Consumer Advocates Fighting Against ‘Legal Loan Sharking’

Take a walk through any predominantly black or Latino neighborhood and the signs are unavoidable.

“Get Cash Now.”

“Quick Cash Here.”

Turn the dial to most urban radio stations and ads touting payday loans play regularly between morning talk and the evening drive.

Payday loans, or quick cash advances meant to assist borrowers between paychecks or in financial emergencies, have some politicians and consumer advocacy groups outraged over spiraling interest rates, and a fee structure they claim ensnare borrowers in a cycle of debt. Lawmakers on Capitol Hill are wrestling two key pieces of legislation aimed at establishing increased federal oversight of the industry.

Borrowers can apply for the loans, which in most states are capped at $300, in return for providing minimum information including name, address, and access to the borrower’s checking account. To receive the advance, a post-dated check for the loan amount or an automated clearing house (ACH) debit authorization must be submitted. In short, the purchase on the card will be deducted or the check will be cashed if the loan is not repaid in two weeks.

Coupled with an interest rate of about 390% or $15 to $22 per $100 advanced, it’s easy for consumers to find themselves in trouble, industry critics say. “The average payday loan customer takes out nine loans a year,” says Jean Ann Fox, director of financial services, at the Consumer Federation of America.

“There’s triple-digit interest for a short-term loan — two weeks — and it’s all due in a balloon payment,” adds Jennifer Johnson, senior legal counsel at the Center for Responsible Lending, a consumer advocacy group. Some lenders maintain that the 390% interest rate is misleading, arguing that opponents are assessing an annual percentage rate on an extremely short-term loan, says Willi Green, director of development and community outreach at Advance America, the nation’s largest payday lender. A 30% APR on a $100 loan for a period of 14 days would generate pennies on the dollar in revenue, a move that would make the industry unprofitable.

Regulation Debate

“We’ve pushed continually for regulation in the states,” Green says. “But federal and state governments cannot regulate personal responsibility.” Green adds that denying people access to payday lenders will force them to find other means to come up with needed funds, therefore perpetuating a cycle of debt.

Regulating the industry is exactly what lawmakers aiming to do. In February, Illinois Sen. Dick Durbin introduced a bill that would cap the loan at 36%, instead of an unregulated 390%. Rep. Luis Gutierrez (D-Ill.) and other opponents of the measure — including many payday lenders — say it’s too restrictive. Gutierrez introduced another piece of legislation in the House that would place a national cap on payday loan fees at 15 cents for every $1 borrowed, or $15 for every $100 borrowed. In addition, lenders would be banned from rolling over loans and would have to give delinquent borrowers a repayment plan. The plan would also give consumers an extended repayment period with no additional fees or charges.

Gutierrez says a 36% cap on interest “goes too far,” adding consumers use payday loans to avoid “costly” bank and credit card fees. Green says many in the payday loan industry support parts of the Gutierrez bill including an extended repayment plan but adds that the rate cap will reduce industry income considerably.

A study released by the Federal Reserve Bank of New York in 2007, which compared households in Georgia and North Carolina — two states that banned the loans in 2004 and 2005 — to households in states where loans are legal, found people in Georgia “have bounced more checks, complained more to the Federal Trade Commission about lenders and debt collectors, and filed for Chapter 7 bankruptcy protection at a higher rate [than states that permit payday loans].” North Carolina fared about the same, according the study.

The $40 billion payday lending industry has grown exponentially over the last decade. In California, fees from payday borrowers total $450 million, more than half of which come from African American and Latino borrowers. A report released by the CRL,  Predatory Profiling: The Role of Race and Ethnicity in the Location of Payday Lenders in California, shows that even when controlling for other factors which may influence a payday lender’s location, such as household income, lending storefronts are still most heavily concentrated in African American and Latino communities in California.

While African Americans make up 5.9% of California’s population, they account for 18.7% of payday loan borrowers.

Critics who deride the loan practices as predatory and “legal loan sharking,” say because companies do not weed out risky borrowers, it’s used by consumers as a long-term solution to chronic budgeting problems.

“The typical payday borrower doesn’t need $300; They need other things: more income, a car that works, affordable childcare,” Johnson says. “Those communities would disproportionately feel the impact of not having those things.”

Setting Standards

Of the 35 states that allow the loans many, including some local governments, are taking measures to regulate the industry:

Arkansas: Almost all payday lending has been halted in Arkansas as a result of public enforcement by the Attorney General Dustin McDaniel and private litigation. In March, McDaniel sent letters to 156 licensed payday lenders in the state demanding they cease illegal lending practices, essentially bringing the industry to its knees within Arkansas.

South Carolina: In June, lawmakers enacted the first piece of legislation regulating the state’s $155 million-a-year payday industry. The law requires the creation of a database to monitor borrowers’ lending activities; requires the industry to let customers go into an extended payment plan if they cannot meet payment deadlines without incurring any extra fees; restricts payday loans to one loan up to $550 at a time; and imposes a waiting period of one day between loans for the first seven and two days for additional loans.

Kentucky: In March, Gov. Steve Beshear signed into law a bill establishing a statewide database that tracks all payday loan amounts, dates, and borrowers. Beshear expects the system to lead to a 25% to 30% reduction in lending. The database is to ensure borrowers do not have out more than two loans at a time. A 10-year moratorium on new lenders opening in the state is also part of the bill.

West Virginia: Though payday loans are illegal in West Virginia, the state is looking to quash online lending. The attorney general’s office is suing seven Internet lenders for making or collecting online payday loans in the state, in March. Because consumers get the loans while on their home computers in West Virginia, the lenders are subject to state law, says Norman Googel, assistant attorney general.

Virginia: In January, Virginia payday legislation went into effect, limiting borrowers to one payday loan at a time and doubling the amount of time borrowers have to repay the loans, among other changes. With lenders circumventing payday loan regulation by establishing open lines of credits for borrowers, the government has jumped into action, at least for state employees. In July, Gov. Tim Kaine announced the establishment of the Virginia State Employee Loan Program. The program will allow eligible city workers to take out small short-term loans of $100 to $500.