What’s Worse: An Overdraft Fee or A Payday Loan?
You’d think that a payday loan would be much more treacherous than a service offered by your bank, right? The answer may surprise you.
Maybe your car broke down and you need to pay for a tow, or that loan payment went through before you could pick up groceries for the week. Whatever the issue, you’re short on cash. So what do you do when you need to buy something now, and the money in your bank account just isn’t enough?
Should you take out a payday loan?
If you’re a regular reader of this blog, you’ll know all about the dangers of using a payday loan in a situation like this. Having bad credit often means more mainstream credit avenues, like credit cards, are unattainable, and as a result, many Americans with poor or no credit must turn to predatory storefront lenders offering fast cash with astoundingly high interest rates.
If you take out a payday loan in a pinch, then find yourself unable to pay it back on time, you’re more than likely headed for an expensive and vicious cycle of debt, which could take months—or even years—to get out of.
Knowing all of that, it’s probably best to look for other options—just make sure those other options aren’t even worse than a predatory payday loan.
Case in point: the dreaded overdraft fee.
At its core, an overdraft fee is like a cash advance from your bank. If you use your debit card to buy a $3 candy bar, but you only have $1.50 in your checking account, your bank will lend you the extra $1.50 to make sure the purchase goes through. Isn’t that nice of them?
Except—oh wait—they’ll also charge you dearly for that $1.50 loan, typically an average of $35 per overdraft.
As we reported on Inside Subprime a few months ago, a study from the Consumer Financial Protection Bureau (CFPB) recently found that people who make more than 10 overdrafts on their checking accounts every month are more likely to have subprime credit scores.
And that makes sense when you calculate just how much overdrafting costs. Make one $0.80 overdraft? Congrats! Your new account balance is -$35.80. Make another one for $1? Now you’ll need to deposit more than $71.80 in order to get your account back in the black.
That CFPB study also found that the majority of debit card overdraft fees were incurred on transactions of $24 and less, most of which are repaid within three days.
“Put in lending terms, if a consumer borrowed $24 for three days and paid the median overdraft fee of $34, such a loan would carry a 17,000 percent annual percentage rate (APR),” they wrote in their report.
So what’s the verdict?
While the average payday loan might offer terms as high as 300 percent APR, that seems almost tame when compared to the insane rates you’ll pay for overdrafting. Keep in mind, banks make millions of dollars off this every year.
To add insult to injury, banks often trick customers into signing up for this “service” by calling it “overdraft protection,” which seems like it should mean “protection FROM overdraft,” right? Unfortunately, opting in to overdraft protection actually means you’re allowing the bank to lend you money at these crazy-high interest rates.
“Those who have opted in typically incur 22 overdrafts per year, compared to 18 for those not opted in—not a very large gap,” said former CFPB director Richard Corday in a press call last summer. “But the difference in costs can be huge: frequent overdrafters who have opted in are typically charged 18 fees a year, compared to only 5 for those not opted in. With a fee of $34 per event, this amounts to almost $450 more in overdraft fees each year.”
In short, while a payday loan is always a bad idea, racking up overdraft fees might be even worse.
Lucky for you, there are better options.
When an emergency expense hits you, it can feel like the world is caving in around you. And that’s exactly what predatory lenders who offer no credit check loans are counting on. They want you to think that borrowing from them is your only option.
But here’s the thing: you don’t have to settle for a shady storefront lender in your time of need. In fact, there are ways you can get a bad credit loan from a responsible lender quickly, and without even leaving your couch. There are reputable online lenders offering installment loans with longer terms with reasonable interest rates that won’t leave you digging for change in your couch cushions.
And remember, when evaluating potential lenders, always check their Google reviews and BBB ratings. Be on the lookout for predators and instead work only with reputable companies who report your on-time payments to the credit bureaus. That can help boost your score and move you out of the world of bad credit loans and into more traditional lending products.
To learn more about living with bad credit, check out these related posts and articles from OppLoans:
- If You Have Bad Credit, Should You Buy or Lease a Car?
- How to Get an Apartment With Bad Credit
- Should Bad Credit be a Dating Dealbreaker?