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The Unspoken Truth About Short-Term Loans

The Unspoken Truth About Short-Term Loans

The financial writers at Motley Fool have a reputation for cutting through emotional arguments and getting to the nuts and bolts of an issue or industry. Jim Baumer’s article on payday lending, The Unspoken Truth About Payday Lenders, does just that:

Payday lenders are often painted as the 21st century’s version of the 1950s loan shark—lenders operating outside the reach of the law, inhabiting smoky backrooms, preying on the poor, and lining their pockets from exorbitant interest rates, or even worse.

The reality is payday lenders are regulated, with policymakers feeling compelled to continue adding new layers of regulation and bureaucracy to deal with an issue that is mainly economic.

Baumer argues that people use short-term loans for several reasons:

  • When their access to mainstream credit options is restricted
  • When they have troubled credit histories
  • Short-term loans are easy and convenient

The simple fact is, short-term loans have demonstrated that they truly fill a market niche. The most interesting aspect of Baumer’s argument, though, is how he proposes to change interest rates in the industry:

A better solution might be an economic model offering workers wages they could actually live on. In fact, a strong argument can be made that middle-class wages drive our consumer model. Rather than placing more regulations on short-term lenders, policymakers should recognize that raising the standard of living for all Americans would eliminate payday lenders quicker than any regulations ever could.

Short-term solutions that seek to regulate the industry create “new layers of regulation and bureaucracy,” and that drives up costs and makes the lending process more difficult. Ultimately, the market has demonstrated a need for short-term loans. We believe broader economic issues and market conditions – not increased regulation – should drive the product’s use.

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Consumer of the Month: Kenneth

Consumer of the Month: Kenneth

OCLA interviewed Kenneth from Mt. Vernon, Ohio in March 2013. Here’s a transcript from the interview:

Do you feel that the charges for these services are upfront and transparent?

I don’t have too many gray areas in my life. If I don’t like it, I’m out of here, so you know, they’ve never tried to pull any scam on me or anything.

Has there been a time when these services have helped you through a crisis?

Yeah. Or I wouldn’t be here if I didn’t need the assistance. We get along great with these folks, and sometimes I don’t need their help and sometimes I do, so it’s no big deal.

Do you feel this industry tries to trap you in a cycle of debt?

Not really. I think they’re providing a service. I don’t think you’re trapped. Sometimes, economics just get out of hand. You don’t have a choice, and gee, if I was like President Obama and could blow $5 or $6 million on a vacation, I wouldn’t be here, but guess what, I don’t and so that’s why I’m here.

What would happen to you or the community if these services were eliminated?

Oh man. I always try to schedule my time to come in here and pay a loan on an off day. There’s a lot of people that would just be out of luck. They’d just be down because if you come in here on the third or the first, I mean it’s standing room only. It’s a necessary service.

What would you say to those people trying eliminate these services?

I’m thinking they’re being foolish. People wouldn’t use them if they weren’t available. I mean, I don’t think it’s a trap. People come here for a purpose. Maybe it’s one time, me, I come in every now and again, it’s just a service. I saw a warning they put up on outrageous interest, well that’s for a year, I’m only in it for a month, sometimes, I don’t come in at all, but then, there’s other days you do. You go to a standard loan company, they’re hitting you for 25, 26 (percent interest vs. lower short-term interest here), so where’s the big saving in that? If you go counting that up over a year, you’re in trouble.

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Millennials prefer speed and ease of short-term loans, survey says

Millennials prefer speed and ease of short-term loans, survey says

Millennials are turning to alternative financial services in large numbers according to a recent survey by Think Finance (source).

Think Finance surveyed 640 underbanked Millennials and found that reliance on convenient, on-the-spot financial products vs. institutionally-backed loans or credit cards is both widespread and independent of economic status. Half of both the highest and lowest earning groups had used prepaid debit cards in the last year. 34% of respondents earning less than $25K had used check cashing services in the last year, while 29% of those earning $50 – $74.9K had done likewise.

