What are payday loans?

What is a payday loan? 

A payday loan is a short-term loan for a small amount of money intended to help workers get to their next payday. Payday lenders charge very high-interest levels in exchange for offering money quickly with few checks. Fees for failing to repay are often punishing, too. For these reasons, they remain a controversial product, and many states have banned them.  

How do they work? 

Though the term “payday loan” covers a range of short-term borrowing products, they typically involve an amount of $500 or helping you out before next month’s paycheck. Usually, you'll be given up to a month to pay back the money you borrowed, plus interest.  

They are designed for people with bad or non-existent credit and have few other options for raising cash in the short term or due to an emergency. As such, lenders provide the money quickly without properly checking whether you can repay and do not expect collateral. These factors mean lenders can charge very high-interest rates and challenging fees for failing to repay. Additional costs can often be unclear or hidden, too. This leaves you at risk of financially overextending yourself. 

There is typically an option for loans to be rolled over with additional fees. This is another reason many payday loan users end up as repeat customers. 

How do I get a payday loan? 

The ease of getting a payday loan is a key part of their appeal. You must be at least 18 years old, but lenders often require only proof of identification, proof of income, and a bank account for applicants to qualify for a loan. Some lenders also require your Social Security number, and there are special protections for active-duty servicemembers and their dependents through the federal Military Lending Act (MLA). 

Lenders typically do not conduct a full credit check or consider your ability to repay the loan. They also do not require any collateral or borrow against a valuable item. 

Payday lenders are often small credit merchants with physical stores offering fast on-site credit applications and approval. Payday loans are also available through online lenders. In a store, you can expect to receive the cash there and then or on the same day for the online applications. 

Once a loan is approved, the lender will require a signed check or permission to withdraw money from your bank account electronically.  

Depending on the state you live in, payday loans may be restricted or completely banned. 

Does my state restrict payday loans? 

Payday loans are controversial, and there have been moves to introduce greater regulation for lenders. Some states have passed laws to ban payday loans or set restrictions on lending to protect their citizens from predatory payday lending. As of 2023, 16 states and the District of Columbia have restricted or banned payday loans. 

As of May 2023, payday loans are prohibited in: 

As of May 2023, restrictions apply in: 

How much do payday loans cost? 

Though several states have passed laws to set a maximum amount of fees for payday loans, they are much more expensive than standard personal loans or credit cards. In addition, they appeal to people with poor credit because lenders do not properly check their ability to repay the loan. But, they charge very high-interest rates and additional fees for taking on that risk.  

If you decide to get a payday loan, shopping around and comparing the interest rate and charges before you borrow is important. According to the Consumer Financial Protection Bureau, loan fees typically range from $10 to $30 for every $100 borrowed. This can equate to an annual percentage rate (APR) as high as 780 percent, with the average payday loan around 400 percent. By comparison, APRs on credit cards range from about 12 percent to about 30 percent.   

Understanding what will happen if you can't pay the amount due on time is also important. Further fees are typically applied for missing the repayment, which can lead to a cycle of debt. It is common for borrowers to end up owing more in interest than the original loan amount. 

What are the alternatives to payday loans? 

Payday loans are risky, often leading to consumers becoming overextended. Even for small amounts of money to cover an emergency, payday loans can often leave you worse off than before you borrowed. If you’re considering a payday loan, there are many safer personal loan alternatives to explore first. These can all save you money and help you avoid getting trapped in debt.

Payday loans are a fast and easy but expensive way to solve short-term financial emergencies. Though they serve a purpose for people across many states, there may be other ways for you to sort out your short-term money problem. Unless you’re confident you’ll be able to repay in full before applying, it’s always wise to consider the alternatives before you borrow from a payday lender. 

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