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Are Cash Advances Good Or Bad?


 

What is a cash advance?

When you need something you just go out and buy it, right? What about when you need cash? It turns out, you can buy cash with what is called a cash advance.

A cash advance is a service offered by banks, private lenders, or most commonly - credit cards. A cash advance is a small short-term loan.

You can take out a cash advance by just walking up to an ATM and then using your credit card instead of your debit card. The credit card company will give you cash and add that amount to your balance. Fast and easy, right? As convenient as that sounds, you're paying a lot to buy this cash.

 

The benefits of a cash advance.

Life happens and sometimes we need a little extra money to cover a surprise expense or a shortfall at the end of the month. Cash advances can be a fast way to get cash to cover expenses that cannot be paid with a credit card, like rent.

 

The cons of a cash advance. 

Cash advances come with many negatives:

  • Initial fee - These vary, but are typically either a flat fee ($10) or a percentage of the loan (5%). Creditors pick whichever is higher.
  • High interest - the average credit card has an interest rate of 17.68%. Cash advances have an average interest rate between 22% and 30%. This is in addition to the fee you pay just to initialize the advance.
  • Interest accrues immediately - Unlike standard credit card balances, you are charged this interest from the day you take out your advance. This means that even if you pay it back completely within the month, you're still being charged that aggressive interest rate.

All of this adds up to mean cash advances are very expensive. It further taxes people who are experiencing a hard time getting cash.

Let's look at an example of how much a cash advance will actually cost you. Pretend that your car needs a major repair. You have to do it in order to get to work, so delaying the repair isn't an option, so you take out a cash advance of $1000.

Your first hit with the initial fee, in this case, 5%, which is $50. You now owe $1050.

You were also hit with an ATM fee of $3. Now your total is $1053.

Interest begins accruing. You won't be able to pay it back until the end of next month when you've saved enough from your paychecks. The interest rate is 25%. You'll owe another $21.23, bringing your total to $1074.23.

All said and done, you're paying $74.23 to borrow $1,000 for one month.

 

Do cash advances hurt your credit score?

Not by the action of taking one, like a hard pull on your credit would do. However, taking a cash advance can put you in several situations that would lower your credit score.

  1. The cash advance is added to your balance, which changes your credit utilization. Credit Utilization is a score that looks at how much of your total credit you're using. Ideally, you keep this number below 30%. A cash advance could easily push your utilization over that number and hurt your credit score.
  2. Cash advances begin to accrue interest from the day you take out the advance. This creates a bigger debt that you started with, which can be even more difficult for many people to pay off. Generating more debt and, potentially, missing future payments will hurt your credit score.


 

How is a cash advance different from a payday loan?

You might hear the term cash advance and payday loan used interchangeably, and they are very similar. Both cash advances and payday loans a ways to get a smaller amount of money for a short period of time, and both come with hefty fees and interest rates.

Where they differ is:

  • Who offers these services: Payday loans are only offered through specialized payday lenders.
  • The application process: Payday loans require applicants to fill out an application. Instead of looking at your creditworthiness through a credit score, they just look at your paycheck.
  • How they are paid: Payday loans are due on your next payday. In fact, when you apply for the loan you will need to write a postdated check in the amount of the loan. When your loan is due, the lender cashes the check.
  • The fees and rates: Payday loans have higher fees and more aggressive interest rates.


 

Better Options

There are times where a cash advance could be the smart financial choice, but before you consider taking one, consider one of these options first.

  • Ask your community bank or credit union for a small loan. Larger banks typically just look at the numbers, and small loans don't have the same amount of profit as a mortgage would. Local institutions are more likely to learn about your situation and consider providing a smaller loan.
  • Ask family or friends. Usually, we would recommend not mixing your finances with friend or family, but in the list of bad ideas -- turning to a cash advance is worse. Before you take this option, be sure to have an honest discussion about why you need the loan and your plan for paying it back. Document everything in a written agreement and have everyone sign and date it. I know it can be awkward to ask people to sign something, but it is as much to protect them as it is to protect you.
  • Ask your employer for a payday advance. Not every employer offers this as an option, but it is something to consider. Employers have the advantage of knowing your salary and your employment, making it a sure thing that you'll be able to work off the time they advance you for.
  • The Kasasa Loan. Okay, we're biased, but hear us out. The Kasasa Loan allows you to pay ahead on your loan and then take back any money you have paid above the scheduled balance. So, one month you pay ahead by $500, next month your dog needs to go to the vet, you can withdraw that balance without penalty. Not all institutions offer the Kasasa Loan, so make sure you ask your local institution if they offer it.

Tags: Personal Finance