What are Payday Loans and Why You Should Avoid Them?

February 1, 2023

What are Payday Loans and Why You Should Avoid Them?

Finding yourself in a situation where you immediately need money is tough. Financial emergencies can be unprecedented and finding a reliable source of money in these situations can be even more difficult. Cash-strapped customers often go out of their way to attain small personal loans in exchange for an exorbitant amount of interest. This is the principle of a payday loan. 

What is a Payday Loan?

Payday loans are short-term borrowing based on the principle that the customer gets a small personal loan immediately in exchange for a very high-interest rate. This payday loan is usually based on your salary, and you usually have to provide a pay stub when you apply for a loan. The lenders take a portion of your paycheck in return for a small, immediate payment.

Payday lenders do not require you to put down collateral and hence, it is an unsecured personal loan. These loans are often regarded as “predatory lending” since they impose extremely high-interest rates for extremely small amounts of money, lenders do not consider the borrower’s ability to repay, and include hidden fees. Once the person is stuck in a downward debt spiral, their credit will deteriorate and their bank accounts will drain quickly.

People with low wages or urgent needs often have no other viable option than to opt for a payday loan due to their exceptionally fast payments, lack of collateral, and short procedure.

Why You Should Avoid a Payday Loan

While payday loans may sometimes seem like the only option for you, especially if you have limited financial resources, payday loans can be really dangerous and should be avoided. Here’s why:

Cycle of Debt

In a situation of financial emergency, an immediate loan may seem like a great idea. However, once a customer signs off on a payday loan, it is easy to get stuck in a downward debt spiral with hidden provisions and endless rollovers. What happens is, if you fail to repay your first due payment, your lender may agree to postpone the repayment by imposing a “rollover fee” on the original loan which further increases the amount of money you will have to pay back later. As the repayments get further delayed, the borrower will continue to sink in further debt.

High-Interest Rates

Usually, APR on credit cards charges a 15%-30% interest rate on a loan, and banks cost 15%-20% for a personal loan. However, payday loans impose around 300%-500% APR including the rollovers and hidden provisions. These interests keep increasing as the payments get delayed and result in disastrously high interests, crossing the amount of money you owed originally.

Potential for Nagging Collection Calls

Taking a payday loan is like making a deal with the devil. The cost of the return is not only added financial burden but also the mental pressure of paying off a particularly unscrupulous lender. The debt collectors may call you repeatedly asking for repayments once the due date has pass, often with the intention to annoy you, pressurize you, harass you, or abuse you.