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What Is a Payday Loan and What Are Safer Alternatives?

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Payday loans are short-term loans designed to pay for small immediate expenses. They often come with high fees and need to be repaid within a couple weeks, making them difficult to pay off on time. Due to this, the majority of payday loan borrowers will roll their loan into a new one, taking on additional fees.

As a general rule, you should avoid taking out payday loans. Here’s a deeper look into how payday loans work, and some safer alternatives for you to explore.

What is a payday loan?

A payday loan is a small, short-term loan that is often due on your next payday. Payday loans usually have the following features in common:

  • Secured by access to your checking account funds: Most payday loan companies require you to write a post-dated check or authorize them to debit your account, which allows them direct access to money in your checking account.
  • Repaid over a short term: Depending on the state, the length of a payday loan can vary from a week to 120 days. However, many lenders make the loan due on the day of the borrower’s next paycheck.
  • Limited loan amounts: Payday loans generally range between $50 and $1,000, although this would ultimately depend on the lender and the laws in your state (for example, Oregon’s loan limit is $50,000).
  • Repaid in a single lump sum: Unlike installment loans that are paid back over several months, a payday loan is typically paid back in full, in a single payment and on a certain due date.
  • Borrowers pay a financing charge: Payday loans charge a financing fee that’s usually due with the rest of the payment.
  • Potential to rollover an outstanding balance: Many payday loan lenders let borrowers “rollover” or renew their loan by paying an additional finance charge to extend the repayment period. However, with time, this might cause a loan’s finance charges to mushroom to an almost unmanageable level. It can lead you into a cycle of debt, where you borrow more money to cover debt payments.
  • Usually don’t require a credit check: This makes them accessible to bad credit borrowers. However, payments won’t appear on your credit report, so it won’t help you build credit, either.

How much does a payday loan cost?

The costs of payday loans vary depending on the state and lender. The fee is usually a flat rate that ranges from $10 to $30 for every $100 borrowed, though according to the Consumer Financial Protection Bureau, it’s common to see lenders charge a $15 fee for every $100 dollar borrowed.

Most likely, you won’t see this fee upfront. Payday loan terms are typically presented as an APR, which includes both the interest rate and other fees. You’ll find that payday loans have exorbitant APRs, largely because most loans are rolled over.

In 2016, The Pew Charitable Trusts found it took borrowers an average of five months to pay back a two-week $375 loan that had an initial finance fee of $55. When the loan was finally paid back, the financing fee was $520, an amount far greater than the amount borrowed.

Here’s a sum-up of what Pew found:

Average payday loan terms and fees
Amount borrowed $375
Finance fee $55
Initial repayment period 14 days
Total time to repay payday loan 5 months
Total financing fee $520
Average APR 391%
Source: The Pew Charitable Trusts

Is a payday loan a good idea?

In general, it’s best to avoid payday loans and their sky-high APRs. As many payday lenders ask for access to your bank account, they make payment withdrawals even if it would overdraw your account. What’s more, high fees and short repayment terms can trap you in a cycle of debt.

On the other hand, you might consider a payday loan if you have poor or no credit, can pay off the loan on time and need to borrow funds quickly. But even then, there are safer and more affordable bad credit loan options available, with some lenders offering fast funding.

If you’re considering a payday loan, weigh the following:

Pros Cons
  • Quickly access cash
  • Typically no credit check required
  • Might provide a short-term solution to a financial emergency
  • Sky-high APRs and short repayment periods
  • Small loan amounts
  • Fees can add up and trap you in debt

How to get a payday loan

  • Check payday loan laws in your state: Some states don’t allow payday loans at all, while those that do often have strict rules. Use this summary of payday lending statutes from the National Conference of State Legislatures to see what rights and protections you might have in your state.
  • Verify that a lender is licensed in your state: If your state allows payday loans, check with the office of either your state attorney general or your state banking regulator.
  • Only borrow what you’re sure you can repay: If you’re iffy about your ability to pay a loan back, look for other options, such as asking family members for a small loan.
  • Shop around: Don’t just borrow from whichever payday loan storefront is nearby — check with banks, credit unions and online lenders to see if they offer small-dollar loans.
  • Compare costs: Compare APRs as well as lender fees, and do the math to see what the loan might eventually cost you if you don’t pay it back in a week or two.
  • Select a payday lender: Depending on the lender you pick and your state of residence, you may be able to apply for a loan and receive instant loan approval online.
  • Carefully read your contract: Once you decide on a loan, check the terms carefully. Watch for potential late fees or other costs, as well as rollover terms.

