Payday loans are undoubtedly more expensive than traditional loans. That said, they are typically easy to repay if paid off within a month or two. Also, the charges of payday loans are a lot less as compared to bank charges for unauthorized overdrafts, and even credit cards.
Before you take out a payday loan, you must make sure that you can afford to repay the loan amount when due. Rolling over the loan or extending the loan duration can result in incurring extra high fees and charges that are applied to the payday loans.
How Payday Loans Charges Add Up?
Payday loan charges add up quickly. The reason is that they entail a high interest rate. Lenders quote annual percentage rates (APR) on payday loans. These rates reflect annual cost of a loan to the borrower. The APR on payday loans can be as much as 2,000%. While this figure is somewhat meaningless when the loan is repaid within a month, the amount can turn out to be very large if the loan is rolled over for more than two months.
For instance, suppose that you apply for a loan of £500 that has an APR of 1,500. Now if you repay the amount within month, you will have to pay £130 interest on the loan. However, if the duration is increased to four months, the total interest on loan will be £760. This represents an increase of £630. So, it’s vital that you repay the payday loan quickly otherwise, you will easily land into deep financial trouble.
Note that some lenders do not directly quote the APR. To calculate the APR in such a situation, you need to know three things:
- Finance Charges,
- Loan Amount, and
- Loan Duration.
First you will need to divide the finance charge by the loan amount. Next you should multiply the answer by 365, and then divide the result by the loan duration in days. So, if you have availed a 30-days loan amounting to £700, and the finance charge is £100, then the APR is 174% i.e. 100/700 = 0.143; 0.143 * 365 = 52.143; 52.143 / 30 = 1.743 *100 = 174%.
Similarly, if the loan duration is 14-days, the APR increases to 372%. The lower the loan duration or greater the finance charges, more will be the APR. You should not focus on the APR figure when selecting a payday loan. Instead determine the exact rate that you have to pay as it will give a truer picture of the payday loan costs.
On a final note, the way the rates are calculated on payday loans, they are not designed for short term lending. Increasing the loan period greatly inflates interest amount. This makes it difficult for an average consumer to repay the loan. That’s why it’s absolutely vital that you determine the exact amount that you will have to repay, and most importantly, whether you will afford to repay the amount when it becomes due.