The 6 Most Common Dangers of Payday Loans, and How to Avoid Them

About 12 million Americans rely on payday loans each year to manage income volatility or handle unexpected emergencies. However, while payday loans are used to solve a very real problem, consumers are frequently abused by predatory payday lenders.

Because of limited regulation and lack of better options, it's not uncommon to read horror stories about people charged in excess of 1000% APR or getting stuck in debt traps.

Once a person is stuck in a downward debt spiral with endless rollovers and hidden fees, they can quickly see their credit harmed and bank accounts emptied, especially if they take a loan from an especially unscrupulous lender.

Payday loan tactics such as hidden fees, rollovers, and unreasonably high interest rates have caused 22 states in the USA to limit payday loans or ban them entirely.

Why do people get payday loans?

Many people simply don't have any other option. For someone affected by low wages, income volatility or an unexpected emergency, a payday loan might be the only option to bridge their income shortfall. While it may not solve a person's financial difficulties completely, it does provide a temporary solution.

Unfortunately, more than 80% of payday loans are ‘rolled over' into a new loan or the borrower takes out another loan immediately after paying off their old one.

If a lender doesn't have policies in place to prevent rollovers and doesn't offer any flexible repayment options, the financial disaster for most borrowers becomes an unavoidable reality.

What happens to someone stuck in a cycle of debt traps

When a person is unable to repay a payday loan on their first due date, most lenders will typically agree to delay the repayment by charging the borrower a “rollover fee” while the principal of the loan remains unchanged.

Unfortunately, many borrowers are unable to repay their loan for months (and in some cases years).

Very often, the fees will dramatically exceed the actual loan amount, with some borrowers paying thousands of dollars in rollover fees. The only way to avoid debt traps is to stay away from lenders who practice rollovers.

How to avoid the pitfalls of payday loans?

With some basic financial education, it is possible to avoid the dangers of online loans.

With so many borrowers not having other options, it is crucial to have all the information.

We've put together an infographic that will allow you to bridge an income gap with payday loans while avoiding the most common pitfalls of predatory lending.

Pitfall #1: Not Considering Cheaper Alternatives

Before you take out a payday loan, consider your other options first to try to raise the money you need. To avoid borrowing money through a payday loan, these options might help:

  • Cut Back on Expenses- You can reduce your discretionary expenses by avoiding impulse purchases.
  • Make Extra Income on the Side - You can try to do some freelance work, a side project, or other part-time work to earn extra income.
  • Sell Personal Possessions You Don't Need Anymore - Sell old stuff you don't need to someone who can use it or to a pawn shop.

Some borrowing options that may be cheaper than a payday loan:

  • A Credit Card Advance - Consider taking a credit card advance and paying it off when you get your next paycheck.
  • A Personal Loan – Apply for a personal loan from a bank or credit union to cover your expenses.
  • Advance from an Employer - Requesting an advance from your employer and getting the money deducted from your next paycheck is also an option to consider.
  • Borrowing from Friends and Family - Ask to borrow money from relatives and pay them back. This option can often be interest-free.

Pitfall #2: Unlicensed Lenders

An unlicensed lender may likely be what is often referred to as a loan shark and should be avoided whenever possible.

Loan sharks are unlicensed lenders who tend not to follow state laws and very often use predatory lending practices to take advantage of consumers, such as charging excessive interest rates, tricking consumers into debt traps, or practicing illegal debt collection practices.

A licensed lender, on the other hand, is authorized to do business in your state and is bound by the laws of that state. To confirm whether a lender is licensed, contact your state regulator or attorney general.

Pitfall #3: Payday Loan Middlemen

A payday loan “middleman” is a website or institution that doesn't lend money directly to consumers. Instead, a person has to go through multiple companies that act as payday loan middlemen to get a payday loan.

Getting a loan from a direct lender is often a safer and cheaper option because it means fewer companies acting as payday loan middlemen will have access to your personal information and you are less likely to be charged a “brokerage” fee.

Pitfall #4: Not Understanding the APR on Payday Loans

The APR (Annual Percentage Rate) gives you a good measure of how much you will pay for taking out a loan. The APR is a measure of how much interest you will pay on a loan expressed as a yearly rate. In addition to the interest rate, an APR often includes any fees charged for taking out the loan. Depending on the length of the loan, a higher APR typically means a higher cost to you.

To better understand APR, you need to understand the two financial terms: principal and interest. “Principal” is the actual loan amount that you borrowed. “Interest” is how much you pay the lender on top of what you borrow. APR is a number reflecting how expensive the interest rate is relative to the amount you borrow expressed as a yearly rate.

Most states will have the APR capped by law so licensed payday lenders are limited in how much they can charge consumers. However, before taking a payday loan, it is always a good idea to compare the APR of the loan you are about to take against the average APR in your state. You will also want to consider any fees, such as origination fees, charged on a loan - see the next section for more information.

In addition to APR, make sure to always look at the length of the loan when calculating the total cost. For instance, a two-week loan with a principal amount of $500 at 455% APR could result in lower total costs than a 199% APR loan but with a loan duration of 6 months or longer. Therefore, when assessing the total cost of your loan, keep in mind that the duration of the loan is as important as the APR of the loan.

Pitfall #5: Getting Hit with Hidden Fees

Before taking out a loan, it is smart to ask your lender about any potential fees you have to pay in addition to the principal and interest of your loan. Below are the most common hidden fees to watch out for:

  • Loan Application Fee - Do you need to pay a fee to apply for the loan?
  • Undisclosed Missed or Late Payment Fee - Would you need to pay a fee if you miss a payment or pay it late?
  • Returned Check Fee - Would you be asked to pay a fee if your check is returned for some reason?
  • Customer Service Fee - Do you need to pay money to talk to a customer service agent?
  • Overdraft Fee - Do you need to pay a fee if a payment to the lender is declined due to an overdraft on your account?

Pitfall #6: Getting Trapped in a Cycle of Debt

Research indicates that 8 out of 10 payday loan borrowers are forced to rollover their loan. A rollover results in a fee that a borrower needs to pay if they can't pay off their loan by the due date. As a result, many borrowers are forced to pay multiple rollover fees during the lifetime of their loan, something that is often referred to as the “ debt trap cycle”.

To avoid getting trapped in a debt cycle, you must avoid rollovers at all cost. The following tips might help you avoid debt traps:

  • Never take out a payday loan if you don't think you'll be able to repay it on its due date.
  • Find a payday lender who doesn't allow rollovers.
  • Find a payday lender who offers extended repayment options.
  • Familiarize yourself with the payday lender laws in your state.

In case you already find yourself in a debt trap, learn different potential methods for how to get out of it!

Final Words of Advice

Knowing and avoiding the most common payday loan pitfalls could save you from potential financial problems. Consider following the simple tips we outlined above to try to access the money you need while avoiding potential financial complications that may arise from using payday loans.


The Pew Charitable Trust. (2012). Who Borrows, Where They Borrow, and Why?

Economic Policy Institute. (2015). Irregular Work Scheduling and Its Consequences.

Center for Responsible Lending. (2016). Map of U.S. Payday Interest Rates.

Payday Loan Consumer Information. Legal Status of Payday Loans by State.

Consumer Financial Protection Bureau. (2014). CFPB Finds Four out of Five Payday Loans are Rolled Over or Renewed.

LendUp. LendUp's Commitment to Social Impact.

Experian. What is a Good Credit Score?

Finder. (2017). Americans Owe an Estimated $184 Billion to Friends and Family Annually.