What are Payday Loans?
Payday loans are the short-term financing option typically used to cover unexpected expenses or provide quick cash in emergencies. These loans are typically unsecured, and the lender will not require collateral or a credit checkA check of a borrower's credit history, which is used by mor.... They are known for their high interest rates, making them an expensive form of borrowing. Payday loans are popular in some quarters because they offer the chance to borrow sums of between £50 and £2,000. The repayment period is short – typically the next month, or next payday, hence the name. Loans can be arranged at very short notice, invariably online.
Even if you have a poor credit rating, you may still be approved for a payday loan – and you rarely have to wait any time at all before receiving the cash.
No questions are asked about why you need to borrow the money, and there is no restriction on how you choose to spend it.
Payday Loan Price Cap in the UK
The Financial Conduct Authority (FCA) introduced a price cap on payday loans in the UK on 2 January 2015. The price cap is designed to protect consumers from the high cost of payday loans and to prevent them from getting trapped in a spiral of debt.
The price cap has three components:
- Initial cost cap: Interest and fees must not exceed 0.8% per day of the amount borrowed.
- Default fee cap: Default fees must not exceed £15. Interest on unpaid balances and default charges must not exceed the initial rate.
- Total cost cap: Borrowers must never have to pay back more in fees and interest than the amount borrowed.
As a result of the price cap, no borrower will ever pay back more than twice what they borrowed, and someone taking out a loan for 30 days and repaying on time will not pay more than £24 in fees and charges per £100 borrowed.
The FCA estimates that the price cap will protect around 70,000 people from being granted payday loans that they would not be able to afford to repay.
The price cap will be reviewed in 2017.
According to a report by the complaints it receives about payday loans fall into two broad categories:
- the loans are unaffordable, and the lender was irresponsible in lending at such a high rate of interest and
- when borrowers get into financial difficulties and cannot afford to repay their loans, they often feel they are being treated unfairly by the lender.
This is supported by the Hampshire Police Federation, which also pointed out the distinct drawbacks – not to mention dangers – in using payday loans.
The first is the high cost of such borrowing – the APR on a payday loan is commonly greater than 1000%.
There is also the so-called “payday loan trap” where the borrower encounters difficulties in making a payday loan repayment, so takes out a further payday loan to cover that repayment – and so on to a vicious downward spiral.
The third danger – and one of particular relevance to anyone looking to apply for a mortgage in the near future – is the effect of payday borrowing on your credit record.
Getting a mortgage with payday loans
Getting a mortgage with payday loans can be difficult, as lenders are wary of borrowers with a history of high-interest borrowing. Mortgage lenders typically look at both credit scores and debt-to-income ratios when assessing mortgage applications. Those with poor credit scores or high debt-to-income ratios caused by payday loans may find it difficult to obtain a mortgage.
However, there is no hard-and-fast rule on whether you can get a mortgage with payday loans. Each lender will consider your application on a case-by-case basis. You may still be able to obtain a mortgage if you can demonstrate that you have managed your finances responsibly and have taken steps to pay off your payday loan debt.
It might be tempting to imagine that borrowing a payday loan can only be good for your credit rating. It gives you the chance to demonstrate that you can handle debt and make your repayments on time and in full. Surely that scores well on your credit record?
The credit reference agency Experian does , indeed, confirm that if you repay your payday loan on time and in full, that alone will not damage your credit rating.
Even if there is no obvious damage to your credit rating, however, some mortgage lenders may view payday loans in a less than favourable light. They may consider that payday loans are only taken as a last resort when someone is facing urgent difficulties in making ends meet and is forced into accepting a short-term loan at a painfully high rate of interest.
In those circumstances, and for those mortgage lenders, the fact that the payday loan was repaid on time is less important than the fact that the borrower needed to take it in the first place. Those lenders explicitly state that they will not entertain mortgage applications from those who have taken payday loans in the recent past.
Rejection is by no means assured if you have recently taken a payday loan, however. Some lenders recognise that there is a place for that sort of borrowing and that you may have demonstrated financial responsibility in repaying the loan.
