Do Payday Loans Help or Hurt Those Without Credit?

As of April 2015, 29 percent of the respondents to a poll conducted by Bankrate stated that they had no savings to cover unexpected expenses. When asked whether they could cover a medical or repair bill of $500 to $1,000, only 38 percent stated that they could pay the bill with funds from a bank account. Of the remaining 62 percent, 12 percent stated they would pay the bill with a credit card, 16 percent would ask family or friends for a loan, 26 percent would cut spending in other areas, and 8 percent were either uncertain of how they could cover the expense or stated that they would make “other arrangements.”

For millions of Americans, however, unexpected bills can create an even greater financial crisis. An estimated 11 percent of Americans over the age of 18 have no credit history, according to a report from the Consumer Finance Protection Bureau, and more than 8 percent are classified as “unscored” due to stale or insufficient credit activities. In terms of numbers, this means that approximately 45 million Americans lack the needed credit history to obtain approval for a credit card or bank loan. Among Americans who have scores, approximately 68 million have poor or bad credit scores, according to Fox News. Although this group might qualify for a secured credit card or “second-chance” card, limits will likely be quite low and they will not receive the best interest rates possible.

Payday Loans Often Best Option for the Credit-Challenged

When those without credit need to have a car repaired so they can commute to work, obtain medical care for a child or cover funeral expenses for a family member, they have limited options. They can write a “hot check” and hope that they can find the funds to redeem it before facing prosecution. If they have anything of value, they can pawn it or try to sell it. They can withhold payment of their rent or utility bills. Some people may be able to borrow from friends or family members, but for many, there is no one who has the means and willingness to help them.

Alternatively, if they have a steady source of income and a checking account, they can take out a payday loan. For many, this is the least devastating — and often the least expensive — option that is available to them. However, critics of payday lenders want to impose stringent regulations that can force many lenders out of business.

Payday Lending Opponents Call the Practice “Usurious”

The basic definition of usury is the practice of charging unreasonably excessive interest rates. Critics of payday loans, such as Credit Karma, annualize the interest and fees charged by payday lenders. It is true that the annualized rate for a payday loan can be 400 percent or more. What these critics are overlooking, however, is that payday loans are intended to be short-term debts that are repaid in less than 30 days. Thus, interest rates on payday loans have more in common with flat rates than APRs. To illustrate, if a lender charges $75 on a $500 payday loan due in two weeks, this is 15 percent of the loan amount. Annualized, this works out to 391 percent — but again, it should never take a borrower a year to repay a payday loan.

Critics Charge Payday Loans Create Additional Financial Problems for Borrowers

It is also true that borrowers can get into even more financial problems if they do not use payday loans wisely. Payday loans should never be used for frivolous purchases, and borrowers should know how they are going to repay the loan before accepting the money. However, borrowers who use credit cards unwisely can also get into financial trouble and pay a substantial amount in interest. For example, suppose a credit card carries an interest rate of 18.9 percent. Making the minimum payment on a $500 balance, it will take 43 months to pay off and cost $186.59 in interest.

Credit Karma also offers some “helpful” advice on avoiding payday loans. Some suggestions include using a credit card to obtain a cash advance, borrowing from a loan company or asking a credit-counseling service for help. None of these tips are useful if the individual does not have an established credit history.

Former FDIC Chairman Opposes CFPB Regulations

Regulating payday lenders out of existence can hurt the people legislators are trying to help, according to former Federal Deposit Insurance Corporation chairperson William Isaac. In an opinion piece for American Banker, Isaac argues that should payday lending be outlawed, those who need a financial “lifeline” will have only unregulated offshore lenders or loan sharks to help them. He suggests that the CFPB borrow the concept of the Hippocratic Oath — “First, do no harm.”

For many Americans, payday loans can be a cost-effective and accessible source of funds to meet an unexpected expense. If you would like to explore the topic of payday loans in greater detail, visit to learn more.

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