Payday Loans vs. Personal Loans

If you have a financial emergency, or just an unforeseen expense, personal loans and payday loans are two options available to you. But these types of loans aren’t created equally. One kind comes with long repayment terms and fair interest rates, while the other comes with predatory fees and short repayment terms.

Before you consider a payday loan, it’s important to understand the major risks that come with them and to explore your options for bad-credit personal loans that are less predatory and more affordable.

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Payday loans vs. personal loans

Payday loans and personal loans are both (typically) unsecured loans that can be used for just about any purpose. But that’s where the similarities end. They differ when it comes to how much you can borrow, the annual percentage rate (APR), how quickly you must repay your loan, and more.

Suppose you borrow a $1,000 personal loan to cover a financial emergency. Based on your credit, you’re offered an annual percentage rate (APR) of 30% and plan to repay your loan within two years. You’ll have a monthly payment of $56 and will pay a total of $342 in interest over two years.

If you get a $1,000 payday loan instead of a personal loan and the lender charge $30 for every $100 borrowed, you’d pay $300 in fees. At first, that may sound better than the personal loan, except that that amount, plus the original amount you borrowed, is all due within two to four weeks. Let's say in this case, you're given four weeks to repay the loan instead of the standard two weeks. This amounts to an APR of 391%.

Note that you may not even be able to get a $1,000 payday loan, as some lenders only offer payday loans up to $500.

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How do payday loans work?

Payday loans are short-term loans only available in small amounts — often $500 or less. The name payday loans comes from the premise that you generally must repay the loan with your next paycheck within two to four weeks.

Payday loans are easy to get, partially because they don’t require a credit check. However, you generally need to be employed with a regular paycheck. Payday lenders will typically require a form of written authorization that lets them debit your checking account electronically for the entire balance plus fees at the time the loan is due. Alternatively, you can also write a post-dated check for the due date of the loan. While the payment is typically made once, some lenders may allow multiple installments to pay off the debt.

While payday loans can be easier to get, they are also predatory. Payday loans may have a finance charge ranging from $10 to $30 per $100 borrowed, depending on where you live, which can equate to an APR of nearly 400% or more.

Unfortunately, the short repayment terms and high APRs on payday loans can lead to a cycle of debt. If you have to take out a new payday loan to pay off the original one, the cycle can be hard to escape, unless something in your finances improves.

Learn More: 

• How Do Payday Loans Work?
• Payday Loan Requirements
• Payday Loan vs. Installment Loan

Pros and cons of payday loans

Pros

• Fast funding: You won’t have a long wait to receive your payday loan funds. You can expect to receive your money within a day (and possibly even on the spot).
• No credit check: A payday loan doesn’t require a credit check, meaning borrowers of any credit profile can qualify.
• Use for almost any purpose: There are basically no limits as to how you can use a payday loan, as there might be with other loan types.

Cons

• Triple-digit APRs: Payday loans often have very high finance charges relative to amounts borrowed. These charges can equate to APRs of 400% or more, depending on the state you live in and the protections in place there. The highest APR that most reputable personal loan lenders charge is 36%.
• Small loan amounts: You can generally only borrow up to $500 with a payday loan, which may not be large enough for many purposes.
• Short repayment terms: Payday loans usually have repayment terms of 2 to 4 weeks, which can be challenging when you’re facing financial hardship.
• Can lead to a cycle of debt: Many borrowers find themselves stuck in a cycle of debt, forced to borrow another payday loan to pay off the original one, according to the Consumer Financial Protection Bureau.

Related: Are Payday Loans Safe?

How do personal loans work?

A personal loan is an installment loan that’s typically repaid in monthly payments over a period of one to seven years. Like payday loans, personal loans can be used for nearly any purpose.

