The Differences Between an Installment Loan and a Payday Loan
Written by: Dwayne D.
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Updated on:
Both installment loans and payday loans fall under the category of small-dollar loans that are best used in emergencies. Individuals utilizing these loans typically possess a lower credit score or lack a credit history, compelling them to explore alternative sources of funding. However, while they have similar uses for consumers, they are very different.
Key Takeaways
- Both installment loans and payday loans serve as small-dollar loan options primarily intended for emergencies.
- They are often utilized by individuals with bad credit scores or those lacking a credit history who may find it challenging to secure funding through traditional means.
- Installment loans are repaid over a predetermined period through scheduled installments.
Payday Loans vs. Installment Loans
In the world of short-term lending, payday loans and installment loans are two popular options that cater to individuals in need of quick financial assistance. While both can provide immediate funds, they differ significantly.
Payday loans are typically small-dollar loans that borrowers repay in full, along with fees, by their next payday.
In contrast, installment loans allow borrowers to repay the loan amount over time in regular installments.
Is a Payday Loan an Installment Loan?
No, a payday loan is not considered an installment loan. While both are forms of short-term borrowing, they differ significantly in structure, repayment terms, and financial impact, which we will detail below.
What Is a Payday Loan?
A payday loan is an advance on your next paycheck. The amount you could receive typically ranges from $100 to $1,500.
The amount you could receive is based on your income and ability to repay the loan. If the borrower cannot repay their loan in full on their next payday, the balance can be rolled over for another week, although they will incur additional fees and interest.
Payday loans work by providing borrowers with quick access to cash, typically in exchange for a post-dated check or authorization to electronically access the borrower's bank account. Borrowers are usually required to repay the loan in full, along with fees, by their next payday, which is usually within two to four weeks. One of the key features of payday loans is their accessibility, as they often do not require a credit check for approval.
Why You Might Use a Payday Loan
Payday loans provide quick access to cash, which can be especially helpful when facing urgent financial needs.
Additionally, payday loans are often used by individuals who do not have access to other forms of credit, such as credit cards or personal loans. This may be due to a poor credit history or a lack of traditional banking relationships.
What Is an Installment Loan?
An installment loan is an amount of money given upfront that is repaid over a certain amount of months.
Installment loans are a type of loan where borrowers receive a lump sum of money upfront and repay it in regular installments over a predetermined period. Each installment consists of both the principal loan amount and an interest fee, which is typically fixed for the duration of the loan.
One of the key features of installment loans is their predictable repayment schedule. Borrowers know exactly how much they need to repay each month, making it easier to budget and manage finances.
They are often considered a more affordable and manageable borrowing option compared to payday loans, which have higher fees and shorter repayment periods.
Why Might You Use an Installment Loan?
There are several reasons why someone might choose to use an installment loan. One common reason is to finance a large purchase or expense. Plus, if you need to repay in a longer period, an installment loan is a better option than a payday loan.
| Feature | Payday Loans | Installment Loans |
|---|---|---|
| Loan Amount | $100 - $1,500 (varies by lender and state) | Varies widely, typically $500 - $10,000+ |
| Repayment Term | Due in full on the borrower's next payday (typically 2-4 weeks) | Repaid in fixed installments over months or years |
| Repayment Structure | Lump sum payment, including fees and interest | Monthly payments including principal and interest |
| Interest Rates & Fees | Typically high APRs (300% - 600% or more) | Lower APRs compared to payday loans (often 6% - 36%) |
| Credit Check Required? | Usually no credit check | Often requires a credit check |
| Best For | Short-term emergencies, quick cash needs | Larger purchases, long-term financial needs |
| Approval Speed | Fast, often same-day funding | Fast, but may take longer than payday loans |
| Impact on Credit | Usually does not build credit (but missed payments can be reported) | Can help build credit with on-time payments |
| Risk of Debt Cycle | High—short repayment term and rollovers can lead to repeated borrowing | Lower—structured payments reduce risk of rollover |
| Common Uses | Emergency expenses (medical bills, rent, car repairs) | Debt consolidation, home repairs, auto financing |
3 Differences Between Payday Loans and Installment Loans
OK, now that you know what these loans are, how do they differ?
1. Loan Repayment
A fundamental difference between installment loans and payday loans is how you repay the money. Installment loans, true to their name, involve borrowing a lump sum that you repay over a predefined period through a series of scheduled installments.
This extended timeline not only provides more breathing room for repayment but also enables you to manage your finances more effectively.
On the other hand, payday loans follow a different approach. These loans are designed to be short-term solutions, with the repayment typically due on your next payday or within a few weeks.
2. Amounts
When it comes to the amount of funds you can access, installment loans and payday loans display notable discrepancies. Installment loans generally offer more substantial borrowing limits compared to payday loans. This makes them a preferred choice for individuals facing significant expenses, such as medical emergencies or major home repairs.
Conversely, payday loans are tailored for immediate, smaller-scale financial needs and typically provide a loan amount that corresponds to a percentage of your regular income.
3. Credit Check and Approval Process
The application and approval processes for installment loans and payday loans also diverge. Installment loans typically involve a more comprehensive credit assessment, where lenders evaluate various financial factors to determine your eligibility and assign an appropriate interest rate.
In contrast, payday loans may have a simpler approval process that places less emphasis on your credit history. This streamlined approach can make payday loans more accessible for individuals who have lower credit scores or limited credit history.
