It was payday when Laura McCarty realized she was in trouble.
Between paying her rent and covering some of her bills, the $900 check she’d brought home from work just that afternoon was almost gone. The fridge wasn’t empty but it wasn’t stuffed either, and besides, she’d have to buy gas to get back and forth to her front-office job in a medical office.
“I was in panic mode,” McCarty told me. “This is payday and I don’t have anything left from my check. What do I do?”
Ask a hundred people to navigate that same conundrum, and you might get a hundred different answers. But last winter, McCarty did what some 12 million Americans do each year: She borrowed a few hundred dollars from a payday lender, confident it would give her the short-term bridge she needed.
“Initially I thought, ‘OK, I’m gonna have my bills paid off in two weeks, it’s all gonna be better.’ And then that’s not how it works out at all,” she said.
McCarty couldn’t bring herself to actually walk into the payday loan store that day. She called the sales line instead, doing her business over the phone while staring through the plate glass storefront at the workers she couldn’t bring herself to face.
I was in panic mode.
“A day or so later I had the money in my account,” she said. And two weeks after that, when it turned out she couldn’t pay the loan back like she’d planned, that was no problem either.
“They try to make it easy for you: Pay a fee and we’ll refinance it for you,” she said. Instead of a one-time patch in her leaking budget, she spent almost four months repeatedly rolling the loan over, incurring a new fee each time without touching the principal from that first phone call.
The $500 McCarty borrowed that day on the phone would eventually cost her $1,500.
Unable to step off the payments treadmill she’d wandered onto, McCarty came home one day that spring to find the local cops at her apartment with an eviction notice. She had come up $120 short on the last month’s rent and racked up another $300 in late fees. Her landlady had pulled the plug. She only avoided homelessness when a coworker loaned her the cash.
It was the exact mix of unnecessary debt and charity she had been trying to avoid when she first borrowed from an industry that rips more than $7 billion out of America’s low-income working-class neighborhoods each year.
Will New Rules Break The Cycle?
For over two decades, lenders have been able to charge triple-digit annual interest rates, buried in the sort of innocuous-sounding fee structures that entrapped McCarty.
New national regulations introduced Thursday are supposed to help ensure that payday loan borrowers really can get out of debt swiftly and smoothly. But the proposal is already disappointing consumer advocates, who say it contains too many loopholes and too little real protection for borrowers.
The Consumer Financial Protection Bureau (CFPB) is unveiling the first ever nationwide rules for payday lending, auto title lending, and other small-dollar consumer credit products with similarly predatory dynamics. The proposed rule is the culmination of years of research, consultation with borrowers and lenders, and careful legal engineering to ensure the agency’s actions are properly rooted in the authority Congress gave it in 2010.http://thinkprogress.org/economy/2016/05/10/3776640/banks-ready-reenter-payday-lending/It is also a huge miss for the consumers it means to help, according to payday lending experts at the Pew Charitable Trusts. The group has worked to promote tough-but-moderate regulations that would dramatically lower interest rates but leave the loans on the market, but said the new rule “misses [a] historic opportunity” to protect people like Laura McCarty.
“Borrowers want three things: lower prices, manageable installment payments, and quick loan approval,” Nick Bourke, the head of Pew’s small-dollar loans project, said in a statement Thursday. “The CFPB proposal goes 0 for 3.”
Bourke wasn’t alone in blasting the rules Thursday morning.
“The ultimate goal of the rule should be to prevent consumer harm. As currently written, the rule contains significant loopholes that leave borrowers at risk,” said Mike Calhoun, head of the Center for Responsible Lending and a decades-long veteran of the low-income consumer finance policy world. The rules “could still keep borrowers in 10 or more 300-plus percent interest short-term loans in a year.”
Two Decades Without Cops On The Beat
The relatively young payday lending industry owes its existence to a businessman named Allan Jones, the son of a debt collector who saw a fortune to be made in high-cost loans to desperate working people. Everyone who gets a payday or auto title loan in America has a job and a bank account. Every lender they transact with obtains the right to charge their checking account whether it has enough money in it to cover the borrower’s scheduled payment or not.
For almost a quarter century now, Jones and others ran a highly lucrative financial experiment on the poor, with hardly any oversight — let alone regulatory interference — from the government.
