Are payday loan criticisms really justified? We try to debunk some of the myths behind this form of lending.
Payday loans have come in for quite a bit of stick in the last few years – both justified and unjustified.
A large part of the problem with payday loans is the fact that many of their strongest critics are largely ignorant and misunderstand their purpose. In addition to this, if you look at the biggest critics out there, they usually have a political agenda and refuse to meet with the likes of PaydayUK and Wonga to discuss the issues. What does this tell you about those so oppose to this form of lending?
However, I am digressing and I’m not writing this to criticise back-bench politicians who are looking to further their waning careers.
So – What are the main criticisms of payday loans?
1. Payday loan companies encourage people to get in debt.
This is not and never has been true, as far as this writer is aware. Payday lenders are governed by the same authority as other financial organisations – the Financial Services Authority (FSA). Under FSA regulations lenders have to do what is best for the customer in the long-run. They will (or should under FSA) only lend to people they know can repay the debt at the end of the month.
2. Payday loans are frivolous
Is this really true? I don’t think payday loans have been advertised as a frivolous loan to be taken out lightly. They are advised as a source of credit if the borrower is unable to obtain credit elsewhere, such as bank overdrafts and credit cards.
Payday loans are advised for people who find themselves in a situation where they have an unexpected payment due, such as an unforeseen utility bill or car repairs. Regardless – even their strongest critics have to admit that, no matter how strictly regulated the industry might be, lenders have little power over what borrowers spend the money on.
3. Payday loans are expensive
Ok, from the outset payday loans do look expensive with ridiculously high Annual Percentage Rates (APR). However, critics wilfully misunderstand the fact that an APR is an interest rate measured over an “annual” period – usually a year. A payday loan is only supposed to last a month – it’s a small, short term loan that is paid off at the end of the month – not the end of the year!
Therefore, the “actual” interest rate is a lot lower – for example, on average, a borrower who takes a £100 payday loan may only pay back £120 at the end of the month. So the “actual” interest rate works out as 20% interest – but for a loan as small as this its peanuts! In the words of Alexander Meerkat – Simples!
4. Payday loans can lead to a spiral of debt for the borrower
Do they? It’s easy to use payday loans as a scapegoat for borrowers falling into heavy debt. However, did you know the majority of big payday lenders out there actually put safe-guards in place to prevent this?
The likes of PaydayUK and Wonga actually have teams to help manage your debt should their borrowers start to struggle – the last thing they want is for their customers to get into financial difficulties so they will work out a debt management plan that suits their needs.
In addition to this – it’s just as easy to fall into debt using credit cards and bank overdrafts. I fell into debt as a student with both of these forms of credit and struggled for the first few years after leaving University. Just something to bear-in-mind…
So – are the critics justified in their attacks on payday loan companies? I’ll let you decide for yourself.
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