- If you need extra money to cover emergencies, you can choose to either apply for a personal loan or a payday loan. But know that they differ in interest rates and other costs.
- Personal loans are typically larger loan amounts with longer loan repayment periods. The interest rate is usually less than a payday loan.
- Applying for a payday loan is easier than applying for a personal loan. However, they can be riskier and more expensive.
There are several ways you can borrow money. Two of the most common ones are payday loans and personal loans. These traditional loan options let you borrow money that should be repaid with interest in the future. Both of these loans can also be used to meet the cost of unexpected bills, and cover emergencies or other financial obligations. The loan option that is best for you will depend on how much you need to borrow and how quickly you want to make loan repayments.
This article will tell you about the differences between payday loans and personal loans, and the best option for you if you want to apply for one.
What is a personal loan?
Personal loans may be classified into two types, either they are LACC (ones that go above $5,000) or MACC (Medium Amount Credit Contract) loans are a type of finance that allows you to borrow any amount from $2,001 up to $5,000. These loans are typically offered by banks, credit unions, or online personal loan lenders. They can be used to pay for important life events such as home renovation, car repairs, weddings, or a holiday. Personal loans are typically taken by borrowers who need larger amounts of money that can be repaid over a longer period of time, typically between two and seven years.
Personal Lenders often look at your credit history. Most lenders reserve the best interest rates for customers with a good credit score. A good credit score with Equifax is a score over 622. It represents good financial history in the past and means you are a less risky borrower.
How do Personal Loans work?
Aside from choosing your loan amount and payment term, you can also decide whether to take out a secured or unsecured loan.
Secured personal loans are loans that are backed by collateral or secured against an eligible asset you own, such as your house or car. If you can’t pay your monthly fee, your collateral can be seized. If you apply for a secured loan, the application process could take longer. You would need to provide specific details such as the value of your personal asset. Most personal lenders would also require the value of the asset to be at least equal to the loan amount.
The most common type of loan taken by customers is an unsecured personal loan. Unsecured personal loans are not backed by any collateral. Lenders may charge higher yearly interest rates for unsecured personal loans as this type is riskier for lenders.
Lenders charge interest on personal loans, based on a customer’s credit score and repayment capacity. The rate ranges between 5% and 36% and can be paid between one to seven years. You can either choose a variable interest rate or a fixed rate. A fixed interest, which is offered by almost all lenders, is an unchanging rate charged on a loan. It applies during the entire time of the loan and remains the same throughout the period. On the other hand, variable interest rates can fluctuate over time as they are based on a benchmark interest rate that changes periodically. This means that they are typically offered at higher base rates. Lenders can also charge other fees like:
- application fees or the fee when you apply for a loan
- default fees or missed monthly payment fee
- monthly service fees
You can also make extra repayments outside of the scheduled payments. This will shorten the time you have to pay for the loan and in turn, decreases the amount of interest paid.
Benefits of a personal loan
Personal loans can be advantageous because you can use them to pay off some or all your existing debts. They can be used for many other purposes too, such as paying for weddings and holidays and paying off unforeseen expenses. In addition, personal loans are easy to apply for, and some get approved quickly. They also come with flexible term lengths, and some lenders provide the option of weekly, every two weeks, or monthly repayments.
What is a payday loan?
Payday loans or SACC (Short Amount Credit Contract) loans are a type of finance that offers short-term loans, typically from $50 to $2,000 and repayment terms as short as 16 days up to 12 months. These provide customers with the money they need until their next paycheck. Payday loans are easier to arrange as you won’t need any collateral to take out these loans. They are organised quickly, mostly online but sometimes over the phone.
How do Payday Loans work?
Payday loans are faster and easier to get than personal loans. Lenders offering payday loans are not as concerned with the credit score of borrowers. This makes them an appealing option for those with a bad credit rating and has limited access to traditional finance like personal loans and credit cards. To qualify for a payday loan, a payday loan borrower should provide a valid ID, contact and residential information, proof of employment or income, 90-days worth of bank statements and should be a permanent resident of Australia.
