Payday Loan Controversy

As a form of sub-prime lending, similar to high interest rate credit cards, payday lending is the subject of controversy. Some critics claim that payday lenders target the young and the poor, particularly those near military bases and in low-income communities, who may not understand the time value of money. Others go further, comparing payday lenders to loan sharks due to high interest rates — typically 300% or more when annualized. Payday lenders have been known to charge more than 1000% APR. There have been reported cases in which payday lenders have pursued criminal bad check charges, despite the fact that they (presumably) knew the check was bad at the time when it was written. [citation needed] Likewise, it is argued that the interest rates on payday lending and on hire purchase contracts unfairly disadvantage the poor, compared to the middle class who pay at most 25% or so on their credit cards.

Defenders of the higher interest rates note that payday loan processing costs do not differ much from their higher-principal, longer-term counterparts such as home mortgages. They argue that conventional interest rates at these lower dollar amounts and shorter terms would not be profitable. For example, a $100 one-week loan, at a 20% APR (compounded weekly) would generate only 38 cents of interest, which would fail to match loan processing costs.

A study by the FDIC Center for Financial Research found that “operating costs lie in the range of advance fees” [collected] and that, after subtracting fixed operating costs and “unusually high rate of default losses,” payday loans “may not necessarily yield extraordinary profits.” Based on the annual reports of publicly traded payday loan companies, loan losses can average 15% or more of loan revenue. Underwriters of payday loans must also deal with people presenting fraudulent checks as security or making stop payments.

Payday loan makers also argue that the interest on a payday loan is less than the costs associated with bounced checks or late credit card payments. For example, bouncing a $100 check may inccur an NSF fee from the bank of $28 and a returned check fee of $25 from the merchant.

In comparison, when expressed as APRs for two-week terms:

• $100 pawn loan with 20% service fee= 240% APR;
• $100 payday advance with $15 fee= 391% APR;
• $100 bounced check with $48 NSF/merchant fees = 1,251% APR;
• $100 credit card balance with $26 late fee = 678% APR;
• $100 utility bill with $50 late/reconnect fees = 1,304% APR.