By PHILLIP LEE
For more than a decade, the payday loan industry has faced and survived numerous challenges from consumer groups and federal legislators.
Without a doubt, the biggest challenge that the industry has faced was legislatively — in particular, efforts to cap loans at 36 percent.
While that has somewhat diminished, a bigger storm is forming and it is not coming from the legislative front. Instead a new, two-pronged regulatory and legal assault may be the biggest challenge to the industry.
“The scrutiny of our industry certainly seems to have reached record levels, with state legislative efforts continuing; the CFPB releasing short-sighted, incomplete reports that may point to future rulemaking; and the coordinated efforts of several federal agencies through Operation Choke Point,” says Jamie Fulmer, senior vice president of public affairs, Advance America.
“We support efforts by federal regulators to address unregulated lenders, but are concerned that Operation Choke Point is being used to further an ideological agenda through the disruption of licensed, fully compliant lenders’ banking relationships.
Concerns and trepidation abounded when the Consumer Federal Protection Bureau was formed in 2011 through the Dodd-Frank Act. There was something of a honeymoon period as the CFPB sought information from the payday industry and fears were somewhat allayed when Director Richard Cordray acknowledged the need for small loans.
But the honeymoon, such as it was, is over. A White Paper was released last year, stating that payday loans and deposit advance products lead to a cycle of indebtedness for consumers.
Over the past months, the CFPB has begun to ratchet up the heat on the industry by releasing two more reports — a Data Points report and a Supervisory Note on payday lending.
Those reports have sparked industry-wide fears that stiff regulations are just around the corner. While the agency has no authority to levy any usury laws, such as interest rate caps, it can dole out other strict regulations which could create a difficult, if not impossible, environment for lenders.
While the CFPB regulation loomed, the Department of Justice launched “Operation Choke Point,” which has crippled many in the payday industry. The DOJ has targeted payday lenders indirectly by going after the banks that service them.
“It appears that federal examiners are pressuring banks and third-party payment processors to terminate regulated short-term lenders’ depository accounts and block them from using the automated clearing house system to process loan repayments, making no distinction that the lender is a good actor operating in accordance with state and federal laws,” explains Fulmer.
Banks with other potential regulatory problems have found it easier to wash their hands of payday lenders rather than face the intense scrutiny that regulators have threatened.
“Some banks have unexpectedly terminated their relationship with Advance America, despite our company’s excellent record of regulatory compliance and long-standing relationships with these banks,” Fulmer says.
Caught in the Net
Industry officials say combating fraud in the financial sector is a good thing, but that attacking legitimate businesses is not.
“The goal to eliminate fraudulent and illegal activity from the marketplace is admirable, but Choke Point has resulted in numerous examples of legitimate businesses being cut off from access to the banking system,” says Amy Cantu, a spokesperson for the Community Financial Services Association of America.
Cantu argues that there is an enormous amount of evidence that this initiative is not properly distinguishing between criminal actors and legitimate businesses, such as licensed payday lenders, that are operating legally and in compliance with all applicable state and federal laws and regulations.
“While CFSA certainly supports attempts to prevent criminals and fraudulent operators from accessing the U.S. financial system, Operation Choke Point has proven to be an overly broad initiative that goes far beyond the stated purpose and is harming legitimate, law-abiding businesses such as CFSA’s members and the consumers they serve,” she says.
Cantu points out that Operation Choke Point has also put a burden on banks to act as surrogate law enforcement agents.
“CFSA, along with several members of Congress and other organizations in various industries, has made officials at the Department of Justice and federal banking agencies aware of this unwarranted intrusion into these banking relationships,” she adds.
Around the Corner
The issuing of the two reports by the CFPB have led to speculation that the agency will release regulations sooner rather than later.
“Director Cordray and his staff have regularly stated that creating a level playing field in consumer financial services is central to the CFPB’s mission,” Fulmer says.
“The bureau may issue rules to more equitably regulate interchangeable products — such as cash advances and overdraft protection — so that customers can more easily compare the cost of all credit options. (Currently, overdraft protection is not subject to the same disclosure regulations required for short-term loans.) That said, I don’t think anyone outside of the bureau can predict what will be forthcoming.”
However, if the two reports give any indication of what the CFPB is thinking in terms of regulations, collections, rollovers and number of loans will be addressed.
