Tips to Avoid Payday Loan Debt Traps

Tips to Avoid Payday Loan Debt Traps

Payday loans can seem like quick fixes when you need cash fast. But they often create a vicious cycle of debt that’s hard to escape. Here are some tips to avoid getting caught in the payday loan debt trap:

Understand How Payday Loans Work

Payday loans are small, short-term loans with very high interest rates. You typically write a post-dated check for the amount borrowed plus a fee, and the lender agrees to hold the check until your next payday. But when payday comes around, many people can’t afford to pay back the loan and fees. So they take out another payday loan to cover the first one. This starts a downward spiral of taking out new loans to pay off old ones, racking up more fees each time.

The average payday loan has an Annual Percentage Rate (APR) around 400%. That means if you borrowed $500, you’d owe over $600 just two weeks later! And if you can’t pay it back, the fees and interest keep piling up. You might think “I’ll just get one to tide me over,” but too often that one loan turns into two, then three, and soon you’re in deep debt.

Exhaust Other Options First

Before resorting to a payday loan, explore every other possible option. Can you:

• Ask your employer for an advance on your paycheck?
• Borrow from friends or family?
• Use a credit card or line of credit?
• Get a small personal loan from your bank or credit union?
• Sell unused items online or at a pawn shop?
• Pick up a side gig delivering food or driving for a rideshare service?

Some of these options also carry fees or interest, but they’re likely much lower than a payday loan. And they give you more time to pay back the money without getting stuck in a debt trap.

Understand Your State Laws

Payday loan laws vary widely between states. Some states ban payday lending outright or cap interest rates at 36%. Others have few restrictions. Know your state’s laws so you don’t get tricked by lenders.

For example, New York and New Jersey prohibit payday lending through criminal usury statutes. So New Yorkers and New Jerseyans don’t have to worry about falling into the payday loan trap. But in Missouri, payday lenders can charge 1950% APR on a 14-day $100 loan!

See the National Conference of State Legislatures for a full list of state payday lending laws.

Set a Realistic Budget

If you’re constantly short on cash before payday, take a hard look at your budget. Track where every dollar goes for a month. Look for areas to cut back so you can start building savings. Even small changes like bringing your lunch instead of eating out, or downgrading your cable package, can free up some cash.

Building up even a small emergency fund of $500-1000 will help you avoid taking out payday loans when unexpected expenses come up. And having a budget helps you plan your spending so you don’t overextend yourself between paychecks.

Borrow Only What You Can Repay

If you do take out a payday loan, borrow only what you know you can pay back with your next check. And have a firm plan for paying it off in full then. Don’t be tempted to roll it over or take another one.

For example, if your paychecks are $1000 after taxes, don’t borrow more than $500. That way you know half your check can go toward repaying the loan. And you’ll still have $500 left for other expenses.

Setting affordable repayment terms from the start prevents you from getting overwhelmed with debt.

Avoid Loans with Balloon Payments

Some payday lenders offer loans with terms longer than the typical two weeks, but still require one large balloon payment at the end. The longer term means lower payments—but when that balloon payment comes due, you’re right back in the same bind as with a short-term payday loan.

For instance, a lender might offer a $1000 loan with payments of $200 per month for six months. But then expect the remaining $400 balance all at once after six months. These balloon payment loans can be just as tricky as short-term payday loans.

Don’t Borrow from One Lender to Pay Another

When payday comes around, you might be tempted to get a new loan from a different lender to pay off the first one. But this will only sink you deeper into debt. Each new loan compounds the fees and interest owed.

Stick to borrowing from just one lender until your loan is fully paid off. And avoid offers to refinance or roll over your initial loan. This seems like an easy fix but leads to spiraling debt.

Talk to Your Lender If You Can’t Repay

If an unexpected emergency comes up and you really can’t make your payment, don’t just default. Call your lender immediately and explain the situation. They might be willing to adjust your due date or payment plan.

Most lenders would rather work with you than sell your debt to a collection agency. So be proactive if you anticipate having trouble repaying on time.

Consider Credit Counseling

If you have multiple payday loans with payments you can’t handle, talk to a nonprofit credit counseling agency. They can help you manage your debt through options like debt management plans, credit consolidation loans, or debt settlement.

Avoid shady “credit repair” agencies promising to fix your credit overnight. Legitimate credit counselors offer budgeting help, savings plans, and other long-term solutions.

See the National Foundation for Credit Counseling to find an agency near you.

Explore Alternatives for Future Needs

Once you escape the payday loan debt trap, find safer options for getting quick cash in a pinch. Some ideas:

• Join a credit union – Their small loans typically have lower interest rates.
• Ask your employer about earned wage access programs – These allow you to access earned wages before payday.
• Sign up for overdraft protection on your bank account – This links to a savings account or line of credit to cover overdrafts.
• Peer-to-peer lending networks – These match borrowers with individual lenders for personal loans under $35,000.

The bottom line is avoiding payday loans whenever possible. They seem convenient but can drag you into a downward debt spiral. With realistic budgeting, an emergency fund, and safer borrowing options, you can break the payday loan debt trap!