Contents

1. Regulation

Because of: 

(a) significantly higher rates of bankruptcy among those who use loans (due to interest rates as high as 1000%).

(b) unfair and illegal debt collection practices and 

(c) loans with automatic rollovers that further increase debt owed to lenders, the federal government regulates payday loans.

 The Dodd-Frank Wall Street Reform and Consumer Protection Act delegated special power to the Consumer Financial Protection Bureau (CFPB) to regulate all payday lenders, regardless of size.
Furthermore, the Military Lending Act puts a 36% rate ceiling on tax return loans and some payday and vehicle title loans provided to active duty armed services soldiers and their covered families, as well as prohibiting certain lending arrangements.

The CFPB has taken multiple enforcement actions against payday lenders for violations such as lending to military members and using aggressive collection practices.

The Consumer Financial Protection Bureau (CFPB) enacted a regulation in 2017 requiring payday, auto title, and other lenders to determine whether consumers can afford to repay high-interest loans before making them. This rule was repealed in 2020, although other obligations remained.

Payday lenders have taken efficient use of Native American reservations’ sovereign status, frequently forging agreements with tribal members to offer loans via the internet that violate state law.
The Federal Trade Commission, on the other hand, has begun to closely supervise these lenders as well.
While some tribal lenders are run by Native Americans, there is evidence that many are the result of so-called “rent-a-tribe” schemes in which a non-Native firm sets up shop on tribal grounds.

2. Legality of payday loans

Payday lending is authorized in 27 states, with 9 others permitting limited short-term storefront lending. The remaining 14 states, as well as the District of Columbia, prohibit the practice. Some states have prosecuted lenders who they believe violate state laws.

According to the LATimes, several states have rules that limit the amount of loans a borrower can take out at one time. This is now done through the use of a single, statewide real-time database. These systems are mandated by state statutes in Florida, Michigan, Illinois, Indiana, North Dakota, New Mexico, Oklahoma, South Carolina, and Virginia. Before making a loan, all regulated lenders must do a real-time verification of the customer’s eligibility to obtain one.

According to reports issued by state regulators in these states, this system implements all of the state’s legislation. Some jurisdictions either limit the number of loans per borrower per year (Virginia, Washington), or mandate that after a certain number of loan renewals, the lender provide a lower rate loan with a longer term, so that the borrower can finally break free from the debt cycle by taking certain measures. Borrowers can get around these regulations by borrowing from many lenders if the state does not have an enforcement mechanism in place.

States that have banned payday lending have reported decreased rates of bankruptcy, less complaints about collection practices, and the growth of other lending options from banks and credit unions.

3. Proposed postal banking

Through their postal networks, some nations provide rudimentary financial services. Previously, the United States Postal Service Department provided such a service. The United States Postal Savings System was decommissioned in 1967. The Office of the Inspector General of the United States Postal Service produced a white paper in January 2014 recommending that the USPS may offer banking services, including small dollar loans with an APR of less than 30%. Both support and criticism swiftly followed, however the main argument isn’t that the service wouldn’t serve consumers, but that payday lenders would be put out of business owing to competition, and that the concept is nothing more than a scheme to aid postal personnel.

According to some reports, the USPS Board of Governors may be able to sanction these services under the same authority that they already offer money orders.

4. Debt rollover

Rolling over debt is the procedure by which a borrower extends the duration of their loan into the following period, usually for a charge, while continuing incurring interest. According to an empirical study published in The Journal of Consumer Affairs, low-income people who live in states that allow three or more rollovers are more likely to utilize payday lenders and pawnshops to augment their income.

The survey also discovered that higher-income people are more likely to utilize payday lenders in places that allow rollovers. The essay contends that payday loan rollovers trap low-income people in a debt cycle in which they must borrow more money to pay the debt rollover costs. Of the 22 states that allow payday lending, 22 do not allow debt rollovers, and just three allow unlimited rollovers. Individual firms are permitted an unlimited number of rollovers in states that allow unlimited rollovers.

5. Effects of regulation

In the United States, price regulation has had unforeseen repercussions. Prior to the implementation of a regulating programme in Colorado, payday financing charges were loosely dispersed around a market equilibrium. Imposing a price cap above this equilibrium functioned as a target for competitors to agree on price increases. This hindered competition and led to the formation of cartels. Because payday loans near minority areas and military bases are likely to have inelastic demand, this artificially higher price isn’t accompanied by a decreased quantity required for loans, allowing lenders to charge higher prices while still losing many consumers.

6. Competition and alternatives

Credit unions, banks, and big financial institutions compete with payday lenders by funding the Center for Responsible Lending, a non-profit that lobbies against payday loans. Uber and Lyft provide its drivers with Instant Pay and Express Pay.