Nevertheless, the reservations about your having needed to take a payday loan may be reflected in the reduced size of the mortgage you are offered or the fact that you may need to pay a less favourable market rate. Much may depend on how long ago you last resorted to a payday loan, when you repaid it, the amount you borrowed, and how often you have arranged a payday loan.
Alternatives to the payday loan
If there is any possibility that you may be looking to arrange a mortgage in the near future, therefore, you might want to avoid any unnecessary difficulty or disadvantage by considering the alternatives to payday loans:
- by selling something you own;
- cutting back on your weekly expenditure;
- borrowing instead from friends or family;
- asking for greater leeway in the repayment of existing debts or loans; and
- considering alternative sources of credit, such as personal loans or even your credit card.
Although payday loans do not rule out the chances of your getting a mortgage, they are certainly likely to limit your choice of lenders and may leave you with a less favourable deal in terms of the size of the mortgage you get and the rate of interest you need to pay. The good news is that specialist mortgage brokers can help find you the most appropriate payday loan mortgage by matching you to sympathetic lenders.
How to get a mortgage after using payday loan services?
Getting a mortgage after using payday loan services can be possible, but it is important to understand that each lender will take into account your individual circumstances when assessing your application. To increase your chances of getting a mortgage, it is recommended that you take steps to pay off any payday loan debt before applying. This will demonstrate to lenders that you are capable of managing your finances responsibly and may help them feel.
If you are considering taking out a mortgage after using payday loan services, it is important to start rebuilding your credit score before applying for the loan. The best way to do this is by ensuring that all your bills are paid on time and in full and that any existing loans or debts are managed responsibly. Additionally, you should make sure to only apply for credit when absolutely necessary and focus on developing a healthy savings plan. These steps will all help to demonstrate your financial reliability and responsibility when applying for a mortgage.
Improving Mortgage Eligibility with Payday Loan History
If you have taken out payday loans and aspire to secure a mortgage, several strategies can improve your eligibility:
Build a Positive Credit History
Rebuilding credit after payday loans is essential. Focus on making timely payments and reducing outstanding debts. This will demonstrate improved financial responsibility and enhance your creditworthiness. Over time, as your credit score improves, lenders may be more willing to consider your mortgage application.
Manage Monthly Payments Responsibly
In addition to improving credit history, it’s crucial to showcase responsible financial behaviour. Make all monthly payments on time, including bills, credit card balancesOutstanding credit card balances, which may affect a borrowe..., and existing loans. This will demonstrate your ability to manage financial commitments and improve the perception of your creditworthiness.
Consider Alternative Options
If traditional mortgage lenders are hesitant to approve your application, explore alternative options. Some specialized lenders may be willing to work with individuals who have a history of payday loans. Additionally, seeking a co-signer with a strong credit history can also increase your chances of mortgage approval.
While securing a mortgage with a payday loan history might present challenges, it is not an impossible feat. By understanding the factors that lenders prioritise, working on improving creditworthiness, and exploring alternative options, homeownership can still become a reality. Remember to balance your financial obligations and engage in responsible borrowing to ensure a stable and prosperous future.
If you are interested, you can also contact our team of expert mortgage brokers to help you with your mortgage application.
Q1: What is a mortgage application?
A1: A mortgage application is a formal request submitted to a lender, such as a bank or mortgage provider, to borrow money for the purpose of buying a home.
Q2: How does a mortgage lender assess my credit score?
A2: Mortgage lenders evaluate your credit score by examining your credit report, which includes your credit history, payment history, outstanding debts, and any late payments or defaultsMissed payments on credit accounts, which can affect a borro....
Q3: Can I get a mortgage with a history of payday loans?
A3: It is possible to get a mortgage with a history of payday loans, but it may be challenging as lenders are cautious about high-interest borrowing. Each application is considered individually.
Q4: What is a specialist mortgage broker?
A4: A specialist mortgage broker is a professional who specialises in helping individuals with unique financial situations, such as those with a history of payday loans, find suitable mortgage deals.
Q5: How can I improve my chances of mortgage approval after using payday loan services?
A5: To enhance your eligibility for a mortgage after using payday loan services, focus on rebuilding your credit history, making timely payments, and exploring alternative lending options or co-signers if necessary.