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Here's why 1 in 3 college-age Americans consider payday loans with interest rates of 400%

Over a third of those in Generation Z are already considering payday loans. 
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Over a third of those in Generation Z are already considering payday loans. 

With just six weeks to go before he needed to turn over $600 in rent for his new apartment, Austin Wilson was starting to panic. He simply didn’t have the money.

The University of Kansas senior owed his new off-campus apartment complex $500 for rent, plus a $100 one-time community fee, by Aug. 1. The problem was, his student loan reimbursement check that would cover his housing wasn’t set to arrive until mid-August.

"I know this money is coming and I know when it's coming, but it's just a little bit too late," he says.

Wilson, a 21-year-old history major, says he wiped out his emergency savings earlier this year after his car broke down and he had to buy a new one. With just $100 left over, Wilson was planning for a thrifty summer: “I’d try to build that up over the summer. I’d tighten my belt. I’d cut back, I’d stop spending money on food.”

But he hadn't read the fine print on his lease. His rent was due Aug. 1, not Aug. 15, when he was scheduled to move in. After he realized his oversight, he scrambled to find a second job to supplement the roughly $400 he makes every two weeks working the front desk on weekends at a senior care center. He couldn't.

“I put in about 40 job applications,” he says, but the only available jobs were for the weekend hours he was already working. “It’s a little disheartening,” he says. “I go through Indeed every two days. You send it in and then you don’t hear back.”

Having tried and failed to get a credit card, Wilson approached his bank for a loan, but the minimum was $3,000 — way more than he wanted to take on, given his approximately $30,000 in student loans. And it's not like he had stuff he could use as collateral or sell for quick cash.

Austin Wilson, a senior at the University of Kansas, considered taking out a payday loan to pay his rent. 
Courtesy of Austin Wilson
Austin Wilson, a senior at the University of Kansas, considered taking out a payday loan to pay his rent. 

“I’m a college student. I don’t really have assets. I own my car, I have a bunch of Dungeons & Dragons books. I could try to sell those. But if I sell the only things I do in my free time, what I am going do?” he says.

With few options available, Wilson started to consider a payday loan.

What is a payday loan?

Payday loans, also called cash advances, are typically small loans you can get in most states by walking into a store with a valid ID, proof of income and a bank account. The balance of the loan, along with the "finance charge" (the service fees and interest), is typically due two weeks later, on your next pay day.

While payday loans provide quick cash, the national average annual percentage rate is almost 400 percent. In contrast, the average credit card APR in July was 16.96 percent, according to CreditCards.com.

Wilson hit upon the idea of using a payday lender because he’s seen so many around. He actually delivered pizzas to a payday loan center in the past, but he wasn't excited to set foot in one again. “Even stepping inside of them feels bad,” he says. “It just smelled like floor polish and everyone in there looked sad. They’re just sad places.”

Across the U.S., there are approximately 23,000 payday lenders, almost twice the number of McDonald's restaurants. Not to mention the many online lenders that have cropped up. While 15 states and the District of Columbia have laws in effect that cap the interest of these loans at 36 percent or less, 35 other states have no such restrictions.

There are roughly a dozen payday lenders within three miles of the KU campus.

Who's using payday loans?

In the U.S. today, payday loans are a $9 billion business. "Contrary to popular perception, the payday loan borrower is very mainstream," Nick Bourke, director of consumer finance at Pew Charitable Trusts, tells CNBC Make It.

These loans are a particularly enticing option for younger borrowers, many of whom may not yet have assets to hold as collateral for a loan or enough of a credit history to qualify for credit cards.

Among those age 18 to 21 years old, almost 40 percent have strongly contemplated taking out a so-called payday loan, according to a survey of approximately 3,700 Americans that CNBC Make It performed in conjunction with Morning Consult. Over 1 in 10 of the Gen-Zers polled said they considered taking out a payday loan to cover costs associated with attending college.

What's the catch?

In Kansas, which caps the maximum payday loan amount at $500, the APR on a two-week payday loan is 391 percent, according to the Center for Responsible Lending. That means if Wilson takes out the max loan, he'll owe about $575 as of mid-August. And he'll still have to scrounge up the extra $100 from somewhere.

The loan cycle rarely stops there, either. If Wilson’s student loan reimbursement is unexpectedly lower this year, he may opt, like many payday loan borrowers, to “roll over” the loan another two weeks. Do that for just three months and the amount due is over $1,000.

“It’s normal to get caught in a payday loan because that’s the only way the business model works,” Bourke says. “A lender isn’t profitable until the customer has renewed or re-borrowed the loan somewhere between four and eight times.”

