With unemployment hitting records highs and consumers across the country strapped for cash, payday lenders and pawnshops seem like a obvious area to profit from this unfortunate trend. Pawnshops, of course, engage in supplying small loans to individuals using their personal valuables as collateral. Payday loans, also known as payday advances, are similar. The consumers gets a short-term loan using his next paycheck as collateral. Usually, the customer must hand over a post-dated check before receiving the cash. If he fails to return to the store and pay back the loan, the lender can take the amount right out of the customer’s checking account.
Coming Under Fire
Various public companies engage in one or both of these businesses, such as First Cash Financial Services (FCFS: 17.27, 0.00 (0.00%)), Cash America International (CSH: 18.13, 0.00 (0.00%)), and EZCORP Inc. (EZPW: 13.58, 0.00 (0.00%)). These companies often come under heat from governments and consumer groups who claim they take advantage of the poor and desperate by charging exorbitant fees and interest rates. For example, a store might charge $15 for a two week, $100 loan. This equates to an annual percentage rate (APR) of roughly 390% (15% * 26). When this loan compounds due to the the customer not being able to pay the loan back on time, as is often the case, the effective annual rate grows exponentially. Anti-payday lending groups say these high rates force individuals into debt traps, often using new payday loans to pay off the old ones. These groups want APRs capped at much lower rates. Many states, such as Georgia and North Carolina, have banned the payday lending business altogether.
Payday lending companies, however, say they provide a valuable service to those in unfortunate situations requiring small cash loans to help pay for short term expenses. Traditional banks would never supply these individuals with loans, so payday lenders fill the void in the marketplace. Capping interest rates at much lower APRs would effectively ruin their businesses, as the seemingly high rates pay for their high cost of doing business.