FAQ: Payday loans

Can you get a payday loan with bad credit or no credit?

It’s possible to qualify for a payday loan with poor or no credit since most payday loan lenders don’t run a credit check. However, the caveat is that payday loans charge high-interest rates, and lenders expect the loan to be paid back quickly. If you can’t repay the loan on time, your credit might take a major hit and your debt could eventually be sent to collections.

If I don’t need a credit check, what information will a lender want to see?

To qualify for a loan, you’ll most likely need a form of identification, a stable paycheck and a bank account that’s in reasonably good standing.

Can I get payday loans online?

Yes, you can usually get a loan either online or at a payday storefront.

How do I get out of payday loan debt?

If you’re struggling to get out of payday loan debt, you may want to consider a debt consolidation loan. This is a type of personal loan that lets borrowers consolidate other forms of debt with a new loan, which will ideally come with a lower interest rate and a fixed monthly payment. To get the lowest interest rate on a debt consolidation loan, you’ll need strong credit. If you have fair credit, expect to pay more, though rates can still be lower than with a payday loan and repayment terms can help you avoid high monthly payments.

Alternatives to a payday loan

Pay cash

Cash is still the cheapest and fastest way to pay for emergency expenses. If you’ve already set aside money for unexpected needs, consider using these funds before applying for a loan. This way you can avoid the interest costs and fees that come with an emergency loan.

To quickly build an emergency fund, consider selling items you no longer use, taking on a side hustle or using your fund as a home for any bonus or tax refund you receive.

Payday alternative loan (PAL)

If you belong to a federally-insured credit union, see if they offer a payday alternative loan (PAL). There are two types — PAL I and PAL II — and they are both unsecured, small-dollar loans. PALs offer repayment terms up to 12 months and a maximum 28% APR, which is far lower than on payday loans.

PALs can be challenging to find, as not all federal credit unions offer them. With PAL I loans, new credit union members would need to wait a month before they can borrow funds. However, PAL II loans don’t have this requirement, and also come with a higher borrowing limit and longer repayment time. Depending on the credit union, both types of loans might require a credit check.

PAL I vs. PAL II loan terms
PAL I PAL II
Borrowing limit $1,000 $2,000
Repayment period 1 to 6 months 1 to 12 months
Application fee Up to $20 Up to $20
Maximum APR 28% 28%
Waiting period Must be a credit union member for at least one month No waiting period required

Credit card cash advance

If you have a credit card, you may be able to get a cash advance. The process for getting a cash advance is easy: You’ll simply use your card at the bank or ATM to withdraw money. Doing so can be expensive, however — cash advance APRs are much higher than purchase APRs, and it’s also likely your cash advance will come with a fee. In addition, unlike purchases made on a credit card, cash advances begin to accrue interest right away.

Alternatively, you could simply charge emergency purchases to your credit card. The average credit card APR among open accounts that accrue interest is 16.43%, according to LendingTree data from October 2020. Using your card could be far more affordable than taking out a payday loan.

401(k) loan

A 401(k) loan lets you borrow from your retirement savings. With this type of loan, you’re basically borrowing money from yourself, so it might be worth considering if you have bad credit and likely wouldn’t be able to access funds otherwise.

401(k) loans come with more flexible terms and lower interest rates than what you’ll find with a payday loan. The interest rate is the prime rate plus 1%, and you can borrow up to $50,000 or half the vested amount in your account (whichever is less). You’ll have up to five years to pay the loan back.

However, there are some notable drawbacks. First off, your loan service provider might not allow for this type of loan, and you’ll need to pay taxes on what you ultimately repay. You may also have to pay application and maintenance fees, and you’d miss out on earnings that would have otherwise helped fund your retirement. Lastly, if you lose or leave your job, you’ll have only 90 days to repay what you owe to avoid paying income tax on the borrowed amount.

 

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