Payday loans: uSwitch explains

You may be tempted to borrow money using a payday loan, but with interest rates as high as 2,000% APR or more they could prove very expensive.

uSwitch explains how payday loans work, why they could prove very costly and what cheaper ways there are to borrow money.

What are payday loans?

Payday loans let you borrow small amounts of money for as little as a week or a month, but with very high interest rates, which mean a payday loan could end up costing far more than you bargained for.

Why shouldn't I take out a payday loan?

Payday loans let you borrow from £50 to £1,000 for a few days or up to a month until you get paid the following month. Payday loan companies typically charge up to £30 for every £100 cash loan you borrow for up to 31 days. This may sound reasonable on the face of it, but it equates to an APR (annual percentage rate) of a whopping 2,255%. The idea of payday or cash loans is that they give you access to emergency cash for a short period without you having to go to your bank. However with such high interest rates borrowing a small amount of money can be very expensive.

Applying for a payday loan is easy as lenders make few checks and in some cases credit checks are not carried out at all. However payday loans can be a very expensive way to borrow money. For example, a cash loan of £500 for 31 days could cost almost £150 in interest - or almost £5 per day.

One of the biggest problems with payday loans is that the following month when the loan is repaid you may find that you are short of money again and a further loan is needed. In this way the cost of borrowing a small amount of money can increase dramatically. Payday loans have been blamed for getting people into debt problems they are unable to get out of.

As a last resort a payday loan could provide an emergency cash advance for up to a month. However make sure you budget so you can pay the cash advance back within the agreed term and so you don't have to take out another payday loan the following month. Although payday loan interest rates are very high charges vary - shop around to find the best deal on cash loans.

What can I do instead of taking out a payday loan?

• Payday loans are almost certainly not the only borrowing option. An authorised overdraft from your bank, or credit card will be much cheaper than a payday loan.
• Joining your local credit union could be a much cheaper way to borrow money than payday loans, as the most interest a credit union can charge for borrowing is 26.8% APR and many charge 12.7% APR.
• If you are in financial difficulties, before you borrow money or take out a cash loan, use our debt help tools & articles to get information on your situation that could help you get your finances on track. Find debt help now.