By:  Robert Bryson

Don’t get one of these – that is the summation of this article. With that aside, let’s dig into payday loans.

What are payday loans?

Payday lenders offer loan products to “high-risk” individuals, people who ordinarily cannot access credit. A payday loan involves taking out a loan against anticipated future income. For example, Clerk will receive his paycheck of $450 next week but needs to pay his bills now. To make ends meet, Clerk goes to payday lender and takes an advance on his check this week. If the lender charged Clerk a reasonable interest rate and fee, then that would be the end of the story. However, payday lenders do not charge reasonable rates, they charge unconscionable rates that trap people in a cycle of debt and bankruptcy.

Why are they bad?

The payday loan industry is “bad” for a few reasons.[1] One, it targets populations that are easy to take advantage of like single parents, low-income individuals, discharged servicepersons, and other people who are desperate. Payday lenders are often found all over low-income neighborhoods and are almost never found in high-wealth neighborhoods. They are designed to take advantage of desperate people.

Two, it charges insanely high interest rates. Consider the average credit card charges 15% to 36%, while payday loans charge up to and more than 400% interest. Moreover, payday loans include fees and costs that are not immediately disclosed. Finally, payday loan terms include draconian punishments for individuals who fall behind, such as accelerated or balloon payments, liens, rollover fees, refinancing fees, and waivers of the right to contest the loan in court.

Three, payday lenders deliberately sign loans to individuals who are incapable of repaying the loan. Standard practice involves the lender evaluating the applicant to determine if they can repay the loan. The lender will check (1) credit scores (2) income (3) assets and (4) other debts to determine if the applicant is sufficiently solvent to repay the loan. Payday lenders either (1) don’t evaluate the applicant or (2) do evaluate them and provide loans to people who cannot repay them.

In short, it is an industry that is built entirely on defrauding people – legally.

Obama Administration: CFPB Restricts Payday Loans

In response, the Consumer Financial Protection Bureau (“CFPB”)[2] finalized a rule to stop payday lenders from deliberating giving loans to people who are unable to repay them. The rule requires lenders conduct a “full-payment test” to determine if borrowers can afford to repay the loan (without taking out another loan).[3] The rule also forbids lenders from accessing the borrower’s checking or prepaid account if the loan annual percentage rate (“APR”) is higher than 36%. Essentially, some lenders obtain debit account access to automatically withdraw payments and this rule forbids access.

Trump Administration: HR 3229 and CFPB to loosen Payday Loan rules

Mick Mulvaney, Acting Director of the CFPB has publicly stated that the CFPB intends to “revisit” the payday lending rule. Acting Director Mulvaney is primarily concerned with the complexity of the rule[4] and believes that it stifles the industry. While I would agree, a simple ban and credit-rate cap would be much simpler, the CFPB is not the proper forum to ban an entire industry. Moreover, Mr. Mulvaney’s actions[5] thus far do not inspire confidence that he is committed to protecting consumers.

Finally, H.R. 3299 the “Protecting Consumers’ Access to Credit Act of 2017” looks to reverse the Madden v. Midland Funding LLC (2nd Cir. 2015) 786 F.3d 246 which forbad banks from reselling loans to payday lenders if the interest rate exceeds state usury limits.[6] If the bill is passed, it would allow banks to bypass state interest limits by partnering with a payday lender. In short, you could go to a bank, assume you are being properly vetted when you receive a loan, only to find out later that the bank sold your loan to a payday lender who is charging you 400% interest. It would allow payday lenders to use banks to avoid state regulations.

Unfortunately, on February 14, 2018, the House held a roll call vote and passed H.R. 3299 by a vote of 245 to 171. Now the bill is handed off to the Senate where it will hopefully die in committee or to a filibuster.

[1] Keep in min that payday loans aren’t the only actors in the “high-risk” debt industry. There are also title loans, auto loans, long-term loans coupled with balloon payments, and other similar products that are all designed to squeeze every possible dollar out of people who are unable to repay their loans.

[2] The CFPB was founded as part of the Dodd-Frank Act which was passed in response to the financial crisis. The CFPB was formed to protect consumers from predatory practices, such as, payday lenders.

[3] There is an exception for lenders who allow gradual repayments of interest and principle to give relief to community banks and credit unions.

[4] The final rule is over 1,600 pages.

[5] His most recent action has been to drop an investigation into a predatory payday lender who charged over 900% interest. NPR “How Mick Mulvaney Is Changing The Consumer Financial Protection Bureau,” February 12, 2018, Chris Arnold. Moreover, if the government dropped major investigations every time a new Administration secured the election, then the economy would be rife with uncertainty. Every election could result in major policy reversals ensuring that businesses are unable to engage in long-term planning.

[6] For a deeper analysis of Midland, here is an excellent summary of the case and its impact by Robert Savoie.