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Difference Between Payday Loans and Personal or Installment Loans

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Note: Recently we had written an article on how to get a personal loan with a bad credit. However please understand that its extremely difficult now-a-days to get a personal loan from a bank even with a good credit. You will actually need a collateral to get a personal loan. Banks do not trust people anymore these days. 🙁

And since you will be paying back a personal loan in installments – a personal loan is also known as installment loan.

Lets discuss the difference between a payday and a personal loan.

Difference 1. Interest rates are higher in payday loans:

If you compare the APR (annual percentage rate), payday loans have much higher APR than personal loans. Most payday loans come with a APR of 200% or more, sometimes it gets into 1200% as well. But remember APR are calculated on the basis of a whole year, so they can be vague and misleading.

Since the amount in payday loans are always small it never hurts if you have the capability to payback. For example if you take a 100 dollar payday loan for 10 days and you payback $120 – your APR comes to 730%. As you can see though the APR is huge, you only pay $20 extra. With personal loans it is entirely different story. But what you read in newspapers and online news journals is that 730% – they don’t tell the real picture!

You can get a personal loan ranging from 12% to 100% APR per year. However since it is a big amount, you end up paying far more than a payday loan. For example for a $10,000 personal loan you may end up paying $15,000 in three years time – that is $5000 extra.

Moreover lenders also sell insurance with these loans that can typically raise the effective interest rates as insurances are also clubbed together with the loan and have higher interest rates. Lenders do not calculate the insurance rates while calculating the APR of the loan. So it may get very confusing. You must therefore calculate the total money you will payback to the lender in one year. If you are comfortable, only then go for a personal loan.

Personal loans have much lower interest rates because you need a collateral to get approved. Collateral may include cars (also knows as title loans), consumer electronics, costly tools, and jewelry. Real estate and wedding rings are not taken as collateral. If you are not able to payback a personal loan, you lose your collateral. However due diligence is done before approving personal loans. People with low income and less ability to pay are not offered a personal loan. Remember that personal loans are offered by banks and not by small lenders living in your neighborhood.

Why high interest rates in payday loans?

That is because the risk is more in payday loans than in personal loans for the lenders. Please note that gone are the days when personal loans were unsecured loans. Now you need some kind of collateral to get a personal / installment loan. Else even with a very good credit and/or a guarantor you may not get a personal loan.

The reason for this high risk in payday loans is that people who opt for payday loans live from payday to payday. If somehow they are laid form their job or their pay is deferred, they may not be able to payback the loan to their lenders. A huge percentage of them just do not pay back. Yes the amount may be small, but the number of people opting for this type of loan is big and if a few of them default, it will create a huge problem for the lender. And contrary to what you may think – the defaulters in payday loans are just too many. This too increases the risk to lenders and thus increasing the loan rate. Unfortunately people who pay bear the costs of people who do not – but that is the real story of payday loans.

Moreover payday loans are 100% unsecured loans. Which means no collateral is required to get a loan. Lenders offer you a loan in good faith. Payday loans are the only type of loans right now in the US that are 100% unsecured. Every other form of loan is secured. It is common sense to assume that any unsecured loan will come at a high interest as the risk is too much for lenders.

Unfortunately US laws almost always favors the customers. Payday loans are seen as a bad omen for the financial industry. Every now and then one or the other lawmaker comes out with some or the other law to restrict payday loans in their states. Consumers sue their lenders even if they default in paying the loan back. All these things too increase the risk in payday lending business. This too pushes up the interest rates on loans.

Lastly greed comes in. Since these loans are not properly regulated, lenders charge whatever they can from some people who they see as “wealthy” clients. Since they know everything about you before offering you a loan, it is easy for them to charge you more if you have a good job and you need cash immediately. Interestingly the same lender may offer a different rate to some other customer.

Difference 2. Payday loans are for shorter duration, personal loans are for longer duration:

You need to pay back a payday loan within days typically on your next payday. This could be anywhere from 1 to 30 days. However personal loans are paid back in years.

The reason is plain and simple. Payday loans are of small amounts ranging from 100-1000 dollars. Average is 300 dollars. You don’t need years to payback this amount. Moreover the interest rate is also too much. You want to get rid of payday loan as soon as possible, lest it will take you into a financial mess you won’t be able to get out fast. In fact it will take years to get out of a payday loan financial mess if you really get into it.

Payday loans can be paid back by a post-dated check, or by automated withdrawal on the due date.

Personal loans are for bigger amounts and therefore one needs time to pay it back in installments. You need to pay some amount every month which includes the interest and the principal. Mostly they are paid back in automated withdrawal from bank account. Every year the lender reviews the interest rate, and accordingly the payments may increase or decreases. If interest rates have fallen, your payments too will go down and if interest rates have risen, you may need to shell out more every year. Irony is that – whatever the case – your monthly payments will only increase every year.

Difference 3. Payday loans are for small dollars and for emergency purposes only. Personal loans can be bigger and hence are used for solving big financial issues/purchasing/investing in costlier things.

As written earlier payday loans never exceeds $1000. It is really difficult to get a payday loan greater than $1000. In the US lenders do not offer loans greater than $1000 even if you have an excellent credit and great payday loan history or even if you cite thousands of valid reasons for extra money. Moreover you cannot combine 2 payday loans together to get a bigger amount. You will have to first clear the first loan, then get a second one. Effectively capping you at $1000 Max. It is an emergency loan to help pay some bills if you are stuck, not to solve a huge financial problem. Also payday loans will have to be returned or paid back within 30 days Max. Lenders won’t allow more time than that. You may get a rollover (extra time to payback for extra fees – but that is not recommended).

Personal loans however can be of greater amounts as they are offered by banks and large financial institutions. You can get a $10,000 or more personal loan depending on your financial condition and credit rating. You also get more time to payback a personal loan. You can pay it back in 2-3 years in installments.

Difference 4. Traditional credit check not done on payday loans, however its done for personal loan:

Payday lenders usually do not do traditional credit check like going to official credit rating websites and getting a credit check done. They have their own resources like CL Verify etc to do a credit check. Basically this is a payday loan credit check. Lenders want to know payday loan history of their customers before offering a loan.

Personal loan lenders however do traditional credit checks. They will not offer a loan to even a below average (but not poor) credit rating person. You have to have a good credit to get a personal loan. People with poor credit rarely get a personal loan.

Side note: Law makers and consumer advocates of late are targeting payday lenders to lower their rates or to get out of business altogether. 15 states in the US have already banned payday loans. Payday loans cannot be offered to military personals too.

Interestingly personal / installments are not that criticized. Unfortunately in both cases the consequences may be severe if you do not payback the loan.

Difference 5. Rollover possible in payday loans, not possible in personal loans:

If you cannot payback a payday loan, your lender may offer a rollover. It means for an extra fee you get a few more days to payback the loan. Rollovers are costly and not recommended.

Lenders of personal loans do not offer rollovers. You may need to go for a debt consolidation if you cannot payback a personal loan. However it can be renewed every few months. The rate can also change every year if its a flexible personal loan. Most loans are flexible. Fixed rate loans are rare now days. Flexible loans are safer from the point of view of lenders as they are safe if suddenly the interest rate increases. Unfortunately for the borrowers, this means ever increasing payments.


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