Updated at 4:50 p.m. ET
For millions of cash-strapped consumers, short-term loans provide the means to cover urgent purchases or needs. But these deals, usually called payday loans, also offer triple-digit interest rates – and critics say borrowers often find themselves trapped in a cycle of high-cost debt.
Now the Consumer Financial Protection Bureau is preparing to unveil a framework of the proposed rules to regulate payday lenders and other costly forms of credit. The federal oversight agency is presenting the proposals Thursday, the same day President Obama spoke in Alabama, defending the agency and its work.
“The idea is common sense: if you’re lending money, you have to first make sure the borrower can afford to pay it back,” Obama said. “It’s just one more way for America’s new consumer watchdog to make sure more of your paycheck stays in your pocket.”
The new rules would most likely affect consumers like Trudy Robideau, who borrowed money from a California payday lender to help cover an $800 car repair. When she couldn’t repay the money immediately, the lender offered to renew the loan for a fee.
“Ka-ching,” said Robideau. “You’re addicted. You can feel the hook right in your mouth. And you don’t know it at the time, but it’s getting deeper and deeper.”
Before long, Robideau was shuttling other payday lenders, ending up shelling out thousands of dollars in fees.
“I had to get one to pay for another,” she said. “It’s a real nightmare.”
When Robideau first spoke to NPR in 2001, payday lending was a $14 billion industry. Since then, it has grown into a $46 billion business. Lenders have also turned to other expensive forms of credit, such as loans in which a car title is used as collateral.
“What we want is for this credit to help consumers, not hurt them,” said Richard Cordray, director of the CFPB. “What we’re finding is that consumers who are trapped in a cycle of indebtedness – where they have to pay over and over again, cost after cost – are actually quite detrimental to consumers, and that’s what concerns us. .”
Cordray suggests one solution is to require lenders to ensure borrowers can repay a loan on time, along with their other monthly expenses.
This type of review was a “fundamental tenet” of traditional lending, Cordray said in prepared remarks for an on-the-ground hearing in Richmond, Va. But many payday lenders “give loans based not on the consumer’s ability to repay, but on the lender’s ability to collect.”
Since payday lenders have automatic access to a borrower’s bank account, they can collect even when a borrower is on the alert.
“If you’re behind on existing bills, for any legitimate lender, that’s a red flag,” said Michael Calhoun, president of the responsible credit center, a consumer advocacy group. “For payday lenders, that’s often the mark of a vulnerable, profitable customer because they’ll be stuck.”
Payday lenders say they might be willing to live with a payment ability test, as long as it’s not too costly or intrusive.
“It only makes sense to lend if you get your money back,” said Dennis Shaul, CEO of Community Financial Services Association of America, a tow industry trade group. “Therefore, customer well-being is important. Now, loyalty is too.”
In fact, regular borrowers are at the heart of the payday business. Government researchers found that 4 in 5 payday borrowers had to renew their loan, usually before their next paycheque. And 1 in 5 have renewed at least seven times, with accrued fees often exceeding the amount originally borrowed.
Regulators are also considering alternatives to the ability to pay standard, including limits on the number of loan renewals, as well as mandatory repayment plans. Other proposed rules would crack down on costly collection practices, requiring lenders to notify borrowers three days before withdrawing money from their bank accounts and limiting the number of withdrawal attempts.
Wynette Pleas of Oakland, Calif., ended up with hundreds of dollars in overdraft charges after a payday lender repeatedly tried to debit her account.
“They make it seem so convenient, but when you can’t pay it back, that’s when it all goes downhill,” Pleas said.
The proposed regulations are still at an early stage, and there will be a lot of hindsight. The industry has successfully evaded previous regulatory efforts, so Cordray says he wants the rules to be loophole-free.
“We don’t want to go through all the trouble to formulate rules and then find people who bend them,” he said.