Consumers who are caught in a financial crisis may one day avoid the payday loan store and turn to banks and credit unions for cheap, quick-repair loans.
This is a possibility raised by consumer advocates who want to end the horrific triple-digit rates that are being charged to vulnerable consumers who take out payday loans.
the The Final Rule of the Payday Loan from the Office of Consumer Financial Protection – which was announced on Oct. 5 and could take effect in 2019 – could open the door to lower-cost installment loans from banks and credit unions, according to Nick Bourke, director of the Pew’s consumer finance project. Charitable Trust.
Before that happens, Bourke said banks should receive clear direction from regulators. But the loans could be six to eight times cheaper than payday loans.
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We are in a wait and see mode. Congress could overturn the rule, but some say it’s unlikely.
What could change: Lenders would eventually be required to research first whether borrowers could afford to pay off all or most of their short-term loans at once – including payday loans and auto title loans – and longer-term loans with “balloon” payments.
Under the rule, a lender would have to check income and major financial obligations and estimate basic living expenses for a period of one month – the month in which the highest payment is due.
Banks and credit unions have certain advantages because they already have customer relationships and can automate loan origination. Pew advocated for streamlined underwriting guidelines on installment loans issued by banks that allow monthly payments of up to 5% of monthly income.
What won’t change: People who are still strapped for cash will be looking for ways to cover their bills.
“They are in desperate need of help,” said Herman Starks, Bishop of Christ TRUTH International Ministries of Deliverance in Detroit.
Starks said he knew a woman who lost her job and did not have a regular salary. But somehow she got a payday loan to cover some of her bills. Many lenders treat Social Security and disability benefits as sources of income.
The Detroit woman had hoped she would have another job when the payday loan was due, but that did not happen.
“She was never caught up,” Starks said.
Payday loans offer a quick fix, but consumer advocates warn that the loans can lead to long-term debt traps.
A lot of times people think it’s easy to take out a $ 250 or $ 300 loan and pay it off by the next paycheque, usually in two or four weeks.
Too often, however, loan payments, including interest and fees, weigh down on a third of the typical borrower’s next paycheck, according to Pew’s research. The borrower is not able to cover his basic expenses without taking out another payday loan.
Bourke noted that Pew’s research indicates that a debt spiral can be triggered if a payday loan payment exceeds 5% of his salary.
Many payday borrowers typically earn $ 2,500 per month on average before taxes, so they could perhaps afford a payment of $ 125. If they took out a loan of $ 500, they usually had to repay that loan with interest over five or six months, he said.
Trying to pay off that loan too quickly – or extend it for more than a year – creates financial hardship.
In Michigan, the maximum payday loan is $ 600. The fees in Michigan are $ 35.50 for a $ 250 loan and $ 76 for a $ 600 loan.
But since the loan is short term, the annual percentage rate may end up being 300% or 400%.
Too often people don’t calculate how quickly interest or fees can add up.
“The cycle of taking on new debt to pay off old debt can turn a single unaffordable loan into a long-term debt trap,” said Richard Cordray, director of the Consumer Financial Protection Bureau, in a statement.
Some people have no other way, like a credit card, to get out of a financial jam. They may have low credit scores and not qualify for a typical credit card.
Consumer advocates therefore want to see other types of lower cost loans that pose less risk to consumers than payday loans.
The risk may decrease if the repayment can be spread over a longer period.
Small loans that last longer than 45 days, for example, could replace some payday loans because they are not covered by the new rule that requires lenders to determine a borrower’s repayment capacity, Bourke noted.
But Bourke said there are many harmful installment loans in the market today, and it is possible that some payday lenders will develop into longer-term installment loans to offer a product that is not. not covered by the CFPB rule.
As a result, he said, some states might want to further regulate these loans.
Since payday loan rules do not apply immediately, Bourke expects new types of loans to be tested. Consumers will want to watch out for hidden charges or other pitfalls.
The new rule exempts what are called “alternative payday loans” authorized by the National Credit Union Administration.
Alternative payday loans cannot be transferred into another loan. Loan amounts vary between $ 200 and $ 1,000. The borrower must have been a member of the credit union for at least one month. And the term of the loan can range from one month to six months.
The number of new products we’ll see, however, is unknown now.
The new rule for short-term, low-dollar credit is spelled out in more than 1,600 pages, so banks say it will take time to consider existing options. The Community Bankers Association complained that the CFPB should have worked with other banking regulators to review the use of low-cost lending programs, such as deposit-advance products, so consumers can receive short-term emergency loans from their banks.
Deposit advances are short-term loans similar to payday loans, but banks and credit unions usually only offer them to their own customers.
Payday lenders are not thrilled with these changes – and we can expect a decline.
Before taking out payday loans, however, consumers may wonder if they have a realistic chance of being able to pay off a high-cost loan quickly. It’s good to explore other options – including asking family members for help or even pledging certain assets – long before new payday lending rules come into effect.
Contact Susan Tompor: [email protected] or 313-222-8876. Follow Susan on Twitter @Tompor.