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Has a kinder, gentler payday loan arrived?

Traditionally,聽payday lenders聽offset the high cost of making short-term loans with annual percentage rates of 400% or more. A borrower who falls behind finds himself on a treadmill of debt, paying only the interest and renewing the loan again and again. But a new crop of alternative lenders say they want to help customers make on-time payments and build good credit, too, so borrowers have access to cheaper loans down the road.

Some call themselves 鈥渟ocially responsible鈥� lenders, saying they don鈥檛 even plan to make money off the loans.

鈥淲e can make a profit on them, but it鈥檚 razor-thin,鈥� says Jeff Zhou, co-founder of聽Fig Loans, a Houston-based startup expanding beyond Texas. 鈥淓very dollar we make is an extra dollar we have to take, and that鈥檚 tough for people who aren鈥檛 making a lot of money.鈥�

Instead, Fig Loans and other alternative lenders want to move customers toward other financial products, such as long-term loans and credit cards.

鈥淲e think the solution is to bring people into the mainstream financial services,鈥� says Leslie Payne, head of social impact and corporate affairs for聽LendUp, a California-based online lender that currently offers loans in 11 states. 鈥淭he bridge is what鈥檚 crucial. You鈥檝e got to bring them in, then raise them up.鈥�

Essentially these products聽share many critical characteristics with payday loans: They鈥檙e available to people with no credit or bad credit; they鈥檙e fast, with funds dispensed electronically in 15 minutes to overnight; the loans are for small amounts, usually less than $500; and the payments are due back relatively quickly 鈥� in either two weeks or four months, usually.

One final, critical similarity: While these lenders may try to get the price down, these聽small-dollar loans聽still come with very high interest rates, almost always starting at over 120% APR.

Alternative but still expensive

Critics of the payday loan industry are not entirely convinced that alternative lenders are聽better for consumers.

鈥淎nybody who鈥檚 making loans over 36% APR, that should be a huge red danger flag to stay away,鈥� says Lauren Saunders, associate director of the聽National Consumer Law Center.

Cost of a four-month $500 loan*

Lenders say providing fast cash to people without good credit is unavoidably costly. But excluding high-cost loans essentially denies millions of people access to formal lines of credit and 鈥減ushes people into more dangerous products, like loan sharks,鈥� Payne聽says.

Nick Bourke, director of the聽small-dollar loans project聽at The Pew Charitable Trusts, concedes that the loans can be expensive to process, but says they should still be manageable and consumer-friendly, something he鈥檚 not sure he鈥檚 seen in the online lending space, which is ripe with 鈥渨idespread fraud and abuse.鈥�

鈥淭here are just some very fundamental challenges that make doing payday lending or high-cost installment lending really costly to do in a friendly manner,鈥� Bourke says.

A 2014 Pew聽survey聽found that a third of borrowers had funds withdrawn without their permission and about one-fifth聽lost bank accounts as a result of payday activity. 鈥淏orrowers are very clear,鈥� Bourke says. 鈥淭hey want more regulations, they want more affordable payments. 鈥� they want reasonable time to repay the loan.鈥�

What do the new lenders say to such criticism? They agree.

鈥淲e think affordability is key,鈥� says Ken Rees, CEO of

Elevate, whose Rise loans let borrowers refinance at lower rates. 鈥淎ll of our products are pay down over time, on a schedule that works for them.鈥�

So how do these new lenders claim to put customers first? Here are some features they often have that traditional payday lenders usually don鈥檛:

Affordability tests

Traditional payday loans make it easy to pay only the interest, rolling over the principal into a new loan on the next payday. Loans from alternative lenders are designed to be paid off, with the principal shrinking after聽every payment.

That means responsible lenders must聽carefully consider a customer鈥檚 ability to repay.聽Rees, of Elevate, says: 鈥淲e have to have affordability calculations, because if a customer is unable to pay back that loan, we have to write that off.鈥�

If implemented,聽new guidelines聽from the Consumer Financial Protection Bureau聽would require traditional payday lenders to vet聽borrowers using聽affordability tests.

Flexible or longer payment plans

Many alternative loans start with a four-month repayment period instead of two weeks or one month. 鈥淭o have three or four or five paychecks to pay it back, that鈥檚 what鈥檚 allowing people to restructure their finances and get ahead,鈥� Payne of LendUp says.

