What’s the Difference Between a Payday Loan and an Installment Loan?

male lion sitting in the safari

If you’re looking to borrow, you may already know about payday loans—they’re fast, dangerous, and designed to take advantage of those in need. (Think of them as the jackal of the lending animal kingdom.) Is there a better option? Something just as fast, but… you know, not evil?
You bet there is.
When it comes to lending, consider the personal installment loan the noble lion, king of the lending jungle.

Payday Loans: Scavenging on your finances.

“Payday loans… can destroy a borrower’s credit and wipe out their bank account.”

Payday loans are short-term, unsecured loans that target the financially vulnerable—the low income, the elderly, and those without limited financial education. Payday lenders won’t perform a credit check and, depending on the restrictions in your state, they may not even check your income first.

Fast money without a credit check? What could be wrong?

Well, a lot. Payday loans charge unfair fees and massive interest rates, meaning they have extraordinarily high annual percentage rates (APRs)—the measurement that allows you to see the full cost of a loan.

Certified financial educator Maggie Germano (@MaggieGermano) says, “Payday loans usually turn out very negatively for the borrower. Interest rates and fees are sky-high and many people are unable to pay them back in time. Every time you miss your payment due date, the amount owed increases significantly. This makes it impossible for people living paycheck to paycheck to pay them off. This can destroy a borrower’s credit and wipe out their bank account.”

It may be tempting to try out the fast, risky option with the short payment terms, but don’t forget: it’s a trap. Read more about payday loans in our eBook How to Protect Yourself from Payday Loans and Predatory Lenders.

Installment Loans: The lion king of lending 

“A good installment [loan]… can actually build up your credit and [help you] qualify for a better loan next time.”

When it comes to payment terms, installment loans are the exact opposite of payday loans. Instead of having to make a massive payment in a short amount of time, installment loans offer you the chance to make regular, smaller payments over a much longer period.

Most installment loans will offer you a MUCH lower APR on your loan than a dangerous payday loan and also—unlike many payday loans—they won’t charge a sneaky prepayment penalty.

What’s a prepayment penalty? Law professor David Reiss (@REFinBlog) sums it up well: “Prepayment penalties come into play if the borrower repays all or part of a loan before the payment schedule that the borrower and lender had agreed upon when the loan was first made. In theory, they compensate the lender for the costs of making the loan in the first place and any decrease in interest payments that the lender would get as a result of early repayment. In practice, prepayment penalties can be a new profit center for lenders if the fees are set higher than the amounts actually lost by prepayment.”

A good installment lender will also report your payments to credit bureaus, so you can actually build up your credit and qualify for a better loan next time.

So which loan is right for you? 

If you know with 110% certainty that you’ll be able to pay off your loan, with all of the interest and fees, as soon as it is due, then a payday loan may be a workable option. But that’s not usually what happens. In fact, according to the Consumer Financial Protection Bureau, four out of five payday loan borrowers find themselves forced to rollover (extending the term of their loan at the cost of another round of fees and interest)1 and the average payday borrowers are in debt to their lender a stunning 200 days of the year.2 So remember, with a payday loan, the odds are never in your favor.

Installment loans are a safer option, especially if you find a lender who is willing to work out terms that fit for you. It’s also important that they have good customer service representatives so you can reach someone in advance if you’re ever worried you might miss a payment. Finally, make sure that there’s no prepayment fee and they report your payments to credit bureaus so you can get an even better loan next time.

The world of lending can certainly feel like a jungle. So always go with a trusted, reliable leader—rather than a dangerous predator running down easy prey.

References
1 “CFPB Finds Four Out Of Five Payday Loans Are Rolled Over Or Renewed.” ConsumerFinance.gov March 25, 2014 https://www.consumerfinance.gov/about-us/newsroom/cfpb-finds-four-out-of-five-payday-loans-are-rolled-over-or-renewed/. Accessed 30 March 2017.

2 Morran, Chris. “The Average Payday loan Borrower Spends More Than Half The Year In Debt To Lender.” Consumerist. April 26, 2013. https://consumerist.com/2013/04/26/the-average-payday-loan-borrower-spends-more-than-half-the-year-in-debt-to-lender/. Accessed 23 March 2017.


