A single mother whose payday loans sent her bankrupt is backing the Federal Government's push to rein in lenders who provide small loans to cash-strapped borrowers.

Consumer groups say borrowers can often be hit with interest rates adding up to 600 per cent a year.

Assistant Treasurer Bill Shorten today introduced legislation to cap charges on loans under $2,000 - outraging the payday lending sector.

Wendy Mills - whose real name is not being used to protect her identity - needed money for her two young daughters to go to a school camp, but she had just lost her full-time job and her credit card was maxed out.

She borrowed $170 from a Melbourne payday lender in what would be the start of her descent into a debt spiral that would land her with a bill of $16,000.

"Basically I had about three loans with payday lenders out and I wasn't actually getting enough money to pay back the fortnightly payments, so I went to another place that I found in the newspaper and they offered to loan me the sum of $5,000, that was so I could basically clear out all the other loans as well," she said.

"Then I got some documentation in the mail saying that I owed $16,000 as the result of that one $5,000 loan."

Wendy had not read the small print in her contract which imposed a loan application fee of $7,000 - $2,000 more than the original loan.

"When you're in a spot of being unable to pay your rent every fortnight and the fear of getting evicted ... commonsense I suppose in some ways went out the window," she said.

"All it took was filling in some forms and basically ... that stopped the stress for another week. Now I would no longer do that than fly to the moon."

Catriona Lowe, from the Consumer Action Law Centre in Victoria, says Wendy's experience with payday lenders is not uncommon.

"That cycle is precisely the reason that organisations like mine and welfare agencies across the country are so concerned about payday lending because it is that spiral that they drive," she said.

"If a person doesn't have enough money to meet recurrent everyday expenses at the start of the process, adding extremely expensive credit costs on top of that does not do the consumer any good.

"It's not hard to see that in that circumstance people very commonly do go back again and again."

Reforms

The Government's reforms would ban payday lenders from refinancing small loans that can typically see borrowers pay back more than double - even triple - the value of the original loan.

Payday lenders will also have to first advise customers of alternative sources of funds, like Centrelink advances and no-interest or low-interest loans from community organisations.

But more controversially, the new laws impose a national cap on small loan charges for the first time.

For loans under $2,000, upfront fees will be capped at 10 per cent, with the monthly interest rate to be set no higher than 2 per cent.

That is an effective annual rate of 34 per cent, but payday lenders say that is too low to make the industry viable.

Mark Redmond is chairman of the the industry's peak body, the National Financial Services Federation (NFSF).

"What has been proposed is just far below the operating costs of the businesses that provide the service," he said.

"I think that has been supported by the Treasury's regulatory impact statement that also suggests that a figure of around $30 per $100 was where it should be pitched at."

The behemoth in the sector is the publicly listed payday lender Cash Converters.

It says its average loan is $300, which normally has to be repaid within a month, for which the company charges a flat fee of $35 per $100 borrowed.

"For a $300 loan there is a $105 charge that is applied to that, so that is $300 is taken out [and] $405 is paid back over a month," Cash Converters spokesman Glen Donaldson said.

"On average for stores the cost - and this is part of our submissions to the Government and have been for a couple of years - the cost of that product is about $76.

"So what the Government is proposing is that a maximum charge on that product can be in the order of $36 and as you can see, it is well below the cost."

'Astute money managers'

Mr Donaldson also rejects charges that the sector is exploiting poor and vulnerable Australians.

"They're pretty average Australians, they're probably Australian battlers in the main," he said.

"Many of them, they're characterised as having no credit choice; in fact many of them have a variety of credit options available to them and use them all very successfully.

"They are astute money managers. Many people who don't have much money are required to ensure that they can look after themselves.

"Yes, there are a small percentage of people who are what may be termed vulnerable or disadvantaged, and we support their protection wholeheartedly.

"However that support should not be at the cost of the rest of the market."

Cash Converters customers would seem to agree. The company claims 30,000 customers have signed up to its no-cap campaign which now has its own website.

The industry is also considering taking a lead from the mining sector and funding an advertising campaign to put its case, as NFSF chair Mark Redmond explains:

"In terms of media campaigns in the future, we will just have to see where it all goes once the bill has been introduced into Parliament," he said.

"The bottom line is the need doesn't go away when an authorised lender is put out of business.

"People will need money and there will always be those that are desperate enough to get those funds through loan sharks, backyard means, and the like."

But Catriona Lowe hopes the Government will resist the pressure from the industry.

"There needs to be major change in this industry, there's no doubt about it, because at the moment the research suggests that the vast majority of their customers are disadvantaged consumers borrowing for everyday living expenses," she said.

"That is a recipe for for disaster for those consumers."

Wendy Mills agrees: "I think there needs to be some sort of stricter guidelines that they have to work within because I do think that they loan money to people who can't afford to pay them back."