Payday loans, also known as cash advances, are small, short-term personal loans that cover the borrower’s expenses until the next paycheck.
According to “An analysis of Consumers’ Use of Payday Loans” by Division of Research and Statistics, Board of Governors of the Federal Reserve System and Financial Services Research Program, payday loans are used to cover emergency expenses or bills that cannot not be deferred.
The most important advantage of payday loans is that it is very easy to get a them online regardless if it is a small or a large amount.
Consumers need to fill in an application form and qualify for specific terms and conditions such as being a US citizen, being above 18 years of age and having a regular monthly income.
The terms of agreement vary from one lender to another as well as the maximum amount that the borrower can take.
If the consumer qualifies the required conditions, the application form is approved and the loan amount is electronically transferred in the appropriate checking or saving account.
On the other hand, although cash advances are short-term, they carry high interest rate that may range up to 400 percent depending on the loan amount and on the lender. So, consumers may end up paying more interest than the market price.
High interest rate makes it difficult to repay the loan because the loan amount increases daily. However, failing to repay the loan on time, typically results in large debt for the borrower in the long run.
Besides, consumers who use such loans do not have flexibility in their income. Even small expenses may ultimately cause financial problems and then, emergency situations become regular thus increasing the probability of borrowing from payday loans more often.
However, consumers who support themselves solely from their paycheck, end up being trapped in a vicious circle of debt that eventually becomes a frequent event.
According to the above mentioned study, only 2% of Americans are using payday loans. Most of these consumers share similar characteristics: they have children at home; earn lower or middle income (between $25,000 and $50,000); are educated (high school, college or degree); have limited liquid assets; use small loans moderately and benefit by them.
Demographics show that people of average income use short-term loans. However, the costs arising from late payments due to unexpected events trigger even higher costs, which can be unbearable for some consumers making them default on their debt.
All in all, these loans are used as short-term financing. However, frequent use may trap consumers into growing debt and potential default.
On the other hand, because they offer temporary financial relief, they reduce the frequency of financial problems and they help consumers getting out of debt.
To get full control over their financial issues, consumers need to be extremely careful when deciding on a payday loan.
Getting access to additional credit for unforeseen expenses requires good debt management.