Contributors

Maggie Germanois a Certified Financial Education Instructor and financial coach for women. Her mission is to give women the support and tools that they need to take control of their money, break the taboo of discussing debt and income, and achieve their goals and dreams. She does this through one-on-one financial coaching, monthly Money Circle gatherings, her weekly Money Monday newsletter, and speaking engagements. To learn more, or to schedule a free discovery call, visit maggiegermano.com.

David Reiss, is a professor at Brooklyn Law School and director of academic programs at the Center for Urban Business Entrepreneurship. He is the editor of REFinBlog.com, which tracks developments in the changing world of residential real estate finance.

Top 5 Questions to Ask Before Taking out an Installment Loan

man and questions against a blue background

It’s no secret that there are many risky loans out there designed to trap borrowers in cycles of debt they’ll never escape. (We’re looking at you, payday and title loans!)

Installment loans are safer alternatives to predatory loans, but that doesn’t mean any installment loan is right for you. There are important details you need to understand before you borrow. We talked to some of our favorite financial experts to bring you the top five questions to ask before you sign on that dotted line!


How long is the term?

When it comes to loans, your ability to actually pay it off is what really matters. To do that, you need to start with figuring out how much the loan will actually cost,and how long you have to pay it back.

Some loans, like payday and title loans, require you pay off the whole thing in as little as two weeks or a month. And they’ll usually force you to do so in a single, lump-sum payment. That can be hard for most people to manage.

That’s why many folks turn to installment loans instead, which allow you to pay back the loan with regular payments over a longer period of time—usually anywhere from six months to three years. That’s why they’re called installment loans: because you pay them off in installments.

When applying for an installment loan, ask how long you will have until the lender expects repayment in full (this is called the term of the loan). Once you know the term, then you can truly know how much the loan will cost you overall.

Understand the term before you sign the loan agreement. You don’t want any surprises down the line—once you’re already on the hook.

What are the interest rates?

Borrowing money isn’t free. Lenders make money on their loans by charging interest (the cost of borrowing money) to borrowers—that’s why it’s very important that the interest rate is one that you’ll be able to afford.

The quality of interest rates you’re likely to have access to will depend on your credit score. The lower (or worse) your credit score is, the higher the interest rates you can expect.

Ideally, you will have built a good credit history before applying for a loan, but there are other options if your credit isn’t great.

Marc Johnston-Roche (@AnnuitiesHQ), co-founder of Annuities HQ, offers one method of getting a better interest rating: “There are lenders that accept co-signers. Some lenders allow borrowers with bad credit to add a co-signer with good credit. With a co-signer, you may get a lower rate or qualify for a loan that you couldn’t get on your own.”

It’s also important that you compare the cost of different loans using their APR, or annual percentage rate. This will show you the total cost of a loan including fees as well as interest, so you know exactly how much you’ll be paying.

Are there prepayment fees?

Because lenders make their money from interest, and borrowers pay more interest the longer their payment term is, lenders have an incentive to keep borrowers from paying off the loan sooner than they’re required to.

That’s why some lenders will charge borrowers prepayment penalties if they pay their loan off early.

Prepayment penalties are most often associated with mortgages—installment loans that are taken out to purchase a house (and the house serves as collateral).  If the homeowner is moving and wants to sell their home so that they can pay off the loan, they may be charged a prepayment penalty.

It’s important to know if your installment lender charges prepayment penalties before you take out the loan since you’ll be obligated to uphold the terms of the deal once you’ve signed the contract.

The good news is that prepayment penalties are much less common than they used to be.

Per Randall Yates (@the_lenders_net), CEO and founder of The Lenders Network, “Prepayment penalties are very rare to see these days, in fact, they’re illegal for government-backed loans.”

He also adds that “Prepayment penalties are illegal on any loan in 14 U.S. states” and that “the other 36 states have drastically reduced the amount of loans issued with a prepayment penalty.”

Do I need to offer something as collateral?

Some installment loans are “secured loans”—which means that the borrower has to offer up a valuable piece of property as collateral.

The great thing about secured loans is that they usually come with a lower interest rate. The not-so-great thing is that failing to pay the loan back means the lender can—and probably will—seize your collateral and sell it to make up their losses.

As mentioned above, one of the most common kinds of secured installment loans is a home mortgage—where the home being purchased also serves as collateral for the loan used to purchase it.

The same is true with auto loans. You take out a loan to purchase a car—and the lender can repossess the car if you fail to make your payments.

