How State Rate Limits Affect Payday Loan Prices
Storefront payday loans are available in 36 states. Borrowers in some of them pay twice as much for the same loans that comparable customers get in other states. Pew's research indicates that a state's limit on interest rates is the key factor driving loan pricing. The four largest payday lenders in the United States charge similar prices within a given state, with rates set at or near the maximum allowed by law. But in states with higher or no interest rate limits, the same companies charge comparable borrowers far more for essentially the same small-loan product.
Borrowers in states with no rate caps—Idaho, South Dakota, Texas, and Wisconsin—pay the highest prices in the country, more than double those paid by residents of several states with interest rate limits, such as Colorado, Maine, Minnesota, and Oregon.
Competition does not explain lower prices
States with high or no rate limits tend to have the most payday loan stores per capita.1 (See Figure 2.) But in states with lower rate limits, payday credit is not significantly constrained; instead, fewer stores simply serve more customers each.2 For example, in the three years after Colorado lowered permissible interest rates for payday loans, half of stores closed; but each remaining store served 80 percent more customers. Borrowers' access to credit in the state was virtually unchanged.3 In the 15 states that prohibit payday lending or interest rates higher than 36 percent, there are no payday lending stores.4
Policymakers in states with conventional payday lending can reduce the harm caused by unaffordable payments and noncompetitive prices by implementing Pew's policy recommendations:
- Limit payments to an affordable percentage of a borrower's periodic income. Pew's research indicates that monthly payments above 5 percent of gross monthly income are unaffordable.
- Spread costs evenly over the life of the loan.
- Guard against harmful repayment or collection practices.
- Require concise disclosures that reveal both periodic and total costs.
- States should continue to set maximum allowable charges on loans for those with poor credit. In states that have permitted higher interest rates than Colorado's, storefronts have proliferated, with no obvious additional benefit to consumers.
- States with more firms operating, a standard measure of competition, do not see lower prices. For example, 42 firms operate in the lowest-interest state with payday loan stores, Colorado, but loans cost far more in states such as Kansas, Nebraska, and Florida, which have more firms operating.
- This tendency is detailed in Robert B. Avery and Katherine A. Samolyk, Payday Loans Versus Pawn Shops: The Effects of Loan Fee Limits on Household Use (2011), http://www.frbsf.org/community-development/files/2-avery-paper.pdf; and Mark J. Flannery and Katherine A. Samolyk, “Scale Economies at Payday Loan Stores” (2007), http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2360233.
- The Pew Charitable Trusts, Payday Lending in America: Policy Solutions (2013), http://www.pewstates.org/research/reports/payday-lending-in-america-policy-solutions-85899513326.
- These jurisdictions are Arizona, Arkansas, Connecticut, District of Columbia, Georgia, Maryland, Massachusetts, Montana, New Hampshire, New Jersey, New York, North Carolina, Pennsylvania, Vermont, and West Virginia.