Consumer Law & Policy Blog

Interesting Article on Payday and Installment Loan Lenders

Here.  The piece reports that in Missouri "in 2011, some 2.43 million payday loans were made — this in a state with a population of less than 6 million — and the average APR on those loans was an eye-popping 444%."  And another excerpt:

Installment loans are bigger than payday loans, and they’re not subject to biennial surveys in the same way that payday lenders are. But just eyeballing the sheer number of these entities, and the money they’re putting into opposing the current bill, I think it’s fair to assume that they’re more or less the same size as the payday lenders, in aggregate.

Which means that the number of loans made in Missouri every year at an interest rate of more than 36% is actually much greater than 2.43 million: it could be more like 4 million. Which is crazy, given the size of the population.

And one more quote:

But the most interesting thing about the Missouri debate, for me, is the role of a group calling itself Stand Up Missouri, which has promulgated a particularly tasteless video which implies that standing up for high-interest-rate lenders is somehow analogous to the acts of the “poor people who followed Dr. King and walked with him hundreds of miles because they believed in civil rights that much”

 

Chunlin Leonhard Paper on How Contract Law Enabled the Subprime Crisis

Chunlin Leonhard

of Loyola University New Orleans has written Subprime Mortgages and the Case for Broadening the Duty of Good Faith., 45 University of San Francisco Law Review 621 (2011). Here's the abstract:

In the wake of “the most virulent global financial crisis” caused by defaults in subprime mortgages and derivative financial products in 2007 and 2008, much finger pointing and soul searching have been taking place on different fronts. Scholarly attention primarily focuses on the financial industry and regulations. This article argues that US contract law played an enabling, albeit hidden, role in the subprime mortgage crisis. US contract law facilitated the subprime mortgage crisis in two First, US contract law’s laissez faire paradigm has incentivized parties to pursue their self interests while failing to provide any constraint on excessive pursuit of self interests. Second, the current contract law paradigm has also contributed to the subprime mortgage crisis by having nurtured a US business culture of everyone for him or herself. contract law’s general tolerance of parties’ single minded pursuit of self interest has led to a “moral deficit.” This article proposes that US contract law adopt a more proactive paradigm by recognizing a broader duty of good faith in economic relationships prior to the formation of a contract.

 

 

Payday Lending Pieces

Nathalie Martin of the

 University of New Mexico has written two more payday lending articles. The first is Regulating Payday Loans: Why this Should Make the CFPB’s Short List, 2 Harvard Business Law Review Online 44 (2011).  Here's the abstract::

This article briefly describes the history of the Consumer Financial Protection Bureau (CFPB), describes payday and title loan products and their customers, describes the CFPB’s general powers, then discusses how and why the CFPB might use its particular powers to bring this industry into compliance with lending norms used throughout the rest of the civilized world.

The second, co-authored with

Koo Im Tong

 is Double Down-And-Out: The Connection between Payday Loans and Bankruptcy, 39 Southwestern Law Review  785.  Here's that abstract: 

This Article reviews the literature on the debate regarding the causal relationship between filing for bankruptcy and the use of payday loans but does not weigh in on the subject. Rather, it uses these studies, as well as a general discussion of bankruptcy filing and payday loans, as a backdrop for analyzing new data regarding the correlation between bankruptcy filing and the use of payday loans. This Article reports on an empirical study conducted in the state of New Mexico that measures rates of payday loan use among bankruptcy debtors from a large sample of publicly available bankruptcy data.

Part I of this Article discusses the payday loan industry, its business model, how the loans work, and who the likely payday lending customer is. Part II reviews the current literature regarding the connection between payday loans and bankruptcy, and suggests some ways in which the existing literature falls short of fully answering the question of whether payday lending causes bankruptcy filing. Part III describes the new empirical study from New Mexico. This Article describes the method used to conduct this study as well as its results. In summary, our data show that from 2007 to 2009, 18.9 percent of bankruptcy debtors in New Mexico reported using payday loans. Compared to the use of payday loans reported in other studies among the general population, as well as past studies on payday loan use among bankruptcy debtors, this rate of usage is extremely high. Moreover, the correlation between bankruptcy and payday loans seems to be getting stronger, as the use of these loan products appears to be growing. We find that almost double the percentage of bankruptcy debtors reported using payday loans from 2007 to 2009, than from 2000 to 2002.

Part IV of this Article concludes that while one cannot be certain that there is a causal connection between filing for bankruptcy and using payday or other short-term loans, there is a strong correlation between bankruptcy filing and payday loan use. If the increasing use of payday loans is seen as a problem, we conclude that the problem appears to be growing, despite efforts by states to cut down on the use of these loans and to curb the use of multiple loans at one time. In fact, the usage of multiple payday loans at one time also has increased drastically, as recent bankruptcy debtors, whether individuals or families, report using far more of these types of loans simultaneously than in the past. All of this indicates that the use of multiple loans at one time is increasing, a problem states are grappling with but apparently are not solving.  

