What Is a Payday Loan?

A payday loan is a short-term loan that comes at a high cost. Payday loans are generally for amounts less than $500, although there are lenders that will extend higher amounts. Payday loans are due in full on your next pay day or when you receive a pension or Social Security check. The specific due date is set when you take out the loan and are typically two to four weeks. Depending on where you live, you can get a payday loan from a brick-and-mortar lender or online.

When you take out the loan, you usually write a post-dated check for the full amount of the loan, including any fees charged by the lender, or you can also authorize the lender to debit your bank account electronically. So if you don’t pay your loan back by the due date, the lender can (and will) withdraw the funds from your account.

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In this article

    How do payday loans work?

    In July 2020, Pew Charitable Trusts reported that nearly 12 million Americans rely on payday loans each year and Debt.org reports that people typically visit a brick-and-mortar location to apply for a payday loan. Your loan may be unsecured or the lender will require some form of collateral. The lender may even garnish your wages if you can’t pay back the loan in the agreed upon time period. Most lenders will do hard credit pull, so your credit score will take a hit. It looks at credit score and credit history among other things when granted a loan.

    Once you get your money (usually the same day), you typically have less than 30 days to pay back the loan in full, plus any finance charges. That’s markedly different from a traditional installment loan, where you pay for the debt over a few months or even years. Bad credit in the past doesn’t rule you out from a payday loan. Simply fill out an online application, which takes about 5 minutes, and get approved on the spot for $50 up to $1,000.

    You’ll need a government-issued ID or photo ID, a recent checking account statement, and proof of income, like a recent pay stub. Once approved for a loan, the cash is usually deposited into your bank account, or you’ll receive a check. Just remember to pay off your payday loan before the due date, or you’ll get slammed with more high-interest charges.

    What are the costs of a payday loan? 

    The Consumer Financial Protection Bureau (CFPB) explains that most payday loans charge a percentage of the dollar amount (per $100) borrowed. Fees vary from one lender to the next and might range from $10 to $30 for every $100 you borrow. A fee of $15 for $100 would equal an annual percentage rate of nearly 400%.

    So, if you borrowed $300, you might pay a fee of $60 just for taking out the loan. Most payday loans also come with a monthly fee of around 4%. If the loan was for a term of 30 days at an interest rate of 300%, you’d pay $372.00.

    The pros and cons of payday loans 

    There are benefits and disadvantages to payday loans. But if you’re in a bind, they can be a lifesaver. Just be sure to pay off the loan in full by the due date or pay high interest on the amount due.

    Pros of payday loansCons of payday loans
    Easy to qualifyMany online lendersBad credit is okVery high interest ratesTerms are short: 2 to 4 weeksIt’s easy to get trapped into a cycle of debtFees can be highLender has access to your bank account

    How to repay a payday loan 

    The Consumer Financial Protection Bureau (CFPB) claims that more than 80% of borrowers who take out a payday loan roll it over at least once. That means, if you can’t pay off your loan on the due date, many lenders will let you renew your loan. You will have to pay the same fees and interest that the lender would charge if you took out a new loan. In fact, by rolling over your payday loan, you are essentially doubling its cost. Most states, however, limit how many times you can renew a payday loan.

    Some lenders let you make extra payments on your payday loan. So if the loan’s due date is in 4 weeks, but you’re paid every two weeks, you can make an additional payment when you’re paid in two weeks, making the final payment a little less. The money can be electronically withdrawn from your bank account, you can visit the lender and make a payment or mail in a check.

    Other ways to pay off your loan is to borrow from your family, get a second job, sell unwanted items you have laying around the house, or consolidate all of your debt (including your payday loan) into one loan with a lower interest rate and longer terms.

    How payday loans affect your credit 

    When applying for a payday loan, a lender will check your credit report and history. Although not the only requirements for getting a loan, lenders will also often look at employment history, salary and more. When you apply for a payday loan, your credit score will take a temporary hit. But if you make all of your payments on time, your credit score can actually improve over time.

    Generally speaking, a payday loan will stay on your credit report for up to six years if you make all of your payments on time and pay the loan in full. However, if you don’t make your payments or default on the loan, your credit score will suffer. A bad credit score makes it much more difficult to get a loan, a credit card, rent an apartment, etc., in the future.

