![Payday loan shop window](https://upload.wikimedia.org/wikipedia/commons/c/c3/Payday_loan_shop_window.jpg)
A payday loan (also called a payday advance, salary loan, payroll loan, small dollar loan, short term, or cash advance loan) is a short-term
unsecured loan
In finance, unsecured debt refers to any type of debt or general obligation that is not protected by a guarantor, or collateralized by a lien on specific assets of the borrower in the case of a bankruptcy or liquidation or failure to meet the t ...
, often characterized by high interest rates.
The term "payday" in payday loan refers to when a borrower writes a postdated check to the lender for the payday salary, but receives part of that payday sum in immediate cash from the lender.
However, in common parlance, the concept also applies regardless of whether repayment of loans is linked to a borrower's payday. The loans are also sometimes referred to as "
cash advance
A credit card is a payment card issued to users (cardholders) to enable the cardholder to pay a merchant for goods and services based on the cardholder's accrued debt (i.e., promise to the card issuer to pay them for the amounts plus the ot ...
s", though that term can also refer to cash provided against a prearranged line of credit such as a
credit card
A credit card is a payment card issued to users (cardholders) to enable the cardholder to pay a merchant for goods and services based on the cardholder's accrued debt (i.e., promise to the card issuer to pay them for the amounts plus the o ...
. Legislation regarding payday loans varies widely between different countries, and in federal systems, between different states or provinces.
To prevent
usury
Usury () is the practice of making unethical or immoral monetary loans that unfairly enrich the lender. The term may be used in a moral sense—condemning taking advantage of others' misfortunes—or in a legal sense, where an interest rate is ch ...
(unreasonable and excessive rates of interest), some jurisdictions limit the
annual percentage rate
The term annual percentage rate of charge (APR), corresponding sometimes to a nominal APR and sometimes to an effective APR (EAPR), is the interest rate for a whole year (annualized), rather than just a monthly fee/rate, as applied on a loan, mort ...
(APR) that any lender, including payday lenders, can charge. Some jurisdictions outlaw payday lending entirely, and some have very few restrictions on payday lenders.
Payday loans have been linked to higher default rates.
History
According to a 2007 study by economist Michael A. Stegman, payday loan firms were extremely rare prior to the 1990s, but have grown substantially since then.
Impact
A 2019 study found that payday loans in the United States "increase personal bankruptcy rates by a factor of two ... by worsening the cash flow position of the household."
A second 2019 study looking at the UK found that payday loans "cause persistent increases in defaults and cause consumers to exceed their bank overdraft limits."
The loan process
The basic loan process involves a lender providing a short-term unsecured loan to be repaid at the borrower's next payday. Typically, some verification of employment or income is involved (via
pay stub
A paycheck, also spelled paycheque, pay check or pay cheque, is traditionally a paper document (a cheque) issued by an employer to pay an employee for services rendered. In recent times, the physical paycheck has been increasingly replaced by el ...
s and bank statements), although according to one source, some payday lenders do not verify income or run credit checks.
Individual companies and
franchises
Franchise may refer to:
Business and law
* Franchising, a business method that involves licensing of trademarks and methods of doing business to franchisees
* Franchise, a privilege to operate a type of business such as a cable television p ...
have their own underwriting criteria.
In the traditional retail model, borrowers visit a payday lending store and secure a small cash loan, with payment due in full at the borrower's next paycheck. The borrower writes a
postdated check In banking, a post-dated cheque is a cheque written by the drawer (payer) for a date in the future.
Whether a post-dated cheque may be cashed or deposited before the date written on it depends on the country. A Canadian bank, for example, is not ...
to the lender in the full amount of the loan plus fees. On the
maturity date
Maturity or immaturity may refer to:
* Adulthood or age of majority
* Maturity model
** Capability Maturity Model, in software engineering, a model representing the degree of formality and optimization of processes in an organization
* Development ...
, the borrower is expected to return to the store to repay the loan in person. If the borrower does not repay the loan in person, the lender may redeem the check. If the account is short on funds to cover the check, the borrower may now face a bounced check fee from their bank in addition to the costs of the loan, and the loan may incur additional fees or an increased interest rate (or both) as a result of the failure to pay.
In the more recent innovation of online payday loans, consumers complete the loan application online (or in some instances via
fax
Fax (short for facsimile), sometimes called telecopying or telefax (the latter short for telefacsimile), is the telephonic transmission of scanned printed material (both text and images), normally to a telephone number connected to a printer o ...
, especially where documentation is required). The funds are then transferred by
direct deposit
A direct deposit (or direct credit), in banking, is a deposit of money by a payer directly into a payee's bank account. Direct deposits are most commonly made by businesses in the payment of salaries and wages and for the payment of suppliers' acco ...
to the borrower's account, and the loan repayment and/or the finance charge is electronically withdrawn on the borrower's next payday.
User demographics and reasons for borrowing
According to a study by
The Pew Charitable Trusts
The Pew Charitable Trusts is an independent non-profit, non-governmental organization (NGO), founded in 1948.
With over 6 billion in assets, its stated mission is to serve the public interest by "improving public policy, informing the public, a ...
