A Financial Review of the U.S Short-Term Loan Market

Finance continues to be a hot topic in this election year as it has been for the last three years the U.S has officially been in recession. The Bureau of Labor Statistics published the May 2012 U.S. Jobs report showing a drop in employment for the last quarter. With this backdrop, short-term (‘payday’) loans represent an economic necessity for many people who need fast access to funds to cover their monthly expenses.

The Employment Situation — May 2012 by the BLS

According to figures from the Consumer Federation of America (CFA), at the end of 2010 it was estimated that there were 19,700 payday loan providers in operation in the United States. This represents a decrease from the 20,600 estimated payday loan companies at the end of 2009. Perhaps surprisingly given the perceived increase in consumer borrowing, the number of payday loan stores in the U.S has been dropping since 2006.

Analysis of the CFA figures shed more light on the changing landscape of short term loans in the U.S. The decrease in the number of payday loan stores can be accounted for primarily by the new state-wide legislation on short term loans; as of December 2011, 38 states have specific statutes on payday lending and the remaining 12 states deem it illegal or unfeasible.

As a corollary to increased state-to-state regulation, the gateway has opened for online payday loan companies to operate freely; The CFA’s figures report that in 2010, of the total $29.2 billion loan market in the U.S $4.7 billion of this was comprised of payday loans made available from stores and the collection of associated fees.  Internet payday lenders are estimated to have loaned $10.8 billion in 2010 and collected revenues of $2.7 billion. With the two sources combined, storefront and internet payday lending totaled $40.3 billion in loans and $7.4 billion in revenue in 2010.

More recent figures show a definite uptrend in short term loans, giving credence to the theory of internet payday loan companies’ prominence. As of January 2012, JMP Securities, a San Francisco based investment bank, estimated that the annual payday loan volume is $32 billion and is continuing in a steady growth.

The profile of an average consumer seeking a payday loan is credit-constrained, having little or no savings due to job loss or low income and needing to access cash for short periods of time. Usually, the term is in between paychecks of durations of 1-3 weeks at a time. A customer typically borrows $100 – $400 with a postdated check made out in an amount of the principal in addition to an average fee of $15 to $22 per every $100 borrowed.

The average Annual Percentage Rate (APR) of interest for payday loans is difficult to ascertain given each state has its own usury laws but can be estimated to be around 400-500% with a cap at 780% in most states. These interest figures are high in view of this form of credit’s high default rate of 10 – 20%. As this type of lending represents a substantial risk to the lender, the high interest is there to minimize the risk to the lender.

Poor credit rating is also a unifying factor among many borrowers of short-term loans. Given that this form of finance is available without a credit check, it is appealing to those whose homes may be in foreclosure, who have exceeded borrowing limits on credit card and defaulted on repayments, or even those who do not wish to undergo a credit check in order to preserve their rating.

Accessing short-term loans as an occasional option can be a convenient solution to immediate cash flow problems. However, their high-interest rates should heighten consumers’ attention to spending habits and act as a caveat for responsible usage.