But there’s another kind of loan that uses cars as collateral: title loans. These are high-cost loans secured using the title to a car that you already own—but could certainly lose if you fail to repay (read more in Title Loans: Risk, Rollover, and Repo).

Regardless of what type of installment loan you’re looking for, it’s important to know if there is collateral involved, and under what conditions that collateral can be seized by the lender.

You never want to risk losing your car or your house.

Are payments amortized?

A proper installment loan should offer amortized payments. That means each payment will go towards paying the interest and part of the principal, the original loan amount.

Without amortized payments, your payments could end up only going towards the interest—theoretically trapping you in debt forever!

Like we said at the beginning of the post: before you get a loan, you want to be sure you know exactly how much you’ll be paying and exactly how long you’ll be paying it for.

Installment loans are a safer alternative to short-term payday loans, but they’re not all created equal. Ask the right questions and you’ll live to spend another day.


RY

About the Contributors:

Marc Johnston-Roche, working steadily in the financial services, online marketing and lead generation industry for over eight years, Marc has had literally thousands of conversations concerning annuities with prospective buyers and advisors. Always looking forward to the time when he could develop a company network of retirement professionals based on three equally important but simple principles: respect, integrity, and professionalism. With his understanding of online marketing operations – he branched out with his partner and formed Annuities HQ.

Randall Yates, is the founder and CEO of The Lenders Network, an online mortgage marketplace that helps homebuyers find reputable mortgage lenders. As a part of Randall’s successful entrepreneurial career, he spends a chunk of time helping consumers understand their credit and lending his mortgage expertise to help them find the right type of loan. Randall Yates lives in Dallas, Texas with his two sons.

3 Ways an Installment Loan Can Help Your Credit Score

3 Ways an Installment Loan Can Help Your Credit Score

If you ever feel like your credit score is totally beyond your control (like the weather or your utterly doomed fantasy football team), then it might be time to adjust your thinking. After all, your credit score is merely a reflection of the information in your credit report, which is itself a reflection of how you handle your debt. You can’t change the stuff you did in the past to hurt your score, but there are definitely actions you can take to improve it today.

It’s possible to improve your FICO score by taking out a personal installment loan. Unlike short-term payday or title loans, an installment loan is designed to be paid off in a series of simple, manageable payments over the course of the loan’s term. Plus, your typical installment loan will come with a lower interest rate than a comparable credit card.

Here are three ways that a safe, affordable installment loan can help you improve your credit score.

1. Diversify Your Debt

When the good people at FICO are creating your credit score, they are sorting all the information on your credit report into five different categories. The two most important categories are “Payment History” (which makes up 35 percent of your score) and “Amounts Owed” (30 percent).[1]

But one of the other three categories is “Credit Mix”, which determines 10 percent of your score. “Credit Mix” refers to the different kinds of debt you owe: credit card debt, personal loan debt, student debt, auto debt, mortgage debt, etc. The more diverse your credit mix, the better your credit rating.

If you have a lot of credit card debt, taking out an installment loan to pay some of it off would also help diversify your credit mix. And that more diverse mix could help improve your credit.

Best Practices: Don’t take an installment loan just for the sake of taking one out. That would add to your total debt load and—if you fail to repay it—lower your credit rating.

2. Save You Money

You know what’s a great way to raise your credit score? Owe less debt. (Shocking, we know.) And you know what’s a great way to less debt? Score a lower interest rate. The less you’re paying in interest, the less you’ll overall—and the faster you’ll be able to pay your debt down.

First things first: if you cannot get approved for an installment loan with an equal or lower rate than your other debt (credit cards, payday loans, title loans), then it’s probably not worth it. Consolidating high-interest debt into an affordable, reliable installment loan is a great way to save money (read more in Debt Consolidation Loans – An OppLoans Q&A with Ann Logue, MBA, CFA). But if you’re going to be paying a higher interest rate? Not so much.

But scoring a lower interest rate isn’t the only way you can owe less through an installment loan. You see, the longer any piece of debt is outstanding, the more you’ll end up paying in interest overall. The shorter the loan, the less it costs. Most installment loans are structured to repaid over the course of a few years—and that’s with the borrower paying only their minimum payments. Compare that to your typical credit card: with only minimum payments, that card could take nearly a decade to pay off! That’s thousands of extra dollars in interest.

