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Payday Loan Consolidation: What It Is and How It Works

Roughly twelve million Americans take out payday loans every year as a quick fix to their current debt situation. These easy and convenient loans are one of the most high-cost ways to borrow money; and thus, can actually lead to a pattern of seemingly endless debt. So, love them or hate them, they’ve become a popular method for seeking temporary debt relief.

In this article, we’ll go over how you can get out of debt once and for all by leveraging payday loan consolidation. But first, we need to further understand what payday loans are and why they’re an alluring– yet potentially dangerous– borrowing option.

What are payday loans?

A payday loan is a high-interest, unsecured loan with a short repayment period. Infamously known for its astronomical interest rates, this type of loan typically has an annual percentage rate (APR) between 300% and 400%.

Most often, the borrowing amount for payday loans is pretty small, averaging around $500. The total amount borrowed is to be paid back within a single paycheck cycle– hence the name, “payday.” Thus, a borrower will usually have two weeks to pay back the full amount plus interest and any additional fees. So, unlike a longer-term loan, you don’t pay back the amount owed in installments.

Payday loans are designed to bridge the gap until you receive your next paycheck from your employer or until your cash flow issues are resolved. In other words, this loan tides you over until you get the money to pay it back.

What do people use them for?

When a borrower seeks a payday loan, it’s most likely because they need support covering an unanticipated expense. Oftentimes, these expenses will be caused by emergency repairs that we may not always budget for. Thus, we might not have the cash flow or savings readily available to solve the problem.

For example, say your car unexpectedly breaks down on a Wednesday morning, and you don’t have sufficient funds for transportation to last you until you get paid the following Friday. You may need to take out a payday loan to help you get through the next several days. Likewise, other scenarios that justify a payday loan are emergency roof repairs, water damage to your home, or critical foundation repairs.

As unforeseen emergencies pile up, borrowers can find themselves in a situation where they’re in dire need of payday loan consolidation. We’ll do a complete dive into consolidating these short-term loans, but we need to understand why payday loans are sought after in the first place.

An enticing way to borrow

Imagine if you had a friend who would give you a few hundred bucks in cash whenever you needed it, and you could just Venmo them the money back in a couple of weeks. That’d be a pretty sweet deal, right? 

Well, that’s basically what a payday loan is. It’s an extraordinarily easy and convenient way to get cash quickly. The loan approval process is fast and doesn’t require a credit check. Sure, you can’t pay it back via Venmo and some interest will be tacked on, but in terms of getting the money you need, it’s honestly as easy as borrowing money from a sibling (pending that you and your sister are on good terms).

The dangerous cycle of never-ending debt

While a payday loan can save the day when you encounter a financial shortfall, it can also lead to long-term financial stress. Let us explain why.

We know that borrowers often take out these loans to cover unforeseen expenses. But we need to ask ourselves why. Why would a borrower need to rely on a payday loan to cover a damaged water heater or new car tires? 

Sometimes, a payday loan is a good option if you’re taking out the money under rare circumstances for a one-time occurrence. However, borrowers who take out payday loans as often as they take out the trash may have underlying financial troubles. They might struggle with proper budget planning that accounts for small and unexpected emergencies. Thus, a cycle of rolling over existing payday loans into new ones to pay off the previous ones becomes their norm. This pattern makes it more difficult to get out of payday loan debt because with every new loan comes more fees and a higher cost of borrowing. 

And, to make matters worse, payday loans affect credit. Borrowers who fall into the debt trap end up wishing they could remove payday loans from their credit report. That is if their late payments have negatively impacted their scores.

Again, this is why leveraging payday loan consolidation is a critical step to making a successful exit from a debt cycle. Without consolidating, your credit can certainly take a hit.

payday loan debt relief

Do payday loans hurt your credit?

This question doesn’t warrant a black-or-white answer for the same reason that asking, “Do payday loans help your credit?” doesn’t. This is because both of these questions have answers that depend on whether the borrower makes timely payments and whether those payments are reported to one of the major national credit reporting agencies.

Generally speaking, paying back your payday loan on time could give your credit score a slight boost. Conversely, failing to pay it back on time could hurt your credit score– especially if you take out loan after loan as an attempt to break free from debt.

So, now that you know all about payday loans and the dangerous potential they have to trap you in a cycle of debt let’s talk about a smart solution to achieving a debt-free state.

What’s payday loan consolidation?

With a reputation for being a wise payday loan debt solution, this tactic combines all of your payday loans into a single loan that’s affordable and comfortable for your financial situation. Typically, consolidating comes in the form of a single personal loan with a lower interest rate that you can pay off in fixed, monthly installments.

How does payday loan consolidation work?

Debt consolidation for payday loans works by adding up all of your outstanding balances on your payday loans and then shopping around to find a personal loan you can use to pay off your total debt.

When you apply for a personal loan, your lender will consider your credit score, income, and your debt-to-income ratio to find the best form of consolidation available to you. If you’re approved, you’ll use the money from your new personal loan to pay off your existing payday loans. Once you’ve paid off your total payday loan debt, you’ll make monthly payments on your personal loan at a lower interest rate until it’s paid in full.

Payday loan consolidation with a personal loan

The reason why opting for a personal loan to consolidate payday loans is so popular is because personal loans come with more forgiving repayment terms and lower interest rates. Likewise, with a personal loan, you have a much longer repayment period compared to a payday loan. This will give you ample time to pay off your debt and let you relax for a bit.

Why consolidating payday loans is a smart move for borrowers

The three main benefits of consolidating your payday loans into a single, personal loan are that you’ll save money over time, you’ll be given more time to make payments, and your payments will be predictable.

You pay less money in the long run

You can save money by paying less interest on the personal loan you use for payday loan consolidation. While the average interest rate for a payday loan is an astonishingly high 398%, the typical interest rate for a personal loan falls between 5% and 36%.

You have more time to repay your debt

Unlike payday loans which typically must be repaid on the borrower’s next payday, payday loan consolidation with a personal loan comes with a much longer repayment term. With most personal loans, you’ll have between one and five years to pay them off.

You won’t have surprises in your monthly payments

When you seek payday loan debt relief through a personal loan, you’ll make single, fixed monthly payments. This will provide a clear path out of debt and give you more stability and certainty in your budget.

Should you take advantage of payday loan consolidation?

Consolidating your short-term payday loans into a single loan is a wise road to debt recovery. If you feel trapped in a cycle of debt, talk to one of our experts at NorthPort Funding to help you find the best option for your financial circumstances.

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