NerdWallet directs potential payday borrowers to non-profit groups that provide reduced interest rates or to government agencies that offer short-term aid. Its money is generated by commissions on credit cards and other financial services offered on the site.

Lending to trustworthy friends and family may be an embarrassing social institution for the borrower.
A payday loan’s impersonal character allows you to escape this shame. Instead of attempting to avoid humiliation, Tim Lohrentz, programme manager at the Insight Center for Community Economic Development, said that borrowing from people you know may save you a lot of money. 

7. Economic effects

Payday loans, although intended to supply customers with emergency cash, redirect money away from consumer spending and into paying interest rates. Payday loans with interest rates ranging from 225 to 300 percent are available from some large banks, while storefront and internet payday lenders charge rates ranging from 200 to 500 percent. By 2016, online loans are expected to account for 60% of all payday loans. In 2011, $774 million in consumer spending was lost due to payday loan repayment, while $169 million was lost due to 56,230 payday loan-related bankruptcies. Furthermore, 14,000 jobs were lost. Each year, twelve million people took out a payday loan by 2013.

Each payday loan provides $375 in emergency cash on average, and the borrower pays $520 in interest every year. In a given year, each borrower takes out an average of eight of these loans. Over a third of bank clients took out more than 20 payday loans in 2011.

 Payday loans may have some good characteristics. Borrowers may be able to utilize payday loans to avoid more expensive late fees levied by utilities and other household creditors, and using payday loans may prevent overdraft fees from being charged to the borrower’s bank account.

Although most borrowers have payday loan debt for far longer than the promised two-week term, averaging about 200 days of debt, most borrowers have a good notion of when they will have paid off their loans. Approximately 60% of borrowers repay their debts within two weeks of the date they predicted.

8. Criticism

8.1 Income

Payday loans are targeted to low-income households since they cannot offer collateral for low-interest loans, hence they receive high-interest loans. Payday lenders, according to the report, target the young and the poor, particularly those demographics in low-income regions near military bases. According to the Consumer Financial Protection Bureau, renters are more likely to use these loans than homeowners.
It also claims that consumers are likely to be married, disabled, separated, or divorced.  

Payday loan rates are exorbitant in comparison to regular bank rates, and they do not encourage saving or asset accumulation. This property will be depleted in low-income households. Many individuals are unaware that the increased interest rates on the borrowers’ loans are likely to push them into a “debt spiral,” in which the borrower must repeatedly renew.

According to a Pew Charitable Research survey conducted in 2012, the majority of payday loans were used to bridge the gap between ordinary costs rather than for unforeseen crises. According to the report, 69% of payday loans are obtained for recurrent needs, 16% for unforeseen crises, 8% for unique purchases, and 2% for miscellaneous expenses.

8.2 Defaulted loans

According to the Center for Responsible Lending, over half of payday loan customers will default within the first two years. Taking out payday loans makes it more difficult to pay your mortgage, rent, and utility payments. Increased economic troubles cause homelessness and delays in medical care, often resulting in fatal health repercussions that may have been avoided.

8.3 Premium pricing structure

According to a 2012 Pew Charitable Trusts survey, the typical borrower took out eight $375 loans and spent $520 in interest over the course of the loans.

The yearly cost of a loan in percent is calculated as follows:

8.4 Debt trap

A debt trap is described as “a scenario in which a debt is difficult or impossible to repay, generally due to large interest payments that impede principal repayment.” According to the Center for Responsible Lending, loan churning accounts for 76% of overall payday loan volume, with loans taken out within two weeks after a previous loan. According to the organization, devoting 25-50 percent of borrowers’ earnings leaves most borrowers with insufficient income, forcing them to seek out additional payday loans right afterwards. Borrowers will continue to pay large percentages to spread the loan over longer time periods, essentially trapping themselves in debt.

Payday Loan Trap  – credit NBC News

8.5 Debtors’ prison

Debtors’ prisons were nationally prohibited in 1833, but in 2011, more than a third of states permitted late debtors to be incarcerated. Some payday lending firms in Texas pursue criminal complaints against late borrowers. Texas courts and prosecutors function as de facto collection agents, informing debtors that they may face arrest, criminal charges, jail time, and penalties. District attorneys collect extra fees on top of the amounts owing. Threatening borrowers with criminal charges is unlawful when using a post-dated check, but utilizing checks dated on the day the loan is delivered permits lenders to allege theft. Borrowers have been imprisoned for as little as $200. The majority of borrowers who failed to pay had lost their employment or had their working hours curtailed.

Frequently Asked Questions