Title Loans vs. Payday Loans: What's the Difference?

Title Loans vs. Payday Loans: An Overview

Asking which one is better to get—title loans or payday loans—is equivalent to asking which illness is better to get during the winter. Both loan products feature unreasonably high interest rates, unfavorable terms, and potentially aggressive collection tactics. The two significant differences between a title loan and a payday loan are how you can borrow and the interest rates on each loan.

Title loans typically offer lower interest rates—for example, a 300% annual percentage rate (APR) versus 400% for payday loans—but also impose harsher penalties for nonpayment, as the lender can take ownership of your vehicle.

Title loan lenders usually let you borrow up to 50% of the car's value, and often up to $5,500, but some lenders will go higher depending on the vehicle and allow borrowers to take out a $10,000 loan or more. Payday lenders usually let you borrow just a few hundred dollars.

Payday Loan

Payday lenders offer short-term cash loans in exchange for a postdated check, usually dated for your next payday. The amount of the check includes the loan total and a finance charge. For example, you write a check for $115 to receive a $100 loan. Given a two-week loan term, which is relatively standard, the $15 finance charge works out to an APR of nearly 400%, and this assumes you pay back the loan on time.

If your postdated check fails to clear the bank and you do not make other arrangements to pay by your due date, the lender rolls your loan into a subsequent two-week term. The lender will also tack on another finance charge and typically assesses an additional late fee or penalty. In short order, you could be on the hook for several multiples of your original loan amount.

Many payday lenders prey on low-income earners and those desperate for cash, and their businesses are often located in higher-crime areas, although not always. You can circumvent the need to go to a physical location by seeking a lender online, but doing so subjects you to another set of risks. Some websites offering payday loans are nothing more than scams to extract sensitive personal information.

In some states, laws have been enacted to require payday lenders to offer extended repayment plans for those who get into financial trouble and can't pay their loans back. These state-sanctioned extended repayment plans mean you only have to pay what you owe, and you are not forced to borrow again, thus preventing the cycle of debt and fees from occurring.

Title Loan

Title lenders offer short-term loans while holding your vehicle's title as collateral. The lender appraises the vehicle's value and offers to lend up to a certain percentage of that value, usually 25% to 50%. Title loan balances can be much larger than payday loan balances, in some cases reaching as high as $10,000. A typical title loan term is 30 days, with the average interest charge around 25%. This means that a standard title loan APR is 300%.

Like payday lenders, title lenders impose the biggest expenses when you fail to repay the loan on time. If you are lucky, the lender might offer to roll the loan into a new 30-day term, levying a new finance charge and usually a penalty charge on top of that. If you are not so lucky, the lender may repossess your car and sell it to pay off your loan.

Obtaining a title loan generally requires you to show up in person since the lender must appraise your vehicle. Mobile title lenders do exist but almost always charge extra to come to you.

Special Considerations

Classifying one loan or the other as "better" is fraught with difficulty, as both payday loans and title loans tend to take a precarious financial situation and make it worse. Payday loans pose less risk of losing personal property, while title loans feature slightly lower (though still rapaciously high) interest rates and allow for more significant loan amounts.

If facing an unexpected expense and low on funds, better methods to raise money include selling items you no longer need, asking your employer for an advance on your next paycheck, or, if possible, using a credit card.

While credit cards receive a bad rap for having high-interest rates, their rates are a tiny fraction of what you end up paying for a payday loan or title loan. Moreover, some credit cards charge no interest at all if you pay them off within 30 days.

The Bottom Line

Both title loans and payday loans should be an absolute last resort for borrowing money. With predatory rates and aggressive tactics when you default, they prey on those with few other options. Before you apply for either type of loan, consider other options like credit cards, borrowing from friends and family, or getting a part-time job.