, the cost of the loan, fees, and the maximum loan amount are capped.
The laws in your state may permit, regulate, or prohibit these loans
Some states do not have payday lending because these loans are not permitted by the state’s law or because payday lenders have decided not do to business at the interest rate and fees permitted in those states. In states that do permit or regulate payday lending, you may be able to find more information from your state regulator or state attorney general .
Protections for service members
There are special protections through the federal Military Lending Act (MLA) for active duty service members and their dependents. Those protections include a cap of 36 percent on the Military Annual Percentage Rate (MAPR) as well as other limitations on what lenders can charge for payday and other consumer loans. Contact your local Judge Advocate General’s (JAG) office to learn more about lending restrictions. You can use the JAG Legal Assistance Office locator to find help.
Payday Loan Interest Rates
Payday lenders charge very high levels of interest: as much as 780% in annual percentage rate (APR), with an average loan running at nearly 400%.4 Most states have usury laws that limit interest charges to anywhere from 5% to 30%. However, payday lenders fall under exemptions that allow for their high interest.
As these loans qualify for many state lending loopholes, borrowers should beware. Regulations on these loans are governed by the individual states, with 16 states Arizona, Arkansas, Colorado, Connecticut, Georgia, Maryland, Massachusetts, Montana, New Hampshire, New Jersey, New York, North Carolina, Pennsylvania, South Dakota, Vermont, and West Virginia plus the District of Columbia outlawing payday loans of any kind.
In California, for example, a payday lender can charge a 14-day APR of 460% for a $100 loan. Finance charges on these loans also are a significant factor to consider, as the average fee is $15 per $100 of loan.
Although the federal Truth in Lending Act requires payday lenders to disclose their finance charges, many people overlook the costs.7 Most loans are for 30 days or less and help borrowers to meet short-term liabilities. Loan amounts on these loans are usually from $100 to $1,000, with $500 being common. The loans usually can be rolled over for additional finance charges, and many borrowers as high as 80% of them end up as repeat customers.
A number of court cases have been filed against payday lenders, as lending laws have been enacted since the 2008 financial crisis to create a more transparent and fair lending market for consumers. If you’re considering taking out a payday loan, then a personal loan calculator can be a vital tool for determining what kind of interest rate you can afford.
Efforts to Regulate Payday Loans
Efforts to regulate payday lenders were proposed in 2016 under the Obama administration and put in place in 2017, when the Consumer Financial Protection Bureau (CFPB), under then-Director Richard Cordray, passed rules to protect consumers from what Cordray referred to as “debt traps.”
The rules included a mandatory underwriting provision requiring lenders to assess a borrower’s ability to repay a loan and still meet everyday living expenses before the loan is made. The rules also required lenders to provide written notice before trying to collect from a borrower’s bank account and further required that after two unsuccessful attempts to debit an account, the lender could not try again without the permission of the borrower. These rules were first proposed in 2016 and will become mandatory on June 13, 2022, as per CFPB Acting Director Dave Uejio.
In February 2019, the CFPB then under the Trump administration and Director Kathleen L. Kraninger issued proposed rules to revoke the mandatory underwriting provision and delay implementation of the 2017 rules.12 In June 2019, the CFPB issued a final rule delaying the August 2019 compliance date, and on July 7, 2020, it issued a final rule revoking the mandatory underwriting provision but leaving in place the limitation of repeated attempts by payday lenders to collect from a borrower’s bank account.
Under the Biden administration, the new leadership at the CFPB established stricter rules for payday lending, which become mandatory on June 13, 2022.
Are Payday Loans Fixed or Variable?
Payday loans are usually meant to be paid off in one lump-sum payment when you get your paycheck. Because of this, the interest rate on these loans is fixed. In fact, many payday lenders don’t even express their charges as an interest rate, but they instead charge a fixed flat fee that can be anywhere from $10 to $30 per $100 borrowed.
How Long Do Payday Loans Stay in the System?
The records of traditional loans may be kept for 6 to 10 years by credit bureaus the companies that calculate credit scores, which in turn may affect your ability to borrow money in the future. Payday lenders do not usually report to the credit bureaus, even in case of overdue repayments. But the payday loan may be filed once it is passed to the collectors after the lender sells the debts.
If you repay your payday loan on time, then your credit score shouldn’t be affected. On the other hand, if you default on your loan and your debt is placed in the hands of a collection agency, then you will see a dip in your score.
Is a Payday Loan Secured or Unsecured?
Most payday loans are unsecured. This means that you do not have to give the lender any collateral or borrow against a valuable item as you do in a pawn shop.
Instead, the lender will normally ask you for permission to electronically take money from your bank, credit union, or prepaid card account. Alternatively, the lender may ask you to write a check for the repayment amount, which the lender will cash when the loan is due. Under federal law, lenders cannot condition a payday loan on obtaining an authorization from the consumer for “preauthorized” (recurring) electronic fund transfers.
Can You Get a Payday Loan Without a Bank Account?
Yes. Having a bank account isn’t universally required to borrow money, but lenders that don’t require it generally charge high interest rates. This includes many payday lenders. Payday lenders may ask for a bank account, but sometimes a prepaid card account may be enough to qualify.
Because these loans cost so much and may be difficult to repay, it’s almost always best to avoid them. If you can’t pay back the loan promptly, fees can add up, leading to a debt trap that’s hard to get out of. Because of this, you should only take out a payday loan if you are absolutely sure that you can pay it back.
Can Payday Loan Debt Be Forgiven?
In practice, it’s very rare for payday loan debt to be written off. This is because payday lenders make significant sums from the interest that they charge on these loans.
This means that you should try and pay off payday loans as soon as you possibly can. If you can’t pay back a payday loan, the account may be sent to a collection agency, which will pursue you for the money and interest that you owe. This is not only unpleasant but also can add money to your overall debt and it will damage your credit.