The rising costs of goods and services, not to mention inflation hitting 9.1% in June, means more U.S consumers are feeling the pinch.

As a result, many of them are taking on increasing debt in order to cope:

• Overall U.S. consumer debt is at an all-time high of $16.2 trillion, some $2 trillion higher than at the end of 2019, before the onset of the COVID-19 pandemic.
• U.S. consumer credit card balances increased by a staggering $46 billion in the second quarter of 2022. This represents a 13% spike and the most significant year-over-year jump in 20 years.
• About two-thirds of Americans now live paycheck to paycheck, and that number jumps to 82% among workers earning less than $50,000.
• About 40% of Americans earning less than $50,000 and living paycheck to paycheck have a subprime credit score below 650. That makes it difficult for them to get a loan through a traditional lending institution.

When faced with the need for fast cash for emergency situations like paying for a car repair or medical bills, or even basic needs like food, rent, and childcare, many struggling people feel they have no choice but to resort to payday loans and short-term installment loans. Unfortunately, that means predatory lending is now on the rise.

Payday loans and short-term installment loans prey on the urgent need of people for small-dollar amounts and charge very high fees and interest to the borrowers.

In recent years, state and federal regulations have been passed to regulate the payday loan industry to protect consumers from the deceptive practices of certain lenders. In late 2020 and early 2021, a number of states moved to limit payday loan interest rates to protect people from getting in over their heads with these traditionally high-cost loans during the pandemic.

Despite that, in response to the opposition to single-payment loans, the lenders have introduced an off-shoot of payday loans called short-term installment loans, which allow borrowers to repay the loans over six months or longer. However, an average borrower still ends up paying 2 to 3 times the borrowed amount.

In this article, we’ll look at the evolution of the small-dollar loan/payday loan market and understand its mechanics. We’ll also explore why these types of loans aren’t necessarily the best way forward for people seeking to manage their finances better and stay out of debt over the long term.

Finally, we’ll explore what alternative services there are in the market and how responsible employers can help their people avoid a crippling debt spiral. We’ll also explore the fintech solution offered by Payactiv that introduces a real alternative to payday loans and how it helps ordinary employed people avoid these debt traps of predatory lending and become self-reliant in managing their expenses.

Why the Need for Small-dollar Loans and Payday Loans?

The common reasons families use credit or a payday loan for basic expenses are because their expenses exceed their income or an unexpected expense happens. More commonly, it’s due to a mismatch in the timing of their expenses and income. People are paid every two weeks, but life happens every day.

Studies show that the borrowed money is used to pay for basic expenses such as utility bills, food and clothing expenses, car repairs, or home repairs. Not just that, most users of small-dollar loans also report taking steps to reduce spending and going without some basic needs.

When faced with payment deadlines, for someone who doesn’t have credit cards, the only payday alternatives have been to pay overdraft bank fees if their checks don’t clear or to defer paying bills by the due date, which results in additional penalties like late fees and service restoration or reactivation fee. These fees, which we call fee traps, can easily add up to $100 every month for a low-wage employee.

Who Uses Small-dollar Loans and Payday Loans?

Every year, an estimated 40% of the population who are either unbanked or underbanked (around 25% of U.S. households) borrow through small-dollar loans and payday loans, rent-to-own agreements, pawn shops, or refund anticipation loans. In addition, millions in the middle class who have little or no savings and have maxed out their credit cards, also turn to small-dollar loans and payday loans in times of need.

Of those that turn to payday loans:

• 40% have maxed out their credit cards or reached their credit card limits.
• 50% have paid overdraft bank fees on a checking account in the previous year.
• 85% are employed but struggling to pay bills between paychecks.

How Do Payday Loans Work and What are their Conditions?

Payday loans are small-dollar credits against future earnings in the form of a paycheck. The lender takes either a signed check from the borrower, which the lender cashes on the day of the next paycheck or the lender may take the checking account information from the borrower for a direct withdrawal from the account on payday.

How to Obtain a Payday Loan Online

Under certain circumstances, not having the money that a payday loan can provide could have worse consequences than paying the fees associated with borrowing cash. For example, if getting a payday loan avoids you being evicted or having your vehicle repossessed, then taking out the loan might be one option – but not necessarily your only one. (More on that later.)

Small-dollar, high-interest payday loans are widely available in over half of U.S. states, most without many restrictions. Typically, you simply need to walk into a lender with valid identification, proof of income, and a bank account to secure one. In addition, today, there are multiple ways to get a payday loan online. If you decide to look at getting an online payday loan, it’s important to do your homework and find the most affordable loans with the most favorable payment terms.

