Understanding what payday loan APR is – and is not

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Don't get lost in the hype critics spread about payday loans and APR. (Photo Credit: CC BY-SA/Brian Robert Marshall/Geograph)

A payday loan is a simple product that fills a specific financial niche for consumers who need quick cash but find themselves unable to obtain it via a traditional bank. Payday loans typically come to term after two weeks, and payment plus convenience fee is due at that time – usually on the consumer’s next payday – in a lump sum. The federal Truth in Lending Act of 1968 (TILA) requires that loan fees be expressed in terms of an annual percentage rate (APR), so payday lenders are required to list a loan APR for customers. As Louisville, Ky., Consumer Financial Services Association chapter spokesman Kevin Borland pointed out to the Lexington Herald-Leader in a Jan. 18 letter to the editor, this has caused no small amount of confusion for critics of the payday lending industry.

What the media doesn’t understand about APR and payday loans

Responding to a Jan. 4 editorial entitled “Put interest cap on payday loans,” Borland points to the media’s rampant payday lending confusion:

“Placing an annual percentage rate (APR) cap on a financial product with a two-week term is tantamount to charging a yearly rate for a night’s stay at a hotel. APRs are designed for mortgages and auto loans — not short-term credit,” he says.

Yet TILA requires an APR to be listed for payday loans and installment loans. Regarding payday loans, more specific payday lending laws don’t even allow for interest rates, says Borland. Thus, payday loans are fee based – it’s the only way such businesses can keep their doors open, and people have proven they’re willing to pay a premium for emergency cash.

Full disclosure

While payday loan companies clearly disclose what products cost, opponents continue to distort the truth, says Borland. While a two-week payday loan would reach a triple-digit APR if a consumer took out one loan and continued to pay a fee on that loan every two weeks for a whole year, laws in Kentucky and many other states forbid such loan renewal.

Learn the truth about payday loans

The truth of how payday loans work on a statistical level has been studied at some length over the past decade. Rather than leaping to conclusions about “massive” APR numbers, critics would do well to read the evidence against high-cost theory with payday loans firsthand.


Lexington Herald-Leader

APR explanations in animated form