The Consumer Finance Protection Bureau will consider new rules covering payday loans, agency head Richard Cordray said Thursday in a statement. The proposal also covers car title loans and other high-interest, short-term loans.
Cordray said that in many cases, "no attempt is made to determine whether the consumer will be able to afford the ensuing payments -- only that the payments are likely to be collected." And when the loan is due, he said, "the lender can trump the consumer’s own discretionary choices about budgeting and spending." In other words, people who borrowed money because they couldn't make ends meet are forced to repay those loans instead of making ends meet.
In response, the CFBP is proposing two-tracked regulation: protection and prevention. Lenders will be able to choose which system they participate in. The prevention rules, Cordray said, would require lenders to make "reasonable determination that the consumer could repay the loan when it comes due without defaulting or re-borrowing." All fees, not just interest paid, would have to be taken into consideration when evaluating if a borrower can afford the loan payment, along with other living expenses. These rules, which Cordray referred to as "basic underwriting," would apply at the moment a person borrows money. Under the protection rules, a consumer who took out three loans quickly would have to wait through a 60-day "cooling off period" before taking out another loan.
The protection rules would force lenders to allow consumers to get out of debt over time in an affordable way, and would apply until the loan is fully paid off. If customers needed to borrow more to pay off an existing loan, the new loan would have to be smaller than the initial loan, and payday lenders couldn't make more than three loans unless the first loan was fully paid off. Alternatively, the lender could provide a no-cost extension to the loan to help the borrower pay it off.
The aim of both rule types is to prevent debt traps, in which borrowers get stuck in a devolving cycle of more borrowing to pay off debt. Since payday loans are unsecured loans, without the ability to simply lend ever-increasing amounts to consumers, the lender's economic incentive is to help the borrower repay the initial loan.
The proposed rules would apply to any loan with a repayment period of 45 days or less, and cover both traditional storefront lenders and online lenders.
President Barack Obama will also speak about the need for increased payday loan regulations during a trip to Birmingham, Alabama, AL.com reported Monday. His comments will add heft to the agency's new proposed rules.
The rules are likely to face strong opposition from the payday lending industry, as well as Congressional Republicans. On Tuesday, House Republicans excoriated the head of the FDIC for his agency's effort to crack down on fraudulent activities in specific, high-risk industries, including payday lenders, gun dealers, assorted financial scammers and escort services.
Mike Calhoun, president of the Center for Responsible Lending, said that if it is made mandatory, forcing lenders to judge if customers can actually repay loans "will help millions of borrowers avoid dangerously high-cost payday and other abusive loans." Calhoun worried that there were still loopholes for payday lenders to exploit, and noted the industry's adroitness in adapting abusive practices in response to new regulation. The Washington Post's Jeff Guo chronicled the ways payday lenders have wriggled through state laws meant to regulate payday loans, including issuing simultaneous loans to get around borrowing limits and calling themselves mortgage lenders.
The National Consumer Law Center's Lauren Saunders pointed out that while promising, the agency's "proposal would permit a triple-digit six-month installment loan if payments are limited to 5% of the borrower’s gross income,
regardless of the borrower’s expenses or debts." Expenses and other debts, Saunders said, not income alone, are key to understanding if a loan truly is affordable to a borrower.
Dennis Shaul, head of the payday lending industry group the Community Financial Services Association of America, said in a statement that payday loans are a crucial, and sometimes the only, source of credit for millions of Americans, and that any new regulation should take into account decreased consumer access to credit.
In an indication of what the industry's argument against the CFPB rules might be, he also warned that "new rules should be grounded in rigorous research, not anecdote or conjecture."