By: Mitchell Schnurman
July 14, 2014
If you want to fix something in Texas, go to Washington.
At least that's the case with payday lending, the practice of luring the working poor into a two-week loan that lasts for five months and costs an arm and a leg.
Payday loans are marketed as a short-term fix. But 4 in 5 are renewed rather than repaid as scheduled.
In Texas, an average $300 payday loan generates $701 in fees, the highest surcharges in the nation, according to the Pew Charitable Trusts. About 1.5 million Texans use payday loans annually, yet Austin lawmakers have repeatedly failed to cap interest rates or set other limits.
That pro-business gravy train may be coming to an end.
Last week, the nation's top consumer watchdog clamped down on Ace Cash Express of Irving, which operates 1,500 payday stores in 36 states. Ace will pay $10 million in fines and restitution after the agency uncovered some nasty collection tactics.
While regulators documented borrowers being harassed and bullied, they also zeroed in on the fundamental flaw in the industry: a business model that pushes customers to re-up on loans they can't afford.
Ace was "inducing payday borrowers into a cycle of debt" and pressuring them into "debt traps," said Richard Cordray, director of the Consumer Financial Protection Bureau in Washington.
"These kinds of predatory tactics are appalling," Cordray said.
For years, advocates around the country have described payday lending in similar terms. But this was the first time the bureau applied the "cycle of debt" notion to an enforcement action.
That's meaningful, because the agency will write new rules to govern the payday industry. Currently, the business is largely regulated by state laws, which vary widely. Fourteen states and Washington ban payday loan stores, and nine states limit fees or other practices, Pew said.
Texas, always prideful about its light touch on regulation, is among seven states with no rate caps, according to Pew. That trickles down, because many Texans don't have a bank account.
Only Mississippi has a higher share of residents without a bank account, and it caps payday rates. The average cost of a payday loan in Mississippi is half the price in Texas, according to Pew.
Payday lenders know most borrowers will roll over their loans, simply because they can't afford to pay them, said Nick Bourke, who directs Pew's research on small-dollar loans.
"Their business model relies on this phenomenon," Bourke said. "That's what has to change."
The consumer agency is building the case that such loans represent an abusive practice, he said. It's outlined in the consent agreement with Ace, although Ace does not admit or deny any wrongdoing.
In a statement last week, Ace listed the ways it has improved collections in recent years. It also outlined policies to prevent delinquent borrowers from taking new loans and ways to pay off outstanding balances.
CEO Jay Shipowitz said the company had 40 million customer visits in the past 12 months. Industry players often say they're responding to huge demand. And while the loans can be expensive, bounced checks and disconnected utilities cost more, they say.
"It's easy for government to just say 'no' to payday lending," said William Isaac, a former chairman of the Federal Deposit Insurance Corp. and a consultant to the payday industry.
But "regulators need to reconsider before they destroy a critical source of credit for families and the economy as a whole," Isaac wrote in an op-ed in American Banker in February.
He said most payday borrowers understood the terms and were realistic about the time and costs of repayment. In a Pew survey, roughly 3 in 4 payday borrowers said they wanted more time to repay and more regulation of the product.
Payment vs. income
The average amount due on a payday loan from a retail storefront is $430, Pew said. That's more than a third of a biweekly paycheck for payday customers, whose median annual income is $31,000.
They can't pay off the loan and cover food, utilities and the rest. So they roll over the loan again and again.
An alternate approach, proposed by Pew, is to limit the monthly payment to 5 percent of monthly pretax income. Then spread payments evenly over several months so the loan is paid off.
Colorado reformed its payday laws in 2010, and Bourke cited its success at a Senate hearing in March. Half the stores are still open, and borrowers are saving $200 on a typical loan, he said.
Loan payments are much more affordable: 4 percent of a paycheck today vs. 38 percent before, Bourke said. Defaults have declined 30 percent and credit counselors report fewer complaints.
In March, Cordray acknowledged the strong demand for payday loans and their importance.
"But we also need to recognize that loan products which routinely lead consumers into debt traps should have no place in their lives," he said.