Payday Loans vs Credit Cards: Let’s Break it Down

Inside Subprime: Nov 7, 2018

By Jessica Easto

More than 40 percent of American adults struggle to make ends meet each month, and when people are forced to make tough choices between material necessities like food, medication, and housing, they often turn to quick funding solutions, such as payday loans and credit cards.

Payday loans, also know as “cash advances,” are short-term, small dollar loans that come with very high interest rates. On average, payday loans terms are for two weeks, and they rarely exceed a month. Credit cards are essentially short-term, small-dollar loans, too. They allow you to borrow money from financial institutions such as banks and credit unions to make purchases and then you pay for them later.

Both payday loans and credit cards charge annual percentage rates, or APRs. APRs tell you how much a loan will cost—that includes its simple interest rate and any extra charges and fees—for one full year, allowing you to compare the cost of different loan and credit line products. However, payday loans tend to have extremely high APRs: 400 percent compared to below 20 percent for a credit card. Additionally, you don’t have to pay any interest on your credit card purchases as long as you pay them off in full by the end of your billing cycle, which is usually a month.

When used responsibly, credit cards can actually help you build credit and improve your credit score. In fact, you need fair credit in order to get a credit card—it’s usually difficult to get one if your credit score is below 550, and you have more options when it’s higher. Payday lenders often require no credit, making payday loans an alluring option when there aren’t many choices.

This is one reason why payday lenders are often considered predatory while the institutions that issue credit cards are generally not. A predatory lender uses deceptive practices and misleading terms to profit from borrowers—usually those in desperate situations. Many payday lenders require you to write a post-dated check when you sign the loan, and they cash it the day your payment is due. If you can’t pay at that time, you may forced to “roll over” your loan—for additional fees and interest of course. In this situation, a small $200 loan and quickly balloon out of control, creating a cycle of debt that is hard to escape.

Credit card debt is still a huge problem in this country, with almost 40 percent of households having revolving credit card debt, or a balance that is not paid off in full during the billing cycle. But most experts agree that payday loan debt is far worse than credit for several reasons:

  • Payday loans have much higher interest rates than credit cards, which means faster escalating debt if you are unable to repay the loan on time.
  • Even if you can’t pay your credit card off right away, you are allowed to make minimum payments, which are usually affordable. Although you will still accrue interest, credit card terms give you more flexibility while you get back on your feet.

The best way to minimize your exposure to the risks of payday loans and credit cards is to understand your finances and learn how to avoid predatory lending.

For more information on scams, payday loans and title loans, check out all of our state-by-state Financial Resource Guides.


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