Mosquitoes, leeches and vampires get a bad rap, but there's another variety of blood sucker with a voracious appetite for unsuspecting victims: payday lenders who loan consumers relatively small amounts of money for short periods of time only to suck up those dollars and much more by trapping them in expanding levels of debt through ruinous fees and interest rates.
The regulations covering payday lending announced today by the Consumer Financial Protection Bureau are designed to protect consumers from such traps by, among other things, requiring lenders to be certain their customers are capable of paying off their loans. Typically, that means consumers who already have short-term debts couldn't keep revolving them into bigger and bigger loans that they simply can't afford.
And that's exactly how many payday lenders victimize the poor. As the fledgling federal agency discovered when it began tracking the industry several years ago, the typical payday loan is $500 or less. That might seem harmless. Often, it's just someone seeking an advance on the next paycheck in order to make the rent or keep the utilities turned on or a car in decent repair.
But the cost can be substantial. Most borrowers can't repay the loan on time, so they take out a second loan, which carries its own fees. And then there are the penalties for late payment or the risk of having one's car repossessed. In all, the cost of borrowing each $100 may be $10 to $30 every two weeks. Calculated as an interest rate, a mere $15 fee per $100 amounts to 391 percent over a year — at a time when even credit card interest rates hover at an average of 15 percent.
The industry justifies such expensive loans on the grounds that poor people with bad credit histories can't qualify for alternative forms of credit. But what they tend to leave out of the conversation is that such financial bottom-feeding can be extremely lucrative — on the order of $3.5 billion in fees collected annually, according to the Center For Responsible Lending — so the risk-reward ratio seems a little out of kilter.
Maryland and other states have been cracking down on such questionable practices for years, but lenders have clever ways of circumventing the rules, particularly in the digital age with loans that can be arranged online. For instance, to avoid the Maryland's 33 percent cap on interest rates, purveyors took to charging broker fees that can be even more lucrative. And they've even caused the banking industry to unwittingly serve as their collectors by arranging direct withdrawals from their customers' checking accounts.
Will these latest regulations be enough to protect people from getting dragged deeper and deeper into debt? It's difficult to know for sure. Low-income families were attractive targets for the loan shark crowd before such finance companies arrived, and there's always the risk that a crackdown on payday loans could encourage criminal alternatives.
But that's not an argument for allowing usurious lending practices, it's a call for help for families that teeter on the financial edge. One of the provisions of the new regulations, for instance, that might help in this regard is a requirement that lenders provide an alternative loan option — with terms that can't exceed two years and "all-in" costs that can't exceed 36 percent. Those are still pretty expensive loans, but they aren't the ridiculous kinds of terms the industry has offered in the past — and would still be highly profitable if lenders follow another provision of the rules and make sure the vast majority of their customers aren't likely to default.
Better educating school children on the basics of finance and money management as well as the danger of high-cost loans would be a welcome remedy as well (although beyond the authority of the CFPB). Meanwhile, there's a danger that Congress may seek to delay these rules for two years. Sponsors say a bill pending in a House committee that would do just that is about preserving "affordable" lending when it's really just a sign of the payday industry's political clout. That bill, or any other effort to undermine common sense lending rules, should be resisted.