Payday Loans and the Perils of Borrowing Fast Cash

U.S. voters have spoken – and not just for the next president. They are also in favor of cracking down on what some consider predatory lending, particularly in the form of payday loans. During November’s election, South Dakotans voted to cap interest rates on short-term loans at 35%. With that vote, South Dakota joins 18 other states and the District of Columbia in capping the amount of interest lenders can charge on payday loans.

When they do, they may be harming their financial futures by getting trapped in a cycle of debt because they don’t understand how these loans work or underestimate their ability to repay them

Payday loans are small loans that allow you to borrow against a future paycheck. That option comes with a high price, however, because the interest rates associated with these loans – in part because lots of people are unable to pay them back on time – are incredibly high. Payday loans are prevalent in low-income communities, and these lenders have received criticism for their treatment of low-income borrowers. These borrowers might need extra cash to meet their monthly expenses, but at the same time are not able to pay back the payday loans on time, which puts them into a growing debt with payday lenders.

Borrowers usually give their bank account information to the payday lender, who will debit the owed money from the borrower’s account when due. Payday lenders operate from storefront businesses and online, giving customers round-the-clock options for accessing money this way.

The minimum age for borrowing a payday loan is 18. But just because teens can borrow money this way doesn’t mean that they should rush to use this type of loan without understanding the financial ramifications. In , a British teen made headlines when he committed suicide allegedly as a result of losing much of his bank account to a payday lender known as Wonga. This and other less-drastic cases have increased the scrutiny on the payday lending industry.

While a Pew Charitable Trusts study found that 25- to 44-year olds make up the majority of payday loan borrowers, 5% of 18- to 24-year olds have borrowed money this way.

Payday loan amounts usually range from $100 to $500, with the average loan around $375, according to the Pew Charitable Trusts. Borrowers pay an average fee of $55 per two weeks, and the loan must be paid back based on your payday.

If you can’t pay back the loan at the end of the two weeks, payday lenders will usually roll it over into a new loan. As a result, the average payday loan borrower is in debt for five months of the year. Repeatedly rolling over loans could result in annual interest rates of more than 300%.

“When someone takes out a payday loan they’re not in the best financial place to begin with most of the time,” says Matthew Divine, a managing partner at , which provides payday loan debt consolidation services. “Sometimes people are just naive and someone is offering $500, and they’ve never had a loan before. Sometimes people will just do it because they need the money or think they need the money.”

Compare that to a typical credit card interest rate of 15%

Divine’s company works with borrowers struggling to repay multiple loans. “We get the debt organized for them…then we send a letter to the lender and say all communication should go to us.”

The debt consolidator then works to stop further debits and collection attempts from payday lenders. “We will dispute payments, that’s a big part of the service we provide… once we dispute the payments with the [borrower’s] bank, the bank won’t allow it to continue,” says Divine.