Why Are Payday Loans Predatory?
Inside Subprime: Dec 21, 2018
By Lindsay Frankel
Payday lenders market their loan products as a lifeline during an emergency financial setback. But most people use them for recurring expenses, and the average payday loan borrower remains in debt to the lender for more than half the year. These short-term, small-dollar loans can trap borrowers in a cycle of debt that can be difficult to overcome. And this debt trap is a hallmark of the payday loans business model; payday lenders make the most money off chronic loan borrowers.
Debt.org defines predatory loans as “any lending practice that imposes unfair or abusive loan terms on a borrower. It is also any practice that convinces a borrower to accept unfair terms through deceptive, coercive, exploitative or unscrupulous actions for a loan that a borrower doesn’t need, doesn’t want or can’t afford.”
Payday loans are considered predatory in part because lenders misrepresent the total cost of a payday loan. Even an industry-funded study found that 40 percent of borrowers believed the rates on their loans were under 30 percent APR. In actuality, payday loans cost borrowers almost 400 percent APR on average. The confusion may be intentional on the part of the lender, as this excerpt from a payday loans business plan suggests: “Annual percentage rate [on the customer disclosure form]:…Do not enter a % sign in this box! Simply enter a number. For example…enter the number 805 in box 1. Should you enter 805%, your client may become uncomfortable. Remember, in your response to clients’ questions regarding your fees, [say] “We charge $15 per $100 advanced.” Sounds like 15%, but in reality since it is an 8 day loan, the true annual percentage rate is 805%!”
Payday lenders are also considered predatory because their products disproportionately affect marginalized communities. Payday loan storefronts are concentrated in low-income areas, and consumer advocates contend that payday lenders target minorities. 12 percent of African Americans and 6 percent of Hispanics have used payday loans, when compared to 4 percent of whites, according to Pew research. People with disabilities are also disproportionately impacted by payday loans.
Excerpts from payday loan business plans suggest that payday lenders are intentionally targeting both low-income families and migrant workers:
“There are 40 million American households with incomes of $25,000 or less that need convenient check cashing [and] quick availability of micro loans between $50 and $300…Moreover, this market is expected to grow over the next decade; especially those households that are leaving the rolls of welfare for employment.”
“Time of year is important…Tax season and Xmas offer [more payday loan] activity; summers can be slower but could be greater if your community grows with migrant workers.”
Furthermore, most consumer advocates believe that the high interest rates and fees associated with payday loans are unethical. And Pew research shows that payday loans are unaffordable for most borrowers. Though most people can’t cover their expenses while paying more than 5 percent of their gross paycheck to a lender, payday loans eat up a whopping 36 percent of the average borrower’s gross paycheck.
So while industry advocates contend that payday loans meet a demand for credit access, payday lenders rake in revenue while borrowers suffer financially as a result. These no credit check loans are considered predatory because the true costs are unclear and unaffordable to borrowers.