On June 2, 2016, the CFPB (Consumer Financial Protection Bureau) held a field hearing in Kansas City, Missouri on small dollar lending. Lenders who offer payday loans and other small-dollar advances will have to assess whether borrowers can afford to repay the debts.

The regulator also launched an enquiry into other high-risk loans and practices not covered by the new proposal, including open-end lines of credit and methods lenders may use to seize borrowers wages, vehicles or other personal property.1

Background

In March of 2015 the CFPB announced that it would consider proposing rules that would end payday debt traps by requiring lenders to take steps to ensure consumers can repay their loans. The strong consumer protections that were considered would apply to payday loans, vehicle title loans, deposit advance products, and certain installment and open-end loans.2

The rule proposal followed a 2014 CFPB study that found roughly 62% of all payday loans—often due within two weeks and carrying an annual interest rate of approximately 390%—go to consumers who repeatedly extend their repayments and ultimately owe more in fees than they originally borrowed.3

What this Means for Consumers and Lenders

Mainstream banks are generally barred from this kind of lending. More than a dozen states have set their own rate caps and other rules that essentially prohibit payday loans, but thirty-two states have enacted safe harbor legislation for payday lenders and permit loan accounts at triple digit interest rates, or with no cap at all.4

Under the new guidelines, lenders will be required to verify customers’ income, and confirm that they can afford to repay the borrowed amount. The number of times a loan could be rolled over, into a newer and pricier one would also be curtailed.5

Lenders say the proposed rules would devastate their industry and cut vulnerable borrowers off from a financial lifeline. Consumer Bankers Association CEO Richard Hunt said the proposal could send consumers “to pawnshops, offshore lending and fly by night entities that will be more costly.”6

Dennis Shaul, CEO of the Community Financial Services Association of America said “the proposed rule presents a staggering blow to consumers as it will cut off access to credit for millions of Americans” and that “It also sets a dangerous precedent for federal agencies crafting regulations impacting consumers.”7

Both sides agree that the proposed rules would radically reshape the market. Loan volume could fall at least 55%, according to the Consumer Financial Protection Bureau, and the $7 billion annually that lenders collect in fees would drop significantly.8

Alternative Solutions and Opportunities

In the FDIC Quarterly (Volume 3, Issue 2), the FDIC published their report on the first four quarters of their two year pilot program to encourage banks to offer small dollar loans comparable to payday loans. The report provides ample evidence that, while the FDIC considers the program a success, small dollar loans from banks cannot compete with the cost and ease of payday loans. Only thirty-one banks participate in the program, in only twenty-six states, originating a balance of only $5.5 million.9

Most pilot banks do not see small dollar loans as a profitable endeavor, but rather as a community service, and a cornerstone to sell more profitable products.  However, in light of the CFPB proposals, the opportunity for more banks to participate in the FDIC program, and so to develop and expand small dollar loans as a profitable business may be the way forward.10

The proposed rule will be open for public comment until September 14, 2016. The new guidelines do not need congressional or other approval to take effect, which could happen as soon as next year.

 

References

  1. “New CFPB proposal aims at ‘payday debt traps’,” USA Today, June 2, 2016. Access at: http://www.usatoday.com/story/money/2016/06/02/new-cfpb-proposal-aims-payday-debt-traps/85250712/
  2. “CFPB Considers Proposal to End Payday Debt Traps,” Press Release, Consumer Financial Protection Bureau, March 26, 2015. Access at: http://www.consumerfinance.gov/about-us/newsroom/cfpb-considers-proposal-to-end-payday-debt-traps/
  3. “New CFPB proposal aims at ‘payday debt traps’,” USA Today, June 2, 2016. Access at: http://www.usatoday.com/story/money/2016/06/02/new-cfpb-proposal-aims-payday-debt-traps/85250712/
  4. “Payday Loans’ Debt Spiral to Be Curtailed,” New York Times, June 2, 2016. Access at: http://www.nytimes.com/2016/06/02/business/dealbook/payday-borrowings-debt-spiral-to-be-curtailed.html
  5. Ibid
  6. “New CFPB proposal aims at ‘payday debt traps’,” USA Today, June 2, 2016. Access at: http://www.usatoday.com/story/money/2016/06/02/new-cfpb-proposal-aims-payday-debt-traps/85250712/
  7. Ibid
  8. “Payday Loans’ Debt Spiral to Be Curtailed,” New York Times, June 2, 2016. Access at: http://www.nytimes.com/2016/06/02/business/dealbook/payday-borrowings-debt-spiral-to-be-curtailed.html
  9. “FDIC Small Loan Program Shows Banks Can’t Compete with Payday Loans,” Community Financial Services Association of America. Access at: http://cfsaa.com/our-resources/short-term-credit-alternatives/small-loan-program-shows-banks-can%E2%80%99t-compete.aspx
  10. Ibid

Newsletter Author: Samantha Regan, Mairi Bryan

Newsletter Contact Person: Nghi Pham

Visit www.accenture.com/RegulatoryCompliance for latest insights on regulatory remediation and compliance transformation.

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