You may have heard that there are apps, like Dave and Earnin, that offer interest-free short-term loans. They ask for a donation, but it’s always a voluntary donation – and even those who charge a modest fee extend loans at 0% APR very quickly without a real credit check.
It’s a remarkable new offering for those who are short on cash between paychecks, especially since the alternative is the lowest dregs of the money lending barrel – payday lenders, who earned infamy by preying on the poor and trapping America’s most vulnerable households in a endless cycle of debt.
Cash advance apps aren’t that, but they serve a similar purpose and can cause some of the same issues. If you’re looking for cash on the fly until reinforcements arrive, here’s what you need to know about cash advance apps.
They serve the same purpose as payday loans and fuel the same debt cycle
People turn to payday loans and cash advance apps for the same reason: they need the money for something so urgent they can’t make it until their next paycheck. pay arrives. The borrower uses the cash advance to keep the lights on or to get the car fixed or whatever, and when their employer directly deposits their paycheck, the lender automatically withdraws what’s owed from the borrower’s checking account. ‘borrower.
Issue resolved — until next week.
Payday loans and cash advance apps offer a financial palliative. They are different types of loans, but the end result is the same in both cases: a hole in next week’s paycheck. According to Forbes, this is a recipe for the debt trap. Your last paycheck was too small to cover your immediate expenses for the entire pay period, but the money you borrowed means your next check will be even smaller. Unless your income goes up or your expenses go down, you’ll be in exactly the same situation on the next pay period, leading to a cycle of debt and reliance on small loans.
Everyone does their thing when times get tough, but taking out a short-term loan to get through this week makes next week worse.
To be clear, payday loans are much worse
Payday loans are banned in 19 states and Washington, DC, according to Forbes. In almost every state where they are not banned, payday lenders are allowed to charge astronomical APRs of 300%, 600% or even more. Some states have no cap. Missouri allows lenders to charge 1950% on a $100 loan over 14 days.
The danger is that APR represents time, so even when rates seem manageable, finance charges can quickly skyrocket because borrowing windows are so short.
Cash-advance apps poke the same hole in next week’s paycheck as payday loans, but they’re not inherently predatory and they’re not as risky — and why they aren’t not so lies in their unique revenue structure.
Cash advance apps have invented a new way to pay
If you’re using a cash advance app, you’re borrowing against your future paycheck, so it’s no more a solution to your cash shortage problems than a payday loan. However, instead of overwhelming borrowers with loan shark APRs, these new-school apps solicit voluntary “tips.” Some, but not all, also charge small dues or other modest fees.
According to Forbes, apps like Brigit, Chime, Dave, MoneyLion, and Earnin have been clever at using the tipping system to portray themselves as the good guy contrasting the payday loan industry’s bad buy. But Time’s NextAdvisor points out that the voluntary donation system can lead to deceptively high rates.
Earnin, for example, lends money without fees or interest with or without a tip, but unless the borrower reduces or eliminates the tip, the app defaults to donating $9 per $100 borrowed. . That might not sound like a lot – or it might look like 9% interest, like a personal loan with good credit – but since it’s a short-term loan and the APR is time, it corresponds to a rate of about 235%.
Apps aren’t bad, but needing them reveals poor financial health
Cash advance apps are better than payday loans, but if you’re considering using one, it’s probably because:
You don’t earn enough to cover your expenses or you spend beyond your means
You don’t have enough savings to cover even the smallest of emergencies – payday loans and cash advance apps are usually good for a few hundred dollars max
Your credit is probably in bad shape, otherwise you would take out a cheaper, longer-term personal loan as part of a debt reduction or bill consolidation strategy.
In short, cash advance apps disrupted an industry that needed to be disrupted and provided a better and safer alternative to predatory lending. But unless it’s the most extraordinary of circumstances, borrowing money based on next week’s paycheck just to cover immediate expenses indicates more widespread financial problems.
If borrowing money to stretch your paycheck is a familiar pattern, experts at Forbes, Time, and other outlets recommend that you seek financial advice from a nonprofit organization like the Financial Counseling Association of America. Also consider an alternative payday loan (PAL), a type of short-term loan with much lower interest rates than some credit unions offer their members – and always call your lenders or debt collectors to negotiate better terms before borrowing money to repay them.
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This article originally appeared on GOBankingRates.com: Borrow money from cash advance apps? You might want to think twice