Payday Loans vs. Personal Loans: What’s the Difference?

Payday loans and personal loans may seem similar at first glance. You get a lump-sum payment and can use the funds for any purpose with both of these options.

However, both of these loans work very differently. If you need money, it's important to compare payday loans vs personal loans and understand the key differences between the two.

What Is a Payday Loan?

A payday loan for bad credit is a high-cost, short-term loan. These are usually small loans of up to $1,000 that you need to repay when you get your next paycheck. Payday lenders offer their services online or through storefronts.

The amount you can borrow and the cost of the loan will depend on state laws. These loans typically come with very high interest rates (approximately 400%), so they’re not legal in all states.

What Is a Personal Loan?

You can borrow a personal loan from an online lender, credit union, or bank. These loans are available in loan amounts of up to $50,000, and the repayment terms and interest rates will vary based on the amount you need to borrow, your income and your credit history.

Lenders who issue personal loans will check your credit score, current monthly income, and other financial details to qualify you, but you’ll typically get a lower interest rate, longer repayment terms, and larger loan amounts in exchange for the extra time it takes your lender to review and approve your application.

Pros and Cons of Payday Loans

Although payday loans are very expensive, many people borrow these loans when they’re facing an emergency due to their many convenient benefits, like quick funding and no credit check needed for approval. However, it’s important to know the drawbacks of these loans to decide if they’re right for you.

Pros

• Payday loan funds can be used for anything you wish
• No credit check required
• Easy and quick approval process
• Same-day funding

Cons

• Very high interest rates
• Can trap you in a debt cycle
• Not available in all states
• Very short repayment term (typically, only 2 weeks)
• Smaller loan amounts
• Doesn’t help improve credit when you repay your loan on time

Pros and Cons of Personal Loans

You can typically borrow a larger amount at a lower cost with personal loans. However, the terms will depend on your creditworthiness. Take the time to understand how personal loans work and weigh these pros and cons to decide if personal loans are right for you.  

Pros

• Larger loan amounts compared to payday loans
• Much lower interest rates compared to payday loans
• Longer repayment periods offer more flexibility in choosing loans based on monthly payments
• On-time payments can help improve credit score

Cons

• Secured personal loans may require collateral
• You may not qualify with a low credit score
• Loan approval and funding usually take longer than payday loans

Key Differences Between Payday Loan Vs. Personal Loan

When comparing payday loans vs. personal loans, here are the key differences to keep in mind.

Loan amounts

Payday loans are typically smaller and will allow you to borrow only $100 to $1,000. Keep in mind that maximum loan amounts will depend on state laws.

Personal loans come with higher loan amounts compared to payday loans. Loan limits vary by lender, but most will allow you to borrow up to $50,000.

Loan terms

When you borrow a payday loan, you’ll need to repay it when you get your next paycheck, which is usually every two weeks–or maybe twice a month–for most people. The shorter loan term often makes it challenging for borrowers to repay the loan in full when it’s due.

Personal loans are installment loans, so you’ll have several years to repay them. Typically, loan terms range from one to seven years, but you’ll also find longer loan terms with larger loan amounts.

Interest rates

The biggest difference between payday loans and personal loans is the effective interest rates you’ll pay for each type of loan. Payday lenders charge finance fees of $10 to $30 for every $100 you borrow. When translated to an annual percentage rate (APR), this translates to over 400% on average.

Personal loan annual percentage rates will vary from 6% to 36%, depending on the lender and your credit score. When compared to payday loans, this is much lower.

Credit Score Impact

Payday lenders don’t report to credit bureaus because their loan terms are so short, there isn’t enough time for payday lenders to process your loan, and then accurately report this information to the credit bureaus before it becomes due, so this process is just skipped altogether. This means that paying off your loan on time won’t help you improve your credit score.

Personal loan lenders report to credit bureaus because their loans are typically repaid over several years, so making on-time payments each month can help you build credit over time.

What Are the Requirements for Payday Loans and Personal Loans?

Payday loans are easier to qualify for compared to personal loans. Lenders don’t check your credit history, so these loans are usually approved in minutes rather than days or even hours. Here’s what you’ll need to qualify for a payday loan:

• Be at least 18 years old
• Have a bank account in good standing where you can show a history of your paycheck being deposited on a regular basis
• Have proof of income (pay stubs, W-2s, 1099 forms, etc)
• Have a valid government-issued photo ID

Qualifying for personal loans is harder. However, there are many lenders that may offer loans even if you have bad credit. When you pre-qualify for a personal loan, the lender will usually consider these factors:

• Your income and employment status
• Your credit score(s) with one or more of the major credit bureaus (Equifax, TransUnion, and Experian)
• Your debt-to-income ratio

How To Choose Between Payday Loans and Personal Loans?

When choosing between payday loans and personal loans, keep these key factors in mind:

• Use: Payday loans are smaller loans that can be issued quickly, so they’re usually best reserved for emergency expenses. Personal loans are usually for financing a larger purchase, home improvements, or debt consolidation.
• Credit Score: If you have no credit or a very low credit score, a payday loan may be a better option since payday lenders don’t pull your credit report(s) when they consider your application. With a better credit score, you may be able to get lower rates with personal loans.
• Cost: Consider how much you’re willing to pay to access credit. Personal loans are better options if they’re accessible to you due to their significantly lower borrowing costs compared to payday loans.

How To Get a Payday Loan or a Personal Loan?

The application and approval process for payday loans and personal loans is different. Here are the key differences between the two options.

Documents Required

When you apply for a payday loan, you’ll typically need to provide a government-issued photo ID like a driver’s license, plus proof of residence, pay stubs, and a post-dated check.

To qualify for a personal loan, you’ll need to provide documents like your pay stubs, tax returns, government-issued photo ID, and proof of residence. You’ll also have to authorize the lender to pull your credit.

Credit Check

Payday lenders don’t conduct credit checks, and eligibility is usually based on your ability to repay the loan with your next paycheck.

Personal loan companies do a thorough credit check. They’ll also take a look at your income and existing debts to ensure you’ll be able to repay the loan.

Loan Application Process

Payday loan applications are short, and funding is equally as quick. You can apply for the loan online or in-store by providing your banking and income details. You’ll usually receive a decision within minutes and funds in your checking account within one business day.

You can apply for a personal loan online or at a bank. You’ll also be able to prequalify for a personal loan so you can compare your options and find the best rate. Once you select a lender, you’ll have to fill out the application form and submit your documents to receive approval and funding.

Should I Get a Payday Loan or a Personal Loan?

Choosing a payday loan or a personal loan comes down to your needs and financial situation. Here’s a short guide on which option is better when:

• Payday Loan: A payday loan is best when you need a small loan quickly to pay for emergency expenses. It’s a good option if you need access to quick cash, have bad credit that makes it difficult to qualify for other options, and are confident you’ll be able to repay the loan on your next payday.
• Personal Loan: This is a good option for borrowers with fair to good credit who need a larger loan amount and the ability to repay it in monthly installments. It’s also a good option when your need is not immediate, and you can wait for up to a week to receive funding.