The impact of payday loans

Cracking down on expensive and predatory lending is a must. This is made harder for the poorer paying a poverty premium on utilities and other essentials, never mind not being able to get cheaper credit that is available to better off people. The Institute for Fiscal Studies has pointed out that debt problems tend to me more persistent among the poorest people, with 40% of the poorest fifth of households who were in arrears or spending more than a third of their income servicing their debts between 2010 and 2012 still doing so several years later.

Regulation has improved, albeit slowly the overall cost of payday loans means high cost credit remains a serious issue. It is not uncommon in the US for someone caught in the debt cycle to be rolling over what are supposed to be short-term payday loans for months at a time, forking out around a third of their pay on monthly repayments, and paying far more in costs and fees than the original loan amount.

The worrying combination of problem debt and the government's past austerity policies means it's no surprise that child poverty is at its highest since 2010 and 30% of Britain's children are now classified as poor (two-thirds of whom are from working families). The FCA found that 4.1 million people in the UK are in serious financial difficulty.

How does the impact affect you?

  • Food: 60% of credit users eat less healthily because they couldn't afford healthy food, that rises to 70% for users of payday loans
  • Drink: Nearly half (49%) of credit users who drink alcohol said they drink more as a result of their debt, rising to three in five (62%) among payday loan users
  • Exercise: 65% of credit users do less exercise because they feel too distressed or depressed, this rise to 80% for payday loan users
  • Sleep: 76% of credit users said their sleep quality declined as a result of the stress of being in debt. This rose to 87% of people with a payday loan
  • Loneliness: Those who have used at least one payday loan feel more judged and spend more time alone as a result of distress or depression than the average credit user
  • Mental health: Individuals with payday lending debt, have the highest rate of common mental disorders, at 50%
  • Buying a home: Mortgage underwriters (the ones who decide if you'll get a mortgage) will reject anyone who has had a recent payday loan
  • New car: A payday loan will have a negative impact on the probability of you picking up a new car
  • New phone: Mobile phone networks who provide the contract or the phone shop you are buying the contract through will do a credit check. You are likely to be declined or pay more upfront when getting a mobile phone on a contract

What is the "Payday Loan Debt Cycle"?

The payday loan debt cycle comes about when you take one of them out, can't afford to pay it back, and then are offered a renewal on the loan for an additional fee. That cycle tends to extend itself for months or even years.

Currently, this is legal, although legislation has been introduced to place more oversight and regulations on companies issuing payday loans specifically, requiring lenders to verify that the borrower has the ability to pay the loan back.

Can payday loans negatively affect my chances of getting loans in the future?

The act of applying for credit can have an adverse impact. That's because any responsible lender should run a "hard" search on your credit history before offering you a loan, and it's normal for this search to have a slight negative impact on your credit score. For most of us that's unavoidable, but provided you then go on to pay off the loan on schedule, that negative impact will be minimal and short-lived. Lenders will be able to see how much you applied for, when and from what source.

Making multiple payday loan applications in a short space of time will almost certainly have a significant negative effect on your credit score, and is a strong indicator of irresponsible borrowing or severe financial difficulties. That means it could seriously harm your chances of being approved for another loan in the future.

Prospective lenders will also want to see how much debt you already have, and how much credit you have access to. If you currently owe money to payday lenders, this is likely to reduce the amount that a lender would be willing to offer you.

Missing a repayment on these loans is an even stronger indicator of irresponsible borrowing. It'll be reported back to credit reference agencies and have a significant, lasting negative impact on your credit score.

Unfortunately, it is also possible that seeing a payday loan in your credit history, even if it was paid back in full and on schedule, could simply put off some lenders. Regular use of payday loans is more likely to be a red flag.

Impact on securing mortgages

Payday loans can have a negative impact on the chances of securing a mortgage. Mortgage lenders like Kingston Mortgages straightaway reject applicants who have taken a payday loan in the past one-year. Similarly, GE Money is unlikely to provide mortgages to applicants who have taken payday loans in the past three months, or more than twice in the last one year.

Many people are concerned with the on going debate of whether simply having a payday loan on your credit record can impact your chances of being approved for a mortgage.

In reality mortgage lenders and brokers should treat a payday loan as if it were any other loan, whether it is car finance, personal loan or guarantor loan.