Short-term and payday loans

Important. Regardless of the 0% spending card you go for, always follow these golden rules. 

1. Pay at least the monthly minimum else you'll lose the 0% deal. 

2. Clear the card before the 0% ends, or you'll pay hefty interest. 

3. Don't transfer over a balance from another credit card as that's usually not at the cheap rate. If you are trying to clear expensive debts, you need different cards. See Best Balance Transfers.

How to use a credit card to pay off an existing payday loan

To pay off the payday loan, you need to use the credit card for your all normal spending for the rest of the month (don't overspend and carefully budget). The equivalent amount of unspent income will build up in your bank account, which can then be used as cash to pay off the loan.

Then pay off the card as quickly as possible - ideally the same month so you don't pay interest. If this isn't possible, then just pay it as fast as you can. A few months at 20% interest is much less than you'll pay on an equivalent payday loan.

Warning: only spend on the card, don't make ATM cash withdrawals - you pay a fee and interest on those, so spending on a card is always cheaper than getting a cash advance.

No credit limit left? If you're maxed out, speak to the card provider and see if it can increase it. If you try to spend over your credit limit you'll either be declined or will be charged a £12 fee, which can be almost as costly as some payday loans.

How to use this to pay off an existing payday loan

This may not be a solution for everyone, as most payday lenders won't lend to those on income-based benefits, and you need to be in receipt of these to qualify for a Government budgeting loan. But it may work if your circumstances have changed since you took out the payday loan. 

If you've been on income-based benefits (such as universal credit or one of the legacy benefits income support, pension credit, employment & support allowance or jobseeker's allowance) for at least six months, you may be able to get an interest-free loan of £100-£812. Technically, these loans are for essential items for your home or other necessary things that you need a lump sum for such as rent, furniture, clothing or debt repayments.

You'll need to use the loan for the purpose it was intended for ie, essential items for your home. Meanwhile, use the other income you have that you're now not using for living expenses to pay off the payday loan. Repayments depend on what you can afford, though loans last for two years at most.

Although borrowing from family (or a close friend) can be tricky, if you're in a bad way it may be worth asking for help, even if it's just going round for dinner to save on buying food . Plus, often talking about your money problems can be a huge relief (see the Debt-Free Wannabe board on the MSE forums).

If someone will help you out, do it formally. Write down the amount and when you'll repay them. Hopefully they won't charge interest (or if they do, see if they'll accept a pint as thanks, or a token sum at the end of the loan).

If it is a close family member (such as a parent) and they don't have the cash, but they do have a better credit score than you, then as long as they're willing, they could try some of the alternatives above to get the cash to lend to you. But they must be aware the debt is then legally theirs, not yours.

See our Lending to or borrowing money from friends and family guide for what you need to consider.

Credit unions and Community Development Finance Institutions are independently-run local co-operative organisations which aim to assist people who may not have access to financial products and services elsewhere. For many, they're a welcome and cheaper alternative to payday loans, often doing loans that are similar.

Credit union loan rates are capped, and the maximum you can be charged on a loan is 42.6% APR (equivalent to 3% per month). Most loans are cheaper than this, and the highest rate is generally only used for very short term loans. 

See the best buys for credit unions offering payday-style loans.

How to use this to pay off an existing payday loan

If you can find a local credit union doing payday-style loans, borrow cash from them to pay off your 1,000%+ APR payday loan, then you'll have between one and six months to pay the credit union back. 

How to use this to pay off an existing payday loan

Use your overdraft to pay off all (or as much as possible) of your expensive payday loan, by making a card payment or bank transfer. You'll then be overdrawn by that amount and will owe your bank instead. 

Many payday lenders give you the option to pay your loan back over three months rather than one. This can help with budgeting, in that you don't have to pay the loan back in one great whack once your next paycheck's arrived.

But, remember, the longer you borrow for, the more interest you'll have to pay. Most lenders will let you pay the loan off early. This means you could repay a three-month loan after just a few days or weeks, without paying any penalties - though double check before taking out loan if the lender charges any early repayment fees. The quicker you repay, the less interest you will rack up, so the overall cost will be much cheaper.

Even if you stick to the agreed repayment term, always, always have a plan for how you'll pay back the money. See How to Budget for help to manage your finances.

If you do go for a payday loan, the crucial point is that you know how you are going to pay it back. If not, then you can't afford the loan. (If you're given one, you've been mis-sold. See our tool and guide in Reclaim Payday Loans for Free.) No matter how desperate you are, the end result will leave you much worse off.

If you feel desperate and that it's your only option, even though you aren't sure you'll repay it, you'd be far better getting one-on-one debt counselling help from a non-profit debt counselling agency.

If you're later unable to pay, contact the lender immediately

If you take out a loan with a plan to pay it back and something later goes wrong so you can't, contact the lender as soon as you can and ask it for help. 

Always, always tell your lender as soon as you know you're not going to be able to repay. It does work. Be firm, make a fair offer and be willing to answer questions about your income and expenditure honestly.

It should then offer you a fair and affordable way to repay, such as a structured repayment plan and the freezing of interest and charges, 

Payday loans should never be used as a way to fill the gap between your incomings and outgoings each and every month. If that's happening to you, there's a fundamental problem that a payday loan will only make worse not better. An irresponsible lender will take advantage of this. If this is happening, you've been mis-sold. Go to our free tool and guide Reclaim Payday Loans for Free.

To stop being sucked in a downward spiral, the most important thing to do is to sort out a budget to try to balance your costs and income.

It's easy to be tempted to get one payday loan for a small amount, then another the next month, and before you know it, you're in a debt spiral. See this story from forumite leopardxgirl as a stark warning.

