A few weeks ago there was a bill in the Louisiana legislature that would have put some serious controls on the payday lending industry in that state, but the bill was quickly watered down and most of the provisions that mattered were removed.
It just shows the strong pull these lending firms have with local government and that any real attempt to regulate this business is going to take more than just a batch of legislators with good intentions.
After the payday loan product emerged in the 1990's there were some people who said this type of debt was a good thing, that it was a service that was provided to people who had no other source of credit. The idea was that lower income workers who were in between paychecks could use these loans as a bridge to get to their next payday, thus the title of payday loans.
When their payday showed up (almost always on a Friday) the customer would repay the debt. But it wasn't long before things started to go wrong. Critics point out that payday loan companies will find ways to lock up desperate customers into a cycle of repeat payments, where each payday is just the payment of interest due for that 14 day cycle.
Sometimes these loans can be 500% or 600% and for the Native American payday operators it can be 700% or 800% or even more. The number of Americans who utilize these incredibly short-term loan products is staggering, it's estimated to be about 12 million individuals a year. And many of those customers will access more than one short-term loan within the same year, so the industry (and the associated problems) are substantial.
State laws that govern short-term lending (which includes both the payday lending companies and the installment lenders) are not organized or uniform by any measure. Many states have outright bans on payday lending, some of those states include Georgia, Arizona and Arkansas.
But there are other states that don't have any effective laws that control what payday lenders may charge a customer (essentially allowing an open west situation for interest rates) and some of those states include New Jersey (surprisingly) along with Vermont, Maryland, Pennsylvania and West Virginia. And some other states do have charters that allow for payday lending but have very tight controls over what can be charged on these loans and who is eligible to receive them, and these states include Colorado, New Hampshire and Montana.
The big complaint about payday loans (both tribal and state licensed) is that they form a cycle of indebtedness. When a borrower takes a high interest loan for $500 and has to repay $150 for having those funds for less than 14 days, it often presents such a financial challenge to the consumer not to take out another loan, or to extend the current loan they already have in place.
It's a difficult position to be in, and repaying the full loan often is not realistic and neither is continuing to extend the debt indefinitely. Both are very painful financial decisions that both have consequences on the financial stability of the consumer's household.
This negative financial picture has been going on for years in millions of homes across the country, in all states. But now some state governments are starting to fight back against these loans, questioning their moral grounds, and questioning their legality.
New York has been the most aggressive state that is trying to keep tribal lenders out of their state or at least greatly modify the type of loans, mainly the interest rates that are charged, by the tribes. The tribal lenders counter that they have every right to charge what they see fit for their lending products. New York has taken a few ingenious moves to try to slow the spread of these high cost loans.
New York has taken a few actions, which include taking some of the prominent Native American lenders to federal court and the state won the first round there. The argument is that tribes can charge their customers whatever they would like to charge them.
The state's argument is that the citizens of that state should get the protections of laws that are passed in those states, and they shouldn't be ignored just because the lender is a sovereign, tribal lender based on a reservation, or as they are known today, federally recognized tribal lands.
Beyond New York there are many other states trying to forget new rules and limitations on payday lending. The key is not just the high cost that comes with these loans but also the nature to get consumers "trapped" into paying on them for an extended period of time. A payday loan has a nominal time limit of roughly two weeks, which makes sense because by definition these loans are due to be repaid on the next pay date for that customer, or at the most the following pay date.
What happens in reality is that many customers get extensions on these loans. On their pay date they opt to pay only the interest due (the finance charge) and repay nothing on the principal amount. The customer lets that amount roll forward, often for months, making no progress against the original amount that was borrowed and thus never getting out of debt.
Here are some numbers that we can reference from the Pew Charitable Trust. According to that organization the average borrower of a payday loan will agree to a debt product that has a two week time horizon (most payday loans average about 14 days until they are due in full) will pay approximately $520 in finance charges on that loan over the course of about five months. This is structured around an original loan amount of only $375.
How is that possible when the loan is due in two weeks? All payday loans (or at least 99% of all of them) have a very popular feature called loan rollover, or rolling the loan over into a new loan period. Translate that new loan period as the next 14 calendar days. In essence the borrower is taking out the exact same $375 loan over and over again, back to back, for several months. This is a financial disaster, albeit a slow moving one.