, "Most payday loan borrowers
n the United States
N, or n, is the fourteenth letter in the Latin alphabet, used in the modern English alphabet, the alphabets of other western European languages and others worldwide. Its name in English is ''en'' (pronounced ), plural ''ens''.
History
...
are white, female, and are 25 to 44 years old. However, after controlling for other factors, there are five groups that have higher odds of having used a payday loan: those without a four-year college degree; home renters; African Americans; those earning below $40,000 annually; and those who are separated or divorced." Most borrowers use payday loans to cover ordinary living expenses over the course of months, not unexpected emergencies over the course of weeks. The average borrower is indebted about five months of the year.
["Payday Lending in America: Who Borrows, Where They Borrow, and Why"](_blank)
Pew Charitable Trusts, July 18, 2012
This reinforces the findings of the U.S.
Federal Deposit Insurance Corporation
The Federal Deposit Insurance Corporation (FDIC) is one of two agencies that supply deposit insurance to depositors in American depository institutions, the other being the National Credit Union Administration, which regulates and insures cred ...
(FDIC) study from 2011 which found black and Hispanic families, recent immigrants, and single parents were more likely to use payday loans. In addition, their reasons for using these products were not as suggested by the payday industry for one time expenses, but to meet normal recurring obligations.
Research for the Illinois Department of Financial and Professional Regulation found that a majority of Illinois payday loan borrowers earn $30,000 or less per year. Texas' Office of the Consumer Credit Commissioner collected data on 2012 payday loan usage, and found that refinances accounted for $2.01 billion in loan volume, compared with $1.08 billion in initial loan volume. The report did not include information about annual indebtedness. A letter to the editor from an industry expert argued that other studies have found that consumers fare better when payday loans are available to them. Pew's reports have focused on how payday lending can be improved, but have not assessed whether consumers fare better with or without access to high-interest loans. Pew's demographic analysis was based on a
random digit dialing Random digit dialing (RDD) is a method for selecting people for involvement in telephone statistical surveys by generating telephone numbers at random. Random digit dialing has the advantage that it includes unlisted numbers that would be missed if ...
survey of 33,576 people, including 1,855 payday loan borrowers.
In another study, by Gregory Elliehausen, Division of Research of the Federal Reserve System and Financial Services Research Program at the
George Washington University School of Business
The George Washington University School of Business (known as GW School of Business or GWSB) is the professional business school of George Washington University in Washington, D.C. The GW School of Business is ranked as one of the top business sch ...
, 41% earn between $25,000 and $50,000, and 39% report incomes of $40,000 or more. 18% have an income below $25,000.
Criticism
In the
UK Sarah-Jayne Clifton of the
Jubilee Debt Campaign Debt Justice (formerly Jubilee Debt Campaign, Jubilee Debt Coalition and Drop The Debt) is a UK-based campaigning organisation that exists to end unjust developing countries' debt and the poverty and inequality it perpetuates. The organisation’s ...
said, "
austerity
Austerity is a set of political-economic policies that aim to reduce government budget deficits through spending cuts, tax increases, or a combination of both. There are three primary types of austerity measures: higher taxes to fund spend ...
, low wages, and insecure work are driving people to take on high cost debt from rip-off lenders just to put food on the table. We need the government to take urgent action, not only to rein in rip-off lenders, but also to tackle the
cost of living crisis and cuts to social protection that are driving people towards the loan sharks in the first place."
Draining money from low-income communities
The likelihood that a family will use a payday loan increases if they are
unbanked
The unbanked are adults who do not have their own bank accounts. Along with the underbanked, they may rely on alternative financial services for their financial needs, where these are available.
Causes
Some reasons a person might not have a bank ...
or
underbanked The underbanked is a characteristic describing people or organizations who do not (or volunteer to not) have sufficient access to mainstream financial services and products typically offered by retail banks and thus often deprived of banking servic ...
, or lack access to a traditional deposit bank account. In an American context the families who will use a payday loan are disproportionately either of black or Hispanic descent, recent immigrants, and/or undereducated.
These individuals are least able to secure normal, lower interest rate forms of credit. Since payday lending operations charge higher interest rates than traditional banks (with notable exceptions, e.g., Barclays and Nationwide charge 35% and 39.99%, respectively), they have the effect of depleting the assets of low-income communities. The Insight Center, a consumer advocacy group, reported in 2013 that payday lending cost U.S communities $774 million a year.
A report from the
Federal Reserve Bank of New York
The Federal Reserve Bank of New York is one of the 12 Federal Reserve Banks of the United States. It is responsible for the Second District of the Federal Reserve System, which encompasses the State of New York, the 12 northern counties of New ...
concluded that, "We ... test whether payday lending fits our definition of predatory. We find that in states with higher payday loan limits, less educated households and households with uncertain income are less likely to be denied credit, but are not more likely to miss a debt payment. Absent higher delinquency, the extra credit from payday lenders does not fit our definition of predatory." The caveat to this is that with a term of under 30 days there are no payments, and the lender is more than willing to roll the loan over at the end of the period upon payment of another fee. The report goes on to note that payday loans are extremely expensive, and borrowers who take a payday loan are at a disadvantage in comparison to the lender, a reversal of the normal consumer lending information asymmetry, where the lender must underwrite the loan to assess creditworthiness.
