When you need cash right away and don’t have readily available savings, you might consider using a credit card cash advance or payday loan.
Although both options allow you to get money quickly, they also penalize borrowers who can’t pay back the debt promptly.
Here is a look at the pros and cons of both options as well as alternatives that could help you avoid the negative effects of a high-interest loan.
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What Is a Credit Card Cash Advance?
A credit card cash advance is a loan from your credit card that allows you to get instant cash, whether it’s from an ATM, a bank withdrawal, a check or another method. Expect to pay a cash advance fee, typically ranging from 2% to 8% with a $10 minimum — and an interest rate that’s at least a couple of percentage points higher than what you would be charged for purchases.
With a cash advance, you’re likely charged interest right away. The grace period you typically get with credit card purchases doesn’t apply.
Is a Cash Advance Good or Bad?
A cash advance offers quick cash, but the costs can quickly add up. The most cost-effective way to use a cash advance is to pay back the money as soon as possible.
It could be a good idea for people who know they will pay it back in a couple of days and won’t have to pay much interest, says Robert Dunn, vice president of counseling at Consumer Credit Counseling Service of Buffalo.
Before you try to pay off the cash advance, check with the credit card issuer to make sure all of the money you send will go toward the balance of the advance. Some companies will apply some of your payment to the lowest annual percentage rate charge.
These are the main reasons to avoid credit card cash advances:
Costs. In addition to short-term costs — fees and immediate interest — you could pay even more in the long term if you only make the minimum payments each month.
Potential credit problems. Cash advances could “affect credit scores because you increase the card balance, and if you have difficulty meeting the terms , it could result in negative information, such as late payments , being reported on to the credit bureaus,” says Rod Griffin, senior director of public education and advocacy for credit reporting bureau Experian.
What Is a Payday Loan?
With a payday loan, you pay an upfront fee to receive up to about $500, and more fees are added if you’re not able to pay it off within a typical two- to four-week loan term. The interest can accumulate quickly. A two-week payday loan could have a fee of $15 per $100, which equals an APR of about 400%, much higher than the rate of a typical personal loan or credit card.
Payday loans are allowed in more than 30 states, with several states capping the interest rate on loans.
To get a payday loan, you borrow against an income source such as your paycheck, pension or Social Security. You write a check for the balance of the loan or authorize the lender to access your bank account.
The check or withdrawal authorization allows the lender to take the money from your account if you don’t pay off the loan in time.
Is a Payday Loan Good or Bad?
Payday loans can be an attractive option because they provide fast money to people with limited access to credit, but sometimes they exacerbate budget problems.
If you’re using a payday loan to pay your bills, you’ll need to find a way to have enough in your account to cover the loan as well as everyday expenses, says Jeffrey Arevalo, financial wellness expert at GreenPath Financial Wellness, a national nonprofit credit counseling agency in Farmington Hills, Michigan.
It’s ideal to pay it back right away, but “the reality is that, most times, that is very unlikely,” Arevalo adds. “It’s something they’ll have to keep renewing and paying back over time before they can eliminate it entirely.”
Payday loans are not meant to be long-term solutions, he says. “Ideally, if left with that option, we stress with clients the importance to pay that as soon as possible and even prioritize (it) over other debts,” Arevalo says.
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Credit Card Cash Advance vs. Payday Loans
Both credit card cash advances and payday loans include upfront fees and ongoing charges if they are not paid off quickly.
Payday loans have the highest upfront charge, with a fee of approximately $15 per $100, which adds up to $75 on a $500 loan. Though it can be manageable if the loan is paid off within the loan period.
If you pay off the credit card cash advance within a few weeks, your costs should be lower than a payday loan because the upfront fee is less, and the interest won’t pile up.
But the total cost for credit card cash advances can be higher than a payday loan if you’re only providing the minimum payment for your credit card balance and the interest accumulates over months or years.
“Cash advances on a credit card potentially could take more fees in the long haul if it takes a substantial amount of time to pay off,” Dunn says.
Also, if you have a large cash advance that drives up your credit card balance, it could negatively affect your credit score over time because you’ll have a high credit utilization rate.
Although payday loans are not reported to the national credit bureaus, they “can catch you in a trap of perpetual, high-cost debt that can be financially devastating,” Griffin says.
Alternatives to Costly Short-Term Loans
If you’re deciding between credit card cash advances and payday loans, the answer might be neither. They’re both high-fee loans that can be costly in the long run. Consider these other options:
Working with creditors. During the economic downturn caused by the coronavirus pandemic, you may be allowed to skip or pause payments for:
— Utility bills
— Car loans
— Student loans
— Credit card bills
Before taking on a cash advance or payday loan, Dunn encourages people to get in touch with creditors about relief options. For example, you could contact your landlord to set up an agreement to pay half your usual rent.
Relief options could include three to six months of payment reduction, stopping payments for six months or delaying payments for a few months, Dunn says. For example, the Coronavirus Aid, Relief and Economic Security Act lets homeowners with federally backed mortgages request a delay in making their payments for up to 180 days, with an option for 180 more.
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Using home equity. Although getting a home equity loan or line of credit isn’t an immediate solution, you could consider it if you have plenty of equity in your home. If you can’t pay it off, though, you could risk losing your home. Also, keep in mind home equity loans may be harder to come by as economic conditions during the COVID-19 pandemic have led lenders to tighten their standards.
Retirement account withdrawals. The CARES Act allows people to take up to $100,000 out of their retirement accounts without facing the usual 10% penalty if they have been diagnosed with COVID-19 or hurt by it financially. You still need to pay taxes on the withdrawal, but they could be spread out over as many as three tax years. The IRS offers a Q&A about coronavirus-related distributions.
A retirement account withdrawal won’t affect your credit and could help you avoid more debt, Arevalo says.
Ask for employer assistance. Although it might not be easy, you could ask your employer to buy back your vacation days or for an advance on an upcoming check.
“I tell clients the worst thing (employers) can say is no, and that’s OK,” Arevalo says.
Also consider changing your payroll contributions on your paycheck to increase the cash flow. However, be aware that you might need to pay more in taxes the next year as a result.
Build a banking relationship. A local bank or credit union might have COVID-19 relief loans available as long as you meet their credit standards and have a steady income. Check your credit scores , and show that you’re a good credit risk.
“They’ll have a lower interest rate than cash advance and payday loans,” Arevalo says of relief loans.
Pursue a peer-to-peer loan. These loans might require less paperwork than a bank or credit union loan would, but they still require you to have a credit rating of 600 to 640 and a steady source of income. Interest rates can be high when compared with credit cards, Arevalo says.
Get help from friends or family. If you need money right away and can rely on a friend or family member to wait a few weeks or more to be paid back, that might be a better alternative to a credit card cash advance or payday loan. You could also try to find someone to co-sign a loan. Either arrangement requires an understanding between the borrower and the lender, and you don’t want to damage the relationship if you can’t pay it back by the agreed-upon time.
Regardless of how you deal with a short-term money crunch, working with a credit counselor is a good way to prevent it from happening again. For example, a counselor can help you figure out a budget and where you could cut expenses.
“You do have to get a handle on what you’re able to pay on a monthly basis,” Arevalo says. “And only then you can figure out what options make sense.”