Payday loans market themselves as “save the day” solutions when unforeseen expenses arise. But this couldn’t be further from the truth. In reality, payday loans can do incredible harm and the myths surrounding them are not nearly challenged enough. As a broker, I’ve seen too many people succumb to the myths of payday loans, thinking the seemingly short term loan will take the pressure off when there is an unexpected financial struggle.
The borrower suffers disastrous consequences. Below, I explain what a payday loan is, bust the top three myths about them and advise you on what to do if you have taken out one.
What is a Payday loan?
Payday loans are usually loans of less than $3,000, often coming with a comparison rate of up to 48% p.a. People use them for short term to hold them over until their next pay cycle.
While a loan to help you bridge the gap between now and payday sounds great, the reality is much different. Many people become enticed by the promises of payday loans and end up paying for it for years. From getting stuck in a cycle of taking out loan after loan, to ruining your credit rating, these are the top three myths and what to do if you have taken one out.
Myth 1: Payday loans are a one-off loan
People think payday loans are a one-off loan to cover an emergency. It sounds like a huge one-off saviour; an unexpected expense arises a few days before your employer pays you, so you take out a short loan and pay it back when your pay comes through. No harm done, right? Wrong. The reality is – that most people get caught in a vicious cyclical trap.
Many people end up relying on the loan much longer than intended. They might repay the loan from their next payslip, but then they fall short again and need to take another loan to cover them before they are paid. They are forever trying to cover their shortfall. Lenders make it easy to stay in this harmful cycle by offering the borrower an instant re-draw facility.
In reality, when people take out a payday loan, they stay out of pocket, on the back foot and paying huge interest on their loans. Most people who take out payday loans end up in worse financial positions than they were in before they took on the loan.
Myth 2: Payday loans are good for your credit score
Advertisements for payday loans often depict them as being positive for your credit score. If you take out a payday loan, make the repayments without missing any and pay it off in full, the bank will surely see this is a positive, right? No, this is false again and is actually the complete opposite of the truth. In reality, a payday loan is a big red flag for a bank.
They will see it as an inability to manage your own finances. In essence, you are taking out a loan to cover minor expenses. Therefore, lenders will worry about how you will cover your car loan repayments while balancing other surprise expenses that pop up from time to time.
People sometimes come to us thinking that their payday loan history signifies that they can meet payments and deadlines. However, lenders will think that you are living less than paycheck to paycheck, without the necessary means to survive without these loans.
How can they possibly extend you more credit and expect the repayments to be made? Instead of helping your credit file, payday loans will do the opposite exact opposite. They will damage your score and often make future loan applications incredibly difficult.
Myth 3: Lenders won’t notice a history of payday loans
People often think that if they have just a couple of payday loan enquiries, lenders won’t mind. In reality, if you have just one payday lender enquiry on your credit file in the last twelve months, it will trigger questions from the lender. In this case, you might be required to provide up to six months of bank statements to your broker and to the bank.
They need this as proof that you have the ability to pay off your loan before granting you one. The lender will be checking what your cash flow and money management are like. The lender is also checking for any other loans that aren’t mentioned on your file.
This process can be stressful and will create a lot of extra work and headache for you, your broker and for the lender. If you have more than one payday loan enquiry or you have taken out some payday loans in the past, you will likely be declined from your loan. This reflects poorly on your file and will make borrowing in the future even more difficult.
What could one do if they fall victim to a payday loan?
The first thing to do is break the vicious cycle. Stop any redraw facilities and focus on paying off the loan as fast as you can comfortably afford. Once the loan has been paid off, remove yourself from the lender’s email marketing campaigns so you won’t be drawn back in.
When you contact a broker for your next loan, be completely honest about your history with payday loans. Do not try to apply for a loan yourself, as you might fail to meet the credit policy of many lenders. This will result in more declines, and your credit file will be affected.
Your broker will be able to match you with the best lender for your particular situation as they balance getting you the best deal possible and avoid further harm to your credit file.
How can a broker help me?
You must find an honest, compassionate broker to help you. A broker may initially refuse to submit your application if they see a history of payday loans or enquiries. But this is usually a good thing. This type of broker is looking out for you, they know your application will likely get declined, and they do not want to put you in a worse position than you already are.
Your broker should explain what’s going on and work with you to create a plan to get your credit rating back and help you become a sound applicant again. A good broker will help manage your expectations as to how long the recovery process may take and help you set achievable targets along the way to help manage debt snowballing and banking habits.
If a broker shows signs of judgement about your payday loan, you should look for someone else to work with. Everyone can make mistakes, and it’s a broker’s job to help you from where you are at. Also, you want to make sure you are able to have an open and trusting relationship with your broker, as you will likely work together again in the future.
When I see people with payday lender enquiries on their file, it is due to the applicant not being aware of how bad they are. If they knew, they may have found another way to manage their hardship. The way Payday lenders market themselves as being good options and the lack of information on the negatives, means that sometimes, people are not aware.
Long term planning
With the incredible amount of loans available in the marketplace, it’s relatable that people are confused. It can be daunting and getting it wrong can have long term implications for your credit file. All your applications and enquiries are visible for 5 years, so getting it right is vital.
If you have a bad credit score and a below average credit file, you will be limited in which lenders will lend to you. This means you’ll pay a higher interest rate and have fewer choices around which lenders you can use. If you try and remedy your own mistakes, you may end up with a worse credit rating than it needed to be, even if you are well intended.
It is crucial to engage an experienced broker who understands the landscape of lenders and can help you make a plan to ensure the best outcome in the long and short term.
Sam Roby is the Head of Sales and co-founder of Pure Captial. Pure Capital connects clients to the right lender for their car, equipment and business borrowing needs. At Pure Capital, Sam is committed to getting the best deal for his clients while helping them maintain a high-level credit rating.