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TABLE
CPM-Committee on
HISTORY |
Payday Lending Industry Myths
1) MYTH: Payday loans provide a short-term loan service to low-income people.
REALITY: Payday loans are designed, and employees are trained, to encourage repeat borrowing. That’s why 90% of their business is generated by repeat borrowers who cannot pay off their debt. Hear the words of former Check-N-Go manager, Bill Harrod “I was taught to qualify every customer for the max [loan amount]. This way they can never pay the loan off, and they have to re-borrow immediately. More re-borrows, more fees. The business model is based upon growing your fees, and we are taught to do this by getting repeat borrows.”
2) MYTH: Virginians will be worse off without payday lending because there are no other short-term loan options for them.
REALITY: This myth distorts reality in two ways: first, a recent objective and independent study done the by the UNC Center for Community Capital surveyed 400 low-to-middle income North Carolinians, as well as focus groups of former payday borrowers. The study found (1) that the absence of payday lending has had no significant impact on the availability of credit for households. Households reported using an array of options to manage financial shortfalls. (2) More than twice as many former payday borrowers reported that the absence of payday lending has had a positive rather than negative effect on their household. (3) Payday borrowers gave first-hand accounts of how payday loans are easy to get into but a struggle to get out of. (4) Nearly nine out of ten households surveyed think that payday lending is a bad thing. (North Carolina Consumers After Payday Lending. November 2007)
Secondly, there are other options. The number of credit unions across the state that offer payday loan alternatives has at least tripled in the past year as the problem of payday lending as been elevated. There are currently 16 credit unions that offer alternatives. For many of these credit unions, you simply have to live, work, or worship in the CU’s area to be eligible for membership. Additionally, more faith-based groups are developing their own payday loan alternative programs. For example, the Virginia Conference of the United Methodist Church in partnership with the Virginia United Methodist Credit Union launched is program called the Jubliee Project this past summer. At the same time, in recognition of the deleterious effects of payday lending on their employees, employers throughout the state are considering or have already implemented alternatives to payday loans that do not trap borrowers in a cycle of debt.
3) MYTH: We live in a free market society. Costumers are able to decide for themselves if a payday loan is a smart choice for them.
REALITY: The free market argument does not hold water on this issue for the reason that the 2002 Payday Loan Act created protectionism by providing the payday industry with an exemption from Virginia’s 36% usury cap law that all other small loan lenders must abide by. This protectionism is fundamentally counter to free market philosophy. Moreover, desperate people do desperate things and payday lenders capitalize on this. Price gouging is immoral. It’s wrong to charge the working poor 100 times the interest rate a richer person would pay.
4) MYTH: Because payday loans are usually due in two weeks, the annual percentage rate is not a good measure of payday loan fees.
REALITY: The APR gives consumers a means of comparing the cost of any loan, regardless of its term, whether it’s a two-week loan or a 30 year loan. It is the means that allows consumers to compare the cost of credit across products of varying terms. The Federal Reserve holds the position that payday loans are, in fact, loans and that the interest charged on payday loans should be expressed in terms of APR, as required by the federal Truth-in-Lending Act.
5) MYTH: Payday lenders cannot operate under a 36% APR cap.
REALITY: The North Carolina State Employees Credit Union provides short-term, small denominational loans at 12% APR. Jim Blaine, the credit union’s president, reports a 5.75% return on assets, making it their “most profitable loan” (Letter to Editor, American Banker, November 12, 2007). There is a growing market for responsible, viable short-term loan products.
6) MYTH: There are other reforms that will protect vulnerable people besides capping the interest rate. REALITY: Current FDIC guidelines on payday lending already call for a limit on the number and frequency of extensions, deferrals, renewals, and rewrites; a "cooling off" or waiting periods between the time a payday loan is repaid and another application is made; and a maximum number of loans per customer that are allowed within one calendar year or other designated time period. The industry does not need legislation to “reform” itself. The “reforms” the industry and some legislators are touting are regulations that the industry already knows how to get around in order to operate business as usual to protect their extraordinary profits. Furthermore, these “reforms” have been tried in other states including Florida, Oklahoma and Washington, and they have done nothing to reduce the number of loans that the average borrow takes out in a year, thus, the reforms have done nothing to curb the cycle of debt (see Appendix A for a list of these reforms).
APPENDIX A Limits on number of loans outstanding. Several states restrict the number of loans a payday borrower can have outstanding at any given time. However, even with this measure in place, a borrower can continue in the debt trap indefinitely, repeatedly renewing the same $300 loan for months or years on end, and paying $1200 in interest every year. If a typical borrower is paid twice a month, they could still take out 24 loans per year in a state with even the strictest restrictions of this kind.
Cooling-off periods between loans. Some states require waiting or “cooling-off” periods once a borrower has taken out a certain number of loans throughout the year, or between the time a loan is repaid and a new loan is initiated. While the intention is to break the cycle of continuous debt, cooling-off periods – typically between 24 and 72 hours – still leave borrowers unable to pay the loan in full and have enough left over during the pay period to cover all other bills. As a result, borrowers typically take out another payday loan as soon as the cooling off period is over, never really escaping the cycle of debt.
Payment plans. Some state laws provide that payday borrowers are permitted to request to pay off their payday loan debts through a payment plan. State data indicate that entry into these plans is not easy, and the payment plan provisions appear to be part of the problem. For example, typical provisions require fees the borrower must pay to enter into installment repayment; obscure deadlines and technical triggers that can prevent a borrower from qualifying; a cooling-off period after the payment plan is completed during which a borrower is barred from getting loans, or some combination of these. The payment plan option is always one the borrower must request, and the loan must qualify as well. The more challenging it is to exercise the repayment plan option, the easier it is for lenders to sell a new payday loan to the trapped borrower instead, persuading the borrower that simply renewing the loan (either through a roll-over or back-to-back transaction) would be a cheaper and/or easier alternative in the short-term. Because installment repayment of principal and interest is not available automatically in the states in which these plans are an option, installment repayment of a payday loan as a ‘protection’ is seldom utilized.
Limits on rollovers: Rollovers are extensions of payday loans that give borrowers another two weeks (or until their next payday) before the loan is again due. The lender collects another interest payment (typically $53 in Virginia) and extends the loan. None of that interest goes toward the principal. Even in states like Virginia that ban rollovers, payday lenders can still allow borrowers to pay off one loan and immediately take out another (known as a back-to-back transaction), which essentially serves as a rollover since it costs the borrower the same amount of money and keeps them in a constant cycle of debt. Even when the borrower must wait a short period of time between these transactions, he is still caught in the trap, because he still needs to re-borrow the money before his next payday.
Prepared by Ann Rasmussen, Virginia Interfaith Center for Public Policy, 12/03/0
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Presbytery of the James |