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Payday Loans vs Personal Loans

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Payday loans and personal loans may sound alike, but they’re hardly the same thing. For starters, a payday loan operates on a much shorter time frame — it is typically due on your next payday, according to the Consumer Financial Protection Bureau — while a personal loan usually carries repayment terms of two to five years. There are other characteristics that distinguish these two types of loans, so if you’re considering one or the other, be sure to keep reading. In this article, we’ll break down the advantages of a payday loan versus a personal loan and how each may affect your credit.

Payday Loans

A payday loan is a short-term, high-cost loan that gives cash-strapped consumers the money they need until their next paycheck. Payday loans are typically made for small amounts, so they aren’t ideal for covering major expenses.

When you apply for a payday loan, the lenders will ask about your job status and sources of income. You may also be required to give them access to your checking account or submit a post-dated check to cover the amount of the loan, plus a finance fee, once your paycheck is in your account. When you apply for a payday loan, a lender will not typically check your credit, so a payday loan will generally not impact your credit score.

If you don’t pay off the loan in its entirety, you’ll be hit with additional fees and finance charges. According to the CFPB, the cost of a payday loan, or its finance charge, may range from $10 to $30 for every $100 you borrow. “A typical two-week payday loan with a $15 per $100 fee equates to an annual percentage rate (APR) of almost 400%,” the agency notes.

A payday loan may sound like a convenient way to get cash for consumers who don’t have savings shored up or credit cards. But it can be a very costly way to borrow. Because of the high fees and finance charges associated with payday loans, there’s a risk of falling into a long cycle of debt. If you feel you are short on money or won’t be able to cover the cost of the loan before your next payday, a payday loan may not be the best option for you.

Personal Loans

A short-term personal loan generally has a fixed interest rate and fixed repayment period. However, unlike payday loans, lenders make an inquiry into your credit when you apply for a personal loan, and each loan inquiry can lower your credit score a little bit. (Want to know where your finances stand? You can view two of your credit scores for free on Credit.com. Checking your credit will not affect your report or scores in any way.)

If your loan is unsecured, or not backed by collateral like a home equity line of credit, you may find yourself stuck with a high-interest loan. That’s because lenders hike up their interest rates in order to protect themselves against borrowers who can’t make their payments on time. Another downside to personal loans is that if your credit isn’t up to snuff, you may be saddled with a high-interest rate. On the plus side, it can be easy to shop for a personal loan, and they usually don’t require that much documentation.

Credit unions can be good places to shop for a personal loan since they may have more lenient lending requirements and may be more willing to offer a short-term personal loan if you have less-than-stellar credit. Local banks and credit card companies can also be great sources for personal loans, especially if you’ve done business with them before and proven yourself to be a reliable customer.

Before shopping for a personal loan, it’s a good idea to check your credit score. Once you know your credit score, you can research a lender’s minimum credit requirements to see if your score will qualify you for a loan. Rather than apply for a number of personal loans, which would lower your credit score, we recommend applying for loans from one or two issuers that you know and trust.

Many online lenders offer personal loans to people who have less-than-perfect credit, but not all of them can be trusted. Some websites are nothing more than advance fee loan scams, which can put you in a cycle of debt. The Federal Trade Commission lists red flags to watch out for, including if a lender demands an upfront fee and doesn’t clearly disclose and prominently display what fees apply, or if a lender pressures you to wire money. Be sure to do your research, and don’t be afraid to take your business elsewhere if you don’t feel comfortable.


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