Why the Cash Advance Industry Should Be Regulated
Federal regulations on the financial industry were few prior to the 20th century. However, in recent years, the government has become increasingly aggressive in regulating the financial industry. Federal efforts became even more intense following the financial crisis of 2008, which was described by the New York Times as “avoidable.” Excessive risk-taking, lacking of government regulation, sub-prime lending and company mismanagement have been blamed as the major contributors to the crisis.
As part of the recovery effort and to ensure that such a crisis could not happen again, the White House announced that President Obama had signed the Dodd-Frank Act into law. The act included reforms for Wall Street, but it also contained measures for consumer protection. It created the Consumer Financial Protection Bureau, or CFPB, to protect Americans from being exploited by lenders whether these lenders were mortgage companies or payday loan stores.
Certainly, cash advance or payday lenders should comply with truth-in-lending regulations. Borrowers should be advised of the interest rates and/or fees prior to signing the contract, receive copies of every document they sign and be informed of all terms and conditions of the loan. However, some cash advance lenders have failed to disclose pertinent information and been guilty of misleading borrowers. This has led to ever-increasing criticism of the payday loan industry and calls for more regulations.
CFPB Calls Payday Loans “Debt Traps”
In March 2014, the CFPB released the results of a study on payday lending. The report stated that 80 percent of all payday loans were renewed or rolled over within 14 days. Just 15 percent pay off their loans when they are due without entering into another cash advance agreement within two weeks. Approximately 60 percent of the borrowers renew their loans so many times that they end up paying more in fees than the amount borrowed. Among borrowers who received their pay monthly, 20 percent remained in debt to a payday lender for the entire 12 months of the study. Richard Cordray, director of the CFPB, expressed concern that many borrowers were sliding into the “debt traps” that cash advance loans can become.
Many Customers Racking Up Large Bank Fees
In addition to the fees paid to the payday lender, a 2016 report from the CFPB found that approximately half of borrowers accumulate bank fees averaging $185. When lenders attempt to debit the borrower’s account or deposit the post-dated check, banks will charge a fee if the attempt fails or results in an overdraft. Lenders will make multiple attempts to collect, sometimes splitting a payment into smaller amounts for resubmission in the hope that at least some of the debt can be collected. Each failed attempt will result in a bank fee. Furthermore, 36 percent of online borrowers had their bank accounts involuntarily closed as a result of incurring too many penalty fees or having a negative balance.
Lack of Borrower Understanding Prevalent with Cash Advances
An article appearing in the Harvard Business Law Review claims that transparency is lacking, leading to poor understanding by borrowers of how the loan works. The author interviewed payday loan customers as they left the store and discovered a basic lack of understanding as well as some misconceptions. Among the examples cited were customers who claimed that they were never shown the fees or rates; documents were given to the borrower in a sealed envelope. Other borrowers were clueless regarding the annual percentage rate, believed a payday loan was cheaper than taking a cash advance on a credit card or claimed that the stated APR on their contract was obviously just an error.
Borrowers Using Payday Loans for Non-Emergencies
Advertisements for payday lenders frequently mention the ease of obtaining a loan in the event of an emergency. However, the aforementioned Harvard Business Law Review article reported that most borrowers are using the loan for non-emergencies. Often they are low-income workers who live from paycheck to paycheck, and they need the money to pay rent, buy groceries or pay a utility bill. Interestingly, when the author questioned why borrowers who could have taken a cash advance on their credit cards chose a payday loan instead, most stated that they only used credit cards for emergencies.
Regulation is Needed for Cash Advance Industry — But How Much is Too Much?
Consumers could benefit from some oversight of the cash advance industry. The issue is how stringently payday lenders should be regulated. Proposed regulations could put many lenders out of business, depriving those who use payday loans responsibly of an important source of credit. The federal government as well as state legislators must find compromises that protect both the borrowers and the lenders.
The issue of payday lending is complex. If you would like to explore the topic further, you can read more articles at http://personalmoneystore.com.