More states are capturing interest rates on payday loans

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Annie Millerbird | NerdWallet

Small-dollar short-term lenders not burdened with a maximum federal interest rate can charge borrowers rates of 400% or more on their loans.

But more and more states are cutting that number by setting cap rates to restrict high-interest lending. Currently, 18 states and Washington DChave laws limiting short-term loan rates to 36% or less, according to the Center for Responsible Lending. Other states are weighing similar legislation.

“In this legislative session, we have witnessed a heightened and renewed interest in caping interest rates and limiting the harm of payday loans,” said Lisa Stifler, director of public policy for the CRL.

Opponents of the rate cap say that when the government caps interest rates, lenders can no longer operate profitably and consumers with disabilities lose their last resort. Consumer advocates say this shields borrowers from predatory lending patterns.

This is what happens when the government caps interest rates, and what alternatives consumers have for small dollar loans.

The legislation is focused on annual income

To deter high-interest lenders and to protect consumers from predatory borrowing, the legislation targets a somewhat complex and apparently unattractive annual interest rate.

The annual interest rate is the interest rate plus any fees charged by the lender. A $ 300 loan payable over two weeks with a $ 45 commission will have 391% per annum. That same loan, with the annual interest rate lowered to 36%, would have a commission of about $ 4.25 – and much less income for the lender.

The annual interest rate is not a suitable way to measure the value of a small loan, says Andrew Duke, chief executive of the Online Lenders Alliance, which represents short-term online lenders.

“In the end, the figure looks much higher and more dramatic than what the consumer considers the cost of the loan,” he says.

Duke says consumers should instead use the actual commission to assess credit availability.

But what the commission doesn’t show is the costly long-term debt cycle that many borrowers find themselves in, Stifler says.

According to the Consumer Financial Protection Authority, more than 80% of payday loans are taken within two weeks after the previous payday loan is paid off.

“The payday loan business model and the industry is based on re-borrowing,” says Stifler. “It’s a product that creates a debt trap that actually pushes people out of the financial system.”

According to Pew Charitable Trusts, there are no payday lenders in states that do not allow interest rates higher than 36% or otherwise prohibit payday lending.

Consumers have other options

Some high-interest loans, such as collateral loans, may remain after the rate cap is imposed, Duke said, but consumer constraints could force consumers to miss paying bills or face late payment penalties.

Illinois Senator Jacqueline Collins of Chicago, who was one of the main sponsors of the Illinois consumer credit rate cap signed in March, says she hopes the new law will remove distractions from payroll and other high rates. -interest loans and give residents of the state a clearer understanding of the alternatives available.

Credit unions, for example, may offer small loans. Although credit ratings are taken into account in a loan application, the credit union often has a history with the borrower and can assess its ability to repay the loan using other information. This can make it easier to obtain a credit union loan.

For consumers who find it difficult to pay bills, Stifler suggests contacting creditors and service providers to extend the payment deadline. She recommends that consumers contact credit counseling agencies that can offer free or low-cost financial assistance, or faith-based organizations that can help with food, clothing, and transportation for interviews.

Exodus Lending is a Minnesota-based nonprofit that advocates for fair credit laws and refinances high-interest loans to residents with interest-free loans.

Many people who come to Exodus for help say they chose a high-interest loan because they were too embarrassed to ask a friend or family member for help, says CEO Sarah Nelson-Pallmeyer. If Minnesota caps interest rates on short-term small loans, as the bill shelved in the legislature aims to do, she says she doesn’t care about how consumers will live.

“They are going to do what people do in states where they are not allowed,” she says. “Borrowing from people you care about, asking for more hours, getting a second job, selling plasma is what people who don’t go to payday lenders do, and that’s most people.”

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Annie Millerburn writes for NerdWallet. Email: amillerbernd@nerdwallet.com

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