A recent law journal note summarized the justifications for regulating payday lending. The summary notes that while it is difficult to quantify the impact on specific consumers, there are external parties who are clearly affected by the decision of a borrower to get a payday loan. Most directly impacted are the holders of other low interest debt from the same borrower, which now is less likely to be paid off since the limited income is first used to pay the fee associated with the payday loan. The external costs of this product can be expanded to include the businesses that are not patronized by the cash-strapped payday customer to the children and family who are left with fewer resources than before the loan. The external costs alone, forced on people given no choice in the matter, may be enough justification for stronger regulation even assuming that the borrower him or herself understood the full implications of the decision to seek a payday loan.
Payday lenders have also been criticized for perpetuating a cycle of debt in their users as they leave people with less money overall. While most payday loans advertise themselves as "the solution to life's little surprises", this is rarely the case; 69% of payday loans are taken out to cover everyday recurring expenses such as electricity bills, gas, or groceries.
This perpetuates the cycle of debt as payday lenders are more likely to resort to payday loans again once they are charged with the same recurring expense in the next few months.
Advertising practices
In May 2008, the debt charity Credit Action made a complaint to the
United Kingdom
The United Kingdom of Great Britain and Northern Ireland, commonly known as the United Kingdom (UK) or Britain, is a country in Europe, off the north-western coast of the continental mainland. It comprises England, Scotland, Wales and North ...
Office of Fair Trading
The Office of Fair Trading (OFT) was a non-ministerial government department of the United Kingdom, established by the Fair Trading Act 1973, which enforced both consumer protection and competition law, acting as the United Kingdom's economic ...
(OFT) that payday lenders were placing advertising which violated advertising regulations on the
social network
A social network is a social structure made up of a set of social actors (such as individuals or organizations), sets of dyadic ties, and other social interactions between actors. The social network perspective provides a set of methods for an ...
website
Facebook
Facebook is an online social media and social networking service owned by American company Meta Platforms. Founded in 2004 by Mark Zuckerberg with fellow Harvard College students and roommates Eduardo Saverin, Andrew McCollum, Dustin M ...
. The main complaint was that the
APR was either not displayed at all or not displayed prominently enough, which is clearly required by UK advertising standards.
In 2016, Google announced that it would ban all ads for payday loans from its systems, defined as loans requiring repayment within 60 days or (in the US) having an APR of 36% or more.
Unauthorized clone firms
In August 2015, the
Financial Conduct Authority
The Financial Conduct Authority (FCA) is a financial regulation, financial regulatory body in the United Kingdom, but operates independently of the UK Government, and is financed by charging fees to members of the financial services industry. The ...
(FCA) of the United Kingdom has announced that there has been an increase of unauthorized firms, also known as 'clone firms', using the name of other genuine companies to offer payday loan services. Therefore, acting as a clone of the original company, such as the case of Payday Loans Now. The FCA strongly advised to verify financial firms by using the Financial Services Register, prior to participating in any sort of monetary engagement.
Aggressive collection practices
In US law, a payday lender can use only the same industry standard
collection
Collection or Collections may refer to:
* Cash collection, the function of an accounts receivable department
* Collection (church), money donated by the congregation during a church service
* Collection agency, agency to collect cash
* Collectio ...
practices used to collect other debts, specifically standards listed under the
Fair Debt Collection Practices Act
The Fair Debt Collection Practices Act (FDCPA), Pub. L. 95-109; 91 Stat. 874, codified as –1692p, approved on September 20, 1977 (and as subsequently amended) is a consumer protection amendment, establishing legal protection from abusive deb ...
(FDCPA). The FDCPA prohibits debt collectors from using abusive, unfair, and deceptive practices to collect from debtors. Such practices include calling before 8 o'clock in the morning or after 9 o'clock at night, or calling debtors at work.
In many cases, borrowers write a
post-dated check In banking, a post-dated cheque is a cheque written by the drawer (payer) for a date in the future.
Whether a post-dated cheque may be cashed or deposited before the date written on it depends on the country. A Canadian bank, for example, is not ...
to the lender; if the borrowers do not have enough money in their account by the check's date, their check will bounce. In Texas, payday lenders are prohibited from suing a borrower for theft if the check is post-dated. One payday lender in the state instead gets their customers to write checks dated for the day the loan is given. Customers borrow money because they do not have any, so the lender accepts the check knowing that it would bounce on the check's date. If the borrower fails to pay on the due date, the lender sues the borrower for writing a
hot check
Dishonoured cheques (also spelled check) are cheques that a bank on which is drawn declines to pay (“honour”). There are a number of reasons why a bank would refuse to honour a cheque, with non-sufficient funds (NSF) being the most common one ...
.
Payday lenders will attempt to collect on the consumer's obligation first by simply requesting payment. If internal collection fails, some payday lenders may outsource the debt collection, or sell the debt to a third party.
A small percentage of payday lenders have, in the past, threatened delinquent borrowers with criminal prosecution for check fraud. This practice is illegal in many jurisdictions and has been denounced by the
Community Financial Services Association of America
The Community Financial Services Association of America (CFSA) is a trade association in the United States representing the payday lending industry.
