Installment Loans vs. Payday Loans: Know Before You Owe

There are many ways to borrow money, no matter your credit history. Depending on your situation, you may be able to turn to friends or family, a credit card, your employer, or a financial institution. But when it comes down to it, your biggest challenge may be figuring out how to get money as quickly as possible.

If you’re faced with this predicament, you may be considering an installment loan or a payday loan — and there are pretty big differences between the two. For example, is a payday loan secured or unsecured debt? And what about installment loans?

We’ve got answers to all of your questions to help you figure out what loan option is best for you:

Installment Loans Vs. Payday Loans

Before getting into the details, here’s a quick overview of the main differences between installment loans vs payday loans.

What Is an Installment Loan?

An installment loan is a type of loan you repay with fixed and regular payments over a predetermined period of time (otherwise known as a term). Many financial institutions offer installment loans, including banks, credit unions, and online-only lenders. Installment loans may also have other names when they’re issued for a specific purpose, such as auto loans, student loans, mortgages, and personal loans.

Installment loans generally share a few characteristics:

• You receive your loan amount as a lump sum.
• You make fixed periodic payments which, depending on how much you pay, may cover the interest only or the interest plus a portion of the loan’s principal balance.
• Your account will close once you repay your loan’s principal in full.

By contrast, a revolving credit line, such as a credit card, allows you to borrow against your credit line, repay the amount you borrowed, and then borrow again without having to reapply for an account. Your payments on a revolving account also might not be fixed, although there could be a minimum payment requirement.

There Are Secured and Unsecured Installment Loans

There are a few different types of installment loans to compare and consider. First, it’s important to consider the differences between secured and unsecured installment loans.

Secured installment loans

Secured loans require you to put up collateral to borrow money. For example, an auto loan is a secured installment loan that uses your vehicle as collateral and a pawn shop will hold your possession as collateral for a pawn loan. If you fall behind on your payments, the lender may be able to take your collateral. Secured loans may be easier to obtain and generally offer a lower interest rate. However, using a secured installment loan means you’ll risk losing whatever you put up as collateral if you fail to repay your loan.

Unsecured installment loans

Unsecured loans, such as student loans or personal loans, don’t require collateral. Falling behind on payments could hurt your credit and/or result in fees, but lenders generally can’t take your possessions since you never put up collateral.                                           

Qualifying For an Installment Loan

Installment loans are generally credit-based loans, meaning your income, outstanding debts, credit history, credit scores, and other factors can influence your ability to get the loan and your loan rates and terms.

Those with excellent credit scores may qualify for an unsecured personal loan with an annual percentage rate (APR) around 3 percent to 6 percent, while the rate for someone with a good credit score may be as high as 36 percent. Borrowers with a low credit score or no credit score may have a more difficult time getting an installment loan unless they find a lender that specializes in servicing applicants with low or no credit history.

Lenders may charge you an origination fee, which is usually equal to a percentage of your loan amount. Some installment loans may also have a prepayment penalty, which is a fee that you must pay if you repay your loan before the end of its term.                                             

What Is a Payday Loan?

Payday loans have no set definition but are often short-term, high-rate loans. Many states set a limit on the size of payday loans, and you’ll most commonly find payday loans of $500 or less.

Are Payday Loans Fixed or Variable?

Payday loans are usually meant to be paid off in one lump-sum payment, therefore the interest rate typically does not change. Instead, payday loans often charge a fixed flat fee that can be anywhere between $10 and $30 per $100 borrowed. However, some states do allow lenders to offer different repayment terms that may allow borrowers to repay their loan in more than one payment.

Most borrowers repay their payday loans on their next payday—hence the name. In most cases, this is within two to four weeks after the loan was made. To repay the loan, you can write a post-dated check for the full loan amount, including fees. Alternatively, you may be able to provide your lender with authorization to electronically withdraw money from your bank account or prepaid card account.

Qualifying for Payday Loans

A payday loan application usually does not involve a credit check. However, there are other requirements that you must meet to qualify:

• You must be at least 18 years old.
• You must be able to provide a form of valid identification as well as proof of income.
• You must have an active checking account.

Frequently Asked Questions

Is a payday loan secured or unsecured debt?

Payday loans are unsecured debt.

Do payday loans require collateral?

No, payday loans do not require collateral. Only secured loans require collateral.

Is a payday loan installment or revolving?

A payday loan is not a revolving line of credit. With a revolving line of credit, you can borrow up to a certain limit, pay some or all of it back, and then borrow again. With a payday loan, you must pay back the entire loan within the time allotted, and if you want to borrow more, you must apply for another loan.

Payday loans are also not installment loans because they are usually paid back in one lump sum as opposed to multiple payments over time. However, some lenders may offer repayment plans that allow borrowers to repay their payday loan in more than one payment.