If it's nearing the end of the month and you've got some pressing expenses, it can be tempting to take out a payday loan to tide you over until there’s money in your account. However, before you do so, make sure you know what you’re getting into. If you're not careful, payday loans can leave you with mounting debt that becomes increasingly hard to clear.
Payday loans – also known as payday lending – are short-term, high-cost loans generally lending from £50 to £1,000. They’re marketed as an easy way to get hold of funds in a hurry. You complete a relatively simple application process and will often receive your money the same day.
New regulations are on the side of the consumer
Historically, payday loans had a reputation for catapulting potentially vulnerable consumers into overwhelming debt. Some lenders were charging up to 4,000% APR. As a result, in 2015 the Financial Conduct Authority (FCA) regulated the practice, ensuring lenders operate within a set framework.
The maximum daily interest and fees are now capped at 0.8% of the amount borrowed, and default fees (charged when you miss a repayment) can’t exceed £15. Overall, no borrower will ever pay back more than twice what they borrowed. However, this can still be substantially more than you would pay if you dipped into a planned (agreed) overdraft or used a credit card.
Payday loans are falling in popularity
Although the number of people approved for payday loans has dropped by 42% over the last few years, there are still over three quarters of a million borrowers in this market, according to the FCA. It’s always better to set out a realistic household budget and manage your finances in advance than rely on payday loans to get you through to the end of the month.
Plus, payday loans could affect your credit rating and other lenders may view it negatively, including those providing mortgages.
The alternatives to payday loans
Payday loans should not be your first choice for borrowing money. These are the alternatives.
A credit card is one option. The APR is likely to be lower than the loan, and making sure you meet your repayments on time could also help build your credit history. Or why not speak to your financial provider about a personal loan or increasing your overdraft.
You could also consider talking to family members about a loan and, if they are able to help out, agree on an achievable repayment schedule.
Alternatively, you could look into joining a credit union. You’ll need to meet the eligibility criteria (each one is different) but, once a member, they can provide good rates on loans. By law, these are capped at 42.6% APR: often much lower than a payday loan. However, some credit unions won’t offer loans to new members, so make sure you do your research first.
Payday loans may look like an attractive way to tide you over until the end of the month, but they should be approached with caution and avoided where possible. Despite being regulated, they can still leave you with mounting debt due to fees and compound interest. You’re better placed to plan and stick to a strict household budget, try to put aside some money for a rainy day, and look at alternative options for borrowing money should you really need it.