Payday lenders thrived on that neglect. Not quite 25 years after Jones invented the industry, it brings in over $7 billion in revenue from fees alone each year from about 12 million individual customers. Payday lending profits have financed personal mansions and race car franchises. Companies and trade groups have spent hundreds of millions of dollars to influence local and national politics, beating back regulations and winning loopholes in existing state laws.
Through all those years, regulators have largely left the industry to its own devices.
At the state level, payday lending rules are a patchwork. Many states have tried to ban the industry, only to have online lenders worm their way back in through obscure arrangements with Indian tribes or celebrity-endorsed referral companies like MoneyMutual. Any time a state tries to crack down, the industry spends big money to kill legislation or water it down so far that they won’t have to change their practices anyway.http://thinkprogress.org/economy/2016/03/17/3761303/payday-loans-florida-gold-standard-dennis-ross/The lenders are quick to point out that a majority of their borrowers get out of debt within a month or two. But that factoid dodges the blunt reality of the industry’s business model: The vast majority of all payday loans issued each year are part of a lengthy reborrowing cycle that the Consumer Financial Protection Bureau (CFPB) has dubbed the “payday debt trap.” And the industry makes nearly all of its profit from the minority of individual borrowers who end up trapped.
The CFPB cannot simply cap interest rates across the small-dollar credit market. Its powers are limited to establishing rules for loans that will prevent them from being unfair, deceptive, or abusive. That constraint means the agency is navigating a narrow path with Thursday’s proposal, seeking to promote a kinder, gentler form of a product that many observers believe is inherently unsafe for borrowers.
Many of the outside consumer advocacy groups watching the CFPB’s work here have long insisted that the agency was not going far enough. And there is still time to revise the proposed rules — Bourke specifically calls for fixing payments for some loans at 5 percent of the borrower’s paycheck and requiring lenders to offer longer repayment periods — but the agency will likely have little interest in further prolonging a finalization process that’s already expected to run well into 2017.
Same As The Old Boss?
The CFPB’s complex plan for making these loans more affordable could mean that many storefront lending shops close as companies try to consolidate.
But that plan leaves plenty of room for lenders to turn a profit, albeit a smaller one. Lenders will be able to choose how they want to adapt to the new rules. The agency is offering companies a menu of compliance options, some of which would cap loan durations or rollovers.
That approach would allow lenders to get up to their old tricks. The core change in the CFPB proposal is to force lenders to actually underwrite their lending.
Payday lenders have traditionally thrived on complexity.
Underwriting means investigating what a borrower can afford, documenting their income and expenses, and setting loan terms that fit their customer’s actual financial lives. It’s Lending 101, but has been entirely absent throughout the first decades of the payday lending industry.
But it is no cure-all. “Underwriting is sort of like apple pie. Everybody likes underwriting, and everybody thinks of it differently,” Pew Charitable Trusts payday loan researcher Alex Horowitz told ThinkProgress.
And the CFPB’s definition of “underwriting” in the payday lending rules released Thursday is lax. Lenders can estimate what a borrower’s rent probably is based on their neighborhood, rather than having to verify what a customer actually spends each month on housing. Similarly, they are free to model a borrower’s “basic living expenses,” a phrase the rules define so broadly as to invite manipulation.
“Payday lenders have traditionally thrived on complexity,” Horowitz said. “When underwriting is about really documenting what somebody can afford, it works pretty well. When it’s about checking a regulatory box so you can make a loan that you know you’ll be able to collect because you have their checking account or car title, it’s ripe for gaming.”http://thinkprogress.org/economy/2015/09/15/3701459/ferguson-commission-unbanked-financial-services/The underwriting conundrum is important to understanding what small-dollar credit products will look like once the regulations go live. Something will have to replace the current model, whether it’s reformed versions of today’s lending houses, non-profit lending through the post office or community banks, or new lines of credit from traditional deposit banks.
The CFPB’s ability to deliver a better, more stable world for people like Laura McCarty hinges on such unknowns. There will still be millions of Americans who work hard but remain in a financially tenuous position. They will have to be served by someone.
The fine print in Thursday’s rules can’t answer all those questions immediately. But they will usher in a new landscape for tens of millions of working Americans who still live on an economic knife-edge.
“I always tell my mom, sometimes I’m one flat tire away from being in a crisis,” McCarty said. “One bad thing happens and it’s all over.”