Consumer Law & Policy Blog

Major Banks Stop Offering Payday Loan-Equivalents: Deposit Advance Loans

The Wall Street Journal has the story here. 

Clarke & Zywicki Paper on Payday Lending and Bank Overdraft Protection

Robert L. Clarke of Bracewell & Giuliani LLP and Todd J. Zywicki of George Mason University (Zywicki notes in an "about the authors" that he is a former director of the FTC's Office of Policy Planning but omits his links to the industry) have written Payday Lending, Bank Overdraft Protection, and Fair Competition at the Consumer Financial Protection Bureau forthcoming in the Review of Banking and Financial Law.  Here is the abstract:

The Consumer Financial Protection Bureau (CFPB) is considering new regulation of payday lending and bank overdraft protection. The Dodd-Frank Act, which established the CFPB, recognizes that consumers benefit from competition among providers of consumer credit products. That law requires the CFPB to preserve fair competition by providing consistent regulatory treatment of similar products offered by both bank and nonbank lenders. We illustrate how this mandate for fair competition applies to the regulation of payday lending and bank overdraft protection, products that are offered by different entities but attract an overlapping customer base, compete with each other directly, and raise similar consumer protection concerns. Unequal regulation would provide a competitive advantage for one product over another, resulting in reduced choice and higher prices for consumers, without a corresponding increase in consumer protection. Therefore, as the CFPB considers new regulation of these products, it should be careful to regulate them similarly to preserve fair competition.

CFPB Files Brief Opposing Tribal Lenders' Quasi-Preemption Argument

Last week, the CFPB filed an amicus brief in the Second Circuit in Otoe-Missouria Tribe of Indians et al. v. New York Department of Financial Services, a case in which online tribal payday lenders are challenging regulation by New York State. The CFPB's brief takes issue with the lenders' argument that Title X of the Dodd-Frank Act and Congress's creation of the Bureau indicates a federal interest in protecting tribal lenders from otherwise applicable state regulation. To the contrary, the brief explains, Section 1041 of the Act makes clear that Title X does not displace state law except to the extent that it is inconsistent with Title X and the Act defines “State” to include “federally recognized Indian tribe[s]." So if the court applies a balancing test, no federal interest favors the tribe's position.

Skiba Paper: Tax Rebates and Payday Borrowing

Paige Marta Skiba of Vanderbilt has written Tax Rebates and the Cycle of Payday Borrowing.  Here's the abstract:

I use evidence from a $300 tax rebate to test whether receipt of this cash infusion by payday borrowers affects the likelihood of borrowing, loan sizes, or default behavior. Results from fixed-effects models show that the rebate decreased the probability of taking out a payday loan in the short run. These impacts are most apparent among credit-constrained, infrequent borrowers. Those who take out loans around the time of the rebate borrow amounts similar to their normal borrowing behavior but are more likely to default. Overall, however, the effects are small and short-lived, suggesting a muted response to this cash windfall in payday borrowing and repayment.

Is the Solution to Payday Lending Better Disclosures?

by Jeff Sovern

As I have noted before, payday lending and deposit advances present a conundrum for me: how to permit those who genuinely have a short-term borrowing need and who can't get the money elsewhere to borrow without creating a long-term debt trap.  Recently I listened to hearing held by the Senate Special Committee on Aging titled Payday Loans: Short-term Solution or Long-term Problem?  The hearings included poignant testimony from Annette Smith in which she described how a deposit advance loan became a debt trap for her. The short version: her sole income comes from her Social Security payments.  More than five years ago, she took out a $500 loan to fix her car.  The following month that amount, plus a $50 fee was automatically deducted from her bank account when she received her Social Security. But she couldn't live on the remaining funds, and so borrowed again. The cycle repeated the following month, and went on for five years.  In all, she borrowed money 63 times, costing her nearly $3,000.  In effect, she paid nearly $3,000 to borrow $500 for five years.  And that's not unusual. According to the CFPB White Paper, Payday Loans and Deposit Advance Products, 14% of payday borowers/deposit advance customers borrow at least twenty times a year, and another 34% borrow between eleven and nineteen times a year. 

But another group takes advantage of such loans only occasionally: the Bureau's white paper found 13% borrowed once or twice a year. Some believe that payday lending should be banned even as to them because of its great expense, but suppose you want to permit the occasisional borrowers to use payday lending but not create a debt trap. How could that be done?

