WASHINGTON, DC–In March 2015, the Consumer Financial Protection Bureau (CFPB) said it would write the first rules for "payday loans" and introduced guidelines that are expected to be finalized by the end of April.
Payday loans are two-week cash advances, typically for amounts less than $500.
The announcement came amid concerns the short-term, high-rate debt, created by the loans, often puts low-income borrowers into a cycle of rising debt.
The way the loans work is that a borrower post dates a check using the date of her next payday, thus promising she'll repay the loan on the day she receives her next paycheck.
In another scenerio, the lender gets permission to debit the borrower's bank account two weeks later, for an additional finance charge.
But borrowing until the next payday costs the borrower a super-high annual interest rate — reportedly as much as 800%, some 15 to 30 times as much as a credit card.
"[Payday lenders] know they have access to the borrower’s next paycheck, [so] the lender doesn’t feel like they need to check too much about the borrower’s credit,” says Bloomberg's Zeke Faux.
In the past, the industry has always been overseen by the states rather than the federal government. But some payday lenders say they’ll get out of the business when the new CFPB rules kick in.
The CFPB has been exploring ways to require payday lenders make sure customers can pay back their loans. Soon, they will require lenders to verify that a borrower can actually afford the loan before they sign for it.
Payday loans and other similar lending products “simply dig borrowers into a hole,” more than 450 consumer groups from around the country wrote in a letter to CFPB Director Richard Cordray in 2014.
“It’s time to end the scam and put rules in place that will end abusive practices and slam shut the debt trap.”
But after the regulations go into affect, many low-income consumers who don’t have credit cards and can’t get bank loans would not be able to get any credit, and that could hurt them too.
Knowing the new rules could put many payday lenders out of business, the CFPB asked the nation’s 25 largest retail banks “to make available and widely market lower-risk deposit accounts that help consumers avoid over drafting,” according to a February 3 CFPB news release.
The move is reportedly designed to help many of the nation’s 10 million “unbanked” households get into the banking system.
And now the CFPB is taking steps to improve checking account access amid its concerns that consumers are being left out by the lack of account options.
“Consumers should not be sidelined out of the basic banking services they need because of the flaws and limitations in a murky system,” said CFPB Director Richard Cordray. “People deserve to have more options for access to lower-risk deposit accounts that can better fit their needs.”
The new payday loan rules are expected to emphasize more affordable payments for borrowers. But consumer advocates have let the CFPB know that they want the rules to be strict, requiring lenders to verify borowers' income, expenses and credit history prior to receiving a loan.
In response, the CFPB issued a bulletin warning banks and credit unions that failure to meet accuracy obligations when reporting negative account histories could result in Bureau action.
The resources being provided by the CFPB to help consumers navigate the deposit account system are:
- How to obtain a copy of their checking account history
- How to dispute items with the consumer reporting company
- How to dispute items with a bank or credit union that reported inaccuate information
- To shop around for lower-risk products
Online lenders are known to skirt state laws for payday loans, and they raise aditional concern for the CFPB.
Both the CFPB and the Federal Trade Commission have sued payday lenders for abusive practices.
The lenders argue they make emergency cash available to people with no other means of credit.
Jamie Fulmer, Senior Vice President of Public Affairs for Advance America, the largest U.S. payday lender made the following statement during his 2014 testimony at the Consumer Financial Protection Bureau’s (CFPB) field hearing on payday loans in Nashville, Tennessee:
The short-term lending industry constantly evolves to serve changing consumer needs and preferences, which traditional financial institutions have largely ignored. As the marketplace changes to meet consumer demand, the regulatory framework must also evolve. Regulators must avoid imposing ‘test lab’ concepts that constrict the ability to borrow from a regulated lender but fail to consider how consumers behave in the real world and do nothing to alleviate their need for short-term credit.
For consumers with no other borrowing options, strict rules would “eliminate a viable credit option and drive them to miss bill payments, use overdraft programs, or turn to dangerous, illegally operating lenders,” Fulmer told the Wall Street Journal.
In a CFPB analysis released in 2014, over 12 million payday loans made during one year were examined. Findings pointed to a divided market: users who paid off loans quickly and users who renewed their loans several times.
“For 48% of new payday loans, borrowers paid them off with either one or no renewals, the study found. But 22% of loans were renewed at least six times,” according to the WSJ MoneyBeat blog.
“Our central concern here is not with every payday loan made to a consumer,” Cordray said last year at the field hearing in Tennessee. “Some such loans should be available. Our concern instead is that all too often those loans lead to a perpetuating sequence.
Last summer, the CFPB took enforcement action against ACE Cash Express, one of the largest payday lenders in the United States. Based in Irving, Texas, Ace offers payday loans, check-cashing services, title loans, installment loans, and other consumer financial products and services online and at many of its 1,500 retail storefronts, throughout 36 states and the District of Columbia.
But the company used false threats, intimidation, and harassing calls to bully payday borrowers into a cycle of debt according to Cordray.
“This culture of coercion drained millions of dollars from cash-strapped consumers who had few options to fight back. The CFPB was created to stand up for consumers and today we are taking action to put an end to this illegal, predatory behavior,” said Cordray.
ACE will provide $5 million in refunds and pay a $5 million penalty for the violations, according to the release.
“A March 2014 CFPB study found that four out of five payday loans are rolled over or renewed within 14 days. It also found that the majority of all payday loans are made to borrowers who renew their loans so many times that they end up paying more in fees than the amount of money they originally borrowed,” says the release.
The CFPB began overseeing the payday loan market and supervising payday lenders in January 2012.
“The CFPB found that ACE used unfair, deceptive, and abusive practices to collect consumer debts," reads the release, which detailed "a number of aggressive and unlawful collections practices," including leading consumers to believe they would be sued or subject to criminal prosecution if they did not make payment, and harassing consumers with an "excessive number" of collection phone calls.
"Collectors would use legal jargon in calls to consumers, such as telling a consumer he could be subject to 'immediate proceedings based on the law' even though ACE did not actually sue consumers or attempt to bring criminal charges against them for non-payment of debts,” reads the release.
“In some of these cases, ACE repeatedly called the consumers’ employers and relatives and shared the details of the debt,” it continues.
The CFPB said that the illegal debt collection tactics were used to create a false sense of urgency, and secure repeat business from the borrowers.
“ACE would encourage overdue borrowers to temporarily pay off their loans and then quickly re-borrow from ACE,” reads the release. "Even after consumers explained to ACE that they could not afford to repay the loan, ACE would continue to pressure them into taking on more debt… The Bureau found that ACE’s creation of the false sense of urgency to get delinquent borrowers to take out more payday loans is abusive."
A graphic illustrating this cycle of debt can be found in ACE’s 2011 Training Manual.
“Consumers begin by applying to ACE for a loan, which ACE approves. Next, if the consumer ‘exhausts the cash and does not have the ability to pay,’ ACE ‘contacts the customer for payment or offers the option to refinance or extend the loan,’” says the release.
Then, when the consumer “does not make a payment and the account enters collections the cycle starts all over again—with the formerly overdue borrower applying for another payday loan.”