    Common reasons people take out payday loans 

    There are plenty of reasons why you would apply for a payday loan. Although most financial experts agree payday loans are not the best option because of such outrageous interest rates and fees, they do come in handy at certain times:

    • You need to pay for an unplanned expense and your credit cards are maxed out
    • You have bad credit and can’t get a traditional loan
    • You have no emergency fund, like a savings account, to rely on in a crisis
    • You have unplanned medical bills
    • You need short-term cash, fast

    [ Read: The Best Debt Consolidation Loans ]

    7 alternatives to payday loans 

    There are several alternatives to payday loans that may offer much better rates and terms. However, when you borrow money for any reason, paying back the money you owe is imperative.

    1. Bad credit loans: When you have bad credit, it can be challenging to get a traditional loan from a bank or credit union. However, there are many online lenders that cater to people with bad credit. You’ll likely be charged a higher interest rate than borrowers with good credit, but in an emergency, it’s nice to know there are alternatives to payday loans.
    2. Credit cards: Many credit cards come with high interest, although not as high as with a payday loan. If you pay off your balance in full by the due date on your statement, you won’t be charged any interest. 
    3. Personal loan: A personal loan will generally have lower interest rates than payday loans, but for people with bad credit, it may be difficult to qualify. Like a payday loan, you get a lump sum to spend on almost anything, but you’ll be charged interest and have a set payoff date.
    4. Credit card advance: When you apply for a crest card advance, you will pay a percentage as a fee, usually about 5%. But interest starts to accrue immediately, so the key is to pay off your balance as soon as possible. 
    5. Payday alternative loans: Many credit unions offer payday alternative loans, which offer better rates and terms than regular payday loans. Loans amounts usually range from $200 to $1,000 with terms from six months to one year. You may be charged an application fee when applying, but not all credit unions charge this fee. 
    6. Advance on your paycheck: One alternative to a payday loan that typically comes with no interest charges is an advance on your paycheck. Some employers will offer an employee an advance if they can prove an emergency need.
    7. 401(k) loan: If you’re truly stuck for cash, you may want to consider borrowing from your retirement account. You won’t pay any taxes on the amount you borrow, so long as you follow all the rules set out by the IRS. There is usually no credit check, and as long as you pay it back in about one year’s time, there will be little effect on your account.

    Check Your Personal Loan Rates

    Answer a few questions to see which personal loans you pre-qualify for. It’s quick and easy, and it will not impact your credit score.

    Get Started

    with our trusted partners at Bankrate.com

    Payday loan FAQs

    Payday loans are usually for less than $500, but some lenders will lend up to $1,000. According to Check Into Cash, amounts vary from one state to the next. 

    Most financial experts, banks, and credit unions agree that payday loans are bad news. That’s because they are considered “predatory lenders” based on the very high-interest rates and short payback periods. It’s also expected that poor people are targeted because they may have difficulty paying off the loan on time before interest accrues. 

    Unless the issuer of the payday loan can prove you intended to defraud them and had no intention of paying the debt, it could result in a criminal charge. But this is unlikely as most payday lenders have access to your bank account and can simply withdraw the money you owe or garnish your wages. 

    However, if the lender issues a court judgment against you and you ignore a court order to appear, a judge may issue a warrant for your arrest.

    [Read: Changes to debt collector rules and how they affect you.]

    Yes. Although bad credit in the past doesn’t rule you out from a payday loan. Most lenders will also look at employment history and salary when determining to offer you a payday loan. 

    We welcome your feedback on this article. Contact us at inquiries@thesimpledollar.com with comments or questions.

    Kathryn Pomroy

    Contributing Writer

    Kathryn Pomroy is a journalist and freelance writer. She has written for dozens of major publications, small businesses and many well-known companies. As a writer, she turns the details of an assignment into something that is compelling, digestible and useful. Kathryn holds a BA in Journalism and drinks black, super bold coffee while eating peanut butter and honey toast. Yum.

    Reviewed by

    • Courtney Mihocik
      Courtney Mihocik
      Loans Editor

      Courtney Mihocik is an editor at The Simple Dollar who specializes in personal loans, student loans, auto loans, and debt consolidation loans. She is a former writer and contributing editor to Interest.com, PersonalLoans.org, and elsewhere.