How is the interest rate on a payday loan calculated

how is the interest rate on a payday loan calculated

As of 2021, the average payday loan is about $375.1 With loan amounts this low, you would think that interest rates on payday loans would be pretty reasonable. Unfortunately, this is not the case. So, how are the interest rates on a payday loan calculated? 

How Does Interest Work on a Payday Loan?

How do interest rates on payday loans work? Payday loan interest rates are known for being extremely high. When you sign a contract, a certain percentage of the principal balance is used to calculate interest. That means, generally, the higher your loan amount, the more money you will pay in interest on a payday loan. 

Interest rates with payday loans are often high even when borrowers pay back their loans within the given loan terms. But, interest rates get even worse for people who take longer to pay back their payday lenders. Loan terms on a payday loan are usually about two weeks or 14 days. 

Borrowers who fail to pay back payday loans within this very short period are usually stuck with extremely high rates that may actually cause their balance to increase from month to month. 

How To Calculate Interest on Funding From Payday Lenders

Let’s take an example of a payday loan and break down how to calculate the interest rates. 

StepDescriptionFormula ExampleNotes
1Identify the principal loan amount$200This is the amount you are borrowing.
2Identify the loan fee$30This is the fee charged by the lender.
3Calculate the fee as a percentage of the principal30200=0.1520030​=0.15This gives you the interest rate for the loan term, expressed as a decimal.
4Convert the decimal to a percentage0.15×100=150.15×100=15This is the interest rate for the loan term, expressed as a percentage.
5Multiply by the number of days in a year15×365=547515×365=5475This annualizes the interest rate.
6Divide by the loan term in days547514=391145475​=391This adjusts the annualized rate back to the loan term.
7Move the decimal point to get APR391%This is the Annual Percentage Rate (APR), which includes both the interest rate and fees.
*This is a simplified example and actual calculations may vary based on lender terms and local regulations. Always read the fine print and consult resources like the Consumer Financial Protection Bureau for more information.

What Are the Different Types of Interest?

There are several different types of interest lenders can charge on a loan. Before you sign a loan agreement and commit to any one loan, it is best to be familiar with the interest rates and how they work. 

Some types of interest you may come across on a loan are: 

  • Annual Percentage Rates
  • Fixed Rates 
  • Variable Rates 
  • Simple Interest 
  • Compound Interest   


The annual percentage rate, also known as the APR of a loan, refers to the amount of interest paid over the course of one year. The APR of a loan is typically broken down and applied to each monthly installment, so borrowers pay interest while they are paying back their principal balance. 

Fixed Interest

Fixed interest is when the rate of a loan does not change. Since the rates never change, monthly payments will also be consistent throughout the loan term. A payday loan can have a variable or fixed rate. However, fixed interest rates can make budgeting for a loan extremely convenient since you don’t have to worry about payments potentially being higher or lower each month. 

Variable Interest

Variable interest means that the rate of the loan can change from month to month. Variable rates are determined by current market conditions, which means you may pay more for some months and save money for others. Depending on the market, a variable rate loan may be a great way to save money on a loan for people who can handle a bit of financial fluctuation in their payments. 

Simple Interest

When a loan has simple interest, it means the rates are calculated using just the principal balance. The main difference between simple interest and compound interest is that simple interest is more straightforward, which is why many types of loans use simple interest. 

Some examples of loans that use simple interest are: 

Compound Interest

When a loan has compound interest, it means that rates are calculated using both the principal amount in addition to interest charges on past payments. Since the interest accumulates or compounds, loans with compound interest can get expensive quickly. 

What Is the Most Common Type of Interest Charged by Payday Lenders?

Most payday loan lenders use simple interest when determining rates. However, it is important that payday loan borrowers do everything in their power to pay off their loans within their given loan terms. If not, the interest charges may actually cause the overall balance to increase from month to month. 

Average Payday Loan Terms

If you are interested in taking out a payday loan, read about some of the average loan terms below. 

TermAverage ValueDescription
Principal Loan Amount$300 – $1,000The amount of money borrowed from the lender.
Loan Fee$15 – $30 per $100The fee charged by the lender for the loan, often calculated per $100 borrowed.
Loan Term14 – 30 daysThe period within which the loan must be repaid.
Interest Rate (APR)300% – 500%The annual percentage rate, which includes both the interest rate and any fees.
Average Maximum Interest Rate (APR)Up to 700%The highest APR commonly seen in payday loans.
Average Minimum Interest Rate (APR)Around 200%The lowest APR commonly seen in payday loans.
Repayment MethodLump-sumMost payday loans require a single repayment at the end of the loan term.
Renewal OptionsVariesSome lenders allow loan renewals, but this often comes with additional fees.
Average Default Rate20%The average percentage of loans that are not repaid, leading to default.
Usage RestrictionsNonePayday loans generally have no restrictions on how the money can be used.
Maximum Borrowing LimitVaries by stateSome states have limits on how much can be borrowed through a payday loan.
Regulatory BodyState & FederalLoans are regulated by state laws and federal guidelines, often monitored by the Consumer Financial Protection Bureau.
*Always consult resources like the Consumer Financial Protection Bureau for the most accurate and up-to-date information.

What Happens if You Don’t Pay Back a Payday Lender?

What happens when payday lending goes wrong, and you are no longer able to keep up with your monthly payments? 

