Payday loans have had a bad press. Stories about borrowers facing extortionate interest rates, ridiculously high fees, visits from bailiffs and legal action dominated the media headlines during 2014 and led the Financial Conduct Authority to introduce new rules governing this type of lending at the beginning of 2015.
But it’s important to separate the fact from the fiction about payday loans because for many people – particularly responsible borrowers who need a small sum to tide themselves over for a short while – they remain an important part of the credit landscape. In this article, we look at the most common myths about payday loans:
Myth 1: Payday lending is unregulated
Fact: As with every other type of lending, payday loans are governed by rules laid out by the FCA. Indeed, the regulations governing this type of lending are strictly controlled by the FCA following its review of the market during 2013/14 and the introduction of new rules at the beginning of this year. Payday lenders face stricter controls than many other lenders – particularly on interest rates and fees.
Myth 2: Payday loans come with extortionate interest rates
Fact: If you believed everything you read in the popular press, you may well have come to believe that payday loans came with much higher levels of interest than other forms of credit. But this is fiction: all lenders have to include an APR (annualised percentage rate) in their advertising and payday loans are no different. While a payday loan may be advertised with an APR of in excess of 1,000%, nobody who takes out one of these products will pay that amount in interest because a payday loan is a short-term loan. If you borrow £250 for one month at an APR of around 1,400%, then you will only repay £250 – total interest of 25%.
Myth 3: People get trapped in ever-increasing debt
Fact: There is now a limit on the number of times that a payday loan can be extended or “rolled over” meaning that anybody taking out one of these products will only ever be allowed to roll repayment over three times.
Myth 4: Payday lenders want you to rollover a loan
Fact: It’s a common misconception that payday lenders make most of their profits from rollovers. The Office of Fair Trading suggested as much in its review of the market when it said that as much half of all payday lenders’ revenue came from the interest and fees levied on rollovers. But those figures were based on the total amount of payments from a loan – including the initial amount which was added to the revenue generated on each subsequent rollover.
Myth 5: There are no credit checks with payday loans.
Fact: If a payday lender is a member of the Consumer Finance Association (CFA), the organisation representing all of the country’s reputable lenders, then it must perform a check with the credit reference agencies prior to approving a loan. This is exactly the same process that all of the mainstream high street banks and other lenders go through.
Myth 6: Payday loans are targeted at the most vulnerable.
Fact: Responsible members of the CFA do not target specific types of customer despite media claims that the unemployed, elderly people and benefit recipients are more likely to take out a payday loan. As part of its rules, the CFA insists that lenders ensure that customers have a bank account and a regular income. They are also required to carry out affordability assessments on all customers.
Myth 7: Payday lenders ‘raid’ people’s bank accounts
Fact: When an individual takes out a payday loan, he or she will usually be asked to give the lender a Continuous Payment Authority (CPA), which allows it to take repayments direct from their bank account. CPAs ensure that the borrower concerned is able to repay the loan on time and not default on it but there were concerns that the system was open to misuse. Under the new FCA rules, lenders are limited to two failed CPA attempts meaning that they will not be able to repeatedly try to withdraw money from a bank account when the borrower does not have funds available. In these cases, the lender will always contact the borrower to ascertain what the situation is and discuss ways of repaying the overdue amount.
Myth 8: If there’s not enough money in my account, the lender will take whatever is available
Fact: During the payday lending peak in 2011/12, some consumers found that when lenders attempted to take a repayment from their accounts but there weren’t sufficient funds, they would simply take whatever was available leaving the consumer unable to pay other bills. The changes made by the FCA now mean that part payments are not allowed and if the lender is unable to collect the full amount, it cannot take whatever is available in a customer’s account.
Myth 9: It’s cheaper to take out an overdraft or credit card
Fact: Short-term lending is traditionally more expensive than borrowing money over longer time periods. Payday loans are no different to credit cards or overdrafts in that respect but are actually much cheaper than either cards or unauthorised overdrafts when the borrower repays the loan and interest as agreed. While going overdrawn on your bank account by £200 can seem like a good idea, there is no obligation for the bank to show an APR on this and you may incur interest and charges of up to £150 in just one month – making an APR of almost 91,000%.
Article provided by Solution Loans, a technology-led finance broker with many years experience in advising clients of their most suitable solution to the financial products available.