Does Your State Allow Payday Lending?

Payday loans never really do you any favors. They tempt you with the promise of instant cash (no matter how bad your credit history), but hurt you in the long run by levying an astronomical interest rate (somewhere in the neighborhood of 500-2000% a year). Plus, there is no grace period on a payday loan as there is with credit cards. The moment you borrow the money, you will owe finance charges. The truth is, payday loans make credit cards look like saints.

The high interest rate on payday loans is due to a few factors: the borrower is usually in a jam and needs the money ASAP; the loan is unsecured with no collateral backing it up; and the payday lender doesn't usually check the borrower's credit (so there are no breaks for good behavior). But it's likely that if you are taking out a payday loan, your credit cards are already maxed out and/or your credit is damaged. The high interest rate associated with payday loans is commensurate with the size of the risk the lender is taking on you.

How a payday loan works

Here's how it works: The borrower (let's call him Dave) walks into his neighborhood payday loan store for a quick loan. Dave writes the lender a check for the amount he wants to borrow, plus finance charges (which are based on the interest rate). The lender agrees not to cash the check until the loan is due (payday loan periods can range from 7 to 30 days).

If Dave needs a loan for $350, for instance, he will write a check to the lender for $350 plus $70 (assuming a 20% interest rate). The lender gives him $350 in cash, and promises not to cash his check for two weeks. If Dave can't pay the loan back by then, he can pay the finance charge of $70 and write another check for another payday loan. You can see how this cycle could get payday borrowers deeper and deeper in the hole: they start spending their money on the finance charges they owe to payday lenders, but never get around to paying back the actual money borrowed.

If you have to borrow, make sure you know the interest rate

Payday loan amounts usually range from $50 to $1000, with the average loan size falling between $300 to $400. The interest rate on them often falls between 10 and 20% of the amount borrowed. That sounds about like a credit card, but remember that a credit card's interest rate, or APR, is divided over an entire year. So the actual monthly finance charges on your credit card balances are closer to 1%. With payday loans, you're talking 10 to 20% for each short-term loan, which can really add up if looked at from a yearly perspective.

Fortunately, many states put caps on payday loan interest rates. In Virginia, for example, you can only be charged 610% APR on a payday loan. Still astronomical, of course. In short, it's never a smart way to borrow.

Payday lending state by state

Click on the chart below for a larger view to see which states have legislation in place regulating payday lending. The yellow states prohibit it entirely, while the blue states have an interest rate cap in place. The pink states are not regulated at all (thanks, Nevada, for allowing me to take out an advance on my paycheck to let it ride on the craps table...).

This data was compiled by Robin Prager, Assistant Director for the Division of Research and Statistics of the Board of Governors of the Federal Reserve System. For her full report, click here.

There are currently over 24,000 payday loan offices in this country. Of course, none are in the yellow states with laws prohibiting payday lending. The heaviest concentration of payday lenders exists in pockets throughout the Southeast and Las Vegas area (gambling and payday loans...not a good mix).  Click on the map below for a larger view. 

 Have you taken out a payday loan? Share your experience in the comments section below. And for more info on how payday loans affect your credit, check out our Q&A: Will Payday Loans Affect My Credit?