The 2014 Pew survey found that nearly a third of people who borrowed from traditional online payday lenders said they鈥檇 received threats from those聽lenders, including threats of arrest by the police. Such threats are illegal.

By contrast, if customers can鈥檛 make a loan payment, lenders like Rise say they鈥檇 rather reschedule. If聽customers don鈥檛 pay after 60 days, Rise 鈥渏ust charges it off,鈥� Rees聽says, although the default does get reported to the credit bureaus.

鈥淲e, as a company, are leaving a lot of money on the table by not imposing additional fees and not having more aggressive collections practices,鈥� Rees says. 鈥淏ut that鈥檚 just how we鈥檝e done it. We think it fits really well with what [consumer regulators] are trying to do.鈥�

The promise of lower interest rates

The CFPB does not regulate interest rates. States do. That means rates can vary wildly聽from lender to lender and state to state.

In Texas, Fig Loans offers starter loans at 140% APR. Rise and Oportun, a storefront lender in six states, say their rates average about half the cost or less of traditional payday lenders, which is typically around 400% APR, according to the CFPB.

In some states, though, rates from alternative lenders can look just as scary as those of traditional payday lenders.聽Even so, borrowers may find that if they make聽on-time payments, they鈥檒l have the option to lower those rates.

Rise says it will refinance its customers鈥� loans and get them to 36% APR within three years, often less, according to Rees, 鈥渨hich is still expensive by prime standards, but for subprime borrowers it鈥檚 transformative.鈥�

LendUp says customers who build points on its lending ladder can eventually qualify for loans at less than 36% APR, 鈥渁nd that鈥檚 something that鈥檚 just not available anywhere to the vast majority of our customers,鈥� Payne says.

Credit reporting

A credit history, and the credit scores derived from it, are indispensable for affordable borrowing. Mainstream lenders that聽lend at rates of 36% APR or less typically require scores of 600 or higher.

Most borrowers who turn to payday loans either have no credit history or have one so tarnished聽that they don鈥檛 qualify elsewhere.

Traditional payday lenders don鈥檛 report on-time payments to TransUnion, Experian or Equifax, the major credit bureaus. A聽selling point for alternative lenders is that they report to the bureaus聽鈥� sometimes automatically, sometimes optionally.

Oportun, which has been operating with this model since 2005, reports that after three loans its typical borrower attains a credit score of 672,聽which is about average.

Financial education

Unlike most quick-cash shops, alternative聽lenders offer customers free online lessons in budgeting, savings and financial literacy. LendUp even rewards those who take courses with points to help attain better loan terms.聽鈥淚t鈥檚 another signal that these customers are lower risk,鈥� Payne of LendUp says.

Triple-digit APRs are still triple-digit APRs

While gentler repayment practices and credit reporting are well intentioned, they don鈥檛 make these loans a good deal, experts say.

鈥淗igh-cost loans are still dangerous loans,鈥� says Liz Weston, NerdWallet columnist and author of the book 鈥淵our Credit Score.鈥� 鈥淭here are much better ways to deal with a cash crunch and to build your credit than resorting to a loan with triple-digit interest rates.鈥�

Financial advisors point out that there are plenty of nontraditional alternatives for fast cash that aren鈥檛 based on credit scores, such as聽community-assistance programs,聽pawnshop loans, bill forbearance programs, employer payroll advances, or loans against personal retirement or life insurance funds.

Any alternative that buys a borrower time to build credit through traditional means 鈥斅燼 credit-builder loan or secured card, a year of on-time payments on existing debts 鈥� may put a more affordable loan under 36% APR within reach.

If you need cash instantly, a lender that reports on-time payments to credit bureaus is probably a better choice than one that doesn鈥檛, Weston says. But if you need another loan after the first is paid off, check with a mainstream lender that caters to bad credit to see whether聽your scores have improved enough to qualify for a loan under 36% APR,聽she says.

Alternative lenders acknowledge that extremely high-interest loans such as theirs are not the optimal way to build credit.

鈥淲e want people to take out those traditional loans,鈥� says Zhou, who modeled Fig Loans largely around the advice of nonprofits and financial coaches. 鈥淏ut there are situations where a financial coach might have to refer someone to a payday lender, and as a last resort we鈥檙e just saying come to Fig instead of a payday lender.鈥�

NerdWallet has no business relationship with any of the lenders profiled.

This article聽originally appeared on聽NerdWallet.