| A payday loan or paycheck advance is a small, | | | | argued that the interest rates on payday |
| short-term loan (typically up to $1,500 in | | | | lending and on hire purchase contracts |
| the U.S.) that is intended to bridge the | | | | unfairly disadvantage the poor, compared to |
| borrower's cashflow gap between paydays. | | | | the middle class who pay at most 25% or so on |
| Payday loans are also sometimes referred to | | | | their credit cards. |
| as cash advances, though that term can also | | | | |
| refer to cash provided against a prearranged | | | | Defenders of the higher interest rates note |
| line of credit such as a credit card. | | | | that payday loan processing costs do not |
| | | | differ much from their higher-principal, |
| Process | | | | longer-term counterparts such as home |
| | | | mortgages. They argue that conventional |
| The loan is typically given in cash and | | | | interest rates at these lower dollar amounts |
| secured by the borrower's post-dated check | | | | and shorter terms would not be profitable. |
| that includes the original loan principal and | | | | For example, a $100 one-week loan, at a 20% |
| accrued interest. The maturity date usually | | | | APR (compounded weekly) would generate only |
| coincides with the borrower's next payday. On | | | | 38 cents of interest, which would fail to |
| the maturity date the lender processes the | | | | match loan processing costs. |
| check traditionally or through electronic | | | | |
| withdrawal from the borrower's checking | | | | A study by the FDIC Center for Financial |
| account if the borrower does not first repay | | | | Research found that “operating costs |
| or service the loan in person. | | | | lie in the range of advance fees†|
| | | | [collected] and that, after subtracting fixed |
| Payday lenders typically operate small stores | | | | operating costs and “unusually high |
| or franchises, but large financial service | | | | rate of default losses,†payday loans |
| providers also offer variations on the payday | | | | “may not necessarily yield |
| advance. Some mainstream banks offer a | | | | extraordinary profits.†Based on the |
| "direct deposit advance" for customers whose | | | | annual reports of publicly traded payday loan |
| paychecks are deposited electronically. When | | | | companies, loan losses can average 15% or |
| a consumer requests the direct deposit | | | | more of loan revenue. Underwriters of payday |
| advance they receive a predetermined, small | | | | loans must also deal with people presenting |
| cash advance. On the next direct deposit into | | | | fraudulent checks as security or making stop |
| the consumer's bank account that advance | | | | payments. |
| amount is removed by the bank plus a fee for | | | | |
| the advance (usually around 10-20%). Income | | | | Payday loan makers also argue that the |
| tax preparation firms including H&R Block | | | | interest on a payday loan is less than the |
| partner with lenders to offer "refund | | | | costs associated with bounced checks or late |
| anticipation loans" to filers. | | | | credit card payments. For example, bouncing a |
| | | | $100 check may inccur an NSF fee from the |
| In the United States, most states have usury | | | | bank of $28 and a returned check fee of $25 |
| laws which forbid interest rates in excess of | | | | from the merchant. |
| a certain APR. Payday lenders operate in | | | | |
| those states by funding loans through a bank | | | | In comparison, when expressed as APRs for |
| chartered in a different state. Under the | | | | two-week terms: |
| legal doctrine of rate exportation, | | | | |
| established by Marquette Nat. Bank v. First | | | | $100 pawn loan with 20% service fee= 240% |
| of Omaha Corp. 439 U.S. 299 (1978), the loan | | | | APR; |
| is governed by the laws of the state the bank | | | | |
| is chartered in. This is the same doctrine | | | | $100 payday advance with $15 fee= 391% APR; |
| that allows credit card issuers based in | | | | |
| South Dakota and Delaware — states | | | | $100 bounced check with $48 NSF/merchant fees |
| that abolished their usury laws — to | | | | = 1,251% APR; |
| offer credit cards nationwide. | | | | |
| | | | $100 credit card balance with $26 late fee = |
| Example | | | | 678% APR; |
| | | | |
| For example, a borrower seeking a payday loan | | | | $100 utility bill with $50 late/reconnect |
| may write a post-dated personal check for | | | | fees = 1,304% APR. |
| $115 to borrow $100 for up to 14 days. The | | | | |
| check casher or payday lender agrees to hold | | | | Withdrawal from North Carolina |
| the check until the borrower's next payday. | | | | |
| At that time, the borrower has the option to | | | | On March 1, 2006, the North Carolina |
| redeem the check by paying $115 in cash, or | | | | Department of Justice announced the state had |
| refinance ("roll-over") the check by paying a | | | | negotiated agreements with all the payday |
| fee to extend the loan for another two weeks. | | | | lenders operating in the state. The state |
| If the borrower does not refinance the loan, | | | | contended that the practice of funding payday |
| the lender deposits the check. In this | | | | loans through banks chartered in other states |
| example, the cost of the initial loan is a | | | | illegally circumvents North Carolina law. |
| $15 finance charge, or 124 percent APR. Many | | | | Under the terms of the agreements, the |
| states do not allow rollovers or limit the | | | | lenders will stop making new loans, will |
| number of rollovers but, for example, if the | | | | collect only principal on existing loans and |
| borrower chooses to roll-over the loan three | | | | will pay $700,000 to non-profit organizations |
| times, the finance charge would climb to $60 | | | | for relief. |
| to borrow $100. | | | | |
| | | | Payday loans in Canada |
| Controversy | | | | |
| | | | According to the Canadian Criminal Code, any |
| As a form of sub-prime lending, similar to | | | | rate of interest charged above 60% per annum |
| high interest rate credit cards, payday | | | | is considered criminal. On August 14, 2006, |
| lending is the subject of controversy. Some | | | | the Supreme Court of British Columbia issued |
| critics claim that payday lenders target the | | | | its decision in a class action lawsuit |
| young and the poor, near military bases and | | | | against A OK Payday Loans. A OK charged its |
| in low-income communities, who may not | | | | customers 21% interest, as well as a |
| understand the time value of money. Others go | | | | "processing" fee of C$9.50 for every $50.00 |
| further, comparing payday lenders to loan | | | | borrowed. In addition a "deferral" fee of |
| sharks due to high interest rates — | | | | $25.00 for every $100.00 was charged if a |
| typically 250% or more when annualized. There | | | | customer wanted to delay payment. The judge |
| have been reported cases in which payday | | | | ruled that the processing and deferral fees |
| lenders have pursued criminal bad check | | | | were interest, and that A OK was charging its |
| charges, despite the fact that they | | | | customers a criminal rate of interest. The |
| (presumably) knew the check was bad at the | | | | payout as a result of this decision is |
| time when it was written. Likewise, it is | | | | expected to be several million dollars. |