Payday Loans vs. Personal Loans: What's The Difference?

Both payday loans and personal loans are designed to help people with their current financial goals. But they were created for different groups of borrowers. A payday loan is a short-term debt with a high interest rate. A personal loan is a long-term option that can help you with almost any personal need. But these are not the only differences between them. Here's a comparison that will help you navigate.

 

What Are Payday Loans?

 

A payday loan is a type of short-term, high-cost debt that people use to cover their small financial emergencies. Payday loans are limited in terms of amounts and repayment periods. The money you owe must be repaid by your next paycheck. You can also use an alternative regular income to pay the money back. For example, Social Security benefits, alimony, pensions, or disability benefits are also acceptable sources of income.

 

Payday loans are known for their relaxed eligibility criteria. This makes them a popular option for people with bad or no credit. More than that, they don't involve hard credit checks, so they don't affect a borrower's credit score.

 

The flip side of the coin is that their interest rates are usually extremely high. An APR on a payday loan may be over 400%. Limited loan terms and amounts are the only factors that help payday loans stay relatively affordable.

 

How Do Payday Loans Work?

 

Payday loans are quite easy and convenient to get. After you decide on a payday lender, you need to complete an application procedure. Most lenders allow borrowers to apply online, but some may still require an in-store application. In both cases, you fill out a simple form and specify some basic personal and financial details.

 

After you submit a form, a lender reviews your application info to find out whether you're eligible. The verification process typically comes with a soft credit check. This check is made without the involvement of credit bureaus. Thus, it doesn't affect your credit score. Then, a payday lender makes a loan decision based on the result of the soft inquiry. The whole process typically takes several minutes.

 

If you're approved, you need to read and sign a loan agreement. If you apply online, a lender will send you a loan contract via email. After you complete this step, a lender gives money to you. Most lenders transfer the funds directly to borrowers' bank accounts. Funding terms are typically short. Most borrowers get their loans as soon as the next business day.

 

The repayment is usually automatic. A lender may ask you to provide a post-dated check or provide access to your bank account to withdraw money electronically. The repayment is made in one lump sum.

 

Is a Payday Loan Secured or Unsecured?

 

A payday loan is an unsecured debt. You can borrow money without providing any security deposit or other repayment guarantee. Although it carries less risk to borrowers, it also results in a higher interest rate. Additionally, payday lenders often check a borrower's ability to repay the money.

 

What Are Personal Loans?

 

A personal loan is a long-term financial solution with an installment structure. This means that you get a lump-sum deposit into your bank account and repay the money back in fixed monthly payments. Thanks to this, personal loans allow customers to get higher amounts. They also have reasonable interest rates that range between 4.99% and 35.99%.

 

Most personal loans are unsecured loans. At the same time, they have stricter requirements. As they are offered by traditional lenders, such as banks and credit unions, they always come with hard credit inquiries. Lenders check your credit score and use it as one of the major approval factors. Additionally, each credit check can drop your credit rating by a few points.

 

How Do Personal Loans Work?

 

Personal loans have a process similar to any other financial option. First, you need to find an appropriate lender with suitable loan terms and check out its requirements to make sure you meet them. Then, you gather all the required documents and visit a branch to apply.

 

After filling out a loan request form, the lender checks your application to ensure you're eligible. This stage also includes a credit history check through major credit bureaus. The whole verification process may take several days.

 

If the lender approves you, you will be notified via email or phone. Then, you need to sign a loan agreement to accept your personal loan terms and get the funds. Typically, the money will be deposited into your active checking account. It may also take several days before you get access to your loan amount.

 

The repayment is made in fixed installments. You need to pay each month on the agreed-upon date within the whole loan lifetime. Each payment, both on time and late, will be reported to credit bureaus. Thus, you can either improve your credit score by being responsible or drop it if you miss payments.

 

A Payday Loan vs. Personal Loan

 

Both personal loans and payday loans can be used for various personal needs and don't require collateral. However, that's where their similarities end. We've contacted an expert, Latoria Williams, to learn more about the differences between payday loans and personal loans.

