Personal Loans vs. Payday Loans: What’s the Difference?

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personal loans and payday loans
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If you need cash in a pinch to pay a medical bill, fund an urgent home repair or keep food on the table while between jobs, you might consider taking out a loan. This can be a good way to get the money you need — and fast — but the type of loan you choose is important. The terms attached to the loan can have a significant impact on your finances, so before signing any papers, it’s important to know exactly what you’re getting into.

Here’s a look at the difference between personal loans and payday loans to help you make an informed decision.

Personal loan vs. payday loan

 Personal LoanPayday Loan

What is it?

An unsecured loan that typically comes with a fixed
interest rate and a term of one to five years

A loan obtained by paying a borrowing fee that usually needs to be repaid in two weeks

Typical interest rates*

Interest rates range from about 6% to 35%

Many states have laws limiting fees to $10 to $30 per $100 borrowed, but APRs can reach nearly 400%, according to the Consumer Financial Protection Bureau (CFPB)

Common eligibility requirements

Credit check, proof of income, bank account, identification

Proof of income, bank account, identification

Typical amount borrowed

$1,000 to $50,000

$500

*Loan and interest rate amounts vary by individual borrower and lender.

What are personal loans?

If you need money quickly, a personal loan could be the answer. Since this form of financing is unsecured, underwriting typically only takes a few days. And if you default, the lender cannot repossess your property. Most personal loans come with a fixed interest rate and a set payment schedule so that you always know exactly how much you owe each month.

Who should take out a personal loan?

Personal loans can be used for a variety of purposes, including debt consolidation, paying for a wedding, medical bills, car repairs or almost any other reason you need cash. But it’s important to use common sense since taking out a personal loan that doesn’t offer a long-term benefit — say, using a personal loan to buy a new wardrobe or pay for a vacation or lavish wedding — can set you back financially for years. Think of it this way: Making payments on a personal loan leaves less room in your budget to put money aside for the future or save for retirement.

If you’re trying to raise your credit score, a personal loan can also be a useful tool. Credit scoring systems consider installment debt preferable to revolving debt, such as credit cards. Your monthly payment activity will be reported to the three credit bureaus — Equifax, Experian and TransUnion — so making consistent, on-time payments will eventually boost your score.

How do personal loan rates and terms compare to other forms of borrowing?

Personal loans pose a greater risk to the lender than a loan that requires borrowers to provide a security deposit or collateral. So personal loans tend to come with higher interest rates than secured debt.

But your credit score is a factor in determining your interest rate, so if it’s high, you might be offered a low rate. You might also be charged an origination fee or other borrowing fees, so it’s always wise to shop around for the best personal loan offer.

Do note that personal loans typically come with lower interest rates than credit cards. Since most rates are fixed, they’re usually the better option when you need funding that you can’t pay off immediately.

Where can you get a personal loan?

Banks and credit unions offer personal loans, but don’t stop there. Cover all the bases by checking with online lenders, as many offer competitive rates and terms that can’t be beaten by traditional financial institutions. Comparison shopping is essential. One lender might offer better rates, but lower costs and fees at a different financial institution could make it a better choice.

You’ll likely be paying off your personal loan for one to five years, so take the time to find the right fit. If you go with the first offer you receive, you won’t know if you’re making the best choice for your unique situation.

The LendingTree online marketplace makes it easy to find the best personal loan for your needs. Complete a quick online form to connect with one of the largest lender networks in the country. This one-stop tool could allow you to receive offers from up to five lenders without impacting your credit score.



Compare Personal Loans

Note: LendingTree is a parent company of MagnifyMoney.

Personal loan pros

  • Unsecured personal loans require no collateral
  • Boost your credit score
  • Get the funds you need quickly
  • Good credit could score you a lower interest rate
  • Most are fixed-rate loans, making it easier to budget

Personal loan cons

  • Poor credit could cause your application to be denied
  • Approved borrowers with subprime credit might receive higher interest rates
  • Many come with origination or other borrowing fees
  • Interest rates are typically higher than secured loans
  • Payments could take away from other savings opportunities

What are payday loans?

As it sounds, a payday loan is typically a short-term, high-cost loan due on your next payday, according to the CFPB. Most payday loans are granted for sums of $500 or less, but they can vary in size. Many states have regulated the dollar amount of payday loans.

Most payday loans are based on the size of your paycheck. When you choose this type of financing, you either write the lender a postdated check for the full balance of the loan and the borrowing fee or authorize them to access the funds electronically from your bank account. In most cases, the loan will need to be repaid in two to four weeks, but if you still don’t have the money, most lenders will allow you to roll the loan over — which, if you’re not careful, can create a cycle of debt.

