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page updated on February 21, 2016

The Usury of Instant Payday Loans

Money is leverage.

Money lets us buy the essentials—food, clothing, housing—but beyond those needs, money also lets us buy freedom. With money, we can improve transportation. We can hire someone else to perform services. We can enjoy luxuries.

Take away that money, and you take away that freedom. Get money and you get leverage.

If you have money and someone else needs money, you have leverage. The need may outweigh your use for that extra money, and so you might trade the money you don't need for a favor to be called in later. If you're on the other side—if you're desperate for money to cover your needs—then that might seem reasonable to you. After all, desperation and need are terrible, powerful motivators.

What is Good Debt?

Debt isn't always a problem. You might want to move across town to get a better job to bring home a larger paycheck, so borrowing money to help you move is an investment. The temporary debt you incur gives you temporary money which gives you leverage.

If you can pay off the debt faster than you incurred it—if the value of what you purchased with the debt is larger than the cost of the debt—this may have been a wise investment.

This is one of the principles behind debt consolidation. Even if you find yourself in a bad situation where you have multiple debts, restructuring them into a single loan which you can manage with just one recurring payment can give you better terms and will simplify the means by which you reduce that debt. (This is more mediocre than good, but in certain circumstances these debt consolidation loans will improve your financial leverage—certainly above owing multiple lenders with multiple terms.)

In many circumstances, home mortgages represent good debt. You need somewhere to live, and if you're careful about the house you buy, it will appreciate in value (or at least retain value in a way that paying rent will not). Be sure to calculate in the value of any tax deduction available for your home loan when you consider the value of this debt. Good debt is when you own something that increases in value faster than you have to pay it off.

What is Bad Debt?

Suppose you don't get the job though, and you've already spent the money. Now you have the debt but you don't have the means to pay it. Now you have a problem. Your debt exceeds your ability to pay, and your lender has leverage over you. This is bad debt.

Instant Cash Loans are Bad Leverage

Leverage sounds more complicated than it is. Think of leverage as power or freedom. A little bit is a nice thing. The more you get, the more you can do with it. The less you have, the less you can do.

The question you have to answer is how much leverage can you give up and how much leverage are you getting.

Suppose you need $100 right now. Suppose you need instant cash now and apply for a loan. You'll pay anywhere from $15 to $30 for the privilege. Right now you're down at least $115, and the clock is ticking for you to pay interest. They call it a cash advance or an instant advance loan. In truth, it's more often a tax.

If you can put that $100 you have in hand to work for you—if it gives you enough leverage—to make back the $100 plus the $15 plus the interest, you may come out ahead. If that $100 is enough to get you to work where you earn $200, it might even make sense if that's really the best way to get you to work.

Here's the problem, though.

Your friendly neighborhood pay day loans place charges just enough to have so much leverage over you that you'll probably need more loans soon. You might need a second loan to pay back the first. You probably won't be able to make $200 off of your $100 loan. They're betting that you're digging yourself into a hole and they'll keep renting you the shovel. They want you to sign over your entire check on your next payday.

They'll try to make it easy, of course. They'll happily advertise how quick and painless the process is, saying things like "No faxing" (as if requiring you to fax something like a paycheck to prove that you have money coming in is a huge burden). They'll promise "low fees", knowing that they classify the exorbitant interest rates they calculate as anything other than fees. They promise to approve unsecured loans in minutes. (A secured loan is a loan where you put up something of value as collateral, such as the title to your car or your house. You may also hear these described as title loans. In the event you fail to pay back the loan, the lender has a right to take the property you put up as collateral. An unsecured loan has no collateral backing it up.) Sure, if you ask, you might get them to admit the annual percentage rate, but how many people who need cash now will bother to use that APR to measure the true cost of a loan?

Fixing the Predatory Payday Loan Trap

Sure, maybe you never need instant pay loans, but tens of thousands of people are in the situation where they believe they need a little cash now to get them through the week. Someone's making buckets of money from people who have no leverage, and they're selling their futures off a few hundred dollars at a time. This business model is designed for you to fail to pay back these small debts, so you'll take out larger and larger loans. Start with a short term emergency and take out multiple short term loans (loans of 30 days or less) they'll squeeze you until you feel like you have no alternatives. (If you're looking for how to pay off a payday loan fast, be very careful; you can't do it by taking out more loans. That's by design. Maybe you won't go as far as to call this the cashcall scam, but this business model didn't happen by accident.)

There's a word for this: usury.

Several states in the US have anti-usury laws, but most have no teeth. The Consumer Federation of America's legal status of short-term loans by state gives an overview of these laws. Short answer: instant payday loans are worse than credit cards. Loans like Cash Call are traps from which the average customer can't escape. People who suffer from payday loans right now have no leverage. They have no safety net. If something goes wrong—a kid gets sick, the car breaks down, a bonus check never appears—there's no leverage. Yet someone who thinks "I need cash right now!" might not have the luxury of planning ahead. (Some people don't really have the option of planning ahead; they might need money so badly they don't mind the hand-lettered sign which reads payday laons—misspelling intended.)

Congratulations to the states which set a hard cap on the maximum annual interest rate a business may charge its customers. Jeers to the other states; what's wrong with you? Of course, worse yet is the prevalence of payday loans online; it's difficult to pursue usurious lending across state lines and almost impossible to prosecute fraud across national boundaries. Who knows if "Fast Cash Til Payday Loan Dot Com" is a front for "Payday Loans Toronto Dot Ca" or "Payday Loans Uk Dot Uk"? (Not to disparage friends in the UK or Canada or Australia; it's just that those countries might be easier to trust than "Pay Day Loans of Nigeria".)

(The criminal code of Canada has an upper limit of 60% interest per year. That's for the entire country—not just for loan advances, but any kind of credit at any kind of organization, including banks. The US government has considered adopting a limit at various times, but Congress has made no serious effort to do so. Shameful.)

Obviously no policy can fix the part of human nature that lets some of us squander our resources and then realize we have no money to buy food until the next payday, but we can recognize the ways in which the poorest among us lack the leverage most of the rest of us enjoy timely and reliable transportation, healthy and affordable food options nearby, safe housing, full time work which pays a livable wage, and insurance against unforeseen and unpredictable acts of devastation.

Again, the availability of all of these is no guarantee that some people will find themselves in irresponsible circumstances, but establishing a minimum baseline of leverage for all citizens is surely within our grasp. Laws against extravagant interest rates and consumer protection statutes and organizations will help.

So will better financial education for citizens. (Free money isn't free. Free lending isn't free.)

So will public shaming of usurious organizations. Let's call this scam what it is: a scam. Let's call these sharks what they are: sharks.