Why many people choose payday loans

People in the personal finance community will often talk poorly about payday loans or even dismiss them entirely as an option to borrow money.  Disdain for this option stems from the fact that, as the Consumer Financial Protection Bureau (CFPB) points out, fees of $15 per $100 borrowed are typical.  This leads to a 400 percent annual interest rate on the money, and it can be much higher.

According to the Pew Charitable Trusts, however, 12 million people use these types of loans every year to cover short-term emergency expenses.

To understand why people would choose these incredible fees over other options, it is important to look at the financial situation of the common applicant.  According to Credit.com, the average payday borrower is earning less than $40,000 per year, rents their home, has no degree, and is often separated or divorced.  They also may have poor credit or no credit with which to apply for a traditional loan or credit card.  Payday lenders are the last choice for many but the only option for some.

The benefit for someone that uses this service is that the requirements are very minimal. An ID, a steady job, and a checking account are often all a person needs to be approved for cash on the spot with no credit check necessary.  Typically, they will write a post-dated check for the borrowed amount plus any additional fees to the lender who will then give them the money.  On a set date, typically within 14 days, the lender will cash the check which closes out the loan.

The dangerous aspect, according to CFPB, is that these loans often do not stop at one.  If a person can’t fully repay the loan when it comes due, they will often roll the loan over into more loans to delay the repayment.  In fact, 70 percent of people take out a second loan for this reason.  What’s worse, 20 percent end up rolling their loan over at least 10 times.

Although they may be useful in a time of emergency, payday loans should truly be a lender of last resort.