When it comes to short-term financial solutions, payday loans are often seen as a quick and easy way to get the cash you need. However, these loans come with a hefty price tag. The average interest rate on a payday loan is 39.1%, and in some cases, it can be as high as 400%. This means that if you take out a payday loan, you could end up paying much more than you originally borrowed.
In November 2020, Nebraska voters overwhelmingly voted to limit interest rates on payday loans in the state to 36%. Illinois is also considering a similar bill that would cap consumer loan rates, including payday loans and car title titles, at 36%. If passed, this would make Illinois the last state (plus the District of Columbia) to put a rate limit on payday loans. Despite the high cost of these loans, they remain popular.
A survey conducted by Gusto of 530 small business workers found that the rate of workers applying for payday loans tripled as a result of the pandemic. Even during the pandemic, consumers are still looking for these loans with triple-digit interest rates. Payday lenders use different methods to calculate interest rates and often demand nearly 400% on an annualized basis. To calculate the APR, or annual percentage rate, of a payday loan, you compare the interest and fees on the amount borrowed with what it would cost over a one-year period.
Most balance transfer cards require good credit, so they may not be an option for most payday loan borrowers. Customers can use payday loans to cover emergencies, such as doctor visits or car problems, but most use them to cover utilities, rent, or other recurring monthly bills. Payday loans are short-term loans designed to be repaid in a single payment, usually the borrower's next payday. The CFPB found that 80 percent of payday borrowers tracked down renewed loans for ten months or reborrowed within 30 days.
The most secure loans follow national credit union guidelines or limit payments to 5% of income and limit the loan duration to six months. Unfortunately, many customers don't think they're eligible to apply for personal loans or that they've maxed out or closed their credit card accounts. This can lead to a dangerous cycle of debt as customers pay fees to renew their loan for two more weeks or apply for new loans. Fifteen states and the District of Columbia protect their borrowers from high-cost payday loans with reasonable limits on small loan rates or other prohibitions. According to extensive research conducted by the Pew Charitable Trusts, up to 12 million Americans use payday loans every year. Payday loans may seem like an easy and quick solution to a short-term problem that requires fast cash, but they actually cost much more than traditional loans.
Before taking out a payday loan, it's important to consider all your options and make sure you understand all the costs associated with it.