The Pachyy Editorial Team comprises a diverse and experienced team of writers, researchers and subject matter experts whose aim is to provide you with useful insights, guidance and commentary on all matters related to your personal finances.
Understanding the differences between payday loans and personal loans is important when considering different types of debt. It may seem irrelevant how money was borrowed if you owe $500 at the end of the month, but the type of debt you have actually impacts the entire repayment process.
Falling into this dangerous trap can be detrimental since borrowers can have completely different experiences repaying the same amount of money based on factors like loan term and interest rate.
So, what are the key differences between payday loans and personal loans? In this guide, we outline these differences along with the advantages and disadvantages of each type of loan.
|Payday Loans||Personal Loans|
|Financial charge per $100 borrowed||Application fee and loan origination fee|
|High interest, potentially exceeding 400% APR||Interest usually ranges from 4% to 36% APR|
|Not reported to credit bureaus (unless you are unable to pay)||Reported to credit bureaus|
|Repaid within 2 weeks to a month||Reported for 2 to 7 years|
|Usually limited to borrowing $500 or less||Possible borrowing range of $1,000 to $100,000|
|Issued by payday loan companies||Issued by credit unions, banks, and online lenders|
Understanding Payday Loans
A payday loan is a short-term loan with a repayment period that is much shorter than other types of loans. While these loans have higher interest rates compared to others, they usually involve borrowing smaller amounts of money. Typically, the borrower is expected to repay the loan, along with interest, in a single lump sum rather than making monthly payments over an extended period.
Payday loans are known for their convenience, as they are easier to obtain than other loan options. They are often accessible even to individuals with bad credit or a poor credit history, with some lenders offering no credit check loans. These loans are designed specifically for those who have limited access to traditional loan products like personal loans or credit cards due to their credit history.
It’s important to note that most payday loans have a maximum borrowing limit, usually around $500 or less. Additionally, these loans come with significant fees. According to the Consumer Financial Protection Bureau (CFPB), the average APR for payday loans is 400%. Furthermore, payday loans are unsecured, meaning they do not require any collateral or assets for approval.
However, payday loans have often faced criticism for creating a cycle of debt that can be difficult to break free from. Many borrowers find it challenging to repay the loan before the due date, leading them to roll over the loan and accumulate additional fees and interest in a new loan with its own set of fees.
It’s worth noting that payday loan activity is not reported to major credit bureaus. This means that even if a borrower successfully repays their loan on time, it will not positively impact their credit score.
If you’d like to learn more about payday loan costs and fees, you can visit this link provided by the Consumer Financial Protection Bureau (CFPB).
Understanding Personal Loans
A personal loan is a type of loan that you can obtain from a bank, credit union, or online lender. Unlike payday loans, personal loans do not require any collateral to secure the loan.
Unlike payday loans, personal loans have longer repayment terms, typically ranging from two to seven years. Personal loans are commonly used for things like home mortgages, car loans, cosmetic surgery, or fertility treatment, rather than for short-term financial emergencies.
When it comes to borrowing capacity, personal loans generally offer a higher amount compared to payday loans, usually between $1,000 and $50,000. Additionally, personal loans come with lower interest rates, typically ranging from 4% to 36%, as opposed to the extremely high rates charged by payday loans (around 400%).
Similar to payday loans, the interest rate you will be charged on a personal loan depends on factors such as your credit score, debt-to-income ratio, and other considerations. However, obtaining a personal loan is more challenging than getting a payday loan due to the stricter requirements. Personal loans require a credit check, a good credit score, and have a longer application process compared to payday loans.
What are the Differences Between Payday Loans and Personal Loans?
When it comes to payday loans and personal loans, the terms and conditions are what set them apart. Payday loans are designed to be short-term loans that are typically due for repayment within a month, while personal loans generally have longer repayment periods of at least two years.
In terms of interest rates, personal loans have a significant advantage over payday loans. They usually come with lower interest rates, making them a better option for handling emergencies or consolidating debts.
When it comes to loan amounts, payday loans have a smaller maximum limit of around $500 or even less. On the other hand, some personal loan lenders allow you to borrow up to $100,000.
Getting a payday loan is generally easier compared to obtaining a personal loan. Payday loans can be accessed online, and you can receive the funds within an hour. In contrast, personal loans may require more paperwork and take several days to process.
Another difference to note is that personal loans are reported on your credit report, which can positively impact your credit score if you make timely payments. Payday loans, however, are not typically reported to major credit bureaus, so any punctual payments you make will not reflect on your credit report.
Both types of loans are unsecured, meaning they don’t require any collateral. This also means that if you default on either loan, the lender will not have any assets to seize.
Which Loan Option is Right for You: Payday Loan or Personal Loan?
When considering whether to take out a payday loan or a personal loan, it’s important to keep in mind that personal loans generally have lower interest rates, making them a more affordable choice. However, it’s important to note that qualifying for a personal loan can be more challenging.
If you find yourself in a situation where you have bad credit but need a small amount of money quickly, and you are confident in your ability to repay the loan on time, a payday loan may be a more convenient and accessible option for you.