The unavailability of conventional banking products and loans is the most common reason why low-income customers turn to payday loans and check cashers.
Several other factors compel these borrowers to look for private lenders. Although some of the reasons are deceptively attracting and optional.
Let us discuss what are payday loans and check-cashing services and some common reasons why low-income customers turn to them.
What is a Payday Loan?
Payday loans are unsecured and short-term loans offered by private lenders. These loans are offered for a few days to one month usually.
Typically, payday loans are offered up to a small amount and are capped at $1,000 by most lenders. On average, borrowers apply for a payday loan of around $500.
Most commonly, payday loans are granted against the payday check to the borrower. Hence, they are called “payday” loans. Other than a payday check, these loans do not require any collateral from the borrower.
Lenders also do not check the credit scores of the borrowers. These loans are granted quickly and the processing is faster than typical bank loans.
What is a Check-Cashing Service?
A check-cashing service allows customers to cash a check without a bank account. They provide cash against a payday check amount to the customers mostly.
Check cashers can exchange cash against payday, government checks, and money orders. However, they cannot exchange cash against personal and crossed checks as they must be deposited in a bank account.
Check-cashing services are offered to unbanked customers who do not have a bank account. Also, if for any reason, the customer cannot access a bank, a check casher can provide cash against a check.
Check cashers charge a fixed percentage of the check amount as a commission. It ranges from 2% to 10% typically.
How Do Payday Loans and Check-Cashing Services Work?
Both payday lenders and check-cashing service providers work similarly. Both of these are private and independent lenders that provide services to usually low-income customers.
A customer can reach a payday lender or check casher with a salary check, ask for the loan application form and complete it there.
The loan is typically processed in a few minutes as it does not require a credit check, collateral, and any other formalities that a commercial bank would ask for.
The borrower can receive cash against the payday check after paying the loan processing fees. The loan repayment amount is due in a single lump sum payment on a fixed date.
These lenders provide short-term loans ranging from a few days to one month mostly. Borrowers repay their loan amounts typically after receiving their salaries.
Check-cashers providing cash to the borrowers cash these checks when due. These are often post-dated checks where borrowers require instant cash.
Why Do Low-Income Customers Turn to Payday Loans and Check Cashers?
Most commonly, if the customers do not have access to a bank and cannot open a bank account, they turn to payday loans and check cashers.
In some cases, customers may not want to use banking channels as they take longer to provide cash as compared to these private independent lenders.
Let’s discuss some major reasons briefly here.
1. Unbanked and Underbanked Customers
Unbanked customers are those who do not have a bank account or any other bank product. Underbanked customers are those who have a bank account or a bank product but use it rarely.
One of the most common reasons for customers turning to private independent lenders is the unavailability of banking services. The reasons for unavailability can be various, including low credit scores, low monthly income, non-availability of official documents, and criminal records.
So, when customers cannot approach conventional banking services, they turn to private and independent lenders.
2. Low Monthly Income Borrowers
Monthly income is the biggest contributor to building and maintaining a credit score. Low-income borrowers usually do not have a good credit score.
They also do not open checking and savings accounts as they do not consider bank accounts necessary. Also, most low-income customers likely receive their wages in cash form.
Expectedly, low-income customers struggle to cover their monthly expenses and they look for borrowings repeatedly. Their go-to option is usually private lenders like payday lenders and check-cashers.
3. No Collateral Requirement
Private lenders like payday loan providers and check cashers do not require collateral to provide loans.
Unlike commercial banks, these lenders offer loans without a need to pledge any assets by the borrowers.
Low-income borrowers lack access to the commercial loan offered by banks due to strict collateral requirements. Although banks also offer unsecured loans but they do need some sort of financial security.
These borrowers can only pledge a post-dated payday check at most. So, easy lending conditions from these independent lenders attract low-income borrowers.
4. No Credit Score Requirement
One of the first things that a commercial bank lender will evaluate a borrower is the credit score. Further, they’ll also dig deeper to check your credit history and perform a detailed evaluation of your credit profile.
Private and independent lenders typically do not require a credit score. Thus, low-income customers with bad or no credit scores can also reach them.
Also, building a credit score is a long-term task that cannot be performed quickly. So, if a borrower does not qualify for a loan with a commercial bank, it is unlikely to improve their chances in the short term.
Thus, loan qualification requirements like collateral, monthly income, and credit score are some of the major reasons compelling low-income borrowers to turn to payday loans.
5. Quick Access to Cash
Then, borrowers would want a quick and fast process from lenders. They are more concerned about receiving cash than completing formalities and showing eligibility to the lenders.
Payday loans and check-cashing services offer cash to borrowers instantly. They do not make borrowers wait for several days for approvals.
Most private and independent lenders provide extended working hours and are often open on weekends and public holidays as well.
So, instant access to cash from private lenders is appealing to many low-income borrowers. It can be particularly true when these customers face emergencies and require cash within the same day.
6. Little or No Paperwork
Payday lenders and check cashers quickly process loan applications because most of them require little or no paperwork.
As mentioned above, they do not require a credit check or collateral to provide loans. One reason is that they offer small loan amounts unlike commercial banks which typically offer larger amounts.
Thus, loan processing is fairly quick and easy through private lenders and it is perceived as a big advantage as compared to lengthy and complex loan processing from commercial banks.
7. Easy and Flexible Payment Terms
Payday lenders do not set loan installment and complicated loan terms. As they provide a small loan amount, they receive it back in a single lump sum amount.
Check-cashers deduct their charges on spot and provide the net amount to the borrower. Thus, repaying a loan with one payment is easier than making several monthly payments.
However, these one-time repayments come at a very high-interest cost. Payday loans have a typical APR ranging from 300-500%.
Advantages of Using Payday Loans and Check-Cashing Services
Although payday loans are debatable and somewhat controversial, they offer some advantages to low-income customers.
- They provide access to financing to unbanked and underbanked customers.
- Loan processing from these lenders does not require a credit check, monthly income thresholds, and extensive paperwork.
- These loans do not require collateral as they are unsecured loans.
- They offer quick and instant access to cash.
- These loans are typically available throughout the year and operate on public holidays as well.
Disadvantages of Using Payday Loans and Check-Cashing Services
Payday loans have a reputation for being predatory and deceptive financing instruments. These loans come with some major disadvantages.
- They come at extravagantly high-interest costs ranging from 300-500% and often above 1000% as well.
- Borrowers end up paying more on interest payments than original loan amounts as they get caught in debt cycles.
- Payday loans affect borrowers’ credit scores.
- Some payday lenders may use illegal tactics to recover loan amounts if not repaid on time.
- Easy access to loans may result in an unending cycle of borrowings for customers.
- If payday checks are returned from the borrower’s bank for any reason, it can cost more. Also, it will affect the borrower’s customer profile with the bank.