Why? Short-term loans are fast. They’re available after traditional banking hours, and Millennials tend to distrust the old guard like banks and credit card companies. “In light of mistrust of traditional financial instruments and a pragmatism about not digging themselves a deeper hole than they already find themselves in due to student loan debt and a weak job market, prepaid debit cards – can’t spend more than what you load them with – make a shrewd sort of fiscal sense,” Forbes writes.

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Why the working poor and banks are a bad match – An article by the American Banker

Why the working poor and banks are a bad match – An article by the American Banker

Click the link or picture below to listen to Lisa Servon, a professor at the New School in New York, discuss her experiences working as a teller at a check-cashing business.   This article and video was produced  by the American Banker’s Association

The Consumer Financial Protection Bureau is expected to draft rules governing payday lending this year. But the conventional wisdom that will likely guide it is based on false perceptions about the working poor and the best way to serve them.

So argues Lisa Servon, a professor at The New School in New York, who spent four months as a teller at a check-cashing business in the South Bronx and three at a payday lender in Oakland, Calif. Servon’s conclusion is that many low-income consumers fulfill their financial needs outside the regulated banking system by choice and in many cases are better off for doing so. The professor of management an urban policy explains why she believes bankers and policymakers are wrong in many of the conclusions they’ve drawn about underbanked and the types of financial services that would best cater to them.

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Consumer of the Month: Janette

Consumer of the Month: Janette

OCLA interviewed Janette from Mt. Vernon, Ohio in March 2013. Here’s a transcript from the interview:

Do you feel that the charges for these services are up front and transparent?

Yes. They’re very friendly. They’re upfront. They explain everything to you, and you know their fees. You know when you’re due back.

Has there been a time when these services have helped you through a crisis?

Oh yeah. There have been several times that they helped me out of a jam; not only me but my daughter and my grandchildren where I could come here and get a loan on my paystub where going to a bank to try to get a loan isn’t so easy. It would be impossible for me to get a loan if I weren’t coming here.

Do you feel this industry tries to trap you in a cycle of debt?

I think in an unfortunate situation they are the only alternatives that we have, and it’s good that they’re here or you would be in a jam that you couldn’t get out of at all.

What would happen to you or the community if these services were eliminated?

I think there would be a lot of people in trouble. Probably more violence, probably more breaking and entering because people get desperate when they’re in a desperate situation, and they can’t get any help.

What would you say to those people trying eliminate these services?

I would probably say please don’t do it because it’s the only thing I have when I get in trouble to be able to come and get some help. I am a grandmother and I have college students in school, I have grandchildren and when you’re in need and they have a flat tire and they’re alongside the road, and they need a tow truck, you have to be able to go to somebody to be able to get some help for you and your kids. Please don’t shut places like this down because that’s where we get our help.

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Wall St. Journal article – “Cracking down on payday lending will drive borrowers to less savory creditors.”

Wall St. Journal article – “Cracking down on payday lending will drive borrowers to less savory creditors.”

The following article was published in the Wall Street Journal on Nov. 26, 2013. This article discusses how British Chancellor of the Exchequer George Osborne is making a mistake by instituting new regulations on payday lending.  The article cites examples of “unintended consequences” in the U.S. in states such as Georgia and North Carolina.  Interesting read.

Osborne’s Next Bad Idea
Cracking down on payday lending will drive borrowers to less savory creditors.

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Updated Nov. 26, 2013 8:53 p.m. ET

George Osborne has spent much of the last three years decrying a lack of available credit for the little guy. But now the U.K. Chancellor has hit upon an idea to help hard-up people to whom banks won’t lend: crack down on the lenders that do.

Mr. Osborne announced Monday that bank reforms going through Parliament this week include instructions to the U.K.’s consumer-finance regulator to cap the cost of so-called payday loans—typically high-interest, short-term, three-figure loans to tide customers over until their next paycheck. As he explained to the BBC, the new rules will limit “the total cost of credit, looking at the whole package,” fees as well as rates, as “a way of making sure that hard-working people are served by the banking and the credit system.”

The government estimates that payday lending was worth roughly £2 billion in 2011-12, up from £900 million in 2008