And

Neil Bhutta

 of the Fed offers another view in The Effect of Access to Payday Loans on Consumers' Financial Health: Evidence from Consumer Credit Record Data.  Here's his abstract:

I test whether access to payday loans affects broad measures of consumers’ financial well-being by taking advantage of geographic variation in access to payday loans due to state lending laws. I draw on several sources of data including a large, nationally representative panel dataset of individual consumer credit records, as well as census data on the location of payday lending establishments at the ZIP code level. I find little evidence that access to payday loans affects consumers’ financial health. In particular, access does not affect credit scores levels, nor does it appear to either exacerbate or mitigate the probability of a major score decline over a two year period during the recent recession, nor does it appear to affect the dynamics of recovery from a low score. The estimated coefficients are generally very close to zero and precise, and robust to a within-state test similar to that of Melzer (2011). There is some evidence that access reduces the incidence of accounts going into collections – one component of credit scores – but the fact that that access nevertheless does not affect credit scores suggests that payday loans may have some small but hard-to-detect benefits.

A Pair of Payday Lending Pieces

Two new payday lending pieces: 

Amy Lavine

 of Albany has written Zoning Out Payday Loan Stores and Other Alternative Financial Services Providers.  Here's the abstract:

Payday lenders and similar alternative financial services providers are primarily regulated at the state level, but local governments have increasingly begun to impose restrictions of their own on these fringe financial services providers. While some ordinances have focused on lending restrictions and other consumer protections, most municipal payday lender regulations are found in zoning and other land use laws.

Zoning has long been used to restrict the siting of undesirable land uses – ranging from junkyards and landfills to tattoo shops and adult businesses – making it an ideal method for local governments to regulate payday lenders. Experience with other unwanted land uses has led to the development of various zoning techniques appropriate for controlling these businesses, such as separation and dispersal requirements, nonconforming use limitations, special permit procedures, and partial or total exclusions.

This article provides an overview of these and other approaches that local governments have taken to regulate alternative financial services providers. After providing some background regarding the general functions and characteristics of these businesses in the first section, the second section discusses state-level financial regulations and preemption issues. The third section covers the different types of municipal controls that have been imposed on payday lenders and similar businesses, drawing on actual ordinances as well as on case law discussing their use and validity. Finally, the fourth section mentions several alternative, incentive-based non-zoning approaches that have been used to improve financial literacy and extend traditional banking services to a broader population. An appendix listing and briefly describing more than 60 payday lender ordinances is also included.

And 

Jonathan Caleb Landon

 adds Usury and the Church: A Christian Response to Payday Lending. The abstract follows:

A recent study by Christopher Peterson & Steven Graves found that “payday” lenders are more prevalent in conservative Christian areas. This paper offers a supplement to Peterson & Graves findings by adding to the discussion the perspective of the Christian churches, located both inside and outside of the areas implicated in the study, on the issue of poverty and its connection to predatory lending practices. This paper’s study employed ethnographic research methods to uncover Christians' perception on these issues. The findings do not support the social/political stereotype that conservative Christians necessarily support conservative political positions regarding usury laws, but instead suggest a more fundamental issue with the Christian church actually accomplishing its mission of applying Biblical teaching to all areas of life, which include one's financial dealings and providing for the poor in one's community.

 

Jim Hawkins Paper on the CFPB and Regulation of Fringe Credit Products

Jim Hawkins of Houston has written The Federal Government in the Fringe Economy, 14 Chapman Law Review (2011).  Here's the abstract:

This paper is a contribution to Chapman Law Review’s symposium, From Wall Street to Main Street: The Future of Financial Regulation. It explores the Dodd-Frank Act’s creation of the Consumer Financial Protection Bureau and specifically assesses the Bureau’s new power to regulate alternative financial services providers like payday lenders, rent-to-own companies, pawnshops, and auto title lenders.

I advance two claims. First, I argue that the Consumer Financial Protection Act gives broad, novel powers to the Bureau to regulate fringe credit. Part I describes the scope of the Bureau’s power under the Act, demonstrating how the Act covers the vast majority of fringe credit transactions. Part II surveys the substance of the Act to reveal the surprising emphasis the Act places on the Bureau governing fringe banking transactions. The scope of the Bureau’s authority coupled with its substantive mandate to confront problems in fringe credit markets signal the new power and interest the federal government has taken in the fringe economy.

Second, I argue that most of the justifications that have been offered for the Bureau regulating fringe credit are flawed. To understand why people have contended the Bureau should govern the fringe economy, I surveyed the two most important academic articles arguing in favor of the Bureau, and I conducted an empirical study to measure the frequency of the rationales for the Bureau regulating fringe credit in media, government press releases, and testimony to Congress. Part III reports the results of the study, and it assesses the different rationales for the Bureau intervening in fringe credit markets.

The Death of Refund Anticipation Loans?

Refund Anticipation Loans (RALs) are very short-term, high-interest loans provided to people in anticipation of their tax refunds. The interest rates on these loans, if expressed as annual percentage rates, can be 500% or more. The RAL industry depends on borrowers who don't know that they can receive their tax refunds rapidly and/or get lower cost loans elsewhere.

