What Is a Payday Loan and How Does It Work?

A payday loan is a short-term loan that can help you cover immediate cash needs until you get your next paycheck. These small-dollar, high-cost loans usually charge triple-digit annual percentage rates (APRs), and payments are typically due within two weeks—or close to your next payday.

Payday loans are not for the faint of heart. They can be difficult to repay and could end up costing you much more than you expected if you're not careful. Before you apply for one, it's important to know what you'll get and what's expected from you in return.

How Do Payday Loans Work?
Payday loans function differently than personal and other consumer loans. Depending on where you live, you can get a payday loan online or through a physical branch with a payday lender.

Different states have different laws surrounding payday loans, limiting how much you can borrow or how much the lender can charge in interest and fees. Some states prohibit payday loans altogether.

Once you're approved for a payday loan, you may receive cash or a check, or have the money deposited into your bank account. You'll then need to pay back the loan in full plus the finance charge by its due date, which is typically within 14 days or by your next paycheck.

Payday loans come with a finance charge, which is typically based on your loan amount. Because payday loans have such short repayment terms, these costs translate to a steep APR. According to the Consumer Federation of America, payday loan APRs are usually 400% or more.

Despite the high costs, The Economist estimates that roughly 2.5 million American households take out payday loans each year. There are a few reasons for this popularity. One is that many people who resort to payday loans don't have other financing options. They may have poor credit or no income, which can prevent them from getting a personal loan with better terms.

Another reason may be a lack of knowledge about or fear of alternatives. For example, some people may not be comfortable asking family members or friends for assistance. And while alternatives to payday loans exist, they're not always easy to find.

Many people resort to payday loans because they're easy to get. In fact, in 2015, there were more payday lender stores in 36 states than McDonald's locations in all 50 states, according to the Consumer Financial Protection Bureau (CFPB).

Payday lenders have few requirements for approval. Most don't run a credit check or even require that the borrower has the means to repay the loan. All you typically need is identification, a bank account in relatively good standing and a steady paycheck.