One of the major benefits of payday loans is that they are not designed to be long term, they can be used by a borrower for as little as a day. They are not generally used for large amounts and if you are a first time borrower they will generally lend you less than if you are a repeat customer with a solid payment history.
How they are used
The loans are in some ways like bridging loans in that they are meant to act as a bridge for the borrower until the next payday. There are not normally early repayment charges, which means that they can be useful for people looking to take out some quick cash who know they will be able to pay it back quickly. Where the loans become problematic is when borrowers don’t pay the loans back on time, late payment charges are very expensive and is where lenders make profits.
Interest rates for the loans can be high, however they are for most forms of short term finance, take for example bridging loans or credit cards which both have high rates. For borrowers who understand how much they are paying in interest and charges the loans can help them out of difficult situations.
Debts can grow to much more than the original balance if the loan is not paid off straight away. If a loan keeps being increased because the original one can’t be paid off, the debt becomes high. This is where borrowers find themselves having problems. Interest adds up and late payment charges are added on to the balance, making the chances of the borrower being able to now repay the whole balance quite slim.
Reputation in the media
Payday loans have a bad reputation because of irresponsible lending by some lenders. Proper affordability checks not being carried out was the most common reason for complaint, with borrowers being lent money they couldn’t afford. Some lenders have been forced to cease trading because of these practices, and due to new regulation the current lenders have to be very strict about who they lend to.
With so much publicity about payday lending it has had both a positive and negative affect for lenders. On one hand the publicity has raised the awareness of the loans, but on the other hand they are having to turn more customers away than they might have before. This is positive however for the customer because borrowers aren’t in most cases being lent money they can’t afford and lenders are acting in a more responsible manner when it comes to dealing with them. There is also more transparency for customers when it comes to their loans and the amount of interest they will pay, together with the potential charges they could face if they default on the loan.
One of the main reasons for the rise in payday lending is the convenience and speed of borrowing the money compared with other loans. There is sometimes no difference between the interest rates on an overdraft that hasn’t been arranged from a High Street bank, and a payday lender. In fact the bank may have other penalties that make them more expensive than a payday loan.
Concern about number of defaulting customers
Despite all this, the number of people in the UK who are struggling to pay back their payday loans has increased by 42% this year. The biggest problem that payday loans seem to bring are the uncapped charges when borrowers fail to pay back the money on time. The charity Stepchange is increasingly concerned about this and has asked the Financial Conduct Authority (FCA) to look into it further.
As with any type of short term loan, paylay loans need to be used with care and only when the borrower can afford them. Interest rates are high and there are expensive charges for defaulting on the loans. Caution needs to be used by both lenders and borrowers alike.