We have blogged about RALs many times, including here, here, here, and here, and noted the pioneering work on RALs done by the National Consumer Law Center (NCLC) and the Consumer Federation of America (CFA). Now, over at Credit Slips, Nathalie Martin explains that

the RAL gravy train may be almost over. The FDIC just ordered one of the last underwriters of the products to stop backing the controversial loans. The FDIC told Kentucky-based Republic Bank & Trust Co. that the loans are unsafe and unsound now that the IRS no longer offers banks its debt indicator, a tool loan providers used to determine whether a taxpayer had outstanding tax liabilities that could be garnished from a tax refund.

NCLC, CFA, and the Community Reivestment Association of North Carolina have applauded the FDIC's move, which they view as the death knell of RALs.

Paper on the Relationship Between Payday Loan Size and Default Probability

Will Dobbie of Harvard and Paige Marta Skiba of Vanderbilt have written Information Asymmetries in Consumer Lending: Evidence from Two Payday Lending Firms.  Here's the abstract:

This paper tests for incentive and selection effects in a subprime consumer credit market using sharp discontinuities in loan eligibility rules. We find evidence of advantageous incentives and adverse selection. For a given borrower, we estimate that a $100 increase in loan size decreases the probability of default by 3.7 to 4.2 percentage points, a 20 to 23 percent decrease from the mean default rate. Borrowers who choose $100 larger loans are 6.9 to 8.0 percentage points more likely to default than borrowers who choose smaller loans.

Financial Crisis Inquiry Commission Attributes Crisis in Part to Consumer Protection Failures

The Financial Crisis Inquiry Commission Report is now available.  I haven't had time to read it completely, but based on a quick look it seems to attribute the crisis in part to failures of consumer protection.  For example, here's a quote from page 101:

Regulators failed to rein in risky home mortgage lending. In particular, the Federal Reserve failed to meet its statutory obligation to establish and maintain prudent mortgage lending standards and to protect against predatory lending.

And from page 126:

Not only did the federal banking supervisors fail to rein in risky mortgage lending practices, but the Office of the Comptroller of the Currency and the Office of Thrift Supervision preempted the applicability of state laws and regulatory efforts to national banks and thrifts, thus preventing adequate protection for borrowers and weakening constraints on this segment of the mortgage market.

Causes of the Financial Crisis

by Jeff Sovern

The Republican Commissioners on the Financial Crisis Inquiry Commission have issued their preliminary findings and conclusions on the causes of the financial crisis in a document titled “Financial Crisis Primer: Questions and Answers on the Causes of the Financial Crisis.”  As the subtitle suggests, the Primer is organized into a series of questions and answers. It mostly address why lenders were willing to make so many bad loans (surprise!  it was the government's fault), and how the crisis spread through the economy.  Here are a couple of questions that got left out of the Primer: did consumers understand the terms of the loans on which they would later default? Were consumers deceived into taking out the loans on which they would later default? 

Three thoughts on the foreclosure documentation scandal

by Christopher Peterson

On monday the American Banker ran a well written story by Jeff Horwitz on the document problems slowing down foreclosures. It focuses on whether document custodians actually have the possession of key documents, including especially promissory notes. The article (subscription requried; 2010 WLNR 21191843) quotes document custodians insisting that they have all the documents they need, but it also includes some scepticism from Diane Thompson, April Charney, and Max Gardner. It is good to see financial journalists paying more carefull attention to consumer rights advocates.

This being said, I think the story is still missing some important points. Because I have a million other things to do today, I’ll limit myself to three thoughts that jump to mind. First, one reason some originators may have been lax in sending proper documentation on to the depositor (and in turn the document custodian or trustee) is a false belief that designating MERS as the mortgagee or deed of trust beneficiary would facilitate quick foreclosures without all the proper documentation. MERS is an important partial driver of the affidavit problems. Some financial institutions convinced themselves that MERS would  be a cradle-to-grave proxy eliminating the need for them to keep the collateral jackets with blue ink documents that old-fashion lenders once maintained. Why keep track of paperwork if MERS is just going to do your foreclosures for you? This is an easy thing to believe when (1) they really wanted to believe it and (2) the motto of company is “process loans, not paperwork.” Should we be surprised that the paper might not have actually changed hands?

Second, the representations the document custodians are making in Mr. Horowitz’s article are inconsistent with what some mortgage bankers themselves have admitted. A brief (Download Here)the Florida Bankers Association submitted to the Florida Supreme Court takes the totally opposite view on whether the promissory notes are lost. It states, “The reason ‘many firms file lost note counts as a standard alternative pleading in the complaint’ is because the physical document was deliberately eliminated to avoid confusion immediately upon its conversion to an electronic file.” Yikes! Memo to all bankers: destroying promissory notes is a bad idea. But don’t trust me. Instead very carefully read this next sentence recently written by two Judges on the American Bankruptcy Institute’s Uniform Commercial Code Committee: “for the note to be enforced, the person who asserts the status of the holder must be in possession of the instrument.”

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