Controversy
The payday lending industry has been the source of ongoing controversy due to its lo ...
, the industry's trade association.
Pricing structure of payday loans
The payday lending industry argues that conventional interest rates for lower dollar amounts and shorter terms would not be profitable. For example, a $100 one-week loan, at a 20% APR (
compounded weekly) would generate only 38 cents of interest, which would fail to match loan processing costs. Research shows that, on average, payday loan prices moved upward, and that such moves were "consistent with implicit collusion facilitated by price focal points".
Consumer advocates and other experts argue, however, that payday loans appear to exist in a classic market failure. In a perfect market of competing sellers and buyers seeking to trade in a rational manner, pricing fluctuates based on the capacity of the market. Payday lenders have no incentive to price their loans competitively since loans are not capable of being patented. Thus, if a lender chooses to innovate and reduce cost to borrowers in order to secure a larger share of the market, the competing lenders will instantly do the same, negating the effect. For this reason, among others, all lenders in the payday marketplace charge at or very near the maximum fees and rates allowed by local law.
Proponents' stance and counterarguments
Industry profitability
In a profitability analysis by ''Fordham Journal of Corporate & Financial Law'', it was determined that the average profit margin from seven publicly traded payday lending companies (including pawn shops) in the U.S. was 7.63%, and for pure payday lenders it was 3.57%. These averages are less than those of other traditional lending institutions such as credit unions and banks.
Comparatively the profit margin of Starbucks for the measured time period was just over 9%, and comparison lenders had an average profit margin of 13.04%. These comparison lenders were mainstream companies:
Capital One
Capital One Financial Corporation is an American bank holding company specializing in credit cards, auto loans, banking, and savings accounts, headquartered in McLean, Virginia with operations primarily in the United States. It is on the list o ...
,
GE Capital
GE Capital is the financial services division of General Electric.
The company currently only runs one division, GE Energy Financial Services. It had provided additional services in the past; however, those units were sold between 2013 and 2018 ...
,
HSBC
HSBC Holdings plc is a British multinational universal bank and financial services holding company. It is the largest bank in Europe by total assets ahead of BNP Paribas, with US$2.953 trillion as of December 2021. In 2021, HSBC had $10.8 tri ...
,
Moneytree
Moneytree, Inc. is a retail financial services provider headquartered in Tukwila, Washington, with branches in Washington, California, Colorado, Idaho, Nevada, and British Columbia. Moneytree offers payday loans, installment loans, prepaid debi ...
, and
American Express Credit.
Charges are in line with costs
A study by the
FDIC
The Federal Deposit Insurance Corporation (FDIC) is one of two agencies that supply deposit insurance to depositors in American depository institutions, the other being the National Credit Union Administration, which regulates and insures credi ...
Center for Financial Research found that "operating costs are not that out of line with the size of advance fees" collected and that, after subtracting fixed operating costs and "unusually high rate of default losses", payday loans "may not necessarily yield extraordinary profits."
However, despite the tendency to characterize payday loan default rates as high, several researchers have noted that this is an artifact of the normal short term of the payday product, and that during the term of loans with longer periods there are frequently points where the borrower is in default and then becomes current again. Actual charge offs are no more frequent than with traditional forms of credit, as the majority of payday loans are rolled over into new loans repeatedly without any payment applied to the original principal.
The propensity for very low default rates seems to be an incentive for investors interested in payday lenders. In the Advance America 10-k SEC filing from December 2011 they note that their agreement with investors, "limits the average of actual charge-offs incurred during each fiscal month to a maximum of 4.50% of the average amount of adjusted transaction receivables outstanding at the end of each fiscal month during the prior twelve consecutive months". They go on to note that for 2011 their average monthly receivables were $287.1 million and their average charge-off was $9.3 million, or 3.2%.
In comparison with traditional lenders, payday firms also save on costs by not engaging in traditional forms of underwriting, relying on their easy rollover terms and the small size of each individual loan as method of diversification eliminating the need for verifying each borrower's ability to repay. It is perhaps due to this that payday lenders rarely exhibit any real effort to verify that the borrower will be able to pay the principal on their payday in addition to their other debt obligations.
Markets provide services otherwise unavailable
Proponents of minimal regulations for payday loan businesses argue that some individuals that require the use of payday loans have already exhausted other alternatives. Such consumers could potentially be forced to illegal sources if not for payday loans. Tom Lehman, an advocate of payday lending, said:
:... payday lending services extend small amounts of uncollateralized credit to high-risk borrowers, and provide loans to poor households when other financial institutions will not. Throughout the past decade, this "democratization of credit" has made small loans available to mass sectors of the population, and particularly the poor, that would not have had access to credit of any kind in the past.
These arguments are countered in two ways. First, the history of borrowers turning to illegal or dangerous sources of credit seems to have little basis in fact according to Robert Mayer's 2012 "Loan Sharks, Interest-Rate Caps, and Deregulation". Outside of specific contexts, interest rates caps had the effect of allowing small loans in most areas without an increase of "loan sharking". Next, since 80% of payday borrowers will roll their loan over at least one time
because their income prevents them from paying the principal within the repayment period, they often report turning to friends or family members to help repay the loan according to a 2012 report from the Center for Financial Services Innovation. In addition, there appears to be no evidence of unmet demand for small dollar credit in states which prohibit or strictly limit payday lending.
