Payday loans are dying. But payday loans are on the rise
Payday loans – the “lifelines” that overwhelm you with debt – are on the decline.
Fines and regulatory scrutiny of high rates and deceptive practices have shuttered payday loan stores across the country in recent years, a trend capped by a proposal last summer from the Consumer Financial Protection Bureau aimed at limiting short-term lending.
Consumer spending on payday loans, both in-store and online, has fallen by a third since 2012 to $6.1 billion, according to the nonprofit Center for Financial Services Innovation. Thousands of outlets have closed. In Missouri alone, there were about 173 fewer active licenses for payday lenders last year than in 2014.
In response, lenders have a new offering that is keeping them in business and regulators at bay: payday loans.
Payday loans work like traditional payday loans (meaning you don’t need credit, just income and a bank account, with money delivered almost instantly), but they’re reimbursed in installments rather than a lump sum. The average annual percentage interest rate is also generally lower, 268% versus 400%, according to CFPB research.
Spending on payday loans doubled between 2009 and 2016 to $6.2 billion, according to the CFSI report.
Installment loans are not the solution
Payday loans are quick and convenient when you’re in a rush, but they’re still not a good idea. Here’s why:
Price beats time: Borrowers end up paying more interest than they would on a shorter loan at a higher APR.
A one-year $1,000 installment loan at 268% APR would incur interest of $1,942. A 400% APR payday loan for the same amount would cost around $150 in fees if paid off in two weeks.
“While each payment may be affordable, if it lasts for years and years, the borrower could end up repaying far more than they borrowed,” said Eva Wolkowitz, head of the Center for Financial Services Innovation.
You are in the hole much longer: Payday loans are often structured so that the down payments only cover the interest charges, not the principal.
“The longer the loan, the more interest you only pay up front,” said Jeff Zhou, co-founder of Houston-based Fig Loans, a startup that offers alternatives to payday loans.
Additional modules add up: In addition to high interest rates, lenders can charge origination fees and other fees that drive up the APR. Many also sell optional credit insurance – not included in the APR – which can inflate the cost of the loan. Lenders market this insurance as a way to cover your debts in the event of unemployment, illness or death. But the payment goes to the lender, not the borrower.
About 38% of all payday borrowers default, according to the CFPB.
Americans still want a little dollar credit
The demand for payday loans in any form is not going away anytime soon. Twelve million Americans use payday loans each year, usually to cover expenses such as rent, utilities or groceries, according to The Pew Charitable Trusts.
“The initial two-week loan was born out of customer demand for the product. Likewise, in many cases, customers are asking for installment loans,” Charles Halloran, chief operating officer of the Community Financial Services Association of America, a payday loan trade group, said in an email.
Income growth is slow, expenses are rising and more Americans are experiencing erratic cash flow, said Lisa Servon, professor of urban and regional planning at the University of Pennsylvania and author of “The Unbanking of America “.
“It’s a perfect storm that’s very good for expensive short-term creditors, not so much for the average American worker,” she said.
What is the alternative?
While Americans want smaller loans, 81% said they would rather take a similar loan from a bank or credit union at lower rates, according to recent Pew polls..
Banks are waiting for the CFPB to finalize its rule proposal for payday loans before entering this market, according to Pew. As the fate of the CFPB remains uncertain under the Trump administration, banks may not be offering cheaper payday loans anytime soon.
In the meantime, if you need cash fast, try a credit union. Many offer alternative payday loans capped at 28% APR to members. Community nonprofits also provide low- or no-interest loans for utilities, rent, or groceries.
Amrita Jayakumar is a writer at NerdWallet, a personal finance website. Email: [email protected] Twitter:@ajbombay.
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