Companies that profit from issuing high-interest loans to cash-strapped consumers are about to get a punch in the gut from a U.S. regulator.
The Consumer Financial Protection Bureau will propose rules Thursday that restrict payday lenders from extending credit unless they can ensure customers are capable of repaying. The agency's plan will also curtail fees charged by the industry that make it difficult for consumers to get out of debt. The regulations would cover payday loans as well as other credit products with annual rates exceeding 36 percent that are automatically paid out of bank accounts and paychecks, or secured by car titles.
"Too many borrowers seeking a short-term cash fix are saddled with loans they cannot afford and sink into long-term debt,” CFPB Director Richard Cordray said in a statement. "It's much like getting into a taxi just to ride across town and finding yourself stuck in a ruinously expensive cross-country journey.”
The proposal marks the first federal regulations for the payday industry, which is mostly supervised at the state level. Consumer advocates have been pushing for tougher rules for years, arguing the firms prey on desperate people and trap them in debt. But critics, including some Republican lawmakers and banks, say the CFPB's plans will ultimately hurt needy borrowers by leaving them with fewer choices or shutting them off entirely from safely accessing credit.
'Consumer Demand'
"The consumer demand will not go away,” David Pommerehn, senior counsel at the Consumer Bankers Association, said in an interview before the rule was announced. "There aren't a lot of banks in this space now and I don't think that will change as a result of this rule.”
The regulations will cap the number of short-term loans companies can make to a borrower in quick succession and prohibit companies from offering certain products to people who have outstanding short-term debt. The CFPB also announced plans to study other high-risk loans that aren't covered by the proposal, which could affect companies including financial technology firms that facilitate loans over the Internet.
Payday loans are short-term advances that borrowers must repay out of their next paycheck. A 2013 report by the CFPB found that the median borrower took out 10 loans over the course of a year and spent $ 458 on fees. About half of borrowers incur bank fees averaging $ 185, on top of the cost of the payday loan, another study found.
The CFPB has faced a challenge in trying to crack down on consumer abuses without wiping out the entire payday industry. The agency has estimated its rules will reduce overall loan volume by 60 percent to 80 percent. Economists hired by a payday lobbying group found that just 16 percent of payday stores would be profitable under earlier iterations of the regulator's proposal.
Hurting Lenders
"Regulations should not push legitimate lenders out of the marketplace,” said Lisa McGreevy, president of the Online Lenders Alliance.
The CFPB rules will affect a broad swath of companies including EZCorp Inc. and Cash America International Inc. as well as auto-title lenders and banks that offer advance loans to customers through checking accounts. The proposal is subject to a 90-day public comment period before it can be finalized.
With so much at stake, the CFPB and lawmakers have been subject to intense lobbying. The industry has also been the focus of more than four years of studies, speeches and congressional hearings. In anticipation of tougher rules, many companies have been making drastic changes to their businesses or moving overseas.
Banks have raised concerns that the CFPB proposal will crimp their ability to provide better alternatives to payday loans. In recent years, lenders including U.S. Bancorp and Wells Fargo & Co. have stopped offering products that compete with payday loans after they received more regulatory scrutiny.
Burdensome Test
Banks have also said that the process the CFPB has considered for determining whether consumers can repay a loan is burdensome and costly, therefore unlikely to encourage them to provide products that address the rising demand for short-term credit. To address these concerns, the CFPB made some concessions in its rule including loosening some underwriting criteria for longer-term loans.
Still, some advocates may find that the rule does not go far enough. In order for banks and other companies to be able to offer safe products that are also profitable, there needs to be clear standards as well as strict underwriting criteria, said Nick Bourke, who studies the industry at Pew Charitable Trusts. That includes limiting loans to 5 percent of a borrower's paycheck, he said — something that's not included in the CFPB's rule.
"Regulators need to stop harmful loan practices but they also need to set standards that encourage lower-cost alternatives,” Bourke said. "The research is very clear: small amounts of credit can help struggling consumers but only if its structured appropriately."
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