A 2012 report produced by the
American libertarian
In the United States, libertarianism is a political philosophy promoting individual liberty. According to common meanings of conservatism and liberalism in the United States, libertarianism has been described as ''conservative'' on economic iss ...
think tank
A think tank, or policy institute, is a research institute that performs research and advocacy concerning topics such as social policy, political strategy, economics, military, technology, and culture. Most think tanks are non-governmenta ...
Cato Institute
The Cato Institute is an American libertarian think tank headquartered in Washington, D.C. It was founded in 1977 by Ed Crane, Murray Rothbard, and Charles Koch, chairman of the board and chief executive officer of Koch Industries.Koch Indust ...
found that the cost of the loans is overstated, and that payday lenders offer a product traditional lenders simply refuse to offer. However, the report is based on 40 survey responses collected at a payday storefront location. The report's author, Victor Stango, was on the board of the Consumer Credit Research Foundation (CCRF), an organization funded by payday lenders, until 2015, and he received $18,000 in payments from CCRF in 2013.
Household welfare increased
A staff report released by the
Federal Reserve Bank of New York
The Federal Reserve Bank of New York is one of the 12 Federal Reserve Banks of the United States. It is responsible for the Second District of the Federal Reserve System, which encompasses the State of New York, the 12 northern counties of New ...
concluded that payday loans should not be categorized as "predatory" since they may improve household welfare. "Defining and Detecting Predatory Lending" reports "if payday lenders raise household welfare by relaxing credit constraints, anti-predatory legislation may lower it." The author of the report, Donald P. Morgan, defined predatory lending as "a welfare reducing provision of credit". However, he also noted that the loans are very expensive, and that they are likely to be made to under-educated households or households of uncertain income.
Brian Melzer of the
Kellogg School of Management
The Kellogg School of Management at Northwestern University (also known as Kellogg) is the business school of Northwestern University, a private research university in Evanston, Illinois. Founded in 1908, Kellogg is one of the oldest and most p ...
at Northwestern University found that payday loan users did suffer a reduction in their household financial situation, as the high costs of repeated rollover loans impacted their ability to pay recurring bills such as utilities and rent. This assumes a payday user will rollover their loan rather than repay it, which has been shown both by the FDIC and the Consumer Finance Protection bureau in large sample studies of payday consumers
Petru Stelian Stoianovici, a researcher from
Charles River Associates
Charles River Associates (legally CRA International, Inc.) is a global consulting firm headquartered in Boston.
Practice areas
Their practices include: aerospace & defense, antitrust & competition economics, auctions & competitive bidding, climat ...
, and Michael T. Maloney, an economics professor from
Clemson University
Clemson University () is a public land-grant research university in Clemson, South Carolina. Founded in 1889, Clemson is the second-largest university in the student population in South Carolina. For the fall 2019 semester, the university enro ...
, found "no empirical evidence that payday lending leads to more bankruptcy filings, which casts doubt on the
debt trap
Usury () is the practice of making unethical or immoral monetary loans that unfairly enrich the lender. The term may be used in a moral sense—condemning taking advantage of others' misfortunes—or in a legal sense, where an interest rate is ch ...
argument against payday lending."
The report was reinforced by a Federal Reserve Board (FRB) 2014 study which found that while bankruptcies did double among users of payday loans, the increase was too small to be considered significant. The same FRB researchers found that payday usage had no positive or negative impact on household welfare as measured by credit score changes over time.
Aid in disaster areas
A 2009 study by
University of Chicago Booth School of Business
The University of Chicago Booth School of Business (Chicago Booth or Booth) is the graduate business school of the University of Chicago. Founded in 1898, Chicago Booth is the second-oldest business school in the U.S. and is associated with 10 N ...
Professor Adair Morse found that in natural disaster areas where payday loans were readily available consumers fared better than those in disaster zones where payday lending was not present. Not only were fewer foreclosures recorded, but such categories as birth rate were not affected adversely by comparison. Moreover, Morse's study found that fewer people in areas served by payday lenders were treated for drug and alcohol addiction.
Country specific
Australia
Prior to 2009 regulation of consumer credit was primarily conducted by the states and territories. Some states such as
New South Wales
)
, nickname =
, image_map = New South Wales in Australia.svg
, map_caption = Location of New South Wales in AustraliaCoordinates:
, subdivision_type = Country
, subdivision_name = Australia
, established_title = Before federation
, es ...
and
Queensland
)
, nickname = Sunshine State
, image_map = Queensland in Australia.svg
, map_caption = Location of Queensland in Australia
, subdivision_type = Country
, subdivision_name = Australia
, established_title = Before federation
, established_ ...
legislated effective annual interest rate caps of 48%. In 2008 the Australian states and territories referred powers of consumer credit to the Commonwealth. In 2009 the ''
National Consumer Credit Protection Act 2009
The National Consumer Credit Protection Act 2009 (NCCP Act) is an Australian Federal law
Federal law is the body of law created by the federal government of a country. A federal government is formed when a group of political units, such as st ...
