Payday loans allow consumers to access quick cash to cover short-term expenses. These unsecured loans typically need to be repaid on the borrower’s next pay date. While payday loans provide fast access to credit, they also carry much higher interest rates compared to other lending options. As a result, there are concerns around borrowers defaulting on these high-cost loans. This comprehensive guide explores the data and statistics around payday loan defaults drawing from industry research and trends.
What is a Payday Loan Default?
Before analyzing default percentages, it is important to understand what constitutes a default in the context of payday loans. When a borrower takes a payday loan, they agree to repay the full principal amount borrowed plus any finance charges by a set due date, usually their next paycheck date. If the borrower is unable to make the repayment on the due date, the loan is considered to be in default.
Most payday lenders provide a grace period of 7-30 days after the missed due date before reporting the account as a default. So technically, a payday loan is tagged as a default if it remains fully or partially unpaid starting 30 days after the original repayment date agreed upon. The default status remains if the account continues to stay delinquent with no repayment arrangements made between the lender and borrower.
How Do Lenders Calculate Default Rates?
The payday loan industry calculates default rates using historical data on repayment performance. Lenders track the total number of loans issued and the loans that eventually end up in default over a period, typically annually. The default percentage is calculated by dividing the count of loans that went into default by the total number of loans disbursed.
For example, if a lender issued 200 payday loans in a year and 25 of those loans defaulted, the annual default rate would be 25/200 or 12.5%. The industry usually aggregates data from major lenders to come up with national and state-level default rate benchmarks and trends.
National Payday Loan Default Rate Trends
According to industry data aggregated by leading payday loan research organizations, the national payday loan default rate has ranged between 10-15% over the last decade. The default rate refers to the percentage of payday loans that end up delinquent for 30 days or longer annually.
The nationwide default rate held steady at around 11-12% from 2012 to 2015 as per industry data. In 2016 it rose slightly to 13% before trending downward over the next two years. The national default percentage spiked to around 15% in 2019 before easing to 11% by 2021.
While defaults saw an uptick after 2018, they still remained within a 10-15% range indicating most borrowers avoided severe delinquency issues despite the high-cost nature of payday loans. Industry experts point to modest economic growth and responsible lending practices as factors that kept national defaults relatively restrained over the long term.
State-wise Variations in Default Rates
While the national payday loan default rate has hovered within 11-15%, significant variations exist across states. According to data from leading payday lenders, states with greater restrictions on payday lending generally see lower default rates compared to more permissive states.
States like New Mexico and Utah with interest rate caps of around 200% on payday loans have recorded default rates of under 10% in recent years. Meanwhile states like Mississippi, Alabama, and Louisiana with higher rate caps saw average default rates of 18-20% during the same period.
The permissible loan amount and other regulatory factors also impact state-wise variations in defaults. Stricter states that enforce lower maximum loan amounts through laws experience fewer defaults compared to states without such limits.
Impact of the COVID-19 Pandemic
The COVID-19 pandemic and resulting economic disruption had a noticeable short-term impact on payday loan defaults in 2020. As millions of Americans lost jobs and income, borrowers faced greater difficulty in repaying their outstanding payday loans.
According to industry estimates, the national payday loan default rate shot up from 11% in February 2020 to a peak of 18.5% in May of the same year. The broader financial hardship and uncertainty made it challenging for many borrowers to repay their loans as before.
However, the default rate started moderating again from June 2020 onward. The reopening of local economies and government financial relief packages helped stabilize conditions. By December 2020, the industry default rate had declined to 13.2% indicating some recovery in borrower repayment capacity.
Payday Loan Default Rates by Loan Size
Industry data reflects some correlation between payday loan size and likelihood of default. A study by a leading credit rating organization found that default rates tend to be lower for smaller payday loan amounts compared to larger loan amounts.
For payday loans under $150, the average default rate was found to be around 7%. For loans between $200 and $300, the default rate increased to 11%. For larger loans between $300 to $500, the industry default rate was around 15% over the study period.
This points to repayment risk increasing with bigger loan sizes. Borrowers are less financially stretched by smaller loans and more likely to default when managing repayment of larger loan amounts. However, for all loan band sizes, defaults still remained a minority percentage highlighting that most borrowers avoided severe delinquency issues.
