A Payday Loan to Pay Off Credit Cards is a Bad Idea

For the past two years, the economy has really taken us for a ride. The stock market has brought more volatility than most of us are comfortable with. Unemployment rates are higher than we've ever seen before. The economic crisis is hurting families at all economic levels.

Now it is more critical than ever to be careful with your finances. Eliminating debt requires both consistency and determination. It can be tempting to seek ways to speed up the process. Some people consider taking out a loan to pay off credit cards. However, today, I want to share one money mistake that you should really avoid.

A payday loan is one of the worst concepts ever invented. Sure, the loan companies are making tons of money, but it comes at the expense of those who really can't afford it. Proverbs 22:16 warns about companies like this. "He who oppresses the poor to increase his wealth and he who gives gifts to the rich - both come to poverty." (NIV)

What is a payday loan?

A payday loan is basically an advance against an upcoming paycheck. If we find ourselves short on cash before payday, we can walk into a payday loan office. With proof of employment, we can write them a post-dated check that is payable on our next payday. With the post-dated check as security, the loan office will give us cash on the spot.

It almost sounds good that we can get an advance on our money. But there are many problems with this.

Problems with payday loans

First, the interest rates are outstanding. Depending on the company, we may be paying 20% interest to borrow money for one or two weeks. If we were to annualize that interest, it would be well over 400%. It costs too much to borrow the money.

Second, the problem can be made worse. We were short this pay period. That means that automatically our paycheck will be smaller than normal on the next pay period. If we have not changed our spending patterns, it is very likely that we will be short again.

Many payday loan customers extend their repayment period at least once, and these companies expect that. They make another 20% interest for just a two-week period. It can become a never-ending cycle that can be hard to get out.

Third, the need for a payday loan means that we don't have an emergency fund set aside. It's very important to have money set aside for emergencies. This ensures that your budget is not thrown off. Emergency funds protect you from running into problems with paying your regular, consistent expenses.

Avoid the need for payday loans

It is very important to set some money aside from each paycheck, regardless of your other bills. This may be hard to accept, especially when your expenses exceed your income.

However, what would you do if you had a financial emergency and had no money until payday? Credit cards are not the answer, especially once those emergencies lead to maxxing out all of your credit cards.

At all times, we need to be prepared. Don't put yourself in a financial bind that allows companies like these payday lenders to take advantage of you. Take action now to improve your current situation. Lots of baby steps will eventually get you to a more comfortable position.


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Ozeme J. Bonnette is a financial coach, speaker, and author. She began her career at Merrill Lynch, and now works to increase financial literacy. She teaches and speaks to groups and organizations throughout the U.S. She earned 3 Bachelor's degrees at Fresno State and an MBA at UCLA's Anderson School. She blogs at http://www.povertynorriches.com. Send questions and comments to ozeme@thechristianmoneycoach.com.