Payday Loans: Smart Solution or Reckless Spending?

One problem – you just got paid, and already spent your entire pay cheque.

Whatever the expense is that suddenly came up (or you previously forgot about), it can’t wait until your next pay day. Your credit cards are maxed out. You don’t have time to wait on a traditional personal loan to be approved. You need cash in your pocket, and fast!

Then you see it – an advertisement telling you that you can get cash within 24 hours. It will only take you minutes to apply. “It must be a sign,” you think. The ad you’ve seen is for a payday loan.

Now hold on before you rush off to apply. Let’s be financially savvy for a moment and start by asking a few questions - what exactly is a payday loan, and is there any chance it may be too good to be true? Is it really for you?

What is a Payday Loan?

A payday loan (also called a cash advance) is a short-term personal loan taken out for a small amount of money (often only up to a few hundred dollars). How do they differ from more traditional personal loans? Simple – the loans are taken out directly against the value of your next pay cheque, meaning that when you next get paid your lender also gets re-paid (often through an automatic debit from your account).

What’s Not to Love?

While your immediate reaction might be “Quick cash - Count me in!” you really should take the time to ask yourself a few questions before committing to the terms of a payday loan. Here are a few things to consider:

Can you afford to spend this much of your next cheque right now? – Remember you’ll pay not only the amount borrowed, but also the interest, out of your next pay cheque. If you’ll have other expenses that cheque needs to cover, a payday loan might be a poor choice (you may find yourself having to get one payday loan after another to stay afloat financially, constantly paying more interest).

Can you afford the interest payment? – Payday loans are known for having relatively high interest rates when compared with other personal lending options.

Do you have other options? – Given that payday loans are often for just a few hundred dollars, do you have a friend or family member who may be able to loan you the same amount for less (or no) interest? If you’re in a money crunch, you need to weigh your options.

The Appeal of Payday Loans

While cash advances have their downsides, there are reasons they’ve become a popular option for emergency funding.

The interest may be less than late fees. – Yes, we just talked about the fact that payday loans can carry high interest rates. However, if those interest rates are lower than the late fees you would incur from paying a bill late, they can be a financially responsible choice.

They’re easier to secure than other financing. – It can be easier to get approved for a payday loan than a credit card or other types of personal loans, because the loans are secured with your pay cheque. The application process itself is usually quick and easy – many companies let you apply in person, over the telephone, or online.

They’re fast! – When you really need money in a pinch, and you need it quickly, a payday loan can be your fastest option, with some companies able to transfer the money to you within an hour of signing your contract.

Weigh all of the pros and cons of cash advances carefully before applying for a payday loan. Think of them as a means of borrowing money from yourself. You’re borrowing against your very next pay day – can you afford it? If not, don’t commit to a loan that will leave you in a worse financial state than you’re currently in. If you can afford to borrow against your next cheque, maybe that ad really was a sign and you’ve found a realistic way to get fast cash to solve your temporary shortage or cover those unexpected expenses.

Article correct at its author date: September 2008. Copyright Virtual Office Space, Any unauthorised reproduction of this article will be prosecuted to the full extent of the law. Credit Cards Australia.

If you would like to display this article on your web site please email us.