I think most of us have a sense that payday loans are
probably not the best source for a loan, that they probably
charge a lot of money to those people who need that cash
really badly.
And what I want to do in this video is one, explain what
they are but even more do a little bit of math to
understand really how bad of an interest that they do
charge,
So the way that works is let's say that I need to buy my wife
a nice gift for her birthday that's tomorrow and I want to
borrow $500.
So I want to borrow $500.
I would suspect that most people aren't borrowing it for
some type of a gift, they're desperate to make the rent or
pay the utilities or buy food or who knows what else, but
whatever your reason, you need to borrow $500 and I would
suspect that you have very little in your bank account,
otherwise you wouldn't go to the payday lendor.
And they say all right Sal, we're open to lending you $500
and we're not going to do all of this deep research on how
good of a credit you are and all of that, but we want a
couple of things.
One, we want to know your pay stub and your pay date.
They're going to want to see your pay stub, they're going
to they want to know when you're going to get paid, so I
guess we call it your payday.
And they might want some recent bank statements.
And the whole reason why they want these things is they want
to know you know even though your credit might be horrible,
then you're going to get your salary or you're going to to
get a payment from your employer probably in two weeks
on your payday, and then you're going to be good to pay
back to the $500.
And to ensure this, so one they're going to make sure
that you have a job, that in your pay stub maybe you make
$1,000 every two weeks or maybe you make $2,000 every
two weeks so that you're good for this.
So maybe you maybe make $1,500 every two weeks, so they like
to see that.
Maybe your payday is two weeks from the day that you're
borrowing it, borrowing the money.
So two weeks from today.
And then your bank statement shows that your bank kind of
goes up $1,500 and you pay the rent and the food and then it
goes back close to zero, then it goes up to $1,500 but they
want to see that this $1,500 is hitting periodically.
And they say, you know, we're going to give
you the $500 today.
You need to write us a check.
We want you to write a check for not $500, for every $100
you borrow, I want you to pay us back another $25.
So $25 extra.
And at first you might say, that's not bad, that's 25%
interest. It's high, maybe it compares to some interest,
some credit cards.
But this isn't 25% a year, this is 25% for two weeks.
And at the end of this video, we're going to do the map on
what that actually turns into on an APR, or an
effective APR basis.
And these numbers are not crazy, these are actually very
typical for payday loans.
So if I'm borrowing $500, I have to give them back the
$500 in two weeks plus $25 for every $100.
So I'm borrowing $500, so I'm going to have to do plus five
times 25 five or $125.
So I'm going to write them a check for $500 plus a $125 so
that's $625.
I'm going to write a check, but obviously I don't have the
money in my bank account right now, otherwise I wouldn't even
be going to the payday loan.
What I'm going to do on the date, I'm going to
forward-date this check.
I'm going to put the date, let's say this is the first of
the month, instead of let's say, it's January 1, I'm going
to put January 16 and whatever year I might be doing it.
So I've forwarded it, this is two weeks from today.
Two weeks in the future, and then I'm going to sign the
check and I'll write it's for a payday loan and I'll write
$625 etc. etc., then I have my little information here.
And I'm going to give them this check and what they're
going to say is we're not going to cash this, we're just
going to keep this nice little check for us and when your
payday hits you have an option.
You can come back to us and give us $625 in cash and then
we will give you back this check that is uncashed or if
you don't show up, we are just going to cash this check.
So one of these two things are going to happen.
But effectively, if you didn't lie to them, they're going to
essentially charge you $625 and you can imagine it is
risky for the lender or because these are people with
you know be maybe shady pay stubs and obviously they're
desperate, so they weren't good at managing their
finances, but they're doing their best to ensure that once
that payday comes in, once that's that payment from the
employer comes in, that they get first dibs was on the
money before the person can pay their rent or their
utilities or their food.
And so that's the general idea behind it.
Now we start off saying this probably not a good idea and
you got a sense of that, because we're essentially
paying 25% interest for every two weeks, not for every year.
But let's think about what that is on an APR basis.
So let's say we're paying $25 for every $100, that's really
25 per cent.
When you say per cent, that root means hundred, right?
Century, 100 years.
So per cent, it literally means per 100.
25 per 100, so this is literally 25% interest or we
could write it the traditional way, this is 25%
interest per two weeks.
So if we were just calculate a simple APR, a simple annual
percentage interest rate, and you might want to watch the
video on that to understand that that just takes your 25%
and then multiplies by the number of periods in the year.
So we have 52 weeks per year, but this is every two weeks,
so instead of multiplying it by 52 weeks, we're going to
multiply by there's 26 two-week periods in the year.
So times 26 two-week periods per year.
And this is 25% per two weeks.
When you multiply this out, this is equal to-- let's get
the calculator out-- I'll just multiply the numbers, I won't
do the decimals.
25 times 26 equal to 650%.
We're paying an APR of 650%.
So if you thought the credit card companies were charging a
lot of interest, charging you a mid teens interest rate or
20% rate, this is 650%.
It's an order of magnitude or two above what even credit
cards charge.
So this is a really, really, crazy annual percentage rate
and this was just a simple annual percentage rate where
we multiplied it by 26, this isn't the effective annual
percentage rate, or the actual mathematically correct one.
To do that, we would actually have to take-- and you might
want to watch the video on this-- if you were to let that
just compound, and you can imagine if you're the payday
lender, you are essentially getting that compounding if
you keep lending your money out and if you lend the
interest you get from the last person, and you lend that out
the same rate.
To figure out that effective annual percent rate, you do
1.25, 25% plus 1 to the 26th power.
We have 26 of these periods in a year.
And what is that going to be equal to?
So we have 1.25 to the 26th power.
And then we get this crazy number, we're going to want to
subtract a 1 from it, not that it's going to
change much of our math.
So minus 1, and we get, well let me be very clear--
essentially this is 329 times our money.
So this if this was a one here, that would be 100%.
So let me just be clear, this number right here that number
right there is such a high number it's hard to fathom.
If you were to actually let money compound at this rate,
and usually they would make you at least roll over the
principal, so this may or may not be accurate but that
actual payday lender, if they actually are able to roll over
the money at this rate, they're going to have 329
times their money.
Or if you write it as a percent, it would
literally be 32,987.
Literally, 32,987%.
Or after a year, you'll essentially have to pay
roughly 330 times your money back to the payday lender.
And obviously they don't let you compound like that, but
this just gives you a sense of how ridiculous this
interest rate is.
I mean, you might have heard of the term usury.
In the past, usury really meant any kind of interest,
but now in our current cultural context we associate
it with just an unreasonable level of interest and that
threshold might be different for some people.
Some people might say it's unreasonable to pay 20%, or
30% interest, or 40% annual interest. But I think everyone
would agree that whether you look at 650% or 33,000%, these
are usurious and reasonable interest rates.
So you really, at all costs, unless your life depends on
it, you want to avoid these payday loans.