Payday Loans

If a cash advance is needed to cover short-term expenses, then borrowers have the option of taking out a payday loan. As the name implies, this type of loan is paid back when the borrower receives his or her next paycheck.

In this article, were going to be covering the topic of payday loans. We'll start by describing the typical process for obtaining a loan. Then we'll talk about the pros and cons of these loans. Finally, we'll list some alternatives to payday loans.

Payday Loan Process

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Also known as pay day loans, paycheck advances, payday advances, or personal cash advances, a payday loan is a relatively short term loan needed by a borrower until their next paycheck is received. These loans are normally offered by independent lenders that are oftentimes able to complete the entire process over the Internet.

Since the cash is usually needed on a short-term basis, the process of obtaining the loan is generally quite simple:

Borrowers are required to complete an online application and / or speak with one of the lender's telephone agents.
A representative of the lender will contact the borrower to answer any questions the applicant might have about the information appearing on the application and / or ask the borrower to provide additional documentation.
Once approved, the lender electronically deposits the payday loan into the bank account of the borrower.

Once the borrower has received their paycheck, lenders will electronically remove the money borrowed plus any fees and finance charges owed the lender. Most lenders offer borrowers the option of rolling over the same loan. Each time the same loan is rolled over new fees are charged. Many states have laws in place that limit the number of times the loan can be extended in this fashion.

Truths in lending laws require clear disclosure of all the terms and conditions associated with borrowing money. This includes full disclosure of all fees and finance charges associated with a payday loan. Lenders are also required to provide the borrower with the loan's calculated Annual Percentage Rate, which provides a standardized measure of the overall cost of the loan.

Qualifying for a Payday Loan

Borrowers must meet certain qualifications before loans are approved. Even with a bad credit / no credit status, a borrower may still qualify for a payday loan. Requirements usually include:

A steady source of income
Applicants must be 18 years or older
Applicants must be a U.S. citizen or a permanent U.S. resident
An active checking account to receive the deposit from the lender

Note - due to certain protections, active military personnel may be excluded from receiving payday loans from certain lenders.

Pros and Cons of Payday Loans

It's obvious the major advantage of a cash advance is the near instant access to money. But as we'll soon see, this benefit comes with a high price. The advantages and disadvantages of these loans are summarized below.

Pros of Payday Loans

Short-term money is relatively easy to obtain.
Credit checks are usually not part of the loan approval process, thereby providing consumers with poor credit access to a loan.
Most lenders only require proof of employment and a valid bank account to be eligible for a loan.
No collateral is required to secure the loan.
The entire process - from application to electronic loan deposit - can happen in as quickly as 24 hours.

Cons of Payday Loans

If the borrower is unable to repay the loan, then the fees associated with extending the term of the loan can rapidly add to the expense of borrowing money.
Terms and conditions associated with these contracts oftentimes provide the lender with a great deal of power to collect unpaid balances, and typically offer the borrower few protections.
Households using borrowed money to pay monthly bills would be better off building a budget to solve their short-term cash needs.
Fees and interest paid on these loans are high relative to loans that are considered more conventional.

Interest Rates on Payday Loans

One of the biggest drawbacks to payday loans is the cost of the loan. This cost is evident when comparing the Annual Percentage Rate, or APR, on a payday loan to more conventional loans. A sampling of typical interest rates appears below for two of the largest states in the nation:

California - 798% for an 8-day loan, 206% on a 31-day loan
Texas - 1,036% for an 8-day loan, 596% on a 14-day loan

Using the above rates as an example, an individual in Texas that is looking to borrow $250 would be required to repay roughly $305 after only eight days. Interestingly, borrowing $250 over 14 days would only cost the borrower about $2 more. The high interest rates along with less-than-favorable loan terms frequently results in payday loans falling under the label of predatory lending.

Alternative to Payday Loans

If the high rate of interest on payday loans is alarming, then there are viable alternatives that borrowers can explore:

Credit Unions - while credit unions might offer lower interest loans to its membership, their qualification guidelines for loans will be more stringent.
Overdraft Protection - banks will frequently offer overdraft protection on checking accounts for a fee, thereby offering the accountholder instant access to a loan.
Employer Advances - employers may offer employees in need of short-term funds a loan in the form of a cash advance.
Credit Cards - oftentimes credit card companies offer cardholders the ability to receive cash advances.
Family Loans - as painful or humbling as this might seem, borrowing money from a family member or friend is a good choice if you know you're able to pay back the loan.
Household Budgets - creating a household budget is a great way of monitoring your household's expenses and starting the process of putting away money for a rainy day.