Paying less money on your debt will also help you pay down your debt fast. And the sooner you pay that debt off—or at least pay it down—the faster that change will be reflected in your credit score.

Best Practices: Most installment loans are amortizing, which means that they can save you money compared to rolling over a similar payday or title loan.

3. Improve Your Payment History

As you’ll recall, your payment history determines 35% of your score overall. This means that making your installment loan payments on time every month will go towards improving that chunk of your score. If you don’t have a great history of on-time payments, it just might help to start fresh!

Of course, that all depends on your lender actually reporting your payment information to the credit bureaus. And if you have bad credit, you might find yourself dealing with lenders who don’t report any payment information at all. This is especially true for most payday and title lenders. While many of their customers will be grateful that these lenders don’t report payment information, someone who’s looking to be responsible and improve their credit score will not.

Best Practices: Did you know that OppLoans offers personal installment loans with lower rates, longer terms and better customer service than your typical payday or title lender? Plus, we do report your payment information to credit bureaus, so taking out a loan with us could help improve your credit.

References:

  1. “What’s in my FICO Scores.” MyFICO.com. Retrieved October 4, 2016 from http://www.myfico.com/crediteducation/whatsinyourscore.aspx
  2. Konsko, L. “Will an Installment Loan Help Your Credit?” Nerdwallet. Retrieved October 4, 2016 from https://www.nerdwallet.com/blog/loans/installment-loan-boost-credit-fico-score/

Have Bad Credit and Need a Personal Loan? Let’s Play the Bad Credit Lender Dating Game!

DatingGameV1

If you’re shopping around for a bad credit loan, it can be hard to know which loan is right for you. Really, it’s a lot like online dating. For one thing, just like there are a lot of sketchy people lurking online, there are also a lot of shady lenders out there looking to get matched up with inexperienced borrowers. But even among the honest and responsible lenders, how can you know which is really right for you?

Before we get to our most eligible options, here are some bad credit personal lenders that practice predatory behavior. You really can’t swipe left fast enough when you’re dealing with:

Payday Lenders

These lenders offer short-term, fast cash loans that only average around 14 days. That quick turnaround might sound nice but, in reality, these loans are pretty nasty. They have extremely high interest rates, with an average Annual Percentage Rate (APR) of 339 percent.[1] Payday loans are also structured to be paid back in a single lump sum, which is difficult for many borrowers. A lot of payday borrowers end up rolling their loans over again, trapping themselves into a continuous cycle of debt. It’s a bad relationship they just can’t get out of!

Title Lenders

Take everything we just said about payday lenders and add losing your car: That’s title loans. These are month-to-month, short-term loans with an average interest rate of 25 percent that adds up to an APR of 300 percent. Since these loans are secured by the borrower’s car title, you can usually borrow more with a title loan than you can with a payday loan. However, it also means that the lender can repossess your vehicle if you can’t pay the loan back. In fact, one out of every five title loan customers eventually has their car repossessed.[2] Imagine if you had to give someone your car in order to break up with them. That’s a person you should avoid!

Okay, now that we’ve got the bad eggs out of the way, here’s a few types of bad credit personal lenders that you can swipe right on and see where things take you:

Personal Installment Lenders

These lenders offer long-term installment loans, which usually have a minimum term of six months and are designed to be repaid in a series of equal, regularly scheduled payments. Their loans are also amortizing, which means that every payment you make goes towards both the principal loan amount and the interest. Dating them would be a calm, loving series of Netflix binges, home-cooked meals, and weekend antiquing. OppLoans is a personal installment lender, and our interest rates are 70 to 125 percent lower than your typical payday lender. That last part isn’t true of all installment lenders by the way. If you’re taking out an installment loan, you’ll still want to do your research. To learn more about OppLoans, or to apply for a personal installment loan today, just visit our homepage: www.OppLoans.com.

Credit Unions

These lenders work a lot like traditional banks, only they are not-for-profit, member-owned organizations. Credit unions also have different requirements for membership than banks do. Being eligible for membership could depend on where you work or live, or even where you go to church. Credit unions that belong to the National Credit Union Administration (NCUA) offer Payday Alternative Loans. These loans have principals between $200 and $1000, terms that are one to six months long,[3] and interest rates that are capped at 28 percent.[4] That could be a great deal! However, you have to be a member for one month before you qualify for one of these loans. They’re a great date, but they’re picky.

