A new study by the Consumer Financial Protection Bureau (CFPB) should catch the attention of anyone advocating for stronger regulation of the payday loan industry and deposit advances. Initial findings were recently released under the title Payday Loans and Deposit Advance Products. According to CFED, it is one of the most comprehensive studies conducted on the subject so far, as it included data on millions of borrowers. As stated by CFPB Director Richard Cordray, the study shows common industry practices put consumers at long-term financial risk and often serve as “debt traps” instead of a simple short-term, emergency loan. The individual who borrows the money may find it necessary to take out another loan to pay off the first, and it creates a cycle of indebtedness.
Today’s blog post will concentrate on the payday lending portion of the report. As the name suggests, payday loans are often due by the borrower’s next pay period. These loans exploit a considerable number of low-income borrowers who lack the cash flow to quickly dig themselves out of short-term loan as the extra fees quickly accumulate. The average annual income for a borrower was found to be $26,167, but a quarter of borrowers report an annual income of $14,172 or lower. Three quarters of those borrowing money were employed full- or part-time, and the rest had fixed incomes due to retirement, disability or other assistance.
Borrowers are often repeat customers, as they take out new loans to cover old loans, or pay a fee to rollover loans when unable to repay on time. When the study examined the frequency and total fees paid over time they found the average borrower had 10.7 payday loans transactions over the course of 12 months. This resulted in an average of $574 in fees paid per borrower.
According to the CFPB, the length of time a borrower spends in debt depends on three factors: 1) the number of transactions conducted; 2) the number of days until each loan is due; and 3) whether consumers have delinquent debt outstanding beyond the contract’s end date. The average borrower in this study was indebted roughly 54% of the year, or 196 days. However, a quarter of borrowers found themselves indebted 302 days, or 83%, of the year.
This situation has lasting negative impacts on family finances. When low-income households get caught in a cycle of payday loan debt, they are losing more than the money they spend on fees and interest. They are also losing the potential to build assets that can provide more money for long-term needs. The average amount of fees paid per year, $574, could have been devoted to college savings, retirement or other investments. Instead of paying for past emergencies, families could be saving for a better future if policymakers worked to protect consumers and connect more low-income families to mainstream financial services.
In order to prevent more individuals from falling into a cycle of debt, advocates are pushing to strengthen existing laws, or in many states enact new laws, regulating the practices of the payday loan industry. Some may try to defend payday lending by minimizing the impact of fees or playing up the idea that this is a great service for people with emergencies. However, policy experts have debunked many of those claims, most importantly with respect to Oklahoma where the problem is especially prevalent. (See OK Policy Blog’s 2012 post, Payday Loans: Myths and Realities.)
CAP wrote an Issue Brief on the subject in 2005, with recommendations on how Oklahoma could protect consumers by limiting the frequency and the amount of fees allowed under state law. Positive payday loan reforms could have a considerable impact here in the Sooner state, as Oklahoma had the highest usage rate of payday loans in the country, as reported last year by the Pew Charitable Trusts. (For my previous post about that data click here)
- For more coverage on the new CFPB report, check out recent articles from the New York Times, the Washington Post and Consumer Affairs.