Consumer Financial Protection Bureau Director Kathy Kraninger rolled back certain underwriting requirements in the bureau’s payday lending rule last week, and consumer advocates disagree whether the results will be good or bad for consumers.
The scrapped part of the rule requires payday lenders to underwrite loans for borrowers who obtain more than six payday loans in a year. Lenders must verify the borrower’s income and examine the borrower’s other debts and spending. In other words, they must evaluate a borrower’s “ability to repay.”
When drafting the original payday lending rule, the CFPB believed these underwriting requirements helped prevent consumers from falling into a long-term debt trap. But the Competitive Enterprise Institute (CEI), thinks the underwriting requirements do just the opposite.
Consumers who take out multiple payday loans a year are often dealing with very difficult financial situations, wrote policy analyst Daniel Press, and procuring quick cash loans can help them get on their feet. A federal cap on how many loans they can get is essentially telling consumers how to manage their own finances.
“The newly proposed payday loan rule is a crucial fix to a regulation that threatened access to credit for millions of Americans who need to cover emergency expenses between paycheck,” Press told InsideSources in an email. “The action by the Bureau today preserves consumer choice and access to credit, allowing individuals — not Washington bureaucrats — to decide what is best for themselves.”
But other consumer advocates say this perspective misses the point of the payday lending rule. The CFPB wrote the rule to stop predatory payday lenders from trapping consumers in a debt cycle, which is highly lucrative for payday lenders, not strip consumers of financial choices.
Because payday lenders offer loans to financially distressed consumers with bad credit, the interest rates on those loans are notoriously high, often upwards of 400 percent, which makes them burdensome to repay.
“Stripping the key protections of this rule is a disservice to the public. With little accountability for their actions, payday lenders have long preyed upon communities of color and drained them of their hard-earned savings,” said Hilary O. Shelton, NAACP Washington Bureau Director and Senior Vice President for Policy and Advocacy, in an email to InsideSources.
Marisabel Torres, senior policy analyst at UnidosUS, fears nixing the underwriting requirements will encourage some payday lenders to prey on the poor, especially immigrants who may not yet have stable work.
“Doing away with the critical ability-to-repay provision, as is currently proposed, will open the floodgates once more to unscrupulous lenders,” she said in an email. “Removing this critical protection will place working families in a position where they are once again easy targets for those seeking to increase their profits without care as to the devastation they are causing for so many Americans trying to make ends meet.”
Different payday lending polls and studies conflict. One 2009 study conducted by George Washington University Economics Professor Gregory Elliehausen, who is currently a member of the Federal Reserve Board of Governors, found that 80 percent of consumers who obtained payday loans said they were easy to repay, and only 2 percent said they disliked the loans because “they made it too hard to get out of debt.”
According to CEI, “Jennifer Priestley of Kennesaw State University in Georgia found that borrowers whose loans were outstanding for longer had larger positive changes in credit scores than those whose borrowing was more time-limited.”
But the Center for Responsible Lending’s polls tell a slightly different story. A 2018 CRL poll found that “58 percent of respondents agree with the statement that payday lenders are predatory because of their high interest rate and debt trap model,” and “79 percent of voters support the rule to hold payday lenders accountable.”
Furthermore, payday loan debt traps are such a problem for the U.S. military that Congress passed a law limiting the loan rates to 36 percent for active duty military personnel and their families in 2007 (the Military Lending Act).
Advocates on both sides of the debate agree the biggest problem with payday lending comes down to financial incentives. Rules and regulations can incentivize payday lenders to charge high interest rates and provide consumers as many loans as possible, but can also incentivize consumers to act against their own interests.
CEI points out that payday lenders rely on consumers’ ability to repay. If payday lenders’ customers go bankrupt, then the payday lenders don’t make as much money. Some lenders are predatory, but offering payday loans isn’t inherently predatory. Predatory lenders use hidden charges and confusing terms and conditions as well as higher-than-average interest rates — up to 600 percent — to harm consumers.
But charging such high interest rates also diminishes consumers’ incentive to repay, as does providing multiple payday loans, which is why the CRL wants the CFPB to keep the underwriting requirements.
“We urge Director Kraninger to reconsider, as her current plan will keep families trapped in predatory, unaffordable debt,” CRL Senior Policy Counsel Rebecca Borné said.