Charities and Community Organizations

If you have bad credit and need a small cash loan, you might be able to get one from a local charity in your area. Many of these organizations have small-dollar lending programs with reasonable rates that are aimed at combating predatory payday lending in small communities. Some even offer credit-counseling services, which can help you build a budget, practice better financial habits, and improve your credit score over time. They help you grow and make more responsible decisions—like any good partner should.

We all know people sometimes need a financial partner. So skip the predators and go with a reliable, honest, financial institution that has your best interest at heart!

References:

  1. “Payday Loans and Deposit Advance Products.” Retrieved September 6 from http://files.consumerfinance.gov/f/201304_cfpb_payday-dap-whitepaper.pdf.
  2. Pascual, K. “1 In 5 Auto Title Loans End In Car Repossession: CFPB Study.” Retrieved September 6, 2016, from http://www.techtimes.com/articles/159308/20160518/1-in-5-auto-title-loans-end-in-car-repossession-cfpb-study.htm
  3. Payday Loan Alternatives. MyCreditUnion.Gov. Retrieved September 1, 2016, from http://www.mycreditunion.gov/what-credit-unions-can-do/Pages/payday-loan-alternatives.aspx
  4. Aho, K. “Payday Loans: How They Work, What They Cost.” Retrieved September 1, 2016, from https://www.nerdwallet.com/blog/loans/payday-loan-alternatives-dodge-debt-trap/

Installment Loans: More Mileage for Your Money

Installment Loans: More Mileage for Your Money (Part 3 of 3)

In the world of lending, especially for people who have less-than-stellar credit scores, a payday loan is like a racecar: expensive and dangerous. Payday loans, with their high Annual Percentage Rates (APRs) and debt-trap structure, cause the average payday loan customer to take out ten loans per year and spend almost 200 days of the year in debt.[1] Looks like they’re not so “short-term” after all!

An installment loan, on the other hand, is more like the family car: safe and functional, it gets the kids to school, you to work, and you can rely on it year round.

The Payday Way is a Dead End.

Let’s say your car breaks down on the way to work, and you need $1,000 in a hurry to pay for repairs. You take out a 14-day payday loan that costs $15 per $100 borrowed. The total cost of the loan is $150, and full repayment ($1,150) is due in two weeks.

But is $1,150 something you could actually pay back in two weeks? Probably not. In fact, most payday loan customers can only afford roughly $100 per month towards their loan.[2] So you roll the loan over and pay the $150 you owe in interest in order to secure a two-week extension. However, those two weeks means paying another $150 in interest. Your payday loan now costs $300 and you still owe $1,150 to the lender. Basically, you’re right back where you started.

Let’s say it takes you six months to finally pay the loan back in full, having rolled it over 13 times. It would have cost you $1,950 in total. After half a year, you’ve ended up paying nearly twice what you originally borrowed in fees and interest alone! Payday loans might not seem disastrous in the short term, but over time their costs really add up. The APR for a 14-day payday loan that costs $15 per $100 borrowed would be an astronomical 390%. You can read more in the eBook How to Protect Yourself from Payday Loans and Predatory Lenders.

Long-Term Installment Loan = Long-Term Savings

Now what if you take out a $1,000 installment loan to pay your mechanic’s bill instead? It’s a six-month loan, with six monthly payments, and an Annual Percentage Rate (APR) of 99%. Right away, you see a huge difference in cost. Whereas the payday loan cost $1,950 over six months, this installment loan costs $307.75. That’s over six times less.

This lower cost is due to a couple of different factors. One of them is the APR. The installment loan’s 99% APR is much lower than the payday loan’s 390% APR, which means that the installment loan is less expensive. APR measures the cost of a loan over a full year, so it doesn’t matter as much when a loan is only two weeks long. But when a loan lasts for six whole months? It matters a lot. Also see What’s the Difference Between a Payday Loan and an Installment Loan? in our Blog for more information.

But there’s another factor at work that makes the installment loan even cheaper: it’s called “amortization”, and it’s not nearly as complicated as it sounds.

Amortization: The Electric Car of Personal Lending

Amortization is a specific type of loan repayment structure. Amortized loans are designed to be repaid in a series of regularly scheduled, equally sized payments. Each payment also consists of two parts: one part pays down the principal, and the other part pays down the interest. Why is that important? Because it means that every payment you make reduces the amount you owe.

