When there is no money to fulfill a dream or pay the bills, the Payday Loan fits like a glove. After all, it is a credit with an interest rate lower than expensive options like overdraft and revolving credit card and more transparent: you know exactly the interest rate and the Total Effective Cost (CET) of the operation.
But today our conversation is about this first value: how is the interest on the Payday Loan charged? First of all, remember that there are two ways to calculate interest. There are simple interest rates, whose calculation involves only a multiplication, but also compound interest, which increases at a higher rate because they are calculated on the amount borrowed plus interest from previous months. We have already explained the difference in the calculation between simple and compound interest in this other post.
Payday Loan interest is compounded, but calculated in a third way, by the installment system. In “financiers”, it is the famous PMT formula. But before explaining it, let’s understand everything that goes into it.
How is the interest on the Payday Loan charged?
The PMT, the final result after the calculation, is the portion you will pay on your loan. One of the advantages of a Payday Loan, in fact, is that it has a fixed installment, causing no surprises for the consumer.
The CET, the final cost of the loan. To make it easier, let’s consider that in this example it is 5% per month.
PV is the present value, that is, how much you are borrowing. In the example, let’s consider a person who took $1,000.
Finally, there is still on, which means the number of installments you will have. For example, let’s assume that the loan will be repaid in one year, that is, 12 times.
Understand the PMT formula
Now let’s go to the PMT formula to understand how the interest on the Payday Loan is charged, but don’t be alarmed. All calculations are possible to be done in a calculator or in Excel. In addition, we have a bonus tip from the Guiabolso simulator that already calculates all of this for you.
Translating, the PMT (monthly installments of the loan) will be equal to the PV (amount borrowed at the beginning of the contract) times an amount.
Bonus tip: simulate and plan your loan
In the Guiabolso app, it is possible to simulate the loan before hiring it. In short, just go to the “Loan” tab and enter the amount you want to borrow from one of our partners and the payment term. Then, the simulator shows you the exact value of the monthly installments. It is also possible to do the simulation on the site.
In addition, the platform also allows you to plan how much you will pay on the installment every month. If you put these and other expenses in the planning, it is easier to see how much will be left at the end of the month or if it is necessary to reduce some other expense to account for the portion.
What interferes is the interest rate?
The interest is nothing more than the remuneration you pay for borrowing money. In other words, it is the “gain” of the bank or financial institution for lending you the amount.
Therefore, a lot of information interferes with the definition of this interest because it represents the risk that you have to pay (or not) that loan. In short, the more risky your profile, the higher the interest rate.
Features such as payment history, income, types of income (fixed or change depending on the month), types of expenses, among others are taken into account when calculating your score (score) and, consequently, the size of interest.
To calculate the CET, the final cost you will pay on the loan, other variables also enter, such as the bank’s own cost of operation and taxes.