Before I learned how to devise a budget, or manage my money so that I had money left over at the end of the month with all my bills paid and a savings cushion, I made many mistakes that eventually ruined my credit. I maxed out credit cards due to impulsive whims; I lived off my credit cards after quitting my 9 to 5 job to run a hot dog stand that only lasted a month, I defaulted on a car loan, I missed payments on a credit consolidation loan, and the list goes on and on. The bottom line was that I royally screwed up my finances because I was impulsive and thought it would all disappear into a magical mist. I’m not sure what I was thinking except that I was young and thought it would all work itself out on its own.
However, after completely ruining my credit, I could no longer extend myself using the usual lines of credit. That was until I was introduced to payday loans . Cha-Ching! All of a sudden I had access to cash even though my credit score was a measly 500 or so (it may have been lower at one point, but I don’t exactly remember.) As long as I had a job, I could get a cash advance on my next pay check up to $500 in cash. In essence, I found another outlet to over extend myself. I’m sure you can already see where this is going -and it doesn’t have a happy ending.
What I didn’t understand, and may have been one reason I was taking my credit so lightly, was that the interest on a payday loan was pushing 500% annually. No, that’s not a typo – most payday loans hover around a 400% – 500% interest rate. This exorbitantly high interest rate is one reason payday loans become a cycle – I would go in the week of payday, get a loan, then two weeks later I’d have to go back and pay it in full, or take out another one. Well, I normally wouldn’t have the cash available to pay it off due to my poor budgeting skills and so would just take another one out extending the pay off date for eons. Eons is an over statement, but it did take me 2 years to pay off the original loan of $500. Which means I actually ended up paying close to $3,000 over a 2-year period for a $500 loan. That’s an insane amount of money. If I had been more budget-savvy, I would never have had to sink to this level – and I obviously had the money based on the total amount I paid over a 2-year period, just not the skills to save it!
So is there ever a good reason to take out a payday loan? Well, lets quickly run through the pros and cons:
Pros
- Fast cash for those unable to secure any kind of credit
- No credit check, meaning anyone with a job can apply for one
Cons
- Exorbitant interest rates
- Targets people with poor credit, which usually means poor money management skills
- Can lead to a never-ending cycle since most lenders allow you to take one out right after another
Usually the reasons for a payday loan are poor budgeting skills – running out of money before the next pay day. A better approach to solving this problem is better money management skills. Learning how to create a realistic budget, saving a portion of your income, and learning to become a responsible money manager is the best solution to avoiding the trap of a payday loan.
13 Comments
Yikes! I’m glad you saw the light and got out. There has been a lot of buzz in my town about this as they’ve been trying outlaw payday loans. I can see how it could be helpful for some, but it seems like once you do one, you’re sucked in for the long haul.
@Lindy Mint – It was a long time ago, but yes it was definitely a learning experience! I’ve heard about that in Arizona. I think that if one signs up for a payday loan, they should automatically be offered a financial basics 101 course!
Wow! There’s been a lot of recent research in economics on payday loans– do people just not realize they’re bad deals? And how best to get them to realize that. Some of that research went into shaping the recent credit card act.
@Nicole – I think it’s the lure of fast cash that makes people sign up for them. Years ago, I really didn’t understand interest rates and had mucked up my credit so badly that it was my only option. I now realize that had I been more on top of my budget (as in actually create one!) I wouldn’t have been in a position of needing cash. There is definitely a missing element in education – financial education – that needs to be addressed. Understanding the basics of interest rates, saving money, etc. would make this service moot.
No, but I am being logical and I have alternatives. Your story is similar to everyone who finds themselves in that situation, they do not have choices. They have exhausted every choice and have only one left. I think it is an impulsive behavior and ignoring the consequences of those actions.
@Krantcents – Definitely impulsive behavior causes these issues. In my case it was impulsiveness, not understanding the basics of budgeting, and finding myself short on cash. Thankfully, I’ve learned (the hard way!) how to create a realistic budget and save money. Teacher to teacher, I really think financial education is lacking in our school system.
$3,000 on a $500 loan? OUCH! It’s amazing to me that these aren’t thought of/treated like usury, which is what it is with rates that high.
Wow Little House, I never would have suspected, you dont seem like the type that needed a payday loan, but sometimes people can radically change their finances and are shocked at things they used to do (Even me). I had the same problem with impulsive behavior, but most was just me being too lazy to cook for myself so I went out frequently.
Also, that you had to pay 3k on 500 loan is absolutely nuts. Everytime I drive by one of those payday loan places, I want to open a financial coaching spot in the place next door (as usually they are in strip malls with vacancies abound).
@Jeff – I know, I was a different person 10 years ago. And I would definitely encourage opening up a financial coaching class next door to a payday loan place, most people entering those establishments need help!
@The Saved Quarter – I’m not really sure how they get away with such a high interest rate. There must be a loophole somewhere.
I was lucky, my family trained me well, so I never carried debt (except car and house loans) for longer than a month.
I don’t think I will ever take out a payday loan, they sounds like wealth killers…
@Money Reasons – You’re lucky you learned at a young age to stay away from debt. Payday loans are wealth killers, just look at my example! I had the money, but I didn’t know how to budget it!
I don’t think the loans necessarily target people with poor credit/money management skills. However they may definitely appeal to these people. For people who want a bit more money in a month and can pay it back within the intended payment period, I think they can be useful.
Great post, much appreciated, look forward to reading more from you. Ta!