Why Are All Payday Loans Short-Term?
Payday loans are most often to be paid back very soon, as in with the very next paycheck. This may be next week, in two weeks, or in a month. Regardless, even with an installment payday loan, the terms are generally less than 3 months and almost always less than one year. By definition, a short-term loan is one that must be repaid in one year or less. Why must payday loans be short-term? The short answer is risk mitigation. These are high risk loans by nature for several reasons.
No Credit Check
These loans do not require a credit check, and pretty much anyone of legal age that has a job can get approved. Their security is in the fact that they are to get paid with the next paycheck, and often this is drafted from the borrower's bank account directly. Even this is not foolproof however. There are plenty of scenarios, even with these risk mitigation procedures in place, which could result in the loan not being paid. The most prevalent of these scenarios is the borrower loses his job before he pays back the loan. The loan payment is still owed, but there is no way to draft from money that is not in the account. Making the loan term very short improves the chances of the lender getting paid before employment is lost.
This is another factor that makes these loans high risk. Not only is the payback period short, but payday loans also have a very short approval period. This is possible due to the simple fact that there are very few requirements for approval, again making the loans high risk. Much can be missed by pushing loan paperwork through, and that only contributes to the risk the lender takes on when making these loans. Instituting faster payback helps mitigate some of that risk.
Other Risk Mitigation Procedures
Making payday loans short term is only one of a couple of ways lenders mitigate risk. Another way they help reduce some of their risk is by charging a higher interest rate than standard loans. This allows them to make more profit off of each loan paid in full, and thus cover some of the cost of those loans that are not paid. This one simple fact turns some off of payday advance loans, but the fact is that if you need money and have no other option, they are a good option to have.
While these loans do have to be paid back quickly, that is not always a bad thing. Though they are short term, they can give you time to pay what needs to be paid and come up with a plan to pay the loan back. Also, sometimes it is possible to pay the loan back in installments rather than a lump sum, which offers even more time flexibility.