Payday loans are one of the most talked-about forms of borrowing in the UK, yet many people are still unsure exactly how they work. They can provide fast access to money when an unexpected cost lands before payday, but they are also an expensive form of credit that needs to be used carefully. Here are eight key things to understand about payday loans, from how they are structured to when they might genuinely help.
1. What a payday loan is
A payday loan is a small, short-term loan designed to cover a temporary gap until your next wages arrive. Amounts typically range from around £100 to £1,000, and the loan is usually repaid in full on your next payday, although some lenders allow repayments to be spread over a few months. The aim is to help with an urgent, one-off cost rather than to fund ongoing spending.
2. How the application process works
Most payday loan applications are completed online and take only a few minutes. You will be asked for personal details, information about your income and employment, your regular outgoings and your bank details. The lender will then carry out credit and affordability checks. If approved, you will receive the loan agreement to review, and once you accept, funds are often sent to your account the same day, sometimes within minutes.
3. The cost is capped by law
Since 2015, the Financial Conduct Authority has capped the cost of high-cost short-term credit. Interest and fees cannot exceed 0.8% per day of the amount borrowed. If you miss a repayment, default fees are capped at £15. Most importantly, the total cost of a loan, including all interest and charges, can never exceed 100% of the amount borrowed, so you will never repay more than double what you borrowed. For example, borrowing £200 for 30 days could cost up to £48 in interest at the maximum rate.
4. Why the APR looks so high
Payday loans often advertise representative APRs that run into the hundreds or even thousands of percent. This can look alarming, but APR shows the cost of borrowing over a full year, while payday loans usually last a few weeks. A more useful figure is the total amount repayable, which lenders must show clearly before you commit. Comparing this figure gives you a much better idea of what the loan will actually cost.
5. Lenders must check affordability
Authorised lenders are required to make sure a loan is affordable before approving it. This means looking at your credit history alongside your income and outgoings to check you can repay without falling into difficulty. A lender that promises guaranteed approval or claims not to carry out checks is a warning sign. Affordability checks are there to protect you from borrowing more than you can manage.
6. How repayments are collected
Most payday lenders collect repayments automatically using a continuous payment authority linked to your debit card. FCA rules limit how this can be used, including restricting lenders to two unsuccessful attempts to collect a payment. Lenders can also roll a loan over no more than twice, which helps stop debts from spiralling. If you think you will struggle to repay, contact the lender before the payment date, as authorised lenders must treat customers in financial difficulty fairly.
7. When a payday loan can help
A payday loan can make sense in a limited set of situations. If an essential, unexpected cost would otherwise cause a bigger problem, such as a car repair you need to get to work, a boiler breakdown in winter or a bill that would trigger a larger penalty if paid late, a small, short-term loan may be a practical solution. Speed is often a key factor, as funds can arrive quickly when the cost cannot wait. For people without access to a credit card or overdraft, payday loans can provide an option when other routes are unavailable, provided there is a clear plan to repay.
8. When to think twice
Payday loans are not suitable for every situation. They should not be used to cover regular living costs, fund non-essential purchases or repay other debts. If you find yourself needing to borrow each month to get by, it is a sign that the underlying problem is a gap between income and outgoings, and another loan is unlikely to solve it.
Before applying, consider cheaper alternatives. An arranged overdraft or a credit card used for purchases and repaid quickly may cost less. Credit unions offer affordable loans to members, some employers provide salary advances, and speaking to the company you owe money to may allow you to spread the cost. If you are struggling with money, free and confidential advice is available from organisations such as MoneyHelper, StepChange, National Debtline and Citizens Advice.
Making an informed decision
Payday loans can be a useful tool when used occasionally, for a genuine short-term need and with a clear plan to repay on time. Understanding how they work, what they cost and the protections in place helps you decide whether a payday loan is right for your situation. Always borrow from an FCA-authorised lender, check the total amount repayable and borrow only what you need.