US proposes new rules for payday loan industry to curtail borrower debt

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Consumer Financial Protection Bureau seeks to require lenders to check if people can afford to repay as critics accuse agency of ignoring credit needs of poor.
The US government announced plans on Thursday to regulate the controversial $38.5bn payday loan industry.

Regulation of the high-interest, low-dollar loan industry has until now been left to individual states. Under the new rule, lenders would be required to verify income of those taking out loans to ensure that they can afford to repay the money they borrow.

The rules are a major win for the Consumer Financial Protection Bureau (CFPB), an agency dedicated to protecting consumers established during Obama’s first term, and come despite fierce lobbying from the industry.

Nearly 12 million Americans use payday loans every year, according to Pew Charitable Trust. Because of the way the loans are set up, people on average pay $520 in fees to borrow $375.

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The loans work like a cash advance that’s due every two weeks – around the same time as the borrower’s next payday, hence the name. Most of the borrowers, however, cannot afford to pay the loan in full and so they pay off the interest and essentially take out a new loan for the same amount. Consumers who roll over the loan again and again have been known to pay as much as 300% in interest and fees over the span of a year.

CFPB’s announcement comes just weeks after payday loans joined guns and tobacco on Google’s list of “dangerous products”whose ads are banned across the website.

“Today, we’re announcing a proposed rule that would require lenders to determine whether borrowers can afford to pay back their loans. The proposed rule would also cut off repeated debit attempts that rack up fees and make it harder for consumers to get out of debt,” David Silberman, CFPB’s acting deputy director, wrote in a blog post announcing the rule. “These strong proposed protections would cover payday loans, auto title loans, deposit advance products, and certain high-cost installment loans.”

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For the next 90 days, the public is invited to comment on the new rule. The final rule is expected to be rolled out as soon as next year and does not require congressional approval.

After the CFPB first proposed regulating payday loans in 2015, Pew Charitable Trust surveyed more than 1,000 adults and found that 75% wanted the payday industry to be more regulated. A majority of those surveyed – 78% – wanted banks and credit unions to offer small-dollar loans at rates lower than those offered by payday lenders. About 75% of them also agreed that borrowers should have more than two weeks to repay their loans.

Nick Bourke, director of small-dollar loan research at Pew Charitable Trust, said that the CFPB proposal “misses the mark” and that “clearer product safety standards are needed”.

According to some critics, the 1,549-page rule could discourage banks and other lenders from offering small-dollar loans.

The payday loan industry has also spoken out against the new rule. Not only will it force some lenders out of business, they argue, it will also leave poor Americans without a way to get money in an emergency.

“By the bureau’s own estimates this rule will eliminate 84% of loan volume, thereby creating financial havoc in communities across the country. Thousands of lenders, especially small businesses, will be forced to shutter their doors, lay off employees, and leave communities that already have too few options for financial services,” Dennis Shaul, the chief executive of the Community Financial Services Association of America, said in a statement.

He went on to point out that just last week the Federal Reserve reported that “46% of Americans cannot pay for an unexpected $400 expense”.

“What is missing in the bureau’s rule is an answer to the very important question: ‘Where will consumers go for their credit needs in the absence of regulated non-bank lenders?’” he said.

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The CFPB, which has been often described as the brainchild of Senator Elisabeth Warren of Massachusetts, was established by the Dodd-Frank Act. That same law gives it the authority to regulate the payday industry. However, Republicans have raised questions about the agency’s authority to regulate products such as payday loans and auto loans, especially if CFPB rules clash with state regulations.

“At issue are roughly 38 states that allow these products to be offered in some form and the federal pre-emption that will occur if your rule goes forward as outlined,” Randy Neugebauer, a Republican congressman from Texas, told the CFPB director, Richard Cordray, in March.

Democrats in Congress, however, have been for the most part supportive of the agency’s efforts to expand government regulation of various financial products such as credit cards and mortgages. According to Maxine Water, a congresswoman from California: “Republicans have turned the CFPB into a political punching bag, attempting to undermine its work at every turn.”