Payday loan providers have sometimes been called payday loan sharks. Is this fair to them?
Loan sharking is the illegal practice of lending money to desperate borrowers at exorbitant interest rates. These rates can reach into the 100’s or even 1000’s in terms of annual percentage rates. If unpaid, the debt continues to grow until repayment becomes impossible. Do legal payday loan outfits have anything in common with loan sharks?
When 15% is more than 15%
At first glance, a payday loan with 15% interest rate may sound quite reasonable. Considering that payday loan operations are happy to lend to borrowers with even the worst of credit histories - borrowers whom credit card companies wouldn’t even dream of lending to - 15% stars to sound like a downright bargain. The catch is that it’s 15% interest per month. When adjusted on a yearly basis, this means an APR of 120%.
Take the example of two borrowers: Susan Smith and John Smith. Susan goes online and does a Google search for payday loans. Susan finds a loan provider and in minutes she receives a $300 loan. Two weeks later, she pays back the $23.50 in interest and the payday loan company withdraws $300 from her bank account to pay back the loan’s principal. In Susan’s case, a payday loan didn’t seem like such a bad idea. But what if things hadn’t gone to plan?
John Smith goes to the same website as Susan. He takes out the same $300 loan at the same interest rate. Unfortunately for John, disaster strikes. His car breaks down, his wallet is stolen, or heaven forbid, he unexpectedly loses his job. When the $323.50 comes due, he can’t pay. Loan sharks online are just as obliging as their street corner brethren. They’ll be happy to extend John’s loan at the same 15% monthly interest rate.
Now John owes $323.50. One month later that $323.50 becomes $372. If unpaid for six months, that $372 will turn into $843. After one year, the original $300 dollar loan has ballooned to $1,948. John is now stuck with a loan bearing an APR of 600%!
Are Payday Loans Ever a Good Idea?
The short answer is no. Sometimes they’re the only resort for those in a tight squeeze, but it’s dangerously easy for that squeeze to become far tighter. Short of a shifty eyed character in a black Cadillac, almost all loan providers are better than the payday loan sharks.