Take Charge of Your Finances Payday Lending 1.4.4 Take Charge of Your Finances

Can’t Wait Until Payday? There are many ways to obtain cash if a person needs money before payday Loan From parents or family From financial institution Credit card Payday loan Short term loan providing immediate cash Cash advance loans Check advance loans Post-dated check loans Deferred deposit check loans

Payday Lending Payday lending locations Check cashers Payday loan stores Pawn shops Toll-free numbers Rent-to-own companies Internet Required to give the lender access to financial accounts and social security number Increases the risk of fraud and identity theft

How to receive a payday loan Who uses payday loans? Users typically have poor credit history Users typically cannot obtain a traditional loan Requirements to receive a payday loan Have a bank account Proof of income Personal identification

Why Use Payday Loans? Focus groups of low-income and ethnic consumers identified five ways check cashers were superior to banks Easier access to immediate cash More accessible locations Better service Shorter lines, more tellers, more targeted product mix in a single location, convenient operating hours, and Spanish-speaking tellers More respectful, courteous treatment of customers Greater trustworthiness Payday lenders provide the same service-rich environments as check cashers, although may not be used as often because of high fees and on-going obligations

Obtaining a payday loan Personal check Individual writes a check to the lender for the amount borrowed and the lending company fee Payday loans are issued for amounts between $50 and $1000 Payday loan fees are between $10 and $30 per $100 borrowed3 Fees translate to an APR of 391% - 443%4 Example: If James needs $100, he will be charged $15 in fees. He will write a check for $115 and receive $100. Lender will hold the check until the agreed upon date (usually the borrower’s payday) before cashing it

Obtaining a payday loan Automatic withdrawal Borrower gives lender permission to automatically withdraw the funds from their financial institution account

Payday Lending Options Payday loans are difficult to pay back Payday lending companies require borrowers to pay back the entire loan in one lump sum rather than installments For example: if Max saves $25 each pay period, he cannot apply that money to a payday loan until it equals the total cost of the loan Other credit options, such as a credit card or loan do allow installment payments For example: if Max saves $25 each pay period, he can apply that money to a credit card balance 91% of all payday loans are made to borrowers with five or more payday loans per year4

Payday Lending Options If lenders cannot pay back their payday loan in full on pay day, there are three options 1. Rollovers or extensions Pay another fee for the original loan Example: If James does not have enough money to pay back his $100 loan, he may pay $15 to extend the loan until his next payday Cost of the loan after one payday Original loan = $100 + $15 = $115 Rollover fees = $15 Total cost of the payday loan = $130

Payday Lending Options 2. Back-to-back Pay back the original loan, but immediately take out a new loan to cover expenses Example: If James can pay back the original loan on his payday, but then needs money to pay other bills, he can take out another loan. Cost of the loan after one payday Original loan = $100 + $15 = $115 Payback $100 on payday New loan = $100 + $15 = $115 Total cost of the both payday loans = $130

Payday Lending Options 3. Default If an individual does not have enough money in his checking account, the borrower will default on the loan Insufficient funds (NSF) fees are charged by the lender and financial institution NSF fees may be charged multiple times if insufficient funds remain in the account Example: James wrote a check for a payday loan. He does not have enough money in his checking account for the loan amount on payday. Cost of the loan after one payday Original loan = $100 + $15 = $115 Payday lender NSF fees = $20 Financial institution NSF fees = $20 Total cost of the payday loan = $155

Comparing the Total Cost Fran purchases new clothes with $150 credit. She saves $50 each pay period to apply to the total credit cost. Example 1 – credit card with a 15% APR Total cost after 2 pay periods = $150 * .15 = $172.50 Example 2 – payday loan with a $20 fee and a rollover fee of $30 Total cost after 2 pay periods = $150 + $20 + $30 + $30 = $230 $72.50 $ 50 Amount Due: Amount Paid after Pay Period 2 Credit Card Amount Paid after Pay Period 1 $230.00 Saved $70 ($50 + $20), but can’t make installment payments, so she pays $30 to rollover the loan ($40 left from amount saved) Saved $50, but can’t make installment payments, so she pays $30 to rollover the loan ($20 left from amount saved) Payday Loan

Risks of payday lending Borrowers can get “trapped” in a cycle of borrowing Lead to long term debt and legal problems Payday loan customers are 4 times more likely than all adults to file for bankruptcy5

Trends in payday lending Ten years ago Payday lending was virtually non-existent4 By the end of 2005 Payday loans amounted to $40 billion2 Fees paid by borrowers were $6 billion2 Payday loan industry Is thriving because people pay the fees without seeking alternative forms of credit Today there are more payday loan stores than McDonalds and Burger King restaurants in California5

Alternatives to payday lending Family or friends May charge much lower finance fees Paycheck advance Ask employers to issue a paycheck earlier if bills are due Overdraft protection May be less costly than paying payday lending fees Ask creditors for more time to pay bills Make arrangements to pay bills after receiving a paycheck Financial institution loan for large amounts Interest rates may range from 10% to 18%3 Credit card Higher interest rate of 16% to 21%3 Is still lower than the ~400% interest rate of a pay day loan

Alternatives to payday lending Create a spending plan Track income and expenses Open a savings account Set aside money from each paycheck Emergencies Unexpected expenses

Government Regulation Some states have small loan laws making payday lending illegal or regulating the number of times a rollover can occur The Truth in Lending Act Requires payday loan companies to advertise the finance charges and annual percentage rate All terms must be in writing for customers

Review Payday loans Payday lending options Alternatives Short term loan providing immediate cash Borrower pays a fee to obtain cash Can become very expensive if the borrower cannot pay the loan back in full on their next payday Payday lending options Rollover Back-to-back Default Alternatives

Resources 1. “Consumers Warned of Online Payday Loans” http://usgovinfo.about.com/od/consumerawareness/a/paydayloans.htm 2. “PayDay Loan Consumer Information” http://www.paydayloaninfo.org/ “Payday Loans: Laws Protecting Montana Borrowers” http://www.montana.edu/wwwpb/pubs/mt200102.html 4. “Quantifying the Economic Cost of Predatory Payday Lending” http://www.responsiblelending.org/pdfs/CRLpaydaylendingstudy121803.pdf 5. “Payday Lending: A Business Model that Encourages Chronic Borrowing” http://www.kenan-flagler.unc.edu/assets/documents/CC_Payday_lending.pdf

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