'' (Cth) was introduced, which initially treated payday lenders no differently from all other lenders. In 2013 Parliament tightened regulation on the payday lending further introducing the ''Consumer Credit and Corporations Legislation Amendment (Enhancements) Act 2012'' (Cth) which imposed an effective
APR cap of 48% for all consumer credit contracts (inclusive of all fees and charges). Payday lenders who provided a loan falling within the definition of a small amount credit contract (SACC), defined as a contract provided by a non authorised-deposit taking institution for less than $2,000 for a term between 16 days and 1 year, are permitted to charge a 20% establishment fee in addition to monthly (or part thereof) fee of 4% (effective 48% p.a.). Payday lenders who provide a loan falling within the definition of a medium amount credit contract (MACC), defined as a credit contract provided by a non-deposit taking institution for between $2,000–$5,000 may charge a $400 establishment fee in addition to the statutory interest rate cap of 48%. Payday lenders are still required to comply with Responsible lending obligations applying to all creditors. Unlike other jurisdictions Australian payday lenders providing SACC or MACC products are not required to display their fees as an effective annual interest rate percentage.
Canada
Bill C28 supersedes the
Criminal Code of Canada
The ''Criminal Code'' (french: Code criminel)The citation of this Act by these short titles is authorised by thEnglishantexts of section 1. is a law that codifies most criminal offences and procedures in Canada. Its official long title is ''An ...
for the purpose of exempting Payday loan companies from the law, if the provinces passed legislation to govern payday loans. Payday loans in Canada are governed by the individual provinces. All provinces, except Newfoundland and Labrador, have passed legislation. For example, in Ontario loans have a maximum rate of 14.299% Effective Annual Rate (EAR) ($21 per $100, over two weeks). As of 2017, major payday lenders have reduced the rate to $18 per $100, over two weeks.
United Kingdom
The
Financial Conduct Authority
The Financial Conduct Authority (FCA) is a financial regulation, financial regulatory body in the United Kingdom, but operates independently of the UK Government, and is financed by charging fees to members of the financial services industry. The ...
(FCA) estimates that there are more than 50,000 credit firms that come under its widened remit, of which 200 are payday lenders. Payday loans in the
United Kingdom
The United Kingdom of Great Britain and Northern Ireland, commonly known as the United Kingdom (UK) or Britain, is a country in Europe, off the north-western coast of the continental mainland. It comprises England, Scotland, Wales and North ...
are a rapidly growing industry, with four times as many people using such loans in 2009 compared to 2006 – in 2009 1.2 million people took out 4.1 million loans, with total lending amounting to £1.2 billion.
[Marie Burton, ]Consumer Focus
The New National Consumer Council, operating as Consumer Futures, was a non-departmental public body and statutory consumer organisation in England, Wales, Scotland, and, for postal services, Northern Ireland. It was established by the Consumers, ...
Keeping the plates spinning: Perceptions of payday loans in Great Britain
/ref> In 2012, it is estimated that the market was worth £2.2 billion and that the average loan size was around £270. Two-thirds of borrowers have annual incomes below £25,000. There are no restrictions on the interest rates payday loan companies can charge, although they are required by law to state the effective annual percentage rate
The term annual percentage rate of charge (APR), corresponding sometimes to a nominal APR and sometimes to an effective APR (EAPR), is the interest rate for a whole year (annualized), rather than just a monthly fee/rate, as applied on a loan, mort ...
(APR).[ In the early 2010s there was much criticism in Parliament of payday lenders.
In 2014 several firms were reprimanded and required to pay compensation for illegal practices; ]Wonga.com
Wonga.com, also known as Wonga, was a British payday loan firm that was founded in 2006. The company focused on offering short-term, high-cost loans to customers via online applications, and began processing its first loans in 2007. The firm op ...
for using letters untruthfully purporting to be from solicitors to demand payment—a formal police investigation for fraud was being considered in 2014—and Cash Genie, owned by multinational EZCorp, for a string of problems with the way it had imposed charges and collected money from borrowers who were in arrears.
Changes in the UK law
On 1 April 2014 there was a major overhaul in the way payday loans are issued and repaid.
First of all the FCA made sure all lenders can abide by two main goals;
*"to ensure that firms only lend to borrowers who can afford it", and
*"to increase borrowers' awareness of the cost and risk of borrowing unaffordably and ways to help if they have financial difficulties".
On top of the main goals Martin Wheatley, the FCA's chief executive officer, said:
:"For the many people that struggle to repay their payday loans every year this is a giant leap forward. From January next year, if you borrow £100 for 30 days and pay back on time, you will not pay more than £24 in fees and charges and someone taking the same loan for fourteen days will pay no more than £11.20. That’s a significant saving.
:"For those who struggle with their repayments, we are ensuring that someone borrowing £100 will never pay back more than £200 in any circumstance.
:"There have been many strong and competing views to take into account, but I am confident we have found the right balance.
:"Alongside our other new rules for payday firms – affordability tests and limits on rollovers and continuous payment authorities – the cap will help drive up standards in a sector that badly needs to improve how it treats its customers."
In order to achieve these goals the FCA has proposed the following:
*Initial cost cap of 0.8% per day,
*Fixed default fees capped at £15, and
*Total cost cap of 100%.
