How to escape the payday loan cycle

I had a long conversation with a reader whose brother seemed to be caught in an endless cycle of payday loans.

He works about thirty hours a week earning about minimum wage at a convenience store. About two years ago, his car broke down and in order to get it back on the road very quickly, he took out a payday loan.

The problem, of course, is that the loan he took out – say, $200 – charged a significant fee for the service. The average payday loan charges somewhere around $50 in fees, according to this article, which also outlines habitual payday loan practices:

"The Consumer Financial Protection Bureau found that the average consumer took out 11 loans during a 12-month period, paying a total of $574 in fees — not including loan principal."

So, let’s take a look at the brother in question. He takes out a $200 loan and, after all of the fees and interest are paid, let’s say he’s on the hook for $240.

Now, his weekly check for his minimum wage job at thirty hours a week adds up to about $200 a week. If he gets paid on Friday and takes out that loan on Tuesday, he’s in a bind. Let’s say he’s agreed to pay half of the total money this week and the other half next week.

So, he’s got his car fixed on Tuesday, but on Friday, he’s only keeping $80 of his paycheck, which has to last him the following week. After that week, on Friday, he gets another paycheck, but he can only keep $80 of that check, which again has to last until the following Friday, at which point he’s free of the loan.

In other words, our friend here has to go through a seventeen day period where he’s only bringing in $160. If it’s perfectly timed, he’s not going to have to be late on any bills.

But let’s say that seventeen day period crosses the first of the month, meaning he’s going to be late on rent? Or, let’s say it crosses the due date for his electricity bill?

In both cases, he’s probably getting hit with a late fee, meaning the burden of his bills is even steeper.

He’s also likely not in a position to explore other forms of credit due to a poor or very short credit report.

His other option? Another payday loan. It’s a vicious cycle that’s very hard to escape from.

So, what can he do?

The first step is to borrow less each time you borrow money. Your goal shouldn’t be to break free immediately – that’s essentially impossible. The goal should be to borrow less each time you return.

So, let’s say, instead of borrowing $200 the next time, he finds a way to borrow only $180. At the same fee rates, that adds up to $36 in fees, bringing his total to only $216 rather than $240. If he lives the same way during the following weeks, the next loan can go down by $56 – the $36 saved on that loan plus the $20 saved as he did before. Suddenly, his next loan is $124 rather than $180.

That’s a perfect situation, of course, but even if he can just drop the amount he borrows by $20 per loan, he’s going to escape the cycle before too long.

What this does is it turns the focus on the here and now. Can you find a way to spend $20 over the next couple of weeks? If you can, then you can borrow $20 less the next time you’re in a tight situation. That puts things in much easier terms to handle than trying to solve the big problem all at once.

The second step is to swallow a little pride. Use community resources that are meant for people in these kinds of tight situations. People who are struggling like this are the reason that food pantries exist. They’re why soup kitchens exist, too.

Some people have negative views on those resources, but they’re out there for a reason. A lot of people have used them as a helping hand when they’re in a very tough financial spot.

If some food from the food pantry and a meal from the soup kitchen can save you the $20 you need to lower your next loan, then it’s a move you need to make.

The final step is to put some cash in the bank for emergencies once the loan is gone. You’ve been surviving on less than your paycheck for a while to be able to pay back the loan, so keep doing it for a while longer. Put part of your pay into a savings account and just leave it there until the next emergency strikes.

When that emergency does happen, you don’t have to head to the payday lender. Instead, you can head to the bank, withdraw the cash you’ve been saving, and use it to deal with the situation.

This is an emergency fund, and it’s a vital tool for anyone to have.

Those three steps are the path out to any cycle of debt, but they work particularly well for those earning very little and finding themselves caught in a payday loan cycle.

Good luck.