The Cost to Consumers

Let’s take a closer look at the typical payday loan agreement. The median size of these loans is $350, and the fee or interest charged by the lender typically ranges from $15 to $30 per $100 borrowed for approximately a two-week period. At $15 per $100, for a $350 loan, the borrower has to pay back $402.5 in 2 weeks.

If the loan is not paid back the full amount, it is rolled over until the next pay period with additional fees at $15 per $100 of the balance.

CFSI estimates that, on average, a borrower takes out eight loans of $375 each per year and spends $520 on interest. In addition:

• 12 million American households take small-dollar loans each year.
• $50 billion is given out in small-dollar loans every year.
• $9 billion is paid in fees and interest each year.
• $9 billion that Payactiv can save people each year

How Do Small-dollar Installment Loans Work and What are their Conditions?

The small-dollar installment lending has been increasing since 2011, and most payday lenders have developed installment loan products.

Installment loans have larger principal amounts and allow six months or more to pay back in small installments. While it is convenient that the payback is in small installments, the interest can add up to several times the original principal.

What’s the Cost to Consumers?

An average installment loan is $1200 to be paid back in 13 installments at 300% APR, with the borrower paying back almost $3000 in 6.5 months.

It’s not surprising, therefore, that the small-dollar installment loans industry is a $10 billion one – and it’s growing.

A Debt-free Alternative to Taking Out a Payday Loan

Have you ever wondered why most employees continue to typically be paid every two weeks when we live in a real-time world, with “on-demand everything” becoming the norm?

Every week over $100 billion is earned but remains unpaid because of inefficiencies within our economic systems. When you add to it the additional lag of one week in payroll cut-offs, the number is easily over $200 billion. This money is stuck in the system, waiting to get disbursed to the millions of workers who are juggling insidious late fees and overdraft fees to get by.

Over the last decade or so, a new pay frequency is being used by more employers and third-party service providers that allows workers to receive their earned wages on the same day that they perform the services. These arrangements are referred to as earned wage access (EWA) or on-demand pay programs. They’re becoming more popular, especially among people working in lower-paying jobs.

According to the American Payroll Association, EWA programs are becoming a more established business practice and part of the benefits package offered to workers. A clear benefit for an employee is gaining greater financial security. There are also many benefits for employers embracing EWA. During a workshop on financial wellbeing at APA’s annual Congress event in Las Vegas this past May, Felicia Cheek, Director, HCM Product Strategy at Oracle, said that an employee’s financial wellbeing is a way to help employers acquire and retain talent as a way to “combat” the Great Resignation, which occurred during the height of the pandemic.

Payactiv’s EWA Solution

Payactiv is one of the pioneers in this industry. Our FinTech solution provides working people an alternative to payday loans and other small-dollar loans.

Payactiv solves the small dollar need for emergencies and cash droughts by providing access to these earned but unpaid wages. Helping employees avoid penalties of late payments or having to take predatory loans to overcome their crisis.

Payactiv is offered as a voluntary benefit by employers, which means employees can enroll and use our services once it is offered as a benefit by their employer. It’s a turnkey solution; no integration is needed by the employer as we leverage the existing payroll and time/attendance system. The highest security standards are followed.

Employees can utilize the Payactiv mobile app or website. All financial services are instantly available to them.

There is no cost to employers for offering Payactiv as a benefit to their employees.

How Payactiv Helps Employees with Small-dollar Needs

Employees can access up to $500 of their earned but unpaid wages to manage their expenses without the fear of late fees, borrowing from friends, or taking predatory loans. Employees pay $0 to $5 depending on the employer and only when funds are accessed. There is no other fee.

Workers can access their earned wages in several ways. The funds can be loaded onto a debit or prepaid card, transferred to their bank account, or even picked up as cash at Walmart. Alternatively, Payactiv allows them to use their earned wages to pay for services like Uber and Amazon and pay their bills directly in the app.

Funds for emergencies are only the beginning. Payactiv comes with a revolutionary allocation and savings tool to help employees plan for the future, plus free financial services to pay bills online, make bank transfers, and earn rewards. In addition, there are:

• No debt and no hidden costs
• A flat $0 to $5 only when funds are accessed
• Multiple other financial services at no additional cost

How Does Payactiv Help Employers?

Payactiv helps build a productive and engaged workforce. Because when employers show they care about the real issues of their employees, they build trust and commitment with their employees. Learn more about the business savings.

How to Get Started

If you’re an employer interested in offering a real alternative to payday loans for your employees, we can set it up as fast as 24 hours with no changes to your HR, payroll, or IT systems.

Contact us to get started or learn more. And if you’re an employee that believes our services would benefit you, tell your employers about it.