As I walk to work every day I pass a series of “Payday lenders”. These companies offer an advance to individuals without cash at a high interest rate, which is implied in the “fee” for providing cash as well as the short duration of the loan (a couple of weeks or a month). These practices are often frowned upon in the media as “taking advantage” of the poor.
As I pulled cash from an ATM I had to pull out the receipt of the prior person at the cash station (they had already left long ago) in order to get at my receipt because they just left it in the ATM. You can see the receipt below (it didn’t have any identifying information).
This person is not someone who should be banking at all. They had a balance of $141 or so in their account, but they withdrew $140 with a $3 fee for using an out-of-network ATM, meaning that they were now going negative in their account. I don’t know what bank they use (it isn’t Chase) but many of these banks charge $20 or $30 or more for every single overdraft. Thus the “true” cost of pulling out this cash is really $3 out of network fee plus the $30 or so overdraft fee. This is a huge cost as a percentage of the money withdrawn ($33 / $140) = 23%, and if you assume any sort of “time” in order to compare it to a loan such as you’d get for a payday then it is astronomical. Let’s assume 1 month duration and that it isn’t APR just straight interest then let’s multiply by 12 and you get 276%. Under any sort of “compounding” model it would be much higher.
The wikipedia entry under “payday loan” is surprisingly balanced, given that the industry has an overwhelmingly negative connotation in most media.
Payday lenders do not compare their interest rates to those of mainstream lenders. Instead, they compare their fees to the overdraft, late payment, and penalty fees that will be incurred if the customer is unable to secure any credit whatsoever. The lenders therefore list a different set of alternatives (costs expressed here as APRs for two-week terms)
$100 payday advance with $15 fee = 391% APR;
$100 bounced check with $48 NSF/merchant fees = 1,251% APR;
$100 credit card balance with $26 late fee = 678% APR;
$100 utility bill with $50 late/reconnect fees = 1,304% APR.
The banks too prey upon those who are low income or (relatively) financially illiterate; the fees by transaction can add up very quickly even for a small account. As a percentage of the account or if any sort of “time” basis is factored in, the results can be significant.
While I am not an expert in the system and don’t know all of the alternatives it seems obvious that giving people access to credit, the immediate ability to withdraw cash, and not limiting their ability to accrue fines and fees is a sort of recipe for disaster. The person who withdrew this sum from the ATM, for certain, isn’t the type of person who is going to fare well in a modern banking system.
Cross posted at LITGM