Title Loan vs. Payday Loan: Key Differences, Costs and Which Is Riskier

A title loan and a payday loan can both provide emergency cash on short notice at a high interest rate, but a title loan uses your vehicle as collateral, while a payday loan is predicated on your next paycheck.

Both of these options can be tempting if you need cash quickly, but there's a difference between the two. Take a look at this overview of the costs and risks of each and offer some safer, less costly alternatives.

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Title Loan vs. Payday Loan at a Glance

The biggest difference between these two kinds of short-term loans is the collateral and what you could lose if you don't pay back the loan.

A title loan uses your car or other vehicle as collateral, which means that if you default on the loan, the lender can repossess your car.

Payday loans don't require collateral but often have a higher APR and may automatically rollover if you can't pay as agreed, resulting in even higher costs.

Quick Take — Which Is More Dangerous?

The risk of each type of loan can depend on your circumstances.

If you are dependent on your vehicle to get to and from work, a title loan can be riskier.

If the amount of your paycheck varies, and may not cover the loan amount, a payday loan can be riskier.

Both types of loans are risky if there’s a chance you will not be able to make the payments as agreed.

How a Title Loan vs. Payday Loan Works

What should you know about how each of these work? Here's how they're similar and different.

The Title Loan Process and How It Works

Here's the process for a title loan:

• You must own your car outright and have the title when you apply.

• The lender will assess the value of your car.

• You turn the title over to the lender.

• You receive an agreed-upon lump sum.

• You pay back the loan, usually within 30 days.

• If you don’t pay, the lender repossesses the car.

A title loan on your car is similar to a home equity loan for your house – you're borrowing on the value of your vehicle. If you don’t pay the loan back under the original terms, the lender can take the car, or you may be offered to roll the loan over, but this can be even more costly and may lead to you losing the car due to inability to pay. Some lenders, but not all, will allow you to continue to drive the vehicle while you have the loan out.

The Payday Loan Process and How It Works

Here’s the process for a payday loan.

• You provide proof of your income to the lender.

• You request a small loan – typically $500 or less.

• The lender gives you a lump sum.

• You write a postdated check or otherwise authorize the lender to debit the loan amount plus fees from your bank account on your next payday.

If the lender is unable to debit your account due to insufficient funds, the loan may roll over, incurring additional fees.

A payday loan is essentially an "advance" against your future pay. In exchange for a small sum up front, you're giving the lender the authority to take back the loan amount plus interest the next time you get paid.

One of the risks of payday loans is that they are very easy to roll over, and lenders charge steep fees to do this.

Here's an example: A lender charges a fee of $75 for a $500 payday loan. You get $500 when you take out the loan. In two weeks, when you get paid, $575 is due. But you roll it over, incurring an additional $75 fee. Assuming you pay the now $650 that’s due, you’ll have paid $150 in fees to borrow $500 for four weeks.

Costs and Risks: What You Could Actually End Up Paying

How much will you actually pay for a title loan or a payday loan? And what are the risks? Here's a look at some examples.

Real-World Cost Example

A payday loan of $500 might cost you $75 in fees. If you pay it off with your next paycheck in two weeks, you’ll pay a total of $575. If you roll it over three times, you’ll have eight weeks to pay it off but you’ll pay $800.

Title loans are often for higher amounts than payday loans — a $2,000 loan will be used as an example. Title lenders often charge 25% per month for these loans, so if you pay it off in 30 days, you'll pay a total of $2,500. If you extend this loan three times, your balance will be $4,882.81 at the end of four months.

Biggest Risks Compared

There are some risks to taking out either a payday loan or a title loan, so here's what you should know before you decide to get one.

Title Loan Risks

• Repossession of your car if you don’t pay as agreed.

• Additional storage costs and/or late fees.

• Damage to your credit if late or nonpayments are reported.

Payday Loan Risks

• Rolling over the loan get you into a debt cycle you can’t get out of.

• Overdraft bank fees if you have other bills on automatic payments.

• The lender can send you to collections if they can't debit your account.

• In addition to the financial risks associated with these types of loans, there are psychological risks.

• Short repayment windows increase the likelihood you’ll need to roll over or re-borrow.

• High interest rates can get you into a spiral you can’t get out of.

Are There Better Alternatives?

If you’re choosing between a title loan vs. payday loan, you may already be in a cash crunch — but these options aren’t the only ones.

Lower-Cost Options to Consider

• Credit union Payday Alternative Loans (PALs) are short-term, small loans are offered by credit unions, with APRs capped at 28% and terms up to six months. You must be a credit union member for at least a month to qualify.

• Payment extensions from creditors may be an option if you contact them to say you can't make a payment.

• Employer paycheck advances may be an option if your employer is willing to advance some of your pay and make it up over one or more subsequent checks.

• Installment personal loans will typically have a better interest rate and no collateral requirements, if your credit qualifies you.

• Borrowing from family or friends may be a possibility. I'’s best to make the terms very clear to avoid misunderstandings.

• Community hardship programs are available if your short-term cash need is related to utility payments, grocery bills, or other necessities.

The key difference: these options typically offer longer repayment terms or lower interest structures, reducing rollover risk, and so may provide a permanent solution to a temporary cash crunch.

FAQs

Can you lose your car with a title loan even if you've paid most of it off?

Yes. As long as there is an outstanding balance on your title loan, your vehicle is at risk.

Do payday loans check your credit?

No. Payday lenders typically ask for proof of your employment and income, but don't do a credit check.

Can unpaid payday loans go to collections?

Yes. If the lender is unable to collect by debiting your bank account, they can send your account to collections.

Is one easier to qualify for than the other?

Neither a title loan or a payday loan requires a credit check, so as long as you have your vehicle title or your proof of income, you should qualify for a title or payday loan, respectively.

Source:

• Federal Trade Commission (FTC). "What To Know About Payday and Car Title Loans."