United States
In the United States, the rates of these loans used to be restricted in most states by the Uniform Small Loan Laws (USLL), with 36–40% APR generally the norm.
Payday loans are legal in 27 states, and 9 others allows some form of short term storefront lending with restrictions. The remaining 14 and the District of Columbia forbid the practice. The annual percentage rate
The term annual percentage rate of charge (APR), corresponding sometimes to a nominal APR and sometimes to an effective APR (EAPR), is the interest rate for a whole year (annualized), rather than just a monthly fee/rate, as applied on a loan, mort ...
(APR) is also limited in some jurisdictions to prevent usury. And in some states, there are laws limiting the number of loans a borrower can take at a single time.
As for federal regulation, the Dodd–Frank Wall Street Reform and Consumer Protection Act
The Dodd–Frank Wall Street Reform and Consumer Protection Act, commonly referred to as Dodd–Frank, is a United States federal law that was enacted on July 21, 2010. The law overhauled financial regulation in the aftermath of the Great Recessi ...
gave the Consumer Financial Protection Bureau
The Consumer Financial Protection Bureau (CFPB) is an agency of the United States government responsible for consumer protection in the financial sector. CFPB's jurisdiction includes banks, credit unions, securities firms, payday lenders, mortg ...
(CFPB) specific authority to regulate all payday lenders, regardless of size. Also, the Military Lending Act imposes a 36% rate cap on tax refund loans and certain payday and auto title loans made to active duty armed forces members and their covered dependents, and prohibits certain terms in such loans.
The CFPB has issued several enforcement actions against payday lenders for reasons such as violating the prohibition on lending to military members and aggressive collection tactics. The CFPB also operates a website to answer questions about payday lending. In addition, some states have aggressively pursued lenders they felt violate their state laws.
Payday lenders have made effective use of the sovereign status of Native American reservations, often forming partnerships with members of a tribe to offer loans over the Internet which evade state law. However, the Federal Trade Commission has begun to aggressively monitor these lenders as well. While some tribal lenders are operated by Native Americans, there is also evidence many are simply a creation of so-called "rent-a-tribe" schemes, where a non-Native company sets up operations on tribal land.
Variations and alternatives
Alternatives to payday loans
Other options are available to most payday loan customers. These include pawnbroker
A pawnbroker is an individual or business (pawnshop or pawn shop) that offers secured loans to people, with items of personal property used as collateral. The items having been ''pawned'' to the broker are themselves called ''pledges'' or ...
s, credit union
A credit union, a type of financial institution similar to a commercial bank, is a member-owned nonprofit organization, nonprofit financial cooperative. Credit unions generally provide services to members similar to retail banks, including depo ...
loans with lower interest and more stringent terms which take longer to gain approval, employee access to earned but unpaid wages, credit payment plans, paycheck cash advances from employers ("advance on salary"), auto pawn loans, bank overdraft protection, cash advances from credit cards, emergency community assistance plans, small consumer loans, installment loans and direct loans from family or friends. The Pew Charitable Trusts found in 2013 their study on the ways in which users pay off payday loans that borrowers often took a payday loan to avoid one of these alternatives, only to turn to one of them to pay off the payday loan.
If the consumer owns their own vehicle, an auto title loan would be an alternative for a payday loan, as auto title loans use the equity of the vehicle as the credit instead of payment history and employment history.
Other alternatives include the Pentagon Federal Credit Union Foundation (PenFed Foundation) Asset Recovery Kit (ARK) program.
Basic banking services are also often provided through their postal systems.
Comparisons payday lenders make
Payday lenders do not compare their interest rate
An interest rate is the amount of interest due per period, as a proportion of the amount lent, deposited, or borrowed (called the principal sum). The total interest on an amount lent or borrowed depends on the principal sum, the interest rate, th ...
s to those of mainstream lenders. Instead, they compare their fees to the overdraft
An overdraft occurs when something is withdrawn in excess of what is in a current account. For financial systems, this can be funds in a bank account. For water resources, it can be groundwater in an aquifer. In these situations the account is s ...
, late payment, penalty fees and other fees that will be incurred if the customer is unable to secure any credit whatsoever.
The lenders may list a different set of alternatives (with costs expressed as APRs for two-week terms, even though these alternatives do not compound their interest or have longer terms):
* $100 payday advance with a $15 fee = 391% APR
* $100 bounced check with $54 NSF/merchant fees = 1,409% APR
* $100 credit card balance with a $37 late fee = 965% APR
* $100 utility bill with $46 late/reconnect fees = 1,203% APR
Variations on payday lending
A minority of mainstream banks and TxtLoan companies lending short-term credit over mobile phone text messaging offer virtual credit advances for customers whose paychecks or other funds are deposited electronically into their accounts. The terms are similar to those of a payday loan; a customer receives a predetermined cash credit available for immediate withdrawal. The amount is deducted, along with a fee, usually about 10 percent of the amount borrowed, when the next direct deposit is posted to the customer's account. After the programs attracted regulatory attention, Wells Fargo called its fee "voluntary" and offered to waive it for any reason. It later scaled back the program in several states. Wells Fargo currently offers its version of a payday loan, called "Direct Deposit Advance", which charges 120% APR. Similarly, the BBC #REDIRECT BBC #REDIRECT BBC #REDIRECT BBC
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reported in 2010 that controversial TxtLoan charges 10% for seven-days advance which is available for approved customers instantly over a text message.
