When it comes to borrowing money, people often think of payday loans as a costly option due to high-interest rates and fees. However, according to consumer group Which?, dipping into an unarranged overdraft can be more expensive than a payday loan.
In this no-nonsense guide, we will explore the differences between payday loans and unarranged overdrafts, including the pros and cons of each option.
Payday Loans
A payday loan is a short-term loan typically used to cover unexpected expenses or emergencies. Here are some key points to keep in mind:
Pros:
- Quick access to cash
- Easy to apply for
- Fixed fees
Cons:
- High-interest rates
- Short repayment periods
- Can lead to a cycle of debt if not managed properly
Unarranged Overdrafts
An unarranged overdraft is when you spend more money than you have in your bank account and don’t have an agreed-upon overdraft limit in place. Here are some things to consider:
Pros:
- Quick access to cash
- No need for pre-approval
- Can cover unexpected expenses
Cons:
- High fees and interest rates
- Can lead to a cycle of debt if not managed properly
- No cap on charges, can be more expensive than a payday loan
Comparing Costs
As mentioned earlier, the charge for a £100 payday loan over 28 days has been capped at £22.40 since January 2015. In contrast, going overdrawn on an unarranged overdraft for the same amount and period can cost up to £90.
While banks do offer loan services, including arranged overdrafts, these options may not be accessible to everyone. Many customers go overdrawn when they cannot get arranged borrowing or during a short-term cash flow situation. The Financial Conduct Authority introduced the cap on payday loans to protect these borrowers, but there is no similar cap on unarranged bank overdrafts.
Payday loans are often viewed as a costly way to borrow money, an unarranged overdraft can be even more expensive. It’s essential to understand the pros and cons of both options and ensure you are aware of all fees and charges before making a decision.
When considering borrowing money, always evaluate your options carefully, and only take out a loan or overdraft if you can afford to repay it on time. With the right approach, borrowing can be a useful tool to help manage short-term financial difficulties.