A payday loan is a short-term loan that you take out as an advance. People sometimes turn to this when they have an immediate cost but they haven’t yet been paid.
For example, say that someone is going to be paid $1,000 the following Friday. But their car breaks down and they need to pay for $700 worth of repairs. Without getting the repairs, they wouldn’t be able to get to work and they wouldn’t get paid. So they take out a payday loan, fix their car, and agree to pay back the money when they get that paycheck in the future.
Why do payday loans lead to bankruptcy?
But payday loans can actually lead to bankruptcy and more financial issues. There are a number of reasons why.
One is that they have to be repaid very quickly. The timelines are tight. This isn’t like a mortgage that gets paid over 30 years or even a car loan that gets paid over five years. The full balance may be due the next time the person gets a paycheck.
Additionally, these loans have very high interest rates. This can create a cycle of debt that is nearly impossible to escape.
In the example above, the person may get their paycheck, but they have already spent $700 on their car repairs. They still have other bills to pay – rent, utilities, food, etc. – and so they can’t afford to pay back the $700 immediately. The person makes a minimum payment, but the interest rates kick in and they find out that they now owe more than they did initially. This can quickly spiral out of control, making it impossible to ever pay it off.
Those who find themselves trapped by this type of predatory lending need to know exactly what legal options they have.