One missed payment on a two-week payday loan isn’t the end of the world, but it might bring your credit score down a bit. Multiple missed payments may eventually lead to loan default, which will hurt your score in a much more significant way. Loan default may leave a negative mark on your credit score for up to seven years and hinder your ability to apply for other loans in the future. 

Furthermore, while payday lenders legally cannot threaten you with jail time, they may be entitled to wage garnishment if you don’t repay payday loans. Wage garnishment is when a lender takes money directly out of a borrower’s bank account. 

If you have a payday loan online and are struggling to keep up with your payments, reach out to your payday lender and see what they can do for you right away. 

Loans With Better Interest Rates Than Payday Loans  

Thankfully, there are much better loan options out there besides payday loans. Check out the financial products below to learn about funding that can come with better interest rates over payday loans! 

Traditional Bank Loans

For traditional loans, you can go to a bank or credit union. But where do banks get money to lend to borrowers? Banks make money from lending customer deposits to borrowers and charging interest fees. If you have a bank account, you could apply for an installment loan to get your finances back in order.   

However, banks usually only accept applicants with credit scores in good standing. So, if you have a credit score on the lower side or if you have dealt with financial inconveniences like bankruptcy, you may not want to go to a bank for a loan. 

Home Equity Loans

A home equity loan is a secured loan that allows a homeowner to borrow against their equity. Home equity loans are installment loans that can provide thousands of dollars for almost any emergency expense. 

While this type of loan is convenient, they do not provide funding quickly and have strict credit score requirements. It may take weeks or months to receive your loan money. And if you have poor credit or insufficient equity in your home, you may not qualify for a home equity loan. 

Personal Installment Loans 

One of the most versatile types of funding is a personal loan, also called a personal installment loan, from a direct lender. Personal loans can be a great payday loan alternative because borrowers can usually receive more time for repayment and more reasonable interest rates. 

With personal loans, borrowers are paired with competitive interest rates and personalized payback terms. Furthermore, personal loans are available to borrowers with either high or low credit scores. This availability is why personal loans are often referred to as bad credit installment loans.

Credit Union Loans 

You may also get a loan from a credit union. Credit unions are a special type of financial institution owned by borrowers instead of investors. Since the owners of credit unions are not necessarily seeking a profit, they often offer unique borrowing perks you may not be able to find anywhere else.

Something important to note about credit unions is their approval requirements can be quite strict. Many credit unions require their borrowers to live within a certain area, work in a particular field, or have a credit score within a certain range in order to qualify for a loan. 

How Do I Save Money on Interest Rates?

Looking to save money on interest rates on your next loan? Try the tips below! 

Work on Your Credit 

One of the most efficient ways to get paired with ideal interest rates is to work on your credit score. Often, your credit reports and credit score are the first things lenders look at when determining loan approval, terms, and rates. Borrowers with higher scores are paired with lower rates typically. 

If you have been working on your credit and already have a loan, you may consider refinancing that loan in order to get better loan terms or interest rates!  

Pay Extra on Your Loan Payments 

Try to pay more than the minimum amount due on your loans each month. The quicker you chip away at your overall loan balance, the less interest you will pay over the life of your loan! In addition to making larger payments, you may also make additional payments each month on your loan. Try to make a habit of putting whatever extra money you have lying around towards paying off any loan balances you have. 

Frequently Asked Questions About Payday Loan Interest Rates

What types of payday loans are available, and who is eligible?

There are various types, including online, instant, and traditional storefront payday loans. Eligibility often depends on age, employment, and income. Most lenders require you to be at least 18, have a steady income, and an active bank account.

How is the interest calculated, and what factors affect it?

Interest rates are usually calculated as an Annual Percentage Rate (APR). Factors affecting these rates include your credit score, lender policies, and state regulations. Always read the fine print for details.

What are the repayment plans, and can a payday loan be renewed?

Most payday loans require lump-sum repayment within 14 to 30 days. Some lenders allow renewals, often with additional fees. The average default rate is around 20%.

Are there regulations governing payday loans, and what are the penalties for non-compliance?

Both state and federal laws regulate payday loans. The Consumer Financial Protection Bureau provides federal guidelines. Penalties for non-compliance can include fines and legal action.

How do I choose the best payday loan for my needs?

To find the best payday loan for your situation, consider factors like interest rates, fees, and repayment terms. Always consult the Consumer Financial Protection Bureau’s guidelines for additional information.

A Summary from CreditNinja Payday Loans Interest Rates

According to a 2009 study by the nonprofit Center for Responsible Lending, 76% of borrowers apply for new payday loans to pay off existing payday loans.3 Working with payday lenders is convenient, but the average payday loan can result in further financial issues and stress. 

Fortunately, there are plenty of other great options besides payday lending available to help you take care of your financial obligations! CreditNinja provides same-day online installment loans with competitive rates and flexible credit score requirements.* Apply through our easy online application process!

*Applications approved before 10:30 a.m. CT Monday-Friday are generally funded the same business day. Applications approved after this time are generally funded the next business day. Some applications may require additional verification, in which case the loan, if approved, will be funded the business day after such additional verification is completed.


  1. How Payday Loans Work │ InCharge
  2. What are Interest Rates & How Does Interest Work? │ Credit
  3. Payday lenders can send borrowers into tailspin │ NBC News
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