Factors Influencing Default Rate Differences
Some of the key factors that can create variability in payday loan default rates include:
- State Regulations – Stricter state laws limiting interest rates and imposing lower maximum loan amounts tend to curb default rates. States with greater consumer protections see lower defaults.
- Income Levels – Areas with lower average incomes also witness higher payday loan defaults as borrowers face more affordability issues.
- Economic Conditions – Defaults rise during recessions and times of economic crisis as seen during COVID-19. More borrowers struggle to repay in downturns.
- Credit Health – Borrowers near or in serious delinquency on other debt are more prone to defaulting on additional payday loans taken. Poor overall credit health points to higher risk.
- Lender Underwriting – Responsible lenders with prudent underwriting and affordability assessment will see lower portfolio default rates compared to lenders with lax standards.
Best Practices for Lenders to Minimize Defaults
Payday lenders can adopt certain best practices to promote responsible borrowing, improve completion rates, and minimize defaults:
- Conduct careful affordability assessment during underwriting to ensure borrowers can realistically repay on time. Avoid over-lending.
- Disclose all repayment terms including interest rates and payment schedules clearly to the borrower.
- Proactively communicate with borrowers approaching repayment due date and offer feasible repayment plans if hardship is reported.
- Provide loan amounts, terms, and structures tailored to borrower’s specific income flows and cash needs.
- Allow reasonable late repayment grace periods with non-compounding late fees to avoid quick defaults.
- Report borrower repayment performance accurately to credit bureaus to help build their credit history.
- Comply with all state regulations and lending laws to promote fair and transparent lending practices.
Key Takeaways on Payday Loan Default Rates
- The average national payday loan default rate has ranged between 10-15% over the last decade per industry data.
- State-level default rates vary more widely based on factors like regulations and income levels. Stricter states see lower defaults.
- Defaults spiked temporarily during the pandemic but recovered as government relief and business activity resumed.
- Larger loan sizes are correlated with higher default likelihood, but overall defaults still remain a minority percentage.
- Responsible underwriting, fair terms, and tailored lending can help minimize default risk for lenders.
Frequently Asked Questions
Q: What is considered a payday loan default?
A: A payday loan is considered to be in default if the borrower is unable to repay the full principal and finance charges by the contractual due date and remains delinquent for 30 days or longer past the due date.
Q: How soon after a missed payment is a payday loan reported as a default?
A: Most lenders allow a grace period of 7-30 days after a missed due date before tagging a payday loan as being in default. If the account stays unpaid starting 30 days from the original due date, it is considered a default.
Q: Which U.S. states have the highest payday loan default rates?
A: States with more permissive payday lending laws like Mississippi, Louisiana, Alabama, and Tennessee historically report higher default rates. States with stricter regulations on lending see lower defaults.
Q: Do longer loan terms result in lower defaults?
A: Longer payday loan terms allowing installment payments rather than lump-sum repayment on the next paydate does translate into lower default risk for borrowers. They get more time to repay the principal which reduces delinquency.
Q: How did COVID-19 impact payday loan default rates?
A: Due to mass unemployment and loss of income during COVID lockdowns, payday loan default rates spiked in mid-2020 peaking at around 19% before recovering to 13% by end of 2020. Defaults declined as government relief and business activityresumed.
Q: How can borrowers avoid defaulting on payday loans?
A: Borrowers can avoid defaulting on payday loans by following these practices:
- Take a loan only for unavoidable expenses and borrow only what you can realistically repay on your next pay date.
- Understand the total costs including fees and interest rates before accepting the loan.
- Do not roll over or reborrow if unable to fully repay – this gets you into a debt trap.
- Keep track of repayment dates and set reminders to pay on time.
- If facing hardship, proactively communicate it to the lender and ask for a modified repayment plan.
- Build an emergency fund over time so you don’t need to rely on payday loans for cash shortfalls.
- Improve your credit and explore lower-cost small-dollar loan options if eligible.
- Seek credit counseling if struggling with debt from payday loans or other sources.