What is the Difference between Personal and Pay Day Loans?

Borrowing money has become commonplace for many South Africans trying to make ends meet in a tough economic climate. There are various loans available, all with their terms, qualifying criteria and interest rates.

Two very popular loans are personal loans and payday loans. Both of these options involve borrowing money for personal reasons but with very different terms and rates of interest.

Let’s break it down:

What are Personal Loans?

With a personal loan, you can borrow a certain amount of money from the bank for a particular time frame at a set interest rate that is calculated based on your personal risk profile.

Interest rates for personal loans usually only make up a small portion of the loan repayment. The period of personal loans is most often measured in years and often spans about two years.

To apply for a personal loan, the bank or lender will need to check your credit rating and credit report as well as your income and expenses to determine if you will be able to pay back the loan.

If you get to a point where you are unable to pay it back in full over the agreed-upon period, you can apply for an extension but will continue to pay the interest for the extended period.

What are Payday Loans?

A payday loan offers a quicker application process with a shorter loan period of only one month, Hence the name, payday loan because you will need to pay it back within your next pay cheque cycle.

Although you can get money fairly quickly with a payday loan, they do come with very high interest rates. When you apply, the institution will perform a quick credit check to see if you are able to pay it back. You can then receive the money immediately if they find you to be credible.

When the month is up, you need to pay back the full loan amount plus the interest. If you are unable to pay it back in full, you can apply for an extension, but it will only cost you more in interest. However, if you can pay it back in full, you will be more likely to qualify for another payday loan in the future.

What are the Main Differences between Personal and Payday Loans?

Personal loans and payday loans are similar in that the money you receive from them can help you get through to the end of the month when money is tight. The first major difference between the two loans is the lending period. Personal loans offer a longer lending period of a year or two, while payday loans need to be repaid within two weeks to a month.

Secondly, interest rates differ quite significantly. The interest rate for a personal loan is calculated on your risk and is usually quite low. Payday loans, on the other hand, have an extremely high-interest rate since they are calculated on the average risk profile of all South Africans, plus you are paying extra for the convenience of a quick payout.

Thirdly, applying for a personal loan is generally more difficult than a payday loan because your credit rating and report are carefully analysed (also why personal loans take a lot longer to pay out) as well as your income and expenses. For a payday loan, only your credit score is taken into account, and it is usually easy for people with bad credit to take out a loan.

Lastly, the affordability of a personal loan is much greater than that of a payday loan. The majority of people who take out payday loans are unable to pay them back within the original loan period.

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