3 things to consider before taking out a paycheck loan

The past two years have been tough for many people. Aside from the Covid lockdowns, many have had to deal with sudden job losses, cut salaries, working from home, depleted finances and more. In times like these, many cash-strapped employees resort to payroll loans or payroll advance loans. Many of us are often in a liquidity crisis at the end of the month and would like a small loan to bridge the few days until the next salary is credited. To meet this demand, some companies are offering quick short-term online loans at interest rates of 24 to 36 percent per year. (Read more about managing your finances here: https://www.outlookindia.com/website/story/business-news-five-personal-finance-thumb-rules-to-follow/401955)

Short of cash

The lack of money at the end of the month is often due to excessive spending at the beginning of the month, or it can be due to a medical emergency, a sudden family occasion that requires you to give a gift, a sudden plan for a trip, home renovation , among other things. In such situations, we urgently need cash while the next salary is still a few days away.

You can borrow from friends (although they may be in the same situation as you) or family (you may not want to go down that route). You can ask your employer for a salary advance, but the company may not have such a policy. Many new-age fintech companies try to fill this gap of a few days with a loan product called “salary advance”. Most of these companies partner with Non-Banking Finance Companies (NBFCs) registered with the Reserve Bank of India (RBI) to offer such loans. (Read more about getting out of a debt trap here: https://www.outlookindia.com/business/-india-in-a-debt-trap-here-are-four-ways-to-get-out -of-a-debt-trap-news-37974)

EarlySalary, LoanTap, PayMeIndia, Cashkumar, Quick Credit, Flex Salary and CreditBazaar are just a few of the companies that offer short term instant loans to professionals. Fintech companies see this as an opportunity as banks are slower to lend.

What you should consider when using such loans

There are three specific things to keep in mind. First is the frequency. If you only take out a loan like this once or twice a year, then there is nothing to worry about, but if the frequency is higher, it may be an indication that you are making a habit out of habit. “Second, don’t use more than 40 percent of your credit line. This ensures that you do not overuse it (the balance). Third, pay back as soon as possible because the interest rate is high and it’s a perfect debt trap,” says Anant Ladha, founder of Invest Aaj For Kal, a financial planning firm.

risks and costs

There are two main costs involved – interest rate and processing fee. The interest rate is quite high at 24-36 percent per year. Also, these are not “good” loans like a home loan or an education loan, where you receive an asset and income tax deductions are possible. So, the smart way to use payroll loans is to only take them out when it’s unavoidable.

Aside from the high interest rates, there are also some risks. “The biggest risk is that you damage your financial plan, which a lot of people don’t see as a risk,” says Ladha. Resorting to payroll loans often means you may not be saving or investing enough, which is detrimental to both short-term and long-term goals. Also, you will have to pay more interest on the salary loan.

“Other visible risks are in data security and that (these products) are not fully governed by detailed RBI policies,” adds Ladha.

A word of caution

A loan of any kind is still a loan. It is advisable to take out salary loans only after careful consideration. Anyone who decides to take out a paycheck loan should think about why their expenses are higher than their income. If the emergency is temporary, borrowing may be warranted, but you should have an emergency fund for such situations. Conscious budgeting can help avoid such expensive loans.

When deciding on a paycheck loan, also think about how your credit score will be affected not only by the loan but also by a situation where you are unable to repay on time. How to Maintain a Healthy Credit Profile: https://www.outlookindia.com/business/how-to-maintain-a-healthy-credit-profile–news-30908

So weigh all the pros and cons before deciding to reward yourself with an “early salary.”

Comments are closed.