I had a hallelujah moment when I saw that the Consumer Financial Protection Bureau was proposing rules that would require payday lenders to make sure borrowers can afford to repay their loans.
I know. You must be thinking what I’ve been thinking for years: isn’t it the responsibility of the lenders to determine that people can repay the money?
But since many people are still in dire financial straits after repaying the loan, they end up taking out another loan. Repeat borrowing is good business for lenders. The CFPB has found that over 80% of payday loans are followed up with another loan within 14 days.
Payday loans are relatively small and are meant to be repaid in full quickly, usually within a few weeks. The loan conditions are quite meager – a bank account and an income. Borrowers can give lenders post-dated personal checks or authorize an electronic withdrawal of funds. The typical client spends five months on the payday hamster wheel and pays $520 in fees for an initial loan of $375, according to findings from Pew Charitable Trusts, which has done extensive research on the dangers of these types of loans.
Payday loans are big business — $7.4 billion a year, according to Pew. Each year, 12 million Americans take out such loans from stores, websites and a growing number of banks.
The CFPB proposal also covers other types of loans, including auto title loans, in which people borrow against their paid-off cars. If a customer fails to repay a title loan, the lender can repossess the car. In a recent report, Pew said more than 2 million people use high-interest auto title loans, generating $3 billion in revenue for lenders. The average title loan is $1,000. The average borrower spends about $1,200 a year on fees.
The companies selling these loans say they are providing a necessary service. And even some payday clients I’ve spoken to see it that way — or at least many did at first. The regrets come later.
“Most people aren’t looking for credit,” said Nick Bourke, director of the Small Dollar Loans Project at Pew. “They are looking for a financial solution to a persistent financial problem.”
Under the CFPB’s proposal, lenders should look at a person’s income and other financial obligations to determine their ability to pay interest, principal and fees. The agency is also considering imposing limits on the number of loans a client can take out in a year.
“For lenders who sincerely intend to provide responsible options to consumers who need such credit to deal with emergency situations, we are making conscious efforts to keep these options available,” said the director of the CFPB, Richard Cordray. “But lenders who expect to rack up fees and profits by trapping people in long-term debt traps should change their business models.”
What the agency is proposing contains the ingredients for good reform, according to Bourke and other consumer rights advocates, such as Consumers Union and the Consumer Federation of America. But they worry about a loophole that lenders could exploit. The proposed rule includes a provision allowing a small number of lump-sum repayment loans that would not have the repayment capacity requirement, Bourke pointed out.
“None of this is set in stone, but giving lenders the ability to make three loans in a row without requiring a simple, common-sense review of repayment capacity shouldn’t be part of a final rule.” , said Tom Feltner of the Consumers’ Federation of America.
I understand that people can get into financial trouble. But if a short-term loan product wasn’t available, they could manage their money so they wouldn’t go into more debt.
Pew found that payday and title borrowers typically have other options, including getting money from family or friends, selling assets, or cutting expenses.
“In fact, we found that a large percentage ended up using one of these options to get out of payday loans,” Bourke said.
Payday loans and title loans are the very definition of robbing Peter to pay Paul. Consider these facts from Pew:
● The average lump sum payment on a title loan consumes 50% of a borrower’s average gross monthly income.
● A typical payday loan payment is 36% of the borrower’s salary.
Borrowing against a future paycheck or putting up your car title can cause a financial avalanche. Even with better protections, don’t.
Write Singletary at 1150 15th St. NW, Washington, DC 20071 or [email protected]
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