Payday loans are devils in disguise

Need some extra cash fast? Don't be tempted by this quick-fix.

With most of us feeling the pinch of the credit crunch, money may be little tighter than normal. And that means that if an unexpectedly large bill lands on your doormat at exactly the same time you desperately need to get your car fixed, finding the money to pay for it all can seem impossible.

So imagine how you'd feel if you were offered your pay cheque a few weeks early. Just a few hundred quid to help pay the bills and set you back on the right track. Sounds great, right?

Well, that's exactly what payday loans offer. And despite their seemingly attractive qualities, you should steer well clear of them. Here's why...

The informative bit

Payday loans are cash advances on the salary you're expecting at the end of the month. They're particularly tempting for anyone who needs cash in a hurry because it takes very little time to apply. What's more, the cash will usually be transferred into your bank account the same day.

You can typically borrow up to £1,000, although several lenders will offer a maximum of £750. And as long as you're over 18 and hold a bank account that receives regular payments from an employer, payday loan providers will bend over backwards to lend you money. It doesn't matter if your credit history has a few blemishes - payday loan providers are still willing to shower you with cash. (If the alarm bells aren't ringing in your head at this point, they should be!)

To repay your loan, most lenders simply deduct the amount owed from your bank account on the date of your next payday. So, in theory, it's a quick and convenient way to borrow money.

The catch

Before you get excited,there is a snag to this scenario. And that's the unbelievably high rate of interest you'll be charged.

Typically, you'll find that lenders charge you around £25 for each £100 you borrow. Now you might think that paying this amount doesn't sound too bad. But let's say you decided to borrow £500. The total amount repayable would be £625! That's an interest rate of 25% for just one month, and it's equivalent to an APR of 1,737%! Horrendous!

The other problem with payday loans is that even if you have very good intentions of paying off the loan in the first month, it's all too easy to extend your loan for another month - and then another.Lenders call this a 'deferral' which means you postpone repaying your loan for a second month or more. What's worse, some lenders will automatically keep extending it until you tell them otherwise.

If you choose to defer your loan, you'll still have to pay back the original interest on the original due date. You'll then incur another interest charge for the next month. Carry on doing this and you could end up plunging further into debt.

The alternatives

If you need to borrow money, a personal loan is often the most obvious way to go and the APRs are far lower than those for payday loans. The only problem with this is if you're only looking to borrow a small sum of money, you're unlikely to get a very competitive interest rate.

For example, at one high street bank, if I wanted to borrow £8,000 or more, the annual interest rate would be a reasonable 8%.But if I wanted to borrow just £1,000, the rate would rise to hefty 18.9%. That said, this is still far lower than the APR you'd receive on a payday loan.

But loans are not your only option if you need a small cash sum. A good alternative is to apply for the Virgin Money MasterCard.This card allows you to transfer part of your credit limit as cash into your bank account.You can then pay this off gradually at 0% interest over 16 months.

Unfortunately, you are unlikely to be accepted for this card if you have some black marks on your credit record. So what should you do if you're in this boat and you need a small cash injection fast?

One option is to try Zopa, a social lending site, where you may be able to get a decent rate by cutting out the middleman (find out more here). But one of the best ways is to simply swallow your pride and ask your parents/partner/close friend for a bit of extra cash. If you feel more comfortable, you could even pay interest on the loan - just at far more reasonable levels than those mentioned above.

Another way to deal with a lack of cash is to give your finances a bit of a spring clean. It may sound like a lot of effort, but you might be surprised to find that you have some spare cash at the end of it.

To help you do this, you should set up a list of all your earnings and outgoings. You can do this by using a nifty online calculator called a statement of affairs. Honesty is the best policy when you're using this, so make sure you write down exactly what you're spending where. This will help you to work out where you can make cutbacks - maybe you can cancel your gym membership, make your lunch instead of buying it, cut out that morning Starbucks.

If you'd like more help on budgeting, read Five steps to brilliant budgeting and How to make your money last till payday.

So, to sum up, payday loans might sound like a quick and easy way to tackle your debt, but in my opinion you're better off avoiding them all together. But if you really believe there's no other solution, do make sure you can pay off the amount in full after the first month and don't extend your loan.

After all, what sounds like a convenient short term solution could end up sending you further down the slippery debt slope.

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