Key points in the Supervision Report released in May include:
• Lenders deceiving consumers to collect debt:
When payday lenders called borrowers to collect debt, they sometimes threatened to take legal actions they did not actually intend to pursue. Examiners cited these threats as unlawful deceptive practices.
Other lenders threatened to impose additional fees or to debit borrowers’ accounts at any time, when this was not allowed by their contract. Examiners also found lenders lied about non-existent promotions to induce borrowers to call back about their debt.
• Lenders illegally harassing borrowers and visiting consumers at work:
CFPB examiners found that payday lenders called borrowers multiple times per day. When lenders failed to accurately track how many times they had called a borrower, it increased the risk of a borrower receiving excessive calls.
Examiners also found that employees of payday lenders would sometimes visit borrowers’ workplaces in attempts to collect debt. Such practices by lenders can violate the Dodd-Frank Act’s ban on unfair practices.
• Lenders hiring third-party collectors that illegally deceive and harass consumers:
Many payday lenders hire third parties to collect their debts. The CFPB expects payday lenders — and all institutions subject to its supervision — to oversee their service providers to ensure they are complying with federal law.
Examiners found that third-party debt collectors misled borrowers in a variety of ways, including falsely claiming to be an attorney and making false threats of criminal prosecution. Third-party collectors also harassed borrowers by calling at unusual times.
Key issues in the Data Points report released in March include:
• More than 80 percent of payday loans are rolled over or followed by another loan within 14 days (i.e., renewed). Same-day renewals are less frequent in states with mandated cooling-off periods, but 14-day renewal rates in states with cooling-off periods are nearly identical to states without these limitations.
The CFPB defines loan sequence as a series of loans taken out within 14 days of repayment of a prior loan.
• While many loan sequences end quickly, 15 percent of new loans are followed by a loan sequence at least 10 loans long. Half of all loans are in a sequence at least 10 loans long.
• Few borrowers amortize, or have reductions in principal amounts, between the first and last loan of a loan sequence. For more than 80 percent of the loan sequences that last for more than one loan, the last loan is the same size as or larger than the first loan in the sequence.
Loan size is more likely to go up in longer loan sequences, and principal increases are associated with higher default rates.
• Monthly borrowers are disproportionately likely to stay in debt for 11 months or longer. Among new borrowers (i.e., those who did not have a payday loan at the beginning the year covered by the data) 22 percent of borrowers paid monthly averaged at least one loan per pay period. The majority of monthly borrowers are government benefits recipients.
• Most borrowing involves multiple renewals following an initial loan, rather than multiple distinct borrowing episodes separated by more than 14 days. Roughly half of new borrowers (48 percent) have one loan sequence during the year. Of borrowers who neither renewed nor defaulted during the year, 60 percent took out only one loan.
In a letter to the CFPB, Senators Dick Durbin, Jeff Merkley, Tom Harkin, Tom Udall, Richard Blumenthal and Elizabeth Warren pushed the bureau to take new action to protect consumers from predatory storefront and online payday loans. The letter arrived as the CFPB prepares rules for the small dollar lending market.
“Sadly, the evidence shows that these loans trap consumers in a cycle of debt in which consumers end up owing more than the initial loan amount, an appalling practice that exploits the financial hardship of hard working families and exhibits a deeply flawed business model that does not consider borrowers’ ability to repay the loan,” the senators wrote in the letter to CFPB Director Richard Cordray.
“The CFPB was established precisely to crack down on these types of predatory practices and to provide strong consumer financial protections our families need and deserve. We urge you to swiftly take action.”
The senators encouraged the CFPB to consider successful examples of tough regulation in states such as Oregon, which in 2007 implemented a range of important consumer protections, including minimum loan terms, fee and renewal limitations, and a waiting period between loans with broad coverage for all types of small dollar lending.
They also suggested the CFPB adopt the proposals in the Stopping Abuse and Fraud in Electronic Lending Act that particularly target the abuses in online lending.
Key measures that the senators urged the CFPB to implement via regulation include: limits on so-called “lead generators,” who collect and auction payday loan applications off to the highest bidder; additional enforcement against anonymous online lenders who avoid enforcement by hiding overseas or through other hard-to-reach structures, and ending the practice of remotely-created checks and electronic fund transfers that deduct money from a consumer’s bank account without permission.
The senators also noted the importance of covering a large range of loans, including auto title loans, as well as what they called the urgency of the issue and its importance to protect working families struggling to avoid financial hardship.