How Small Dollar Lending and Flexible Payments Can Solve Payday Lending Inequality

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  • Payday lenders are targeting black and Hispanic communities by opening more stores in minority areas.
  • But for those living paycheck to paycheck, predatory loans may seem like the only way out.
  • Fintech companies offering small loans and early access to wages can be substitutes for those in need of short-term cash.
  • This article is part of a series called “The cost of injustice, “exploring the barriers faced by marginalized and disenfranchised groups across a range of sectors.

Payday loans are notorious for being a financial instrument hunted by the less fortunate. But for many, they still serve as a lifeline between salaries.

US malls are inundated with payday lenders touting “EZ MONEY” and “CA $ H NOW”.

Although the total number of payday loan outlets has declined over the past decade, it is still a significant market. According to Pew Charitable Trusts, about 12 million Americans take out payday loans every year.

But thanks to heightened regulatory scrutiny and competition from new technology-driven competitors, lenders’ payday days may be numbered.

Under the new administration, federal regulators such as the Consumer Financial Protection Bureau (CFPB) are turning their attention back to payday lenders and may reinstate stricter underwriting rules that were lifted by the previous administration.

Payday loans create debt traps

Consumers typically borrow $ 375 from lenders before payday, according to the CFPB, with commissions averaging around $ 55. The $ 55 commission for a two-week $ 375 loan is about 15% per annum, which is a better rate than credit cards.

But on an annualized basis, these conditions are 382% per annum. More often than not, borrowers do not pay off payday loans within two weeks, resulting in a debt cycle.

“We know that payday loans are generally short-term loans that are designed to create a long-term debt trap,” Charla Rios, a researcher at the Center for Responsible Lending (CRL), told Insider.

According to the company, about 75% of payday lenders’ earnings come from fees charged to borrowers who borrow more than 10 times a year. CRL… In 34 states where three-digit interest rates are allowed – other states have imposed rate limits – fees cost consumers $ 4 billion annually.

Payday lenders are not required to assess consumers’ ability to pay. They also often need access to consumer bank accounts in order to deposit a loan and then write it off when it is time to pay off.

If the borrower does not have enough money in the checking account, this can lead to several overdraft fees. Payday lenders can also sell unpaid loans to debt collectors.

Payday lenders are concentrated in minority areas

Much of the criticism of payday lenders stems from the fact that they tend to reside in areas with a higher concentration of people of color.

“Research has been conducted by both the Center for Responsible Lending and many other consumer advocates in the United States that consistently and continuously shows that payday lenders typically locate their stores in communities of color,” Rios said. CRL has conducted research in states such as California, Colorado, Michigan and Florida.

A similar trend was found in Minnesota. according to the 2016 report: Areas with payday loan shops within 2.5 miles have twice as many blacks as the rest of the state.

And even with income control, the CRL found that Florida had more payday loans in high-income and minority communities, Rios said.

Regulators went back and forth about dominating the paycheck industry.

Regulators have analyzed payday lenders in recent years.

In 2017, the CFPB issued a rule requiring major tenants to require lenders to assess borrowers’ ability to repay a loan before payday, notify them before attempting to debit their bank accounts, and limit the number of times a lender tries to use a borrower’s bank account.

The rule was supposed to take effect in August 2019 but was eventually pushed back to November 2020. The CFPB has also removed the underwriting standards for payday lenders, which are supposed to assess consumers’ ability to pay.

But under the new administration, recent statements from the CFPB indicate that the agency is again focusing on payday lending.

“Years of CFPB research have shown that the vast majority of this industry’s revenue comes from consumers who cannot afford to repay their loans, with the majority of short-term loans in re-borrowing chains of 10 or more,” wrote Acting Director Dave Uejio … statement in march

Uejio noted that the previous administration removed underwriting rules aimed at eliminating this harm to consumers and hinted at possible rulemaking in the future.

“The Bureau believes that the harm established by the 2017 rule still exists and will use the authority granted by Congress to address that harm, including through vigorous market monitoring, surveillance, enforcement and, where necessary, rulemaking,” he said. Uejio.

Low-dollar loans and access to wages offer an alternative

While payday loans meet the needs of many, especially those underbanked and those with no or no credit, there are alternatives.

OppFi, which goes public through SPAC, is one such small lender. It serves consumers with no credit or low credit levels and offers loans ranging from $ 500 to $ 4,000 at rates ranging from 59% to 160% for up to 18 months.

Of course, these are expensive conditions. But OppFi is primarily trying to guide its customers towards cheaper and more widespread loans. For each loan application, OppFi offers a consumer review to see if they qualify for a near-top-notch loan from traditional lenders. In 92% of cases, candidates do not receive any offers, OppFi CEO Jared Kaplan told Insider.

OppFi loans are designed to help their clients get a loan, Kaplan said. Each payment relates to the principal amount of the loan, no fees are charged, and OppFi does not sell its loans to debt collectors.

Wage access, where consumers can access funds they have already earned between paychecks, has also emerged in recent years, often marketed as an alternative to payday lending.

Many payroll players like DailyPay and PayActiv are partnering with employers to attract consumers. There are often commissions associated with the product, but since these players are integrated into payroll systems, they do not directly debit bank accounts that may not have sufficient funds.

DailyPay, for example, found in a survey that 70% of users say they no longer need to take out payday loans, and 78% say getting a paycheck helps them avoid late fees. Payroll giant ADP is also creation of wage access products

There are disadvantages. For both third-party apps and integrated payroll providers there are concerns about confidentiality… Employees may hesitate to use these products if they think their employers might be tracking this activity.

Other market players like Dave and Ernin are reaching out to consumers directly. They operate on tip patterns where users decide how much to pay in addition to the wages they receive, which can also be viewed negatively.

Rollover models have come under scrutiny from regulatory authorities. In 2019, the NYC Department of Financial Services, along with several other states, launched an investigation into payroll access companies, focusing on tip patterns, their impact on consumers’ access to funds, and whether they account for interest rates.

“One of the things to think about is that when you encourage people to tip, it can effectively equate to a high annual interest rate,” Rios said.

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