Low income working families seeking to secure decent housing, educate their kids, staying healthy, and simply paying the bills confront an array of challenges these days: the cost of attending college skyrockets; health care costs increase daily; a "jobless recovery" continues. Yet beyond these broad economic trends, working families are further challenged by predatory "payday lenders" -- loan sharks who take advantage of a borrower's precarious financial state and profit from pushing low-income families deeper into debt and poverty.
Payday lenders are pernicious institutions that are more prevalent than McDonald's restaurants in the United States. They offer small but high-interest loans to families who need money quickly -- the average payday loan borrower makes slightly over $22,400 annually. Nationally, annual interest on payday loans averages a massive 339 percent. While the loans may be for only a few hundred dollars, the profit on these transactions is astounding. As ThinkProgress reported in 2013, the typical pay-day loan borrower pays an average of $520 of interest on a loan of $375. These astronomical interest payments give the payday loan industry $46 billion in profits each year. It's an infuriating fact that these massive revenues come from trapping striving low-income workers in a cycle of ever-increasing debt.
Latinos are particularly susceptible to the trap of payday lending. In 2013, the FDIC found that 43 percent of Hispanics have no way to access financial services. This underserved population is forced to resort to predatory payday loans to pay for emergencies and everyday expenses like rent, gas and electric, and groceries. After paying for these necessities, a family must then pay hundreds of dollars on interest on the loan that paid for their rent, heat, and food. This depletes their next paycheck and forces them to again turn to a high-interest predatory loan to survive next month's bills.
Across America, 35 states allow payday lenders to offer unaffordable, financially-ruinous loans to desperate families. This is unacceptable -- other states have already had some success in regulating payday lending. In Colorado, for instance, regulators required payday lenders to distribute loans in a staggered six-month installment plan, rather than as one lump sum that must be paid back immediately with the borrower's next pay check. Colorado also lowered the maximum permitted interest rates. Although these small loans remain costly for Colorado borrowers, the law has managed to reduce borrower's spending on payday loans by 42 percent. In Washington, state lawmakers sought to rein in payday lending by regulating how frequently borrowers could take out payday loans, in this case limiting borrowers to a maximum of eight such loans in one year. Washington subsequently saw its number of payday loans taken out annually plunge from 3.2 million in 2009 to 856,000 in 2011 -- a good sign that there are fewer payday borrowers being dragged into the deepest cycles of debt.
The Consumer Financial Protection Bureau (CFPB) is about to introduce an initial draft of regulations on a variety of short-term loans. Although the payday lending industry is lobbying aggressively against regulation, the CFPB is considering rules that would prevent borrowers from falling into a cycle of debt ("rolling over" on a loan, i.e., using new loans to pay off old loans and their interest) while still giving borrowers access to credit, as well as measures that would limit how many times lenders could roll over a borrower's loan.
What is needed are strong, loophole-free regulations on the federal level that don't allow payday lenders to flout the law with underhanded and deceptive cosmetic changes. The CFPB must ensure that low-income households are able to access small amounts of credit without falling into a vicious cycle of escalating debt. As it stands, absurdly high-interest rates and punishing repayment terms make it unlikely that a low-income borrower will be able to pay off their loans without accumulating additional debt.
We suggest, along with the Pew Charitable Trusts, that any new regulations ought to limit loan payments to five percent of a borrower's paycheck. Interest payments cannot be so high that a borrower is unable to pay back the original loan without taking out a new financially-ruinous loan. Additionally, the costs of these payments should be spread evenly over a period of months, and borrowers ought to be able to pay in affordable installments over time. Finally, the CFPB should forbid loan flipping, lump-sum payments in general, and draconian collection practices, and ought to require transparent disclosure of the repayment terms and costs that borrowers will face.
The CFPB was created to protect consumers from abusive financial practices; it can do just that by issuing strong regulations that rein in predatory Payday Lenders.
Joe Velasquez, NCLR Action Fund Executive Director