Bankruptcy Filings by State – Payday Lending “Not a Factor”

BYU Study Points to Demographics, Bankruptcy Laws

Bankruptcy filings from state-to-state have nothing to do with the presence of payday lending and more to do with demographics.

Bankruptcy filings from state-to-state have nothing to do with the presence of payday lending and more to do with demographics.

For many individuals and families whose financial troubles have led them to the brink of insolvency, Chapter 7 and Chapter 13 bankruptcy filing options have been major landmarks on the road to credit repair. Even though filing for bankruptcy can be costly (in money and property), have an adverse effect on a consumer’s ability to borrow and potentially come with the baggage of social stigma, it can be a viable option when options are few.

This legal resource to discharge debt has proven to be quite popular; from 1990 to 2003, the rate of bankruptcy filing went up from 8.4 all the way to 15 per 1,000 American households. It is clear that demand has risen, but what is not as clear is why.

Numerous studies suggest that demographics and bankruptcy laws are among the most accurate determiners, and there tends to be agreement in these areas. There are also rather vocal groups who contend that the presence of predatory lending in a state (a banner upon which they attempt to affix the emblem of payday lending and payday loans) contributes mightily to bankruptcy filings in said state. However, in light of the very recent findings of Lars Lefgren and Frank McIntyre of Brigham Young University in their study “Explaining the Puzzle of Cross-State Differences in Bankruptcy Rates,” such claims by critics of payday lending would appear anecdotal at best, PR fabrication at worst.

Why Do Bankruptcy Filing Numbers Vary Greatly Between Similar States?

That is the question. The authors use Census data separated out by zip code in order to examine the correlation between real bankruptcy filings, demographics and bankruptcy laws. “Overall,” they write, “our analysis suggests that cross-state differences in bankruptcy rates primarily reflect differences in garnishment restrictions, non-legislated legal institutions and demographic factors. These factors jointly explain about 70 percent of the variance in cross-state filing rates.” The recently instituted Bankruptcy Abuse Prevention and Consumer Protection Act will change the findings, but the author’s study was completed before the act became law.

Some Demographic Insights

“Family structure, race and education” are among the keys to the state-to-state variance. Occurrences were more frequent with African-American households and less likely with Asian or Hispanic households. Bankruptcy filings were found to be most common in zip codes where the average household income ranged from $30,000 to $60,000. The highest instance of filing by age fell in the late twenties, while the lowest was for those filers between 30 and 49. Urban location, whether or not subjects were divorced, whether the household was led by a male or female and race are all determining factors. Oddly enough, unemployment and the increase in housing prices showed a negative correlation in relation to bankruptcy filing.

Wage Garnishment, Assets Also Factors

Wage garnishment (versus full-scale discharge of debt) is another factor the authors consider. The federal limit of 25 percent of wages per week (so long as those wages exceed 30 times the federal minimum wage) is allowed, although some states raise or lower certain requirements. Understandably, states where garnishments are less desirable that bankruptcies tend to show a greater number of bankruptcies.

Fay, Hurst and White’s 2002 article in American Economic Review entitled “The Household Bankruptcy Decision” found that bankruptcies are “correlated with a household’s financial benefit of filing, which is related to the generosity of financial exemptions.” Most households that filed for bankruptcy did not have assets of such size that they rose to the exemption limit.

Access to Credit Defends Against Bankruptcy

While the forms of available credit may vary greatly by state and the financial situation of the consumer, the authors point out that states where regulated forms of credit like payday lending and title loans are readily available show fewer bankruptcies. This echoes the sentiment of a recent Clemson University study that posits that payday loans do not lead to bankruptcy. There is “little systematic evidence” that payday loans are a factor, state the authors. In fact, small loans in the amount of $100 to $1,500 can be just what a consumer needs in order to avoid default.

Lawyers Getting Paid

The legal culture of a state also has an impact on bankruptcy filings. The “norms of bankruptcy judges, trustees and attorneys” are possible factors, although this is somewhat anecdotal. Jean Braucher’s 1993 American Bankruptcy Law Journal study “Lawyers and Consumer Bankruptcy: One Code, Many Cultures” indicates that those court jurisdictions which allow attorneys to charge their clients higher fees for Chapter 13 filings often feature attorneys who push clients toward this type of filing –  “even if this is at odds with their best financial interests,” write the authors.

Bankruptcy Rates and Payday Lending: No Correlation

In addition to exemptions, rates of government assistance and the legal culture of a state regarding bankruptcy, the authors found that payday lending is “incapable of explaining practically any of the variation in filing rates across states.”

Why do some states boast more filers than others, then? Cross-state bankruptcy studies of this nature, the authors suggest, are “largely meaningless for understanding differences in default behavior or social preferences for default.” Costs and legal practice seem to be the most obvious driving factors for the decision to then file for bankruptcy. There are noted problems with court-mandated repayment plans, but the Bankruptcy Abuse Prevention and Consumer Protection Act is intended to help remedy this problem. The results remain to be seen. It seems safe to rule payday lending and payday loans out of the formula of causation, however.

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