Lenders can’t charge interest on payday loans so they charge fees. They usually require borrowers to pay 20% of the loaned amount, and a monthly interest rate of 4%. This is the maximum amount lenders can legally charge. This means that if you take a $2,000 loan, you could pay up to a $400 application fee and an $80 monthly service fee, plus the loan amount repayment.
Benefits of a payday loan
Payday loans are easier to get than personal loans. Most companies that offer these loans have a website where you can easily complete your application. Repayments are also made easy as the lender will automatically debit the repayment amount from your account. All you need to do is ensure you have enough funds on the given dates. Payday loans also have fewer requirements than other loans. But keep in mind that these additional requirements from banks and lenders are put in place to help protect you. In addition, these loans are not secured by personal property. However, you should be conscious that not paying a loan will have negative consequences on your credit file.
Key differences between payday loans and personal loans
Below are the key differences between payday loans and personal loans.
- Loan length. Payday loan terms are shorter than personal loan terms. Payday loans are usually due within 16 days or until the next paycheck, while personal loans can be repaid in one to seven years.
- Loan amount. If you choose to take out a payday loan, you can only get around $50 to $2000, while for personal loans, you can borrow $2,001 up to $5,000 which can be paid off in instalments.
- Interest rates and other fees. Payday loans are typically more expensive than personal loans. However, personal loans are charged with either a fixed or variable interest rate for the period of the loan, and may also have other fees like application fees and monthly service fees. Payday loans don’t have an interest rate but borrowers can be charged monthly fees, service fees, and default fees.
- Lenders. While you can get personal loans through a bank, credit union, credit card issuer, or online lenders, payday loans are offered by payday lenders or loan stores that sell financial services such as rent-to-own pawn.
- Borrowers eligibility. To apply for a payday loan, you have to be 18 years old and have a checking account. You would also need to provide proof of income and an ID. For personal loans, you also have to be over the age of 18. You also have to have a good credit score and good employment history. Lenders will also look at your regular income to decide on the loan amount.
- Loan restrictions. For secured personal loans, the lenders can put restrictions on what you can use the money you borrowed for. If you’re buying a car and using it as security, the lender would only lend the amount needed to purchase the car. But unsecured loans are more relaxed. Payday loans have fewer restrictions on what you can use the funds for.
- Loan application. Personal loan lenders will require you to submit a full application, typically with supporting documents. They will also need to check your credit history. This means that the amount you can borrow will depend on whether you have a poor credit score or a good one. Payday loan lenders will also require you to submit a full application. But they won’t check your credit history. Instead, they will ask for your 90 days worth of bank statements.
Questions to Ask Before you Apply
- How’s your credit score? Check if you have a good credit history before applying for a loan. This is because some lenders look at your credit score to assess your eligibility for a loan and to determine your interest rate.
- How soon do you need the funds? Payday lenders often focus on how quickly they can get the money to you, and sometimes, borrowers can get the amount of a loan in under an hour. But it would still depend on the lender. Personal loans take longer to be processed because the lender would check why you need the money and whether you want a secured or unsecured loan.d
- What do you need the funds for? If you’re looking to consolidate debt or pay for an important life event, taking out personal loans would be better since they offer a higher amount of money than payday loan lenders.
- How much do you want to borrow? While personal loan lenders can offer a larger sum of money, there’s a limit to payday loans. Payday lenders are regulated to only lend amounts from $50 to $2,000.
- What can you afford? Before applying for a loan, make sure you can afford to pay the money back. This is because you will also have to pay the loan interest rates. Although personal loans have lower interest rates than payday loans, you should only borrow the money that you need to be able to repay the total or true cost of the money you borrowed.
The Bottom Line
The bottom line is that taking out payday loans is always more expensive than personal loans. This loan type is riskier as well as it is often easier to apply for. If you can qualify for a personal loan, choosing this option is better. Personal loans will allow you to borrow more money and give you more time to pay the money back. If you need money for an emergency, getting a personal loan is the better option. Additionally, personal loan lenders will charge you a lower interest rate than payday lenders.