Short-term payday loans began as a way to provide short term help for those that were short on funds. In this way, people who needed quick cash but didn’t have credit could receive a short term payday loan or cash advance against their next paycheck and receive the funds the day of application.
Unfortunately, the short-term relief is actually just a step towards financial ruin and bankruptcy. Short-term payday loans are scams. Think about it: a short-term loan is where you agree to literally buy money by spending more overall than what you get back. Would you pay a $150 for a $100 bill? I would hope not but unfortunately, that’s exactly what one does when one gets a so-called payday loan.
How the Process Works
Loan companies, in many instances, only require a checking account, copy of current bank statement and a valid ID in order to receive a short term loan. Once they receive these documents, a file is set up for the person applying. The customer receives forms to sign, along with a Truth in Lending form. By signing these forms, the customer agrees to the due date and the percentage rate of repayment. However, many times, the customer does not read or does not understand what the true finance charges will cost. This could be in part to a sense of urgency on the customer’s part.
The customer then writes a personal check for the total amount of repayment, including finance charges and post dates the check to the day of the next payday or the date specified by both parties. To use an example of this process, the customer needs $100. The short term payday loan will require, in many instances, the customer to write a post dated personal check for $125, to be repaid in cash at the due date, which is usually 14 days.
What the Short-Term Loan Really Costs
Now, at this point, the customer thinks, that’s not much to repay so he agrees. The company is happy and the customer is happy. Most customers do not think that the $25 finance charge is actually calculated at 390% since they either didn’t read or didn’t understand the Truth in Lending document.
The 14 days pass and the customer now needs to repay the loan. He can either pay it off in cash or extend the loan another 2 weeks by paying an additional finance charge. But, if it is not paid, then the short term payday loan company has the right to cash the check. Another note to consider is if the customer pays the loan off in cash, he is then able to turn around and immediately make another loan, in some cases, without a waiting period.
Since this process is so easy, many customers continue to make larger and larger payday loans until it reaches a point of not being able to repay. Using the same percentage rate on borrowing $1,000, which is usually the limit that can be loaned, the customer would now repay $1256.00.
What You Should Do
Though these ridiculously high interest rates are beginning to be regulated, as some people think the role of government should be to stop people from being stupid. But with or without regulation, short-term loans are risky, and your best way to combat the financial drain is through prevention.
The best solution to a bad situation is not in a quick fix but in planning ahead and trying to stay debt-free. In today’s economic crisis, it is more important than ever to limit or end debt.
Ways to accomplish this would be to eliminate credit card debt, put them up and only use them in an emergency situation, start setting aside an amount decided upon to set up as an emergency fund and go over finances to reduce any spending that is not required. Reducing the debt to income ratio will enable a person to be able to afford the sudden repairs or unexpected bills that may arise at any given time.
Just remember: most people shouldn’t get a short-term loan. The easy answer isn’t always the right answer, and it usually takes a lot of hard work. Usually speaking, short-term loans aren’t worth the debt.
However, if there’s no way out in your current situation, then only use short-term loans responsibly. In some situations, a short-term loan is a necessary evil. After the crisis blows over, learn how you can prevent future crisis by putting aside money as an emergency fund.