The United States' middle-class citizens are certainly no strangers to being strapped for cash. After years of economic turmoil, shaky job markets and financial uncertainty, many families are still trying to find a way to make ends meet. With debt piling up and credit cards maxing out, some consumers are left with few options when it comes to borrowing money. With mortgages under water and auto loans barking for help, many consumers don't want another loan from their bank. So where does this leave them?

At first glance, payday loans may seem like an attractive option. You are approved for a small loan within minutes and the money is transferred via direct deposit to your checking account within 24 hours. It seems there truly is no easier way to get money, though this is where the fairy tale ends. Consumers best beware because there are some serious financial drawbacks to taking out a payday loan.

High Interest Rates
If you think your credit cards have high interest rates, you haven't seen anything yet. Payday loans can have interest rates as high as 911% for a one-week loan, and 212% for a one-month loan. That blows the average credit card interest rate of 14.59% clear out of the water. While your loan is meant to be a short-term fix, you will wind up paying an exorbitant amount of money on interest alone. Keep in mind that when you sign up for a payday loan, the lenders will request that your transactions be performed through direct deposit or electronic transfer, which means they will have access to your bank account when they assess their interest rates.

Hidden Fees
Just like there are several hidden bank fees, there are also hidden fees with payday loans. For every $100 borrowed, the lender will assess a $17.50 charge up to a cap of $300. These fees are on top of the loan capital and interest rates, making payday loans a very expensive method of borrowing money. Prior to borrowing money, make sure that you read the fine print and understand your financial obligation.

Banned or Tightly Regulated for Good Reason
Payday loans are now illegal or tightly monitored in 18 states across the U.S., and it is for good reason. The states that are taking payday loans very seriously include Arizona, Arkansas, Colorado, Connecticut, Georgia, Maine, Maryland, Massachusetts, Montana, New Hampshire, New Jersey, New York, North Carolina, Ohio, Oregon, Pennsylvania, Vermont, Washington, D.C. and West Virginia.

Legislature is being enforced in these states to either ban outright or limit the interest rates, fees and billing practices of payday loan lenders. Because payday loans are often sought out by individuals who cannot obtain a loan elsewhere, lenders take advantage of borrowers and try to scare them into paying more than they have to. Additionally, because some states have banned payday loans outright, many unethical lenders hide on the Internet, seeking consumers regardless of where they live.

Aggressive Lending and Collection Practices
A big reason why payday loans have come under scrutiny is because of the aggressive lending and collection practices associated with them. Some payday loan companies threaten consumers with prosecution or garnishment of wages, in turn scaring the borrower into paying off his or her balance. This is typically an illegal collection practice and if you have encountered this type of treatment then you should contact the Federal Trade Commission (FTC) to discuss your situation.

Not Financially Wise in the Long Run
While payday loans may help in a pinch, they are certainly not a smart financial decision in the long run. With interest rates that are simply astronomical, hidden fees, aggressive collection practices and legislation that has either banned or limited payday loans in 18 states, it is clear that payday loans are not your best option when you need money. If a person in a tight financial situation takes out a payday loan they might actually be making their financial situation worse.

The Bottom Line
There is no such thing as easy money. While payday loans are easy to obtain, they will definitely cost you big in the long run. The next time that you are tempted to take out a payday loan, stop and consider the financial implications over the long run.

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  1. Is my credit score usually checked before receiving a payday loan?

    Payday loans or cash advances are short-term, low-balance, high-interest loans. They are known as payday loans because of ... Read Full Answer >>
  2. How does a bank determine what my discretionary income is when making a loan decision?

    Discretionary income is the money left over from your gross income each month after taking out taxes and paying for necessities. ... Read Full Answer >>
  3. When capitalizing interest, will interest accrue while you are in a deferment?

    When capitalizing interest, interest accrues while a person is in a deferment of his loan. In the event of a deferment, the ... Read Full Answer >>
  4. Why is more interest paid over the life of a loan when it is capitalized?

    More interest is paid over the life of a loan when that interest is capitalized because the capitalized interest is added ... Read Full Answer >>
  5. What are some examples of simple interest loans?

    Two good examples of simple interest loans are simple interest car loans and the interest owed on lines of credit such as ... Read Full Answer >>
  6. How can I use the correlation coefficient to predict returns in the stock market?

    Simple interest is most commonly seen in short-term loans, such as those from payday lenders or pawn shops. You might see ... Read Full Answer >>

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