The annual rates of interest on these tribal payday loans can range from 120% all the way up to around 800% and in a few select cases they go even higher. Since the states do not have a very functional way to regulate the loans, and the federal government has not implemented any kind of legal authority to guard against these super high rates there is no substantial oversight on how much the tribes can charge their customers.
The same Pew study found something interesting, and that is the fact that only 16% of all surveyed payday borrowers actually use the borrowed funds for a special event like a car that breaks down, an emergency medical cost or a checking account that is about to be closed. The rest of the borrowers are using the funds to cover regular utility bills or some other recurring expense.
One side note here about this site, Native Loans and it's going to be a little pat on the back from ourselves to our own estimates. Back in 2012, long before this Pew study was released, we predicted that the number of borrowers who were actually in special need of the funds, for a major life or financial event, was about 15% of all borrowers. It turns out we were wrong by only 1% according to this study.
The problem is that the loan seems almost reasonable when a customer signs on the line for their new debt. Just like any loan there is an interest rate, and when a tribal lender says that the customer will have to pay 25% or 30% on a $300 loan it doesn't look too bad because 25% of $300 is only $75.
Most people, especially after their payday, would be able to come up with $75 at a minimum. But the difficulty comes in where the customer also has to repay the original loan amount of $300 as well. Now the fact that the customer needed to borrow the $300 only 14 days earlier, it is counterintuitive to believe they would automatically now be able to give back (pay back) the $300 principal amount. Most of the time the customer is not in this financial shape and it will be trouble for them to do so.
This is where the payday lenders became really smart in the last few years. They inform the customer that they don't need to repay that "big" capital repayment but instead can choose to simply pay back the $75 finance charge for the time the loan was outstanding. And you can see where this is going to go, the customer pays the minimum on their payday and then after another 14 days go by (on the next pay date) the customer again goes for what appears to be the "easy" option of only paying the minimum of 75. The pattern gets locked in, and this happens on a 3rd pay date, then the 4th payday and so on. It is too easy for a customer who is in bad financial shape to just keep rolling the loan over so they can 'get by' with just paying the minimum finance charge.
It's not just individuals, consumer groups and the federal government who are fighting back against this legal yet questionable loan practice. Several states are taking action or considering taking action against tribal lenders. Now whether or not they have the legal authority to make these new rules enforceable is another (and extremely involved and contentious) issue.
There are a few ways some states are using (attempting) to resist the revolving debt that traps millions of Americans each year. Usually revolving debt is thought of as credit card debt but these payday loans (tribal and state licensed) is almost as bad as the credit card industry.
Below are some states that in the process of taking action...
Maine has a new law that makes issuing a payday loan without the proper licensing a violation which can lead to substantial fines, which is no doubt an unofficial warning to Native American lenders and potentially offshore lenders as well.
Utah, which is now going to provide borrowers time to pay off loans with no interest charges after they make 10 weeks of payments, which is equivalent to making five payments with interest being charged. Just an aside, if the lender charges 30% interest on a bi-weekly basis and the borrower makes five of those payments, then the lender has already made 150% back on the loan in profit. This is before the customer has even paid a dime back in on the principal amount.
Mississippi, which is trying to pass a bill that would limit the amount of interest any unsecured lender could charge to any (credit rated or otherwise) customer to 25% APR.
Louisiana is fumbling around trying to determine what to do, and the options being proposed include creating a borrower registry database, capping interest rates and/or limiting the number of loans a borrower can have at a given time.
Idaho is considering a new program that would only allow a digital version of a consumer's check to be presented a single time. Many short-term lenders will request (demand) a physical check or a check number from the checking account of the customer and then keep submitting that same check over and over again for the digital payment method the customer agreed to use when the loan was first granted. By making it a one time transaction this would limit the ability of the payday lender to get repaid if they offered an extension on a payday loan beyond the first (and only scheduled) pay period.
Alabama, which is working to create (make legal) a database of all borrowers in the state and potentially put limits based on the findings that follow.
The mood of the nation is pretty clear. Whether it's federal court decisions that they lose, consumer groups that continually push for change, individual lawsuits or state governments, the momentum is flowing against the Native American lenders in 2015. In the coming years we may see some serious legal push back against these unregulated and very expensive loans.