Does 2689% APR sounds like a great rate to borrow at? No, I didn’t think so either.
Welcome to the colourful world of so-called ‘payday’ loans. These are small loans, typically between £80-£750 that are made to individuals for short periods such as until the next payday. These loans carry significant interest charges – sometimes up to 10% for just a 5 day period. It is this high rate combined with such a short loan period that creates such a large APR. The APR is showing you what the interest charge would be if you held the loan for a year at that same rate of interest.
Are They Actually Scams?
Through my gritted teeth, I would have to be honest with you and admit that payday loans through your reputable vendors are completely legal, regulated and in rare scenarios will actually save you money.
The Only Scenario When You Should Use Payday Loans…
The only time when you should consider taking out a payday loan is if you meet all of the following criteria:
1. You require a small amount of cash to avoid being charged a fine, fee or incur another large cost.
2. You have a means to pay back the loan within the allotted period of time (e.g. you have a payday soon).
3. You have NO OTHER means through which to obtain a short term loan.
In other words, payday loans should be used as a last resort to avoid a much larger fine or fee such as a large overdraft limit breach charge. Before you take out a payday loan, you should have exhausted all other types of short term finance, such as an overdraft, credit cards, a personal loan arranged with a bank, and (to be honest) friends and family.
Why Payday Loans Make Me Angry
Few vendors, whether online or on the high street rile me up as much as payday loan providers and their shiny & friendly websites. Are here’s why:
Payday Loan Providers Take Their Customers for Fools.
Explain How You Sleep At Night
By law, every payday loan provider must explicitly state their APR on their website. This will naturally lead to some very shocked potential customers click on the ‘back’ button on their browser. But payday loan providers have planned for this, and always feature a clear link beside their crazy APR figures entitled ‘Why is this APR so high?’ or my favourite on Wonga: ‘Please Explain’.
And so the grand event begins. This is the page on which these immoral salesmen shoot white lie after white lie at their visitor. I’ll warn you now, most payday loan providers will make their sales after the customer reads this page. It’s actually a clever sales tool. Not only do they bend the facts but they also shine the brown stuff that they’re flinging your way.
The Big ‘Mis-Truths’ Payday Loan Providers Tell
(These are all genuinely used on Payday Loan sales pages APR information pages.)
1. They’re transparently and heroically fighting the evil ‘system’ created by banks.
The providers will first tell you that they are pained to have to give you the APR figure. Not because it highlights how expensive their loans are, but instead because of the brutal ‘oppression’ that the helpful and benevolent provider suffers. They just want to kindly hand you £100 and helpfully charge you £20 for 5 days of borrowing. They don’t want to be forced to remind you that you could instead borrow £100 for two years from a bank for the same interest fee.
2. They’re your best mate!
Can’t you tell from the relaxed grammar and non-formal language throughout the website? The way they ‘protect’ you from all that ‘rocket science’ stuff like APR calculations that will naturally only confuse little old you? These guys are one of us! They’re on our side after all. To be honest I forget why I even wrote this article….
Indeed, the sales page APR information page on Wonga actually includes a picture of the APR formula. As if to say ‘gosh, this stuff is complicated. Those boffins are living in their own crazy world!’. Wait, I’ll use their own words:
“It’s our unconventional and consumer-friendly approach to lending, combined with the mismatched annual nature of APR, that makes it so mind-bogglingly big. If you don’t believe us, just check out the calculation we need to make. ” – Wonga.com
Note the unnecessary, ugly looking brackets & underscores they’ve added. Nice touch.
As to why showing you a complicated-looking formula actually supports the arguement they make, I can’t see the logic. Can you?
3. Showing the APR is unfair because payday loans are short term and aren’t taken out for a year.
This is the point they labour the most in these APR pages. Payday loan providers insist that as they are a short term service, they shouldn’t be forced to annualise their interest, because no consumer will actually have to pay that amount. This might seem like a good point at first, but let me persuade you otherwise.
Well lets take a look at it from completely the other way round. Payday loan providers want to be measured purely on the real cost of their short term loans, so lets do just that. Instead of forcing a payday loan to annualise it’s rate, we’ll force a normal bank loan to ‘divide’ down to the same period as a payday loan.
I’d like to use Wonga’s 5 day loan which incurs a £10 charge for £100 borrowed. That’s a 5 day rate of 10%. Now lets calculate the 5-day rate of a personal loan from the bank. Actually, lets not, lets instead use a more expensive form of finance – the credit card. Wait, lets actually use the most expensive credit card available! The Vanquis Visa should do the trick, with a whopping APR of 39.9%.
If one was to borrow £100 on a Vanquis Visa at that extortionate annual rate of interest. The theoretical interest over just 5 days of borrowing would be roughly 0.45%. Perhaps this is unfair, as you would probably be charged for a whole month under the credit card terms. This would still result in a charge of 3% (£3) for the whole month. Still a bargain versus the £10 we would pay our friends at the payday loan company.
Suddenly the payday loan providers don’t have a leg to stand on.
Wise Words of Advice
So that explains our gold-plated toliets!
At the end of the day, interest charges are only ever meaningful when you take the length of borrowing into account. You can only compare two interest rates, when they cover the same period of time. Whether this means comparing the sky high APR of paydays with the normal APR of loans, or whether it means looking at the real interest charges of payday loans against the tiny equivilant rates from other sources – you’ll realise that whenever time is taken into account, the payday loan always loses. Only the provider wins.
The true irony is that they argue that their sky high APR figures aren’t real, that they’re purely theoretical and ‘crazy’ numbers. But they’re not. The APR actually represents the actual annual return on investment that payday loan providers receive on their active funds, before taking non-payment into account. 2689%.
Infuriating? Even more so.
What are your opinions on Payday loan providers? Leave a comment below and share your thoughts with me.