How to avoid expensive payday lenders

There are far cheaper ways to borrow money, even when your credit rating isn't the best, says Andrew Hagger

Payday lenders are finding life tough amid tighter regulation and a cap on charges, with major player Wonga this week reporting a £37.3m loss and warning of an even bleaker picture for the year ahead.

Consumers shouldn't fear the demise of the payday loans industry as there are far cheaper ways to borrow money, even when your credit rating isn't the best. Alternative options can prove doubly positive for borrowers as not only do they charge a fraction of payday rates but they can also help you to improve your credit score in the process.

Specialist credit cards

Mainstream credit card companies won't entertain your application if you've missed a couple of credit payments or have a county court judgment recorded against you, even if it's from a few years back, but there are a number of specialist credit cards that may be able to help you get back on your feet.

The interest rates are higher than standard credit cards but much less than payday loans. Tesco Bank, for example, charges a representative APR of 28.9 per cent on its Foundation Credit Card, and the Classic card from Aqua comes in at 35.9 per cent APR.

Borrowing £750 on a credit card at 28.9 per cent APR and paying it back in 12 monthly payments of £72.71 will cost £122.52 in interest over the year, while the same amount from Payday UK at 245.5 per cent fixed will cost £180 in interest charges in just one month – that's £6 per day.

To rebuild your credit status, you need to show that you can manage a credit card in a responsible manner, and by making payments on time every month then, over time, your credit score will gradually increase. Paying the full statement balance each month is even better as you'll improve your credit score without paying interest charges.

Guarantor loans

Another cost-effective option is a guarantor loan with Amigo, offering credit of between £500 and £5,000 at a representative APR of 49.9 per cent. To qualify for an Amigo loan you need to find a creditworthy friend or relative to act as guarantor. This means that if for some reason you are unable to pay, then the guarantor becomes liable for the outstanding balance.

Again the interest rate is a fraction of that charged by payday lenders, plus it offers flexible terms, including the option to make additional ad hoc overpayments without a penalty. Amigo also feeds back your payment history to the credit reference agencies, so again paying on time every month is another step towards a healthy credit score.

Looking at the same example of borrowing £750 over 12 months, Amigo at 49.9 per cent APR would cost £77.29 per month and total interest charges of £177.48, much less of a drain on your bank. If you're looking for a larger guarantor loan you can borrow up to a maximum of £7,000 with glo at 49.5 per cent APR.

Credit unions

Don't forget your local credit union. Although you are unlikely to be able to borrow more than £1,000 until you've proved your ability to save, it is another low-cost avenue to explore if you are shut out by mainstream banks.

Many credit union loans will cost you no more than 1 per cent per month (12.7 per cent APR) on the reducing balance of the loan. To find a local credit union visit findyourcreditunion.co.uk and enter your home town and postcode details, or give them a call on 0161 832 3694.

Andrew Hagger is an independent personal finance analyst from www.moneycomms.co.uk