Payday Lending 1.4.4

Take Charge of Your Finances

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 2Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Can’t Wait Until Payday?

• There are many ways to obtain cash if a person needs money before payday– Loan

• From parents or family• From financial institution

– Credit card– Payday loan

• Short-term loan providing immediate cash

– Cash advance loans– Check advance loans– Post-dated check loans– Deferred deposit check loans

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 3Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Payday Lending

• Payday lending locations– Check cashers– Payday loan stores– Pawn shops– Toll-free numbers– Rent-to-own companies– Internet

• Required to give the lender access to financial accounts and social security number

• Increases the risk of fraud and identity theft

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 4Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

How to receive a payday loan

• Who uses payday loans?– Users typically have poor credit

history– Users typically cannot obtain a

traditional loan

• Requirements to receive a payday loan– Have a bank account– Proof of income– Personal identification

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 5Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Why Use Payday Loans?

• Focus groups of low-income and ethnic consumers identified five ways check cashers were superior to banks– Easier access to immediate cash– More accessible locations– Better service

• Shorter lines, more tellers, more targeted product mix in a single location, convenient operating hours, and Spanish-speaking tellers

– More respectful, courteous treatment of customers

– Greater trustworthiness• Payday lenders provide the same

service-rich environments as check cashers, although may not be used as often because of high fees and on-going obligations

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 6Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Obtaining a payday loan

• Personal check– Individual writes a check to the

lender for the amount borrowed and the lending company fee• Payday loans are issued for amounts

between $50 and $1000• Payday loan fees are between $10

and $30 per $100 borrowed3

– Fees translate to an APR of 391% - 443%4

• Example: If James needs $100, he will be charged $15 in fees. He will write a check for $115 and receive $100.

– Lender will hold the check until the agreed upon date (usually the borrower’s payday) before cashing it

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 7Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Obtaining a payday loan

• Automatic withdrawal– Borrower gives lender permission

to automatically withdraw the funds from their financial institution account

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 8Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Payday Lending Options

•Payday loans are difficult to pay back–Payday lending companies require borrowers to pay back the entire loan in one lump sum rather than installments

•For example: if Max saves $25 each pay period, he cannot apply that money to a payday loan until it equals the total cost of the loan

–Other credit options, such as a credit card or loan do allow installment payments

•For example: if Max saves $25 each pay period, he can apply that money to a credit card balance

–91% of all payday loans are made to borrowers with five or more payday loans per year4

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 9Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Payday Lending Options

• If lenders cannot pay back their payday loan in full on pay day, there are three options1. Rollovers or extensions

• Pay another fee for the original loan– Example: If James does not have enough

money to pay back his $100 loan, he may pay $15 to extend the loan until his next payday

– Cost of the loan after one payday» Original loan = $100 + $15 = $115» Rollover fees = $15» Total cost of the payday loan = $130

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 10Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Payday Lending Options

2. Back-to-back– Pay back the original loan, but

immediately take out a new loan to cover expenses• Example: If James can pay back the

original loan on his payday, but then needs money to pay other bills, he can take out another loan.

• Cost of the loan after one payday– Original loan = $100 + $15 = $115– Payback $100 on payday – New loan = $100 + $15 = $115– Total cost of the both payday loans =

$130

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 11Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Payday Lending Options

3. Default– If an individual does not have enough

money in his checking account, the borrower will default on the loan

– Insufficient funds (NSF) fees are charged by the lender and financial institution

– NSF fees may be charged multiple times if insufficient funds remain in the account• Example: James wrote a check for a payday

loan. He does not have enough money in his checking account for the loan amount on payday.

• Cost of the loan after one payday– Original loan = $100 + $15 = $115– Payday lender NSF fees = $20– Financial institution NSF fees = $20– Total cost of the payday loan = $155

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 12Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Comparing the Total Cost

Fran purchases new clothes with $150 credit. She saves $50 each pay period to apply to the total credit cost.

• Example 1 – credit card with a 15% APR– Total cost after 2 pay periods = $150 * .15 =

$172.50• Example 2 – payday loan with a $20 fee and a

rollover fee of $30– Total cost after 2 pay periods = $150 + $20 +

$30 + $30 = $230

$230.00

Saved $70 ($50 + $20), but can’t make installment payments, so she pays $30 to rollover the loan ($40 left from amount saved)

Saved $50, but can’t make installment payments, so she pays $30 to rollover the loan ($20 left from amount saved)

Payday Loan

$72.50$ 50

Amount Due:

Amount Paid afterPay Period 2

$ 50Credit Card

Amount Paid after Pay Period 1

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 13Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Risks of payday lending

• Borrowers can get “trapped” in a cycle of borrowing– Lead to long term debt and legal

problems– Payday loan customers are 4

times more likely than all adults to file for bankruptcy5

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 14Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Trends in payday lending

• Ten years ago– Payday lending was virtually non-

existent4

• By the end of 2005– Payday loans amounted to $40

billion2

– Fees paid by borrowers were $6 billion2

• Payday loan industry– Is thriving because people pay

the fees without seeking alternative forms of credit

– Today there are more payday loan stores than McDonalds and Burger King restaurants in California5

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 15Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Alternatives to payday lending

• Family or friends– May charge much lower finance fees

• Paycheck advance– Ask employers to issue a paycheck

earlier if bills are due• Overdraft protection

– May be less costly than paying payday lending fees

• Ask creditors for more time to pay bills– Make arrangements to pay bills after

receiving a paycheck• Financial institution loan for large

amounts– Interest rates may range from 10% to

18%3

• Credit card – Higher interest rate of 16% to 21%3

– Is still lower than the ~400% interest rate of a pay day loan

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 16Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Alternatives to payday lending

• Create a spending plan– Track income and expenses

• Open a savings account– Set aside money from each

paycheck• Emergencies• Unexpected expenses

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 17Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Government Regulation

• Some states have small loan laws making payday lending illegal or regulating the number of times a rollover can occur

• The Truth in Lending Act– Requires payday loan companies

to advertise the finance charges and annual percentage rate

– All terms must be in writing for customers

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 18Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Review

• Payday loans– Short term loan providing

immediate cash– Borrower pays a fee to obtain

cash– Can become very expensive if the

borrower cannot pay the loan back in full on their next payday

• Payday lending options– Rollover– Back-to-back– Default

• Alternatives

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© Family Economics & Financial Education – Revised November 2006 – Credit Unit – Payday Lending – Slide 19Funded by a grant from Take Charge America, Inc. to the Norton School of Family and Consumer Sciences Take Charge America Institute at the University of Arizona

Resources 1. “Consumers Warned of Online Payday Loans”http://usgovinfo.about.com/od/consumerawareness/a/paydayloans.htm

2. “PayDay Loan Consumer Information”http://www.paydayloaninfo.org/

3. “Payday Loans: Laws Protecting Montana Borrowers”

http://www.montana.edu/wwwpb/pubs/mt200102.html

4. “Quantifying the Economic Cost of Predatory Payday Lending”

http://www.responsiblelending.org/pdfs/CRLpaydaylendingstudy121803.pdf

5. “Payday Lending: A Business Model that Encourages Chronic Borrowing”

http://www.kenan-flagler.unc.edu/assets/documents/CC_Payday_lending.pdf

Questions?