Personal loans require a credit check when you apply, and the APR you’re offered is based on your credit score. Rates are significantly lower than on payday loans. For example, in February 2024, the average interest rate on a 24-month personal loan from a bank was 12.49%, according to the Federal Reserve. And many personal loan APRs from reputable lenders (including those that offer loans to bad-credit borrowers) top out at 36%.

Personal loans have plenty of benefits over payday loans. Thanks to their considerably lower rates, they’re far more affordable. And because you have years to repay, you can have a lower monthly payment that is less likely to negatively impact your budget.

As an added bonus, personal loan payments are generally reported to the three credit bureaus, so your credit score can improve as you repay your loan. Not every lender reports to all of the bureaus, however, so be sure to do your research before signing for a loan.

Learn More: What Is the Difference Between APR and Interest Rates?

Pros and cons of personal loans

Pros

• Competitive interest rates: Personal loans have interest rates that are much lower than those on payday loans — the average is around 12%.
• Flexible repayment terms: You can choose a personal loan repayment term ranging from just a year to as many as 7 years.
• Large loan amounts: You can borrow as much or as little on a personal loan as you can qualify for, with typical loan amounts ranging from $600 to $100,000 or more, depending on the lender.
• Use for any purpose: Like payday loans, personal loans can be used for just about any purpose, from debt consolidation and financial emergencies, to large purchases.

Cons

• Requires a credit check: Though you don’t necessarily need good credit to qualify, you’ll undergo a credit check, and your eligibility and APR are based on your credit profile.
• Long-term debt: A personal loan can put you in debt for several years, which takes away money in your budget from other goals or expenses.
• Harder to qualify: Though there are personal loans for borrowers with bad credit, it’s harder to qualify for one than a payday loan and may require collateral or a cosigner.

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Payday loan alternatives

Though a payday loan may sometimes feel like your only option, there are almost always alternatives available that would better serve you and your personal finances. Here are a few to consider:

• Personal loan: A personal loan is often the best alternative to a payday loan. They’re generally possible to qualify for even with below-average credit, and have lower rates.
• Payday alternative loan (PAL): Offered by credit unions, PALs are a more affordable and longer-term alternative to payday loans. APRs are capped at 28%, loan amounts are available up to $2,000, and repayment terms can last 12 months. However, you typically need to be a member of a federal credit union to apply.
• Get a cosigner: If you can’t qualify for a personal loan yourself, consider asking a loved one with good credit to cosign one with you. Keep in mind they’ll be on the hook for payments if you’re unable to meet your financial obligations.
• 0% APR credit card: Though you generally must have good credit to get one, a 0% APR credit card offer allows you to pay no interest for up to 15 months or more. Just be sure you can pay off the balance before the promotional period ends and the regular (much higher) rate kicks in.
• Secured loan: A secured loan, such as a home equity loan or home equity line of credit (HELOC), uses your home as collateral and typically offers a lower interest rate. Remember that, because your home is being used as collateral, you could lose it if you default.
• Borrow from friends or family: Though not always ideal, if you have a loved one with the means to do so, they may offer to help you avoid a predatory payday loan. Consider drafting some kind of agreement detailing when you plan to pay off the loan.

Payday loans vs. personal loans FAQ

How do I spot and avoid predatory lenders?

One sign of a predatory loan is one that doesn’t require a credit check. Another sign is a lender that charges high fees or interest rates or won’t provide an explanation of the rates or fees in your contract. Finally, look out for short repayment terms where the lender mentions repaying the loan with your next paycheck.

When should I get a payday loan or a personal loan?

A personal loan might be a good option if you want to consolidate high-interest debt, spread a large purchase out over several years, or deal with a financial emergency. A payday loan is rarely a good idea — there’s almost always a more affordable and less predatory option available.

How do I apply for a personal loan?

Many personal loan lenders allow you to apply in just a few minutes using an online application. If you’re applying with a local bank or credit union, you may have to do so in person. Either way, you’ll have to provide information about your income, assets, and other debts. You will also have to consent to a credit check.

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