What role should the federal government play in regulating alternative loans? According to a 2011 survey by the Federal Deposit Insurance Corp., more than one in four households in the United States are “unbanked” or “underbanked,” meaning that a huge number of Americans have have low credit scores or live in low income countries. or rural areas are forced to rely on alternative lenders such as payday loan companies for credit.
Pamela Foohey is a law professor whose research interests include bankruptcy, commercial law and consumer law. She spoke with News Bureau Business and Law Editor Phil Ciciora on the reform of payday lending practices.
The Consumer Financial Protection Bureau recently released a new study finding that over 80% of payday loans are actually renewed or combined with another loan within 14 days of repayment of the previous loan. What does this suggest? Should there be a statutory cooling off period for payday loans?
The conclusion is based on a broader definition of rollover than just rollovers that are renewed on the same day they are due. The 80% figure includes loans that are followed by another loan within 14 days, i.e. renewed within 14 days. The definition reflects the fact that some states already have mandatory cooling off periods, such as Alabama law which specifies that borrowers must wait until the next business day to take out a loan after two consecutive loans have been paid in full and the loan has cooled down. 24 hours from Florida. -out of period after each loan.
This suggests that people are not using payday loans as short-term credit, but rather as more traditional credit products, like credit cards. However, payday loans and similar types of alternative loans come with extremely high interest rates and fees. The result, for example, is that a customer who takes out a $ 400 loan and renews it multiple times may pay $ 500 in interest and fees.
Instituting cooling-off periods longer than a few days or putting a cap on the number of times a borrower can take out or renew a loan in a given period, such as a year, could help curb some of the marketing techniques used by payday lenders. are known to convince clients to roll over or actually take out back-to-back loans. Limiting rollovers can reduce the high interest that customers end up paying on payday loans when they use them the way they do now.
Additionally, payday loan clients sometimes borrow from multiple loan providers. Any cooling off period or renewal cap should limit the universe of loans a customer can take out, not just the timing and number of loans a customer can receive from a single vendor.
However, withdrawal periods are a second best solution to one of the main problems with payday loans: high annual rates. Legislation that caps the APR on payday loans – and all payday loan-like products – is a more effective solution, though probably less likely to be passed by legislatures.
A recent idea that has gained momentum is to replace payday lenders with the US Postal Service. Essentially, the postal service would partner with banks to perform the same functions as a payday loan company, but at much better rates for the economically vulnerable. In addition, the postal service usually has a physical office in so-called “banking deserts”. Is this a viable option?
The idea of the federal government partnering with banks or credit unions to provide loans through US postal service bureaus is an innovative idea and perhaps a viable one.
Millions of Americans live in isolated rural areas or in low-income areas that banks are increasingly leaving, in part because of the poor credit scores of residents of those areas. These people have reduced access to credit, giving payday lenders and similar lenders a captive market. But there are post offices in all of these areas. Using these physical locations to provide more common credit options for all Americans has the potential to reduce the dependence of underbanked and underserved people on high-cost alternative loan products. The question, of course, is exactly how the partnership between the US Postal Service and the banks or credit unions would work.
Beyond the relationship and using the physical location of post offices to bring more credit to people, the underlying problem is that individuals and families who turn to alternative loans often don’t win. simply not enough money and therefore not able to save money to use during times of unemployment or when unforeseen expenses arise.
Ultimately, I think many Americans are turning to alternative loans because they live paycheck to paycheck, which itself has to do with issues like income inequality, minimum wage and unemployment insurance, all of which have also received considerable media attention. recently.
Online lending is apparently the next horizon for short-term credit products. What needs to be done to take into account both the financial situation of borrowers and what is known about the functioning of non-bank financial services?
Indeed, online credit seems to be the next horizon for short term credit products. Without the need for a physical location, lenders can reach even more people. And lenders can be located anywhere, requiring federal legislation.
As for the exact legislation, in addition to interest rate caps, clear disclosure requirements may be particularly important in this area. For example, studies have shown that people who take out payday loans often do not know the interest rate on the loan or cannot calculate the APR. There is a lack of information – and some incorrect information – among borrowers on these loans. If these loans are marketed and sold online, misinformation and lack of information can be exacerbated.
Online loans can also make it easier for people to withdraw money online because they don’t have to go to a physical store, which requires both physical and mental energy. Nonetheless, studies suggest that people who take out payday loans on average do so because they need the money to pay for their daily expenses. Payday loans and alternative loans serve an underserved market. Regulation can help make loans safe and affordable.