Payday loans – what you need to know

Payday loans are an expensive way to borrow. Never take out a payday loan unless you’re 100% certain you can repay it on time and in full – otherwise the costs can soon spiral out of control. If you’re thinking of getting one, here’s what you need to know.

How payday loans work

Payday loans are short-term loans designed to tide people over until payday. The money is paid directly into your bank account.

Normally you have until payday to pay back your loan plus interest, although some payday lenders let you choose the repayment period.

On the repayment date, the lender takes the full amount you owe plus interest directly from your bank account. This happens even if you need the money to pay essential bills like mortgage or rent, heating and food.

A payday loan will just make your situation worse if you can’t afford to pay it back on time. It may also affect your ability to get credit in the future.

What payday loans cost you

Did you know?

Over a year, the average annual percentage interest rate (APR) could be up to 1,500% compared to 18% for a typical credit card.

In the past, most payday lenders charged £25-30 interest per month for each £100 you borrowed. But this is if you paid the loan back on time. If you repaid late, they’d usually also charge a default fee of around £30 and daily interest on top.

New rules introduced by the Financial Conduct Authority (FCA) from 2 January 2015 mean that borrowers will never pay back more than twice what they initially borrowed. This is to help address the problem of spiralling debts. Also, someone taking out a loan for 30 days and repaying the loan on time will pay no more than £24 in fees and charges per £100 borrowed.

There is also a cap on default fees. If you don’t pay your loan on time, the lender can charge you up to £15 in default fees plus interest on outstanding principal and default charge.

For more details see the FCA website.

Recurring payments

Before agreeing to a loan, many payday lenders will ask you to set up a recurring payment (also known as a continuous payment authority). This lets them take what you owe directly from your account via your debit card on the repayment date. So if you don’t have enough money in your account to repay the loan in full you may end up missing other bill payments or exceeding your overdraft limit and having to pay bank charges.

More about Recurring payments for payday loans.

Avoiding the payday loans trap

If you have problems repaying a payday loan, the payday lender may tempt you with an extension known as a deferral or rollover, or even a further loan. However, the lender must give you an information sheet with details of providers of free debt advice, before you roll over a loan.

Rolling over your payday loan might seem like a great solution at the time. But it can quickly lead to problems, because you’ll have to pay back much more in interest and other fees. This could leave you struggling to pay for the essentials you need, such as rent, mortgage, food and heating.

Read our guide Problems paying back a payday loan.

Look for a better alternative

Don’t assume that you can’t get a more suitable loan elsewhere – even if you have a poor credit rating.

Use our Payday loan advice tool to find out about alternatives.

Don’t be swayed by payday lenders’ advertising

Payday lenders advertise their loans for every cash flow crisis you can think of. But a payday loan is likely to be the wrong choice for you if:

  • You want to use it to pay off other loans
  • You already have one or more payday loans.
  • You aren’t 100% certain you’ll be able to pay it back on time
  • You want it to pay for things you don’t need that you can’t afford – such as nights out, new clothes or concert tickets

If you’re struggling to repay loans, credit cards and other bills, you can get free, confidential advice from a debt advice service. The adviser will help you get your finances back on track and can negotiate with the people you owe money to. This will help get you the time you need to repay your debts so you don’t have to resort to more borrowing.

Read our guide Where to go to get free debt advice.

If you’re about to get a payday loan

Before taking out a payday loan, think carefully about how you’re going to pay it back. If you’re short of money this month, what makes you think you’ll have the money plus interest next month? Are you expecting extra income? Or are you going to cut back considerably on spending?

Consider whether a loan that you repay in instalments might be better for you

If you decide to get a payday loan check that the lender is regulated by the Financial Conduct Authority (FCA) – they should tell you this on their website or in store. All payday lenders must be regulated by the FCA.

The 14 day cooling-off period

If you change your mind, you can withdraw from the agreement at any time within the first 14 days. All you need to pay is the interest on the credit you have used. Any additional charges must be refunded to you.

Find out more about how payday loans work on the National Debtline website.