In some neighborhoods, payday loans are advertised in store windows, while the internet has a growing number of online payday loan sites. Consumers in need do not have to look far to obtain cash in a financial crunch.
What is a Payday Loan
A payday loan is a small loan for which the borrower uses the money to ‘hold him over’ until he receives his next paycheck. Upon receiving the paycheck, the payday loan is repaid. In addition to paying the principal amount borrowed, the borrower must pay the any fees and/or interest incurred. In other words, the borrower takes a cash advance on his next paycheck. As such, these types of loans are also referred to as cash advance loans.
Payday loans are usually repaid in short order as borrowers usually receive weekly or bi-weekly. Therefore there is no long tail of outstanding debt.
Why use a Payday Loan
Reasons why people use payday loans vary. One prevailing theory is that cash poor individuals with poor money management skills require frequent cash advances to make it from paycheck to paycheck, thus creating a vicious cycle.
Some borrowers turn to payday loans as a result of an unexpected expense. With banks and financial institutions tightening the purse strings, it has become increasingly difficult to obtain a small loan to cover such expenses. Rather than turning to credit cards, some individuals would rather obtain a cash advance to take care of the expense. Once the borrower receives his paycheck, he pays off the loan and it’s all said and done. No long tail loan repayment or recurring credit card bills.
Theoretical Good Use for Payday Loans
Used in moderation, one can think of a payday loan similar to prepaid cell phone service. Individuals who infrequently use cell phones are hesitant to purchase a contract cell phone plan. It’s hard to justify a recurring monthly contract on a phone only used in emergencies. For such cell phone users, a prepaid cell phone appears to be a more economical option.
While the per minute phone rate may actually be higher than the per minute rate for a contract phone, the caller only pays the higher rate once in a while when he uses the phone. On an annual basis, the cost of an infrequently used prepaid phone works out to be much cheaper than a contract phone.
Payday loans used in moderation for the and unexpected emergency, occasional spending splurge or infrequent dining out may work out to be cheaper than obtaining a credit card or other long tail means of financing. The key to words in this situation, however, are unexpected, occasional and infrequent.
Payday Loan Interest Rates
If one finds himself constantly using needing cash advances paycheck after paycheck, it’s time to do a self evaluation to come up with a more economic solution. According to the PayDay Loan Consumer Information website, the average annual interest rate on a payday loan is 400% or more. Some interest rates soar as high as 780%.
The bottom line is that in a pinch payday loans can help the borrower make it from one paycheck to the next. However, it is extremely costly to use such cash advances as a first line of defense for every financial shortfall. Setting a budget and seeking financial counseling is a much better option.