Payday loans vs cash advances
Short answer
Payday loans and cash advances both provide quick cash but differ in their source, cost, and repayment terms. Payday loans are high-cost, short-term loans from specialty lenders, while cash advances are loans on your credit card’s available credit. Choosing the right option depends on your credit status, how fast you can repay, and the total cost involved.
What is a payday loan?
A payday loan is a small, short-term loan intended to cover expenses until the borrower’s next paycheck. Typically, payday lenders provide amounts ranging from $100 to $1,000, usually a portion of the borrower’s expected income. To get a payday loan, a borrower must provide proof of income, a valid ID, and a postdated check or electronic access to their checking account. The loan is due in full on the borrower’s next payday, often within 14 to 30 days.
Payday loans are known for their high fees and interest rates. For example, a loan of $300 might come with a $45 fee, which translates to an annual percentage rate (APR) much higher than traditional loans. This means if the loan is not repaid on time, the cost can quickly become unmanageable. Payday loans usually do not require a credit check, so they are accessible to people with poor or no credit history. However, borrowers should be cautious because failure to repay can lead to bank overdraft fees, collection actions, and a cycle of debt if the loan is rolled over or renewed. Some states regulate or prohibit payday loans, so checking local laws before applying is crucial.
What is a cash advance?
A cash advance is a short-term loan that allows a person to borrow money against their credit card’s available credit limit. Cash advances can be obtained at ATMs, banks, or certain retail locations by using a credit card and a PIN or signature. The loan amount can be as small or as large as the available credit allows, but it is important to remember that cash advances often have limits set by the credit card issuer.
Unlike regular credit card purchases, cash advances generally begin accruing interest immediately—there is no grace period. Additionally, cash advances typically come with fees, such as a fixed percentage of the amount withdrawn (commonly 3% to 5%), with a minimum fee amount. For example, withdrawing $200 might incur a $10 fee if the fee is 5%. Because of these fees and the high interest rate, cash advances can be expensive if the balance is not repaid quickly.
Cash advances require an active credit card account with available credit, meaning they are not accessible to people without credit cards or those whose credit cards have no remaining credit. Using a cash advance increases the credit utilization ratio, which accounts for the percentage of credit used relative to the credit limit. A high credit utilization ratio can negatively affect credit scores if not managed carefully.
How do payday loans and cash advances compare?
| Feature | Payday Loans | Cash Advances |
|---|---|---|
| Source | Specialized payday lenders | Credit card issuer |
| Typical loan amount | Usually $100 to $1,000 | Up to available credit card limit |
| Repayment term | Due by next paycheck (typically 14-30 days) | Depends on credit card billing cycle; flexible |
| Interest rate/APR | Very high, can exceed 300% APR | High APR, but usually lower than payday loans |
| Fees | Fixed fees, sometimes $15 to $30 per $100 borrowed | Percentage of amount withdrawn (3%-5%) |
| Credit check | Usually no credit check | Requires open credit card account |
| Impact on credit score | Usually no direct impact unless sent to collections | Can increase credit utilization ratio |
| Risk of debt cycle | High, due to short terms and rollover fees | Moderate, if balance not repaid promptly |
| Accessibility | Easier for poor or no credit borrowers | Requires credit card with available credit |
Who is best suited for a payday loan or cash advance?
Payday loans may be suitable for individuals who lack access to credit cards or other forms of credit, need cash urgently, and cannot wait for slower loan processes. Because payday loans don’t require credit checks, they are often accessible to those with poor or no credit history. However, payday loans are best used only in emergencies due to their high costs and risk of causing debt spirals.
Cash advances are more appropriate for people who already have a credit card with available credit and can repay the amount quickly. For example, if a borrower needs $300 immediately and has a credit card with a $1,000 limit, a cash advance might be more convenient and slightly less costly than a payday loan. Still, because interest accrues immediately, prompt repayment is critical. Using cash advances regularly or carrying balances over time can damage credit scores and increase debt.
What questions should be asked before choosing payday loans or cash advances?
Before choosing either option, it is important to ask:
- How much money is needed, and how soon can it be repaid? For example, if $400 is needed for an urgent bill, assess whether repayment is possible by the next paycheck or billing cycle.
- What is the total cost, including fees and interest? Request a clear written statement of all fees and interest rates.
- Are there penalties or additional fees for late repayment or rollover? Understand what happens if repayment is delayed.
- Will using this loan affect the credit score or credit utilization? Ask if the lender reports to credit bureaus or if using a cash advance will impact credit utilization.
- Are there less costly alternatives, such as borrowing from friends, family, or credit unions?
- What are the exact repayment terms and schedule? Obtain this in writing and ensure it fits your budget.
- Is the lender licensed and regulated in your state? Confirm this to protect against predatory practices.
Asking these questions can help identify the cheapest and safest borrowing option.
Can payday loans be switched to cash advances, or vice versa?
Switching from payday loans to cash advances or the reverse is possible but generally not advisable as a long-term solution. For instance, using a cash advance on a credit card to pay off a payday loan may consolidate the debt but could increase credit card balances, raising credit utilization and interest costs. Conversely, taking out a payday loan to pay off a cash advance may lead to paying excessive fees and interest on both debts.
If managing payday loans or cash advances becomes difficult, consider contacting a nonprofit credit counselor for debt management advice. Alternatives such as personal loans or payment plans often have lower costs and longer repayment terms. Avoid using one expensive loan to pay off another, as this can deepen the debt cycle.
What are safer alternatives to payday loans and cash advances?
Consider these steps instead of payday loans or cash advances:
- Explore personal loans: Many banks and credit unions offer small personal loans with fixed interest rates and repayment plans. For example, a local credit union may offer a $1,000 loan with a 12-month term and a 10% APR.
- Use credit union loans: Credit unions often have lower rates and flexible terms compared to payday lenders.
- Borrow from family or friends: This can be low or zero interest and more forgiving repayment terms.
- Use an emergency fund: Setting aside even a small amount monthly can build a buffer for unexpected expenses.
- Negotiate payment plans: Contact service providers or creditors to arrange affordable installment plans.
- Consider paycheck advances from employers: Some employers offer advances without fees or interest.
Taking these steps reduces reliance on costly short-term loans and supports better financial health.
Frequently asked questions
Do payday loans require a credit check?
Most payday lenders do not perform a credit check, making them accessible to people with poor or no credit history. However, this can mean higher fees and interest rates.
How soon does interest start accruing on a cash advance?
Interest on cash advances usually begins accruing immediately—there is no grace period like with regular credit card purchases.
Can payday loans be refinanced or extended?
Some lenders allow rollovers or extensions, but these typically involve additional fees and increase the overall cost, potentially trapping borrowers in debt.
Are cash advances reported to credit bureaus?
Cash advances themselves are not reported separately, but the credit card balance and payments are. High balances from cash advances can increase credit utilization and impact credit scores.
What should be done if unable to repay a payday loan on time?
Contact the lender immediately to discuss options. Seeking help from a nonprofit credit counselor can provide guidance on managing payments and avoiding additional fees.
Where can one find legal help regarding payday loans?
Many states have consumer protection offices or legal aid organizations. Contacting them can provide guidance tailored to state laws concerning payday lending.