 

"Both of these options can serve as emergency loans. Everything depends on the loan amount you need and the terms you find suitable. Traditional personal loans range from $1,000 to $100,000, and you can repay the funds in fixed payments within up to 60 months. 

 

An average loan till payday is a short-term loan. Your repayment terms will be limited, ranging between 14 and 31 days. Plus, the amount you can get doesn't exceed $1,000. However, same-day payday loans offered by 1F Cash Advance or similar companies allow you to get emergency cash immediately due to an online application process and fast funding times. Additionally, they suit borrowers with bad credit, while traditional loan lenders always have minimum credit score requirements."

 

Let's summarize the major differences based on our expert's data. 

 

Maximum Loan Amounts

 

A payday loan is a small loan. Commonly, you won't be able to borrow more than $1,000. Some states have capped payday loans at $300 or $500, so they can only be used to bridge the gap between paychecks or cover some small emergencies.

 

A personal loan comes with an amount of up to $50,000, with some lenders offering up to $100,000 personal loans. Thus, you can use them for various life projects, from home improvement to vacation financing.

 

Interest Rates

 

Payday loans come with extremely high interest rates and loan fees. You can be asked to pay an extra $10 to $30 per each $100 borrowed. This way, an annual percentage rate can be from 260% to almost 800% for a two-week loan. On average, a 14-day payday loan has an APR of 391%.

 

According to the Bankrate study, the average interest rate on a personal loan is 10.82%. Typically, payday loan rates range between 4.99% and 35.99%. Thus, they are much cheaper compared to payday loans.

 

Repayment Terms

 

A payday loan must be repaid all at once after you receive your next paycheck or regular benefits. Thus, the repayment period is usually from 2 to 4 weeks.

 

Personal loan terms are longer. You can repay a loan in 12 to 60 months. Thus, you can influence your personal loan monthly payments by choosing longer or shorter repayment terms.

 

Eligibility Requirements

 

Payday loan companies usually have lenient eligibility criteria. Being an adult US resident and having a steady income is typically enough.

 

Personal loans require a borrower to have good credit and make hard credit report checks. Additionally, income requirements will be higher due to higher loan amounts. Plus, traditional lenders may need more documentation in the application stage.

 

Application Process

 

A payday loan process usually takes place online. You can apply within a few minutes from anywhere. In most cases, there's no faxing or extensive paperwork. Loan decisions are typically made within an hour.

 

Traditional lenders usually require a borrower to visit a branch. Thus, the process takes more time and requires you to provide a set of documents. Additionally, you may wait for a loan decision for several days.

 

Funding Times

 

Payday loans are extremely fast. You can get the money within one business day, often on the same day you apply. A personal loan is not that fast. It may take you several days or weeks to get the needed amount.

 

The Ability to Build Credit

 

Payday lenders don't report your loan payments to major credit bureaus, while personal loan lenders allow you to build credit by sending your credit account activity to them.

 

How Do Payday Loans Differ from Other Types of Loans?

 

Payday loans vs. Credit card cash advances

 

To get a credit card cash advance, you don't need to apply for it. You just need to have a valid credit card that allows you to withdraw funds from your balance within set limits. But keep in mind that this can be an expensive option.

 

Payday loans vs. Installment loans

 

Installment loans are alternatives to personal loans for people with bad credit. However, they have higher interest rates. With an installment loan, you can get up to $5,000 for up to 24 months.

 

Payday loans vs. Payday alternative loans

 

A payday alternative loan is an option offered by some credit unions. It usually has longer terms and lower interest rates. At the same time, it comes with a hard credit check and requires you to be a member of a certain credit union.

 

Bottom Line – Which Type of Loan Is Right for Me?

 

It's always up to you! Such a financial decision depends on your current financial goals, credit background, and financial situation. Choose a personal loan if you have good credit and are looking for a long-term solution. In its turn, a payday loan can be a suitable option for people with bad credit and those who need a small amount urgently. Just do your research before going into debt, and be aware of the pros and cons of each option.