If you’ve ever seen those ads on TV offering ‘quick and easy cash to get you through until payday’, then you’ve probably already thought to yourself, “what’s the catch?”.
Lenders that offer these types of small amount loans are known as payday lenders and they allow people to borrow up to $2,000 in as little as an hour, to be paid back over a term of between 16 days and one year.
If that sounds too good to be true, it’s because taking out short-term loans with payday lenders does come with a few catches that you really need to know about beforehand.
What is a Payday Loan?
A payday loan is a short-term loan for small amounts of money, that generally needs to be repaid quickly – usually up to $2,000 and paid back by your next payday, hence the name.
Every payday lender is slightly different in what they offer, but these companies are basically offering a quick loan based on some form of regular income – usually your job, but it can even be your Centrelink benefits.
The borrower will generally need to provide evidence of regular income over the last three months as well as other things like employment details or a copy of their Centrelink statement.
When a loan application is approved, the money will generally be deposited into your account within an hour or so and the loan amount plus fees will be due on your next payday.
How Much Do Payday Loans Cost?
Not surprisingly, payday loans do come at a significant cost to the borrower. There are a few reasons for this, but one of the main ones is that the companies which offer the loans are giving them to people who generally don’t have good credit or are on low incomes.
In their eyes, they are taking a risk and therefore need to be compensated accordingly. Many of the applicants would be rejected by other lenders and as such, they do charge higher fees.
There are limits on most payday loan fees, as follows:
- A loan establishment fee up to a maximum of 20% of the amount borrowed;
- A 4% monthly account keeping fee;
- Dishonour or missed payment fee;
- A default fee of no greater than double the amount you borrowed;
- A government fee to cover any government duties; and
- Enforcement expenses if the lender needs to recover the money borrowed.
The first thing you’ll probably notice is that there is no interest charged. That’s because payday lenders are not able to charge interest on payday loans. However, the fees they charge more than compensate them for that fact.
Will a Payday Loan Impact My Ability to Obtain Credit?
In recent years, most lenders have really tightened up on borrowers when looking at their capacity to repay any potential loans.
Lenders assess a borrower’s loan application based on different criteria, to ensure the loan is not unsuitable and that the borrower can repay it without substantial hardship. While you need to have the income to service any loan you take out, lenders also look closely at the person’s credit history.
All lenders will examine your credit score, which is effectively your track record of paying off debts in the past. If you’ve had a loan previously and defaulted on it, it’s highly likely that many lenders will not look favourably on your loan application.
It’s also important to note that every time you attempt to access credit, it shows up on your credit file as a credit enquiry. If you are taking out payday loans on a regular basis, even if you pay them back, your credit file will be affected and you may appear as someone who is having money troubles and a risk to the lender.
On top of that, lenders also take into account the amount of current debt that you’re carrying and that will weigh heavily on your serviceability. In particular, if it comes with a high interest rate, or expensive fees in the case of payday loans.
Should You Take Out A Payday Loan?
While it might be convenient and easy to get a payday loan when you really need some cash, you should probably look at your options before going down that path.
You could consider things like getting an advance payment from Centrelink if you are currently on benefits. Similarly, you can usually work with a utility provider in the event you can’t pay a bill on time.
There are also other options such as low-interest rate personal loans.
As a last resort, you could consider a payday loan, but only if you can afford to pay it back on time. It’s also vital that you understand the fees and charges that will come with it, as well as the effect it may have on your credit score.
Disclaimer: The information above is of a general nature only and does not consider your personal objectives, financial situation or particular needs. You should consider seeking independent legal, financial, taxation or other advice to check how the information relates to your particular circumstances. We do not accept responsibility for any loss arising from the use of, or reliance on, the information.