If you’ve taken out a payday loan that charges exorbitant fees, the struggle to make the payments can seem overwhelming. This is a particularly difficult type of debt to repay because borrowers can be trapped in a cycle of debt. About 12 million people take out payday loans every year, and over 80% of those loans are turned into a new loan because the borrower couldn’t pay the bill on time.
However, payday loan debt relief is possible. A payday loan consolidation allows you to take out a new loan, usually with a lower interest rate and a fixed monthly payment that you can repay over time.
What Are Payday Loans?
Payday loans are usually short term loans for a small amount, usually around $ 500, which payment is due on your next payday. They are marketed as a useful bridge between paychecks. However, payday loans come with fees that result in ultra-high annual percentage rates, or APRs. A typical two-week payday loan with a fee of $ 15 per $ 100 borrowed, for example, equates to an APR of almost 400%, according to the Consumer Financial Protection Bureau.
This type of loan can damage your credit but cannot boost it. This is because payday loans usually go unreported to the credit bureaus, which means that your payments will not help increase your credit. But if you are in default and the lender sends your account to collections, it will show up on your credit report and hurt your credit scores.
Only 14% of payday loan borrowers can actually afford to repay their loans, according to Pew Charitable Trusts. Due to the high costs involved, the loan can become unmanageable for most borrowers. That’s why taking out a new loan with a lower fixed interest rate can help get your finances back on track.
How Payday Loan Debt Consolidation Works
With a debt consolidation loan, you will take out a loan with a lower interest rate and use the funds to pay off your high interest debts. Then you will pay off the debt consolidation loan over time. The monthly payments are more manageable compared to payday loans. This is because the interest rate on a debt consolidation loan should be much lower and you are paying off the loan over a longer period, typically 12 to 84 months, rather than within two weeks.
First of all, you need to look for a lender who offers debt consolidation loans. Some online lenders will do a pre-screening check, which won’t hurt your credit. They will review your credit reports and assess the interest rate, loan term, and monthly payment you may be eligible for. Before you apply, make sure you can afford this payment each month.
Unlike a payday loan, debt consolidation loan payments are reported to the credit bureaus. This means that making payments on time can help you improve your credit over time.
Benefits of a payday loan consolidation
If you need help with a payday loan, a consolidation loan can help get your finances back on track. Debt consolidation loans generally offer:
- Reduced fees: Some personal loans come with a origination fee, usually in the range of 1-5% of the loan amount, but you may be able to find a loan with no upfront fees.
- Flexible repayment terms: Personal loans offer repayment terms that typically range from 12 to 84 months. Payday loans usually need to be repaid on your next payday, or usually within two to four weeks.
- Predictable monthly payments: With a personal loan, you will make a single monthly payment until you repay the loan. If the interest rate is fixed, your payment usually stays the same for the life of the loan.
- Credit check required: It may seem like a downside, but a debt consolidation lender wants to make sure that you can afford the monthly payments before signing up for the loan. They will usually check your source of income, check your credit reports, or ask you about cash reserves. Even if your credit score is lower, they may be willing to work with you. Payday lenders, on the other hand, usually don’t verify that you can handle the loan.
- No reversal: Once you’ve paid off all the money, you’re done. Your account is closed and the loan is marked as paid off. If you need more money, you will need to apply for a new loan.
Disadvantages of a payday loan consolidation
Payday loan relief probably sounds good, but you should consider these points before applying for a new personal loan:
- You can still default on the loan payments. Although you plan to make every payment on time, a job loss or some other obstacle could take your finances seriously again. Any missed or late payments could damage your credit score, and the loan consolidation lender may send your account to collections. Try to plan ahead for financial emergencies by putting as much savings as possible into an emergency fund.
- You may not qualify for a low interest rate. The interest rates for personal loans generally vary between 4 and 36%, depending on your creditworthiness. Many online lenders are willing to work with people with low credit scores, although your interest rate may be higher. They are, however, still lower than the costs of a payday loan, which can have APRs of around 400% or more. You can also consider alternative payday loans if you are a member of a credit union. These are small, short term loans with affordable interest rates.
Alternatives to Payday Loan Debt Consolidation
If payday loan debt consolidation doesn’t seem right for you, consider these alternatives:
- Request an extension of the repayment period: In some states, payday lenders are required to extend your repayment period beyond your next paycheck. It can help because your payments will be smaller and you will have more time to collect the money. Ask your payday lender if this is an option and if you will pay a fee.
- Enter a debt management plan: As part of a debt management plan, you work with a credit counselor to negotiate better loan terms with your creditors. Once you agree on a monthly payment, you will send funds to the credit agency each month. In turn, the organization will pay your creditors. It is important to work with a credit counseling agency, so research your options before signing up for a plan.
- File Chapter 7 Bankruptcy: Chapter 7 bankruptcy is a legal process that can help some people pay off some or all of their debts. You will have to follow a strict process and some of your assets could be sold to pay off some of your debts. This move is generally reserved as a last resort because it has major consequences. Your credit score will be damaged and it can be difficult to qualify for credit for a few years after discharge from bankruptcy. Consult a lawyer before choosing this option.