The Consumer Financial Protection Bureau found that nearly one in four payday loans are re-borrowed nine times or more, while Pew found it generally takes borrowers roughly five months to pay off the loans and an average of $520 in finance charges.

"I know payday loans are traps. But I figured if I could stay on top of it, I know I’m going to get this money, so I just need to pay my rent." -Austin Wilson, student, University of Kansas

That's not the case at all payday lenders, Jamie Fulmer, a spokesman for Advance America, tells CNBC Make It. At Advance America — which operates 2,000 locations nationwide, including one within walking distance of KU — Fulmer says a customer usually takes out one loan, pays it back, and the company never sees them again. The second most common scenario is that the customer takes out two loans and never returns, he says.

Payday lenders are targeted because of that APR calculation, Fulmer says. “You need to look at the cost of the product vis-à-vis the cost of their other alternatives.” For example, if a consumer needs $200 to pay their cell phone and electric bills, they can pay a $30 finance charge to a payday lender like Advance America or they can incur the average $34 overdraft fee for each charge, he says.

And it's not like Wilson doesn't know the risks. He calculates the apartment complex's late fees would add up to roughly $185, so the $75 finance charge on the payday loan is actually cheaper.

"I know payday loans are traps. I know they have ridiculously high interest rates. I know they have service fees when you don't pay in full on time. But I figured if I could stay on top of it, I know I'm going to get this money, so I just need to pay my rent."

Yet for those who do fall behind, the costs can be substantial and long-lasting. Some payday lenders will attempt to recover their money by taking what they're owed directly from borrowers' checking accounts, which borrowers grant access to as a condition of the loan. But unexpected withdrawals from the lender can rack up pricey overdraft fees and damage credit scores. Plus, it can be hard for borrowers to save while paying off such high-cost loans.

"Payday loans are dangerous and unaffordable for everyone, but borrowers who are just starting out or who are struggling financially — they're the most vulnerable," Lisa Stifler, deputy director of state policy for the Center for Responsible Lending, tells CNBC Make It.

What's the appeal to young adults specifically?

The experts are divided on what’s leading younger borrowers to strongly consider using payday loans. One likely culprit is student loans. College students are maxing out their federal loan limit and many take out additional private loans. That doesn't exactly make them good candidates when they need more money just to get by.

Research shows that student debt makes it much more difficult to afford life outside of college, things such as buying a house and starting a family. But more importantly, student loans also delay many from saving up any kind of emergency funds, Pew's Bourke says.

"Student loan debt very well could be exacerbating the week-to-week, month-to-month challenges that drive payday loan borrowing," he says.

"Student loan debt very well could be exacerbating the week-to-week, month-to-month challenges that drive payday loan borrowing." -Nick Bourke, director of consumer finance, Pew Charitable Trust

When banks and credit card companies turn you away, it can be hard to find a way to get the money you need, and that happens all too frequently. According to the Consumer Financial Protection Bureau, one in five Americans are either credit invisible or credit unscorables: That means there's not enough data out there to score you, so banks and other financial institutions generally turn you down.

Behavioral finance theories indicate that it can be hard for young borrowers to fully picture the future, so they discount the impact of their actions.

"It's really hard for young people to try to imagine their future. They don't really internalize the fact that they're really racking up a large amount of interest," Kent Smetters, a finance professor at The Wharton School, tells CNBC Make It.

Where to turn instead of a payday loan

If institutions turn you down, you can try individuals. But that is far from a sure bet. Wilson is the first in his immediate family to attend college. “My family is super working class,” he says, noting that his mom works in retail and his dad is in and out of jobs. “Everyone’s pretty strapped for money,” and his relatives were unable to help him out.

So Wilson got creative. He posted about his dilemma on Reddit and he started asking even distant friends for help. This second approach is what finally worked. While catching up with a friend from middle school, Wilson mentioned his savings gap. The friend was sympathetic and offered to send Wilson a $500 interest-free loan via PayPal. Wilson gratefully took the loan, promising to pay it back in full after his student reimbursement check arrived.

"It turns out that desperation overcomes pride, at least in my case." -Austin Wilson, student, University of Kansas

Then things clicked on the job front as well. Wilson successfully talked his boss at the senior center into giving him a few 16-hour shifts. With the loan and the extra work, Wilson was able to save enough to make his rent payment.

“My savings is back down to $20, but the payment isn’t dangling over my head anymore,” he says. His diet these days consists of ramen and a Thai-inspired meal of frozen chicken and minute rice tossed with a sauce made up of crunchy peanut butter and sriracha — but at least he didn’t have to borrow money at 400 percent interest.

Looking back, Wilson says at first he was too proud to ask for money, but he's glad his friend's generosity ended up helping him avoid a payday loan: "It turns out that desperation overcomes pride, at least in my case."

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