One possible solution might be a disclosure remedy in the hope that the disclosure would dissuade those who might fall into a debt trap from taking out the loans but not prevent the occasionals from using the loans.  I am not generally enthusiastic about disclosures, but one study, Marianne Bertrand & Adair Morse, Information Disclosure, Cognitive Biases and Payday Borrowing, 66 J. Fin. 1865, 1872-73 (2011), found a modest effect on payday borrower behavior when borrowers were shown a table comparing the cost of credit card borrowing and payday borrowing.  On the other hand, during the Senate hearing, industry spokespeople stated that consumers already receive disclosures warning that the loan they are contemplating is expensive. We know that that has not eliminated the debt trap but perhaps something stronger would.  The goal would be to construct a disclosure that is the equivalent of cigarette warnings, though as cigarette warnings have not completely succeeded in eliminating smoking, maybe something even more powerful is needed.

What should the warning look like?  Ideally, that would be the function of consumer testing.  My co-author, Chris Peterson, has argued that payday lenders should have signs reading "Warning: Predatory Lender." Perhaps that would do the trick, but I would like to see something more specific, like WARNING: This loan is so expensive that you should consider it only if you are DESPERATE to borrow the money, you cannot borrow the money elsewhere more cheaply, and you have a plan to pay it back next month so that you do not need to borrow it again and become trapped in debt, as many have."  I would then like the warning to list alternate lenders that might be cheaper. 

Another solution would be to require payday lenders to verify that their borrowers can repay the loans without becoming trapped, similar to the requirements imposed on mortgage lenders in some circumstances. But as that might drive the cost of such borrowing even higher, it would be better to avoid that route, if possible.  I would start with consumer testing to see if a warning reduced the number of people caught in a debt trap.

 

Papke Paper on RTO, Payday Lending, and Title Pawn Businesses

David Ray Papke of Marquette has written Perpetuating Poverty: Exploitative Businesses, the Urban Poor, and the Failure of Liberal Reform. Here's the abstract:

This article scrutinizes the rent-to-own, payday lending, and title pawn businesses – all of which target and exploit the urban poor.  Each type of business has developed a sophisticated business model that features a standardized contractual agreement for dealing with customers.  Reform efforts in the courts and legislatures have attempted to rein in these tawdry businesses, but these efforts have for the most part been unsuccessful.  The businesses continue not only to exploit the urban poor but also to socio-economically subjugate them by trapping many into a virtually ceaseless debt cycle.  In the end, a blanket proscription of these businesses might be the only way to drive them from the center-city and prevent them from perpetuating poverty.

Will Banks Get Out of the Deposit Advance Loan Business? If So, Is That Desirable?

by Jeff Sovern

Deposit advance loans are banks' answer to payday loans.   Just like payday loans, they tend to be for short periods and high interest rates.  And just as with payday loans, consumer advocates fear that consumers get trapped in them, in the sense that many borrowers can't come up with the money to pay off the principal, and so just keep rolling them over and over--thereby paying the high interest rates for a succession of short-term loans, rather than paying a lower interest rate for a longer term loan.  Regulators have responded by proposing limits to such loans.  Last week, the Wall Street Journal reported that some banks issuing deposit advance loans are threatening to stop making the loans if the regulators carry through on their proposal. 

That raises the question of whether it would be a bad thing if the banks did so.  No doubt many consumer advocates would see it as a positive for banks to stop making the loans.  On the other hand, as CFPB director Richard Cordray has noted, there is a demand for these products.  What would the borrowers who are now taking out such loans do if they could no longer get them?  If they ended up with payday lenders, it's hard to see how that would be an improvement. If, on the other hand, they found a cheaper way to borrow (credit cards?  family member?) that would be a positive, but if they had access to such a source of funds, presumably they would already choose it over the high cost borrowing--though that assumes they recognize it as cheaper.  If they couldn't borrow from another source, and so did without the money, would that be better?  Does the answer depend on what they would have used the money for and whether they wouid have been ensnared by a debt trap?  And who should make that judgment?  The consumer or regulators? All this raises one of the most fundamental questions in consumer protection law: should consumers be able to make these judgments for themselves, or does the fact that so many consumers have made such judgments poorly mean that regulators should make the judgment for them? 

When Elizabeth Warren first proposed the CFPB, she often drew an analogy to a defective toaster.  She said you can't buy a defective toaster that can burn down your house, but you can take out a bad mortgage that will cost you your home.  Are these loans like the defective toaster, in that consumers can't see them for what they are?  I envy the certainty of those who believe they know the answer.

 

Pew Trust Videos on Payday Loans

 

 

 

Study Finds Payday Loans Cost Economy $774 Million in 2011

Here.  The report is by the Insight Center for Community Economic Development. It estimates the loans cost more than 14,000 jobs.

American Banker: Payday Lenders Lash Out at CFPB

Brian posted in April on the CFPB's White Paper on payday lending. Payday lenders have fired back, as the American Banker reports here.