The average APR for a payday loan is 396%. And if that isn’t already alarming enough, the outlook for those who take out payday loans only gets bleaker from there.
The cost of taking out a payday loan of $300 for 14 days is $63. In comparison, a credit card cash advance of the same amount would cost borrowers only $7.42. The multi-billion-dollar payday loan industry preys on those who need quick cash and traps them in a cycle of taking out new loans to pay back old loans.
This article will unpack everything you need to know about payday loans: what they are, how they work, why you should avoid them, and alternatives to payday loans for when you need some quick cash.
Payday loans are short-term loans for small amounts of cash. They get their name from the timeframe in which they are paid back. Typically, payday loans are cash money loans to hold borrowers over until they receive their next paycheck.
You can secure a payday loan by providing your address, proof of income, and bank account information. Payday loans bypass the traditional credit check required for more traditional loans, making them a popular option for those with a low credit score.
In lieu of checking your credit score, lenders secure the loan by setting up a pre-authorized repayment from your bank account. You must either give them access to withdraw money from your account or write a postdated cheque for the loan amount plus fees.
Fees for payday loans are typically $10 to $30 for every $100 borrowed, with $15 per $100 being the most common amount. This means that a $300 loan paid back on time would cost you $345.
Despite the high-interest charges and short repayment period, nearly 2 million Canadians use payday loans each year. Some of these loans are used to cover anything from recurring expenses like utilities, credit card bills, food, rent, and mortgage payments. Other payday loans are used for unexpected expenses, like car repairs or medical bills.
Almost half of Canadians are living paycheque to paycheque and need immediate cash to cover basic living expenses. And 35% feel overwhelmed by their level of debt. When emergencies come up, they may not have money to spare, making payday advances an appealing option.
Additionally, unlike traditional loans, payday loans don’t require a credit check. This makes them available to those who wouldn’t qualify for a traditional loan because of poor or spotty credit.
At first glance, payday loans may not seem like a horrible idea. $15 per $100 is a 15% APR, right? That’s about what you would pay on a credit card.
The problem is that the 15% charge is biweekly (every two weeks), whereas typical APRs are calculated on an annual basis. Should you be unable to pay back the loan when it is due, you will have to pay another 15% fee. And every two weeks, the interest compounds, leading to an average APR of 396% for payday loans.
Plus since payday loans have access to your bank account, you may be hit with other bank fees. When you don’t have enough money in your account and the lender withdraws the funds, you will be charged an overdraft fee of around $34.
And if the lender’s attempt to withdraw money for loan repayment is rejected completely, your bank may charge a fee for insufficient funds. This fee is usually between $27 and $35.
The lender will likely also have a fee from their bank for trying to deposit a bad check, which they will then pass on to you. And if they continue to attempt to withdraw the money, the bank fees will continue to add up.
Clearly, payday loans cost much more in the long run than meets the eye. Plus, those who take out payday loans to cover emergency expenses are unlikely to be able to repay them since their paycheck will likely go to their regular expenses.
Imagine someone had an unexpected car repair and needed to take out a payday loan for $300. They are charged $15 per $100 borrowed, meaning the fee for the loan is $45.
Unfortunately, when the loan repayment comes around they also have to pay for rent and groceries. They end up needing to postpone repayment for another two weeks. Should they repay the loan in that timeframe, they would have paid $90 for borrowing $300 for four weeks.
And it only gets bleaker from there. Payday loan lenders are notoriously relentless when it comes to collecting loan repayments. They'll often contact friends and family members of the loan recipient to get in touch with them.
As a result, many people who take out a payday loan will end up taking out more loans to pay off the initial one. This can lead to a cycle of debt that spirals out of control.
Imagine this same individual took out a small personal loan instead. Their APR would depend on their credit score. At a bank like Motus Bank, APRs start as low as 5.15%.
This means that if they took a year to pay back a $300 loan, they would end up paying $315.45. That is significantly less than a payday loan paid back within four weeks.
Of course, most personal loans aren’t available in such small amounts. But it is still worth noting how much less one would pay on a personal loan compared to a payday loan.
The attractive part of payday loans is that they are easy to get, even for those with bad credit. Luckily, there are many other options available to individuals who need some quick cash. Below we will outline four of the best alternatives we’ve found to payday loans
LoanConnect is a great resource for those looking for some quick cash. It is essentially a search engine for personal loans and can help you compare multiple loan options to find the one that is best for you.
Using the LoanConnect platform, you can find a loan between $500 and $50,000 that fits your needs. Interest rates start at 4.6%, making these small loans a much better option than payday loans.
Typically people only consider bank loans for large purchases, such as a mortgage. But you can actually get a personal loan for short-term cash from a bank or credit union. You can use personal loans for any reason, and most of them don’t require collateral.
To qualify for a personal loan, lenders will look at your credit score, payment history, and income to determine whether you are eligible.
There are some personal loans available for those with poor credit. And even with a low credit score, the average APR for a personal loan ranges from 6% to 36%, which is much better than the 400% APR on payday loans.
LendingMate is another great alternative to payday loans. The online lender allows you to borrow up to $10,000. The repayment period is much longer than that of a payday loan, typically between 12 and 60 months.
Plus, LendingMate offers loans to those with bad credit, and the maximum APR is 43%. And once approved, you can get the loan within 24 hours.
If you have a credit card, you can also take a cash advance out. Instead of paying for goods and services, you can “buy” cash with your credit card.
Most credit cards cap the cash advance at a few hundred dollars. Your credit card issuer will charge a fee for taking out cash. Some have a flat fee of $5 or $10, while others charge a percentage of what you take out.
You may also have to pay ATM or bank fees, and the interest rate will likely be higher than your typical credit card rate. However, they are still better than predatory payday loans, and in a pinch, a cash advancement can be a lifesaver.
The best way to avoid payday loans is to have an overall healthier financial situation. Of course, this isn't always possible right away, but to avoid payday loans in the future consider tightening up your budget.
Cut out unnecessary expenses, and set money aside in an emergency fund. This way, when the unexpected occurs you will be prepared and won't have to resort to payday loans.
Payday loans are always a bad idea. Between their 400% APR and short repayment period, they can trap you in a cycle of debt that quickly spirals out of control.
Luckily, there are alternatives for when you need some quick cash to get by. If you are looking for money loans to pay for the unexpected, there are other options that are much less predatory. Use our personal loan comparison guide to compare your Canadian loan options and avoid payday loans.