Every time you reduce the principal amount owed on an amortized loan, you also reduce the amount charged in interest. With an amortizing installment loan, interest is charged as a percentage of the principal. If the principal is smaller, than the interest charge is smaller as well. The difference from one payment to the next may be small, but it adds up over time.

Installment loans are amortizing, while payday loans are not. That’s why installment loans are so much less expensive. From the first payment you make on your installment loan, you’re reducing the amount you owe. With a payday loan, on the other hand, the interest is a flat fee based on the original amount loaned. Every time the loan is rolled over, you’re being charged that same fee all over again.

Installment loans get cheaper over time; payday loans only get more expensive. Choosing between the two is just like choosing between a minivan and an F1 racecar: it’s not really a choice at all. It’s just common sense.

References:

  1. Payday Loans and Deposit Advance Products. (2013, April 24). Retrieved from https://files.consumerfinance.gov/f/201304_cfpb_payday-dap-whitepaper.pdf
  2. Bourke, N., Horowitz, A., & Roche, T. (2013, February). Payday Lending America: How Borrowers Choose and Repay Payday Loans. Retrieved from https://www.pewtrusts.org/~/media/assets/2013/02/20/pew_choosing_borrowing_payday_feb2013-%281%29.pdf

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Installment Loans: More Mileage for Your Money (Part 2 of 3)

If you were planning a long road trip, would you rather have a dependable minivan or a sweet F1 racecar? Sure, that racecar sounds fun, but in this hypothetical, you actually want to arrive at your destination, not blow up or break down before you even leave town.

Long-Haul Lending

The same holds true if you’re looking to take out a loan. Think of your finances like a long road trip, not a quarter-mile street race. You’re going to want a loan that will get you to your destination and keep you safe along the way.

If you’ve ever looked for an online loan, you’ve come across payday lenders. These predatory lenders advertise their short-term “payday” loans as a quick solution to get you through to your next paycheck. A fast, two-week loan might sound like it’s not too dangerous, but look under the hood and you’ll see these “short-term” payday loans aren’t so short-term after all. And it’s all due to a hazard called loan rollover.

Like a Rolling Loan

When a borrower can’t pay back their payday loan in time, they’re given the option to roll the loan over, which means that the loan gets extended for another term. It gives the borrower more time to pay off the loan, but it also allows the lender to charge another round of interest and fees. So now, that “short-term” loan has gone from a term of two weeks to four, and the borrower owes twice as much they expected they would.

Here’s an example: Dale takes out a $300, 14-day payday loan with an interest charge of $45. When the time comes for Dale to pay the $345 he owes on the loan, he doesn’t have the money. So he rolls the loan over. Dale pays the $45 he owes in interest and gets another 14-day repayment term. However, Dale will also owe another $45 on this new term, and will pay $90 in interest overall. As you can see from this example, rolling over a loan increases the cost of borrowing.

This isn’t the only kind of rollover. There’s also reborrowing. When a person reborrows a loan, they aren’t actually getting an extension on their repayment term. Instead, the borrower pays off their loan in full and then immediately takes out a new loan. Either way, the effect is the same: paying more money to borrow the same amount of money.

This is the Loan that Never Ends

Think about it like this: you’re taking a day trip from New York to Philadelphia to meet your friend, Danica. But once you arrive in Philadelphia, Danica hits you with a text; turns out she’s not in Philadelphia anymore. She’s in Pittsburgh. So then you drive all the way to Pittsburgh, only to find out that Danica’s not in Pittsburgh anymore. Now she’s in Chicago. You keep driving, and Danica keeps moving, and by the time you two meet up it’s in Los Angeles. No matter how much gas money you had budgeted for this trip, you would end up spending far more, right?

That’s pretty much how rolling over a payday loan affects the cost of borrowing. The longer a payday loan is outstanding, the more expensive it becomes. And according to 2014 study from the Consumer Financial Protection Bureau (CFPB), a mind-blowing 80% of payday loans are the result of rollover or reborrowing.[1] Another CFPB study found that the average payday loan borrower took out a staggering 10 loans per year and spent almost 200 days per year in debt.[2] What was that about “short-term loans?”

Installment Lending Can Go the Distance

Let’s return to our original question: F1 versus minivan. If you were driving from New York to Philly, you might pick the F1. Sure it only gets 4 miles to the gallon (mpg), but the trip isn’t that long. However, if you had known you were driving to Los Angeles in the first place, you’d have picked the minivan. It gets a much more fuel-efficient 35 mpg, so driving it cross-country won’t cost you a fortune.

