The Facts about Short-term Loans

The debate over short-term loans (also called payday loans) is often clouded by wrong information. Here are some basic facts about payday loans, backed by research.

Payday loans are two-week loans—not annual loans, so the 390% annual percentage rate cited by critics is misleading.

The typical fee charged by payday lenders is $15 per $100 borrowed, or 15 percent for a two-week loan. The only way to reach the 390% APR is to roll the two-week loan over 26 times (a full year), which would be impossible. The Community Financial Services Association Best Practices limits rollovers to four or the state limit, whichever is less.

Reference: CFSA

When compared to the alternatives, payday loans can provide an easier and more affordable way to make ends meet in the short-term.

According to a government survey the average APR on a two-week checking account overdraft is 1,067%, more than double the rate on the typical payday loan.

Reference: FDIC

Other short-term credit options, such as overdraft protection, may not be affordable or attractive options.

A recent study found that the median implicit interest paid by consumers for bank overdraft protection is more than 4,000%.

Reference: July 2007: Hidden Consumer Loans: An Analysis of Implicit Interest Rates on Bounced Checks, Marc Anthony Fusaro, Department of Economics, East Carolina University

All payday loan customers have a steady income and active checking account, both of which are required to receive a payday loan.

Reference: The Credit Research Center, McDonough School of Business, Georgetown University, Gregory Elliehausen and Edward C. Lawrence. Payday Advance Credit in America: An Analysis of Customer Demand. April 2001

The payday loan industry is heavily regulated.

The payday loan industry is regulated in 34 states and the Community Financial Services Association is working to have it regulated in all 50 states.

Reference: CFSA

Payday loans are often clearer and easier to understand than many short-term credit alternatives.

A 2008 government study found that a large percentage of banks take deliberate measures to increase the frequency of customer overdrafts — such as displaying account balances on ATM screens only after the overdraft has occurred, and increasing the number of insufficient funds checks by clearing large customer checks before small ones. Banks also sign up their customers automatically for overdraft protection without informing them. Compared to these overdraft practices, payday loans are transparent since stores are required to clearly post all fees and the APR.

Reference: FDIC Study of Bank Overdraft Programs

Research shows that payday loan customers understand the product and have decided it’s the best choice for them.

A January 2009 study from George Washington University found that payday borrowers make informed choices. About half of the 1,173 payday borrowers surveyed considered other credit alternatives — such as bank, credit card, or personal loans — before taking out a payday loan. Over 80% lacked sufficient funds in their bank accounts to meet their expenses, so by taking out a payday loan they avoided expensive checking account overdraft fees.

Reference: A Comparative Analysis of Payday Loan Customers, Edward C. Lawrence

University of Missouri at St. Louis – College of Business Administration, George Washington University – Financial Services Research Program, Contemporary Economic Policy, Vol. 26, Issue 2, pp. 299-316, April 2008

Research shows that payday loan borrowers are satisfied customers.

A January 2009 study from George Washington University found that nearly 90% of payday loan customers were either very or somewhat satisfied with the transaction.

Reference: A Comparative Analysis of Payday Loan Customers, Edward C. Lawrence

Banning payday loans has made things worse for some consumers.

A study found that after payday loans were banned in Georgia (2004) households in the state bounced more checks, complained more frequently to the Federal Trade Commission about lenders and debt collectors, and were more likely to file for Chapter 7 bankruptcy when compared to households in other states.

Reference: Donald and M. Strain, “Payday Holiday: How Households Fare after Payday Credit Bans,” Federal Reserve Bank of New York, Staff Report no. 309, November 2007.

The majority of short-term loan customers use the loans responsibly.

Customers use short-terms loans as intended and most pay them back within the terms of the loan. In a recent study, 64.4% of payday loan customers reported that the term of their loan was less four weeks.

Reference: A Comparative Analysis of Payday Loan Customers, Edward C. Lawrence

University of Missouri at St. Louis – College of Business Administration, George Washington University – Financial Services Research Program, Contemporary Economic Policy, Vol. 26, Issue 2, pp. 299-316, April 2008

Tip of the Week

The Consumer Financial Protection Bureau (CFPB) has launched an inquiry into checking account overdraft programs to determine how these practices are impacting consumers. They are asking consumers to provide comments on their experiences with overdraft protection. Has it helped? Has it hurt? Are the fees clear or confusing?
Make your voice heard on overdraft fees by submitting a comment today!

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