Who should take out a payday loan?

If you need money to tide you over until your next paycheck but your credit isn’t the best, you’ll likely be approved for a payday loan. Generally a quick and easy process, most payday lenders don’t run a credit check or otherwise dig into your financial history before granting the loan. The only things needed to get a payday loan are a bank account, steady income and a form of identification, making the barriers to approval notably low.

But just because payday loans are easy to get doesn’t mean they’re the right solution. Payday loans are considered a last resort. If you have bills to pay and nowhere else to get the money, payday lenders offer immediate access to cash, which makes them an attractive offer for borrowers with poor credit. But the high cost and short repayment period of this debt is a slippery slope. If you’re unable to make a payment, your debt could quickly balloon out of control.

How do payday loan rates and terms compare to other forms of borrowing?

The biggest drawback of payday loans is the costs associated with them. Fast and convenient financing comes at a high price that can add up very quickly. Both the fees and APR attached to a payday loan are notably higher than those charged for personal loans by traditional lenders.

Many states have laws in place limiting payday loan fees to a maximum of $10 to $30 for every $100 borrowed, according to the CFPB. A standard two-week payday loan with a $15 per $100 fee comes with an APR equivalent of nearly 400%. In comparison, the CFPB notes that APRs on credit cards typically range from about 12% to 30%.

Fees can add up fast during one payment cycle, but according to the CFPB, many borrowers ultimately roll over or refinance their loans. This adds a new round of charges to their total, making it even more difficult to catch up on payments.

In total, more than 4 in 5 payday loans are re-borrowed within a month, according to the CFPB. Most of the time, this occurs when payment for the loan is due or not too long afterward. Even worse, nearly 1 in 4 original payday loans are re-borrowed at least nine times, causing the borrower to pay more in fees than the actual loan balance.

The federal Military Lending Act offers special protections from payday loans to active-duty service members and their dependents, according to the CFPB. This includes a 36% cap on the Military Annual Percentage Rate and other restrictions on the fees that lenders can tack onto payday loans and other consumer loans.

Where can you get a payday loan?

Most payday loans are granted by check cashers, finance companies and other nonbank institutions. If permitted by your state’s laws, you might also be able to get a payday loan online.

It’s important to note that payday loans are not available in every state. Some states have outlawed this form of borrowing, and regulations in other states have caused payday lenders to decide not to do business there at all, according to the CFPB.

Payday loan pros

  • No credit check makes it easy to qualify
  • Upon approval, money is immediately distributed
  • Some lenders offer cash, prepaid debit cards or direct deposit
  • You might be able to roll the loan over if you can’t repay it immediately
  • Easy access to cash can ease the stress of financial woes

Payday loan cons

  • Loans are typically limited to $500 or less
  • Fees generally range from $10 to $30 for every $100 borrowed
  • APRs can reach nearly 400%
  • They’re not available in every state
  • Repeatedly rolling over payday loans can exceed the original loan balance

Which should you get?

If you need money right now, you’re probably ready to accept a loan from the first available source, but don’t act in haste. Take the time to weigh your options to make the best possible decision for you.

Get started by asking yourself these questions:

  • How much money do I need?
  • How quickly can I repay the loan?
  • Is my credit score attractive to lenders?

If you need a large amount of money — $1,000 to $50,000 — apply for a personal loan. Interest rates generally range from 5.99% to 35% and repayment terms are usually one to five years. This gives you the flexibility to negotiate a monthly payment that comfortably fits your budget. Even if your credit isn’t perfect, some lenders might be willing to work with you.

But if you have poor credit or otherwise can’t qualify for other loans, payday loans may be your only option. Before you borrow, be sure you can repay the loan at its due date, since APRs can reach almost 400%. The last thing you want is to have to roll your payday loan over, which could quickly cause the fees to exceed the original balance.

The bottom line

Being in desperate need of cash isn’t a good feeling. When you needed money yesterday, it’s easy to panic and go with the first available form of financing, but don’t make this mistake. Choosing the wrong type of loan for your situation can be detrimental to your finances for years to come.

Take the time to weigh the advantages and disadvantages of personal loans and payday loans, as applied to your unique circumstances. When you decide which option is best, comparison shop to make sure you get the best possible deal. Being savvy with your finances is a decision you’ll never regret.

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Laura Woods
Laura Woods |

Laura Woods is a writer at MagnifyMoney. You can email Laura here

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