The same is true for installment loans. Like a minivan, they are designed to be more efficient and cost-effective. An installment loan is clearly the better choice.

To learn more about the benefits of the installment loan model, check back tomorrow for Part III of this series! Also see What is the Payday Loan Debt Cycle? in our Blog for more information about payday loans.

References:

  1. Burke, K., Lanning, J., Leary, J., & Wang, J. (2014, March). CFPB Data Point: Payday Lending. https://files.consumerfinance.gov/f/201403_cfpb_report_payday-lending.pdf
  2. “Payday Loans and Deposit Advance Products.” (2013, April 24). Retrieved from https://files.consumerfinance.gov/f/201304_cfpb_payday-dap-whitepaper.pdf

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Installment Loans: More Mileage for Your Money (Part 1 of 3)

Ask a teenager if they’d rather drive a minivan or an F1 racer, and you know what the answer is going to be. Easy decision. Of course, the choice is easy for adults too. Given the option between a solid, dependable ride and a deathtrap, most adults would choose the safe and reliable vehicle.

The difference between something safe and something wildly dangerous is exactly the difference between an installment loan and a payday loan. While a payday loan promises to get you from “in debt” to “out of debt” at warp speed, that promise rarely holds true in reality. More often than not, these short-term loans lead to debt that spirals out of control. On the other hand, installment loans are safer, more reliable, and less likely to blow up in your face.

In this blog series, we are going to take a peek under the hood to see just how these loans work. First things first, let’s cover some basics:

Payday Loans: Make Sure to Wear Your Seatbelt

It’s right there in the name: these short-term cash loans are designed to tide borrowers over until their next pay day. They’re pretty easy to get, which is one reason they seem so attractive. Oftentimes, a potential borrower needs little more than a bank account and a photo ID in order to qualify for one.

Payday loans generally have a maximum limit of $500, an average repayment term of 14 days, and charge an interest rate of $15 per $100 borrowed. And while that interest rate doesn’t look too bad at first, it’s because that 15 percent rate only applies to the stated repayment period. To truly compare costs, we can’t just look at the simple interest rate. Instead, we have to look at another figure: The Annual Percentage Rate, or APR. With a 15 percent interest rate over a two-week period, the standard APR for a payday loan comes to 390%. Yikes!

If they are so expensive, then why do people use them? Well, the majority of payday loan borrowers are people who don’t have a ton of options when it comes to getting a loan. These are people who don’t have a great credit score, and their average income is only $26,167.[1] Most traditional lenders think these types of borrowers are too “risky” to lend money to. Payday lenders, on the other hand, see them as perfect targets for their high-cost products. Read more in our eBook How to Protect Yourself from Payday Loans and Predatory Lenders.

Payday loans are also designed to be paid off in one lump sum payment, which can be difficult for borrowers to afford. Installment loans, on the other hand, are designed to be paid off gradually, over time …

Installment Loans: Even the Cup Holders Are Spacious

Like payday loans, installment loans have a preset repayment term. Unlike payday loans, this repayment term is usually a minimum of six months. Mortgage and auto loans are most often set up as installment loans, as are most personal loans. While payday loans are usually capped at $500, most installment loans are available for much larger amounts.

Installment loans come with a series of regularly scheduled payments, usually once-a-month. Each payment is the same size as every other payment, and each payment consists of two parts: one part of the payment goes towards paying the principal, and the other part goes towards paying the interest. With every payment made, the amount owed on the loan grows smaller. This type of structure is referred to as “amortization.” You can learn more about whether an installment loans is right for you in Top 5 Questions to Ask Before Taking Out an Installment Loan.

Personal installment loans from traditional lending institutions, like banks and credit unions, are something that people with bad credit are probably not going to qualify for. However, there are also many lenders, like OppLoans, that offer the security of the installment loan model to borrowers with less-than-stellar credit.

There, now that we have the basics covered, check back tomorrow for Part II: The Rollover Road Trip!

References:

  1. “Payday Loans and Deposit Advance Products.” Consumer Finance.Gov. Accessed August 22, 2016. https://files.consumerfinance.gov/f/201304_cfpb_payday-dap-whitepaper.pdf.