Payday Loan Alternatives

Payday loans are extremely expensive. A payday loan is a short-term loan that's usually due on your next payday. Typical fees and interest rates on payday loans can run as high as 400%. With their  high fees, and short payoff timelines, they are designed to trap you in debt. That's because many people end up forced to take a second payday loan to pay off their first one (and a third, and so on).

Despite the costs, it's understandable why you may feel you have no choice but to take a payday loan. After all, these loans provide fast access to money when you may have few other borrowing options. 

If you find yourself in this situation, though, there's another option to think about before taking a payday loan. It's called a payday alternative loan (PAL), and credit unions provide them.

How does a payday alternative loan work?

Payday alternative loans (PALs) are small-value loans offered by federal credit unions. PALs are allowed by the National Credit Union Administration as long as certain guidelines are met.

There’s no minimum credit score for these loans; each credit union will have its own criteria. Because they’re designed to be an alternative to payday loans, PALs typically won’t have strict credit requirements. But you’ll likely have to verify your income and show your ability to repay.

First and foremost, you must be a member of the credit union for at least a month prior to applying for a payday alternative loan. If you frequently rely on payday loans or think you may need one in the future, you may want to join a credit union in advance. Credit unions have varying membership rules and fees, but they often offer a slate of affordable banking products. So there could be other benefits to joining one as well.

For eligible credit union members, payday alternative loans come in amounts between $200 and $1,000 and have repayment terms between one month and six months. This is typically a longer repayment timeline than most payday loans. That means you'll be less likely to end up having to borrow again immediately to pay off your loan balance since you'll make smaller payments over time.

Where payday alternative loans really stand out is the cost. The application fee is capped at $20. And the maximum interest rate on these small-dollar loans is 28%. While this is higher than you'd pay with most standard personal loans, it's still well below the effective rate on payday loans, which could top 400%.

Borrowers can take out up to three PALs during any six-month period but can't roll one over into the other. If you are facing financial hardship and you need to borrow a small amount of money for a short time, this could be the perfect answer for you.

What is a PAL II?

In 2019, the National Credit Union Administration approved a new type of payday alternative loan, known as a PAL II. With these loans, you can borrow up to $2,000 and repay it over a term of up to 12 months. As with a traditional payday alternative loan, you’ll need to be a credit union member to get one, but you can apply for a PAL II as soon as you join.

Traditional payday alternative loan vs. PAL II

Should I take out a payday alternative loan?

Of course, just because these loans are cheaper than payday loans doesn't mean they are cheap. You should borrow only if you need to and borrow the minimum required to cover essential expenses.

Once you've paid off your loan, try to start saving an emergency fund so you won't have to take out a loan to cover unexpected expenses in the future. Ideally, your emergency fund will have enough money to cover three to six months of living expenses. But it's OK if it takes time to get to that level. Saving even a small emergency fund with a few hundred dollars could help you with surprise costs so you don't have to borrow with an emergency loan in the future.

Other payday loan alternatives

Not all credit unions offer payday alternative loans. If PALs aren't an option, here are some other payday loan alternatives to consider:

• Use a credit card: People often turn to payday loans because they don't have access to credit. But if you do have a credit card, using it to make a purchase or even taking out a cash advance will cost you significantly less in interest and fees than you would with a payday loan.
• Check with banks and online lenders: As of early 2023, 6 of the 8 largest banks in the U.S. offered small-value loans of $500 to $1,000. These loans have repayment terms of at least three months and are about 15 times cheaper than a typical payday loan. Some online lenders offer bad credit loans that cap your interest at 36%. 
• Take on a side gig: If you're looking to get out of debt but live paycheck to paycheck, earning more money may be the only solution. Consider whether you could get a side gig to allow you to pay off your debt and build an emergency fund. Alternatively, you could look into selling belongings to generate extra cash.
• Look into help from charities: Some charities help with emergency financial needs. One option is to call the 211 hotline, which can connect you with local resources if you need help paying for necessities, like food, housing, and utilities. 
• Borrow money from family or friends: If you have a loved one who you think would be willing to lend you money, it's worth asking them for help. But be honest about your ability to repay them to avoid damaging the relationship.