Apply for any credit, and lenders 'score' you to predict your likely behaviour. They use data from credit reference agencies as part of this (see the Credit Scores guide). But a payday loan on your credit report can have a striking effect. All credit reference agencies differentiate payday loans on your credit report. They’re in a different section, so underwriters (who make lending decisions) can tell how much and how often you've used payday loans.

Can a payday loan stop me getting a mortgage?

A few mortgage lenders have publicly said applicants who have used payday loans won't be accepted for a mortgage with them - even if they were fully repaid on time.

Yet even those who haven’t spoken up are likely to behave in a similar way. One of the UK’s top technical experts on mortgages, Ray Boulger from broker John Charcol, says:

This is because the presence of a payday loan on the credit record of a mortgage applicant implies there's some underlying problem with their budgeting and money management. That throws serious doubt on their ability to consistently meet a monthly mortgage payment.

I've seen adverts saying a payday loan can improve my credit rating. Is that true?

Some payday loan firms claim getting it has a positive effect.

Of course, if you get a payday loan, paying it in full and on time is important. It'll certainly give you a relatively better score than not doing so. Similarly, missing a payment or late payments will harm your credit score.

Yet payday lenders' claims that getting one will help your credit score are likely to be overblown. It can boost indicative scores from the credit rating agencies – but this isn't the same as making lenders more likely to give you conventional credit cards or loans.

Each lender scores you differently, based on its own wishlist of what makes a profitable customer. Some will see a marginal improvement from payday loans – but equally, others may follow the path of mortgage lenders and see it as a big no-no.

If you need to rebuild a bad credit history there are other, better ways to do that, with specific Credit Cards for Bad Credit.

There are three elements to this cap:

• Lenders can only charge 80p interest per £100 per day (0.8%). So, if you borrowed £100 for 30 days, you shouldn't pay more than £24 in interest.

• Lenders can't charge more than £15 as a fee if you pay late.

• You'll never pay back more than double what you borrowed. So, if you borrow £100, you will never pay back more than £200 when all interest, late fees and charges are taken into account.

  This is more relevant than the APR you'll see displayed. This stands for the Annual Percentage Rate, and essentially tells you the cost of borrowing if you were to have it over a year. 
  

  As you're borrowing over a short period, even a small fee can become an astronomical APR. Payday loans are expensive but if you express the typical charges payday lenders make as APRs most work out as over 1,000%. This is a useful warning against what can be dangerous products, but these APRs are mostly meaningless.

What exactly is APR?

APR stands for the Annual Percentage Rate, and it's the official rate used for borrowing. When it's calculated it has to include:

• The cost of the borrowing, so the amount of interest charged plus

• Any associated fees that are automatically included, such as an application or annual fee

An APR is therefore meant to give you the overall equivalent cost of a debt, which you can then use to compare against other credit and loan products. It must be displayed by a lender before any agreement is signed. 

Why do they have to put these APRs if they're meaningless?

Well, it's a legal requirement that if you're offering loans to people, then you have to have your APR marked in large letters on all adverts, and on your website.

But, many have pointed out the pointlessness of this with a payday loan. APR stands for 'annual percentage rate'. Put simply, it's the rate you pay on what you've borrowed over a year, including all interest and charges.

But, here's where it falls down. Payday loans are usually taken out for a matter of weeks, rather than for years. So, the amount you will have to pay back is really more relevant than the APR for these loans. See Martin's blog on how an APR can confuse as much as it can clarify what's really going on.  

Some, especially smaller, payday lenders don't share your payment data with credit reference agencies. These are generally the ones that advertise "payday loans with no credit checks".

This can seem like a good thing, as it won't "ruin" your credit rating by putting the payday loan on your file (though a future lender could ask you).

But it also means the payday lender's not lending responsibly as it's not checking you can afford to repay. It also means other lenders won't be able to see the loan, so as a consequence, their lending may not be responsible either. Irresponsible lending is mis-selling. See our free tool and guide Reclaim Payday Loans for Free.

The 'responsible' payday lenders - the ones which credit check each applicant – say they turn down between 60% and 90% of first-time applicants because their credit records show they're already too indebted to have a good chance of paying their loans back.

Think carefully if you're going to a payday lender because it advertises 'no credit checks'. Can you really afford to repay it?

A common tactic of payday lenders is to ask you to pay using something called a continuous payment authority (CPA, also known as a recurring payment). This is where you tell it the 16-digit number on the front of your card. This gives the lender the right to automatically take a payment, though it's limited to two attempts to collect payment, and should only be taken on the day it is due. It can only claim the full payment required, rather than part-payments, but it can be dangerous, especially if you have other, more important bills to pay.

How can I cancel a Continuous Payment Authority?

You have a right to cancel CPAs simply by asking the bank which runs your account. See the Recurring Payments guide for full help. We're not suggesting to cancel this and not repay, but the lack of control these types of payments give you is scary - it can be far better to call them and pay up as and when you owe the money.

Payday loan companies, though they may lay traps for you, are authorised by the FCA (check at the FCA Register). So if things go wrong, you have some limited room for recourse. But loan sharks are a completely different beast. They're unlicensed, they break the law, often go knocking door-to-door and at worst they use horrific methods - including violence and threats of violence against the borrower, their family or children - to get their money repaid.

How do I report an illegal loan shark?

If you know of loan sharks near you, report them on 0300 555 2222 – you can also WhatsApp them on 07700 102773, visit StopLoanSharks or download its app (England only). If you're elsewhere in the UK, contact details to report loan sharks are on the Government's Report a Loan Shark page.

When borrowing, always check whether the lender is authorised by the FCA.