Income tax refund anticipation loan
Refund anticipation loan (RAL) is a short-term consumer loan in the United States provided by a third party against an expected tax refund for the duration it takes the tax authority to pay the refund. The loan term was usually about two to three w ...
s are not technically payday loans (because they are repayable upon receipt of the borrower's income tax refund, not at his next payday), but they have similar credit and cost characteristics. A car title loan
A title loan (also known as a car title loan) is a type of secured loan where borrowers can use their vehicle title as collateral. Borrowers who get title loans must allow a lender to place a lien on their car title, and temporarily surrender the ...
is secured by the borrower's car, but are available only to borrowers who hold clear title (i.e., no other loans) to a vehicle. The maximum amount of the loan is some fraction of the resale value of the car. A similar credit facility seen in the UK is a ''logbook loan A logbook loan is a form of secured lending in the United Kingdom and is the most common modern example of a security bill of sale. Borrowers transfer ownership of their car, van or motorcycle to the logbook lender as security for a loan. While maki ...
'' secured against a car's logbook
A logbook (or log book) is a record used to record states, events, or conditions applicable to complex machines or the personnel who operate them. Logbooks are commonly associated with the operation of aircraft, nuclear plants, particle accelera ...
, which the lender retains. These loans may be available on slightly better terms than an unsecured payday loan, since they are less risky to the lender. If the borrower defaults, then the lender can attempt to recover costs by repossessing and reselling the car.
Postal banking
Many countries offer basic banking services through their postal systems. The United States Post Office Department
The United States Post Office Department (USPOD; also known as the Post Office or U.S. Mail) was the predecessor of the United States Postal Service, in the form of a Cabinet department, officially from 1872 to 1971. It was headed by the postmas ...
offered such a service, called the United States Postal Savings System
The United States Postal Savings System was a postal savings system signed into law by President William Howard Taft and operated by the United States Post Office Department, predecessor of the United States Postal Service, from January 1, 1911, u ...
, but it was discontinued in 1967. In January 2014 the Office of the Inspector General of the United States Postal Service issued a white paper suggesting that the USPS could offer banking services, to include small dollar loans for under 30% APR. Support and criticism quickly followed; opponents of postal banking argued that as payday lenders would be forced out of business due to competition.
See also
*Alternative financial services
An alternative financial service (AFS) is a financial service provided outside traditional banking institutions, on which many low-income individuals depend. In developing countries, these services often take the form of microfinance. In develop ...
*Community Financial Services Association of America
The Community Financial Services Association of America (CFSA) is a trade association in the United States representing the payday lending industry.
Controversy
The payday lending industry has been the source of ongoing controversy due to its lo ...
, a trade association representing the payday loan industry
*Debt bondage
Debt bondage, also known as debt slavery, bonded labour, or peonage, is the pledge of a person's services as security for the repayment for a debt or other obligation. Where the terms of the repayment are not clearly or reasonably stated, the pe ...
*Loan shark
A loan shark is a person who offers loans at extremely high interest rates, has strict terms of collection upon failure, and generally operates outside the law.
Description
Because loan sharks operate mostly illegally, they cannot reasonably ...
*Logbook loan A logbook loan is a form of secured lending in the United Kingdom and is the most common modern example of a security bill of sale. Borrowers transfer ownership of their car, van or motorcycle to the logbook lender as security for a loan. While maki ...
* Merchant cash advance __NOTOC__
A merchant cash advance (MCA) was originally structured as a lump sum payment to a business in exchange for an agreed-upon percentage of future credit card and/or debit card sales. The term is now commonly used to describe a variety of sm ...
*Predatory lending Predatory lending refers to unethical practices conducted by lending organizations during a loan origination process that are unfair, deceptive, or fraudulent. While there are no internationally agreed legal definitions for predatory lending, a 2006 ...
*Refund anticipation loan
Refund anticipation loan (RAL) is a short-term consumer loan in the United States provided by a third party against an expected tax refund for the duration it takes the tax authority to pay the refund. The loan term was usually about two to three w ...
*Title loan
A title loan (also known as a car title loan) is a type of secured loan where borrowers can use their vehicle title as collateral. Borrowers who get title loans must allow a lender to place a lien on their car title, and temporarily surrender the ...
*Usury
Usury () is the practice of making unethical or immoral monetary loans that unfairly enrich the lender. The term may be used in a moral sense—condemning taking advantage of others' misfortunes—or in a legal sense, where an interest rate is ch ...
References
Further reading
* Baradaran, Mehrsa (2015). ''How the Other Half Banks: Exclusion, Exploitation, and the Threat to Democracy.'' Harvard University Press
Harvard University Press (HUP) is a publishing house established on January 13, 1913, as a division of Harvard University, and focused on academic publishing. It is a member of the Association of American University Presses. After the retirem ...
.
External links
*
FDIC Guidelines on Payday Lending
Military Lending Act Dramatically Expands Coverage on 03 Oct 2016
Federal Register, Military Lending Act, Under Secretary of Defense for Personnel and Readiness
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