The dangers of Payday loans (2024)

FAQs

What is the danger of payday loans? ›

Because Payday loan interest rates are so incredibly high and the loan is so hard to pay off, they create a cycle of debt that is extremely difficult to break.

Payday loans can turn a short-term need for emergency cash into a long-term, unaffordable cycle of high-interest loans that you cannot repay. It is hard to both repay a payday loan and keep up with normal living expenses, so payday loans often force borrowers to take out another high-interest loan, over and over again.

“Within a month, almost 70 percent of borrowers take out a second payday loan.” In fact, it found that 1 in 5 borrowers who take out a payday loan end up taking 10 or more payday loans in succession before they find the means to repay their debt, incurring more fees and interest on the same debt with each new loan.

Generally, no, payday loans do not affect credit.

Here's How the Debt Trap Works

The payday lender cashes the check on that payday, before the borrower can buy groceries or pay bills. The interest rates are so high (over 300% on average) that people cannot pay off their loans while covering normal living expenses.

The high interest rates associated with payday loans that often lead to a cycle of debt and systematic predation by such lenders prompted several states to impose strict regulations and outright bans on traditional payday loans to protect vulnerable consumers from debt cycles.

Some people turn to payday loans if they're short on cash or need to fund an emergency, but these loans can be challenging to pay back — with serious consequences if you don't repay.

Frequent borrowing

When you apply for a short-term loan, the lender can see your previous applications and borrowing history. If you have had another payday loan very recently or still have an outstanding loan that you haven't paid off, you will likely be declined.

Payday loans can be subject to high levels of transaction risk given the large volume of loans, the handling of, documents, and the movement of loan funds between the institution and any third party originators.

Relying on payday loans can lead to a dangerous debt cycle

The combination of high fees and short repayment schedules make payday loans untenable as a long-term solution to financial problems. If you continually take out payday loans, you risk falling into a debt cycle that's hard to escape.

Why do poor people use payday loans? ›

Many borrowers initially turn to these options out of desperation to cover bills and expenses because their income falls short. However, once they enter this financial web, lenders often entice them with incentives that entice them further into a downward spiral of insolvency.

Although there are many differences between payday loans and title loans, two of the greatest risks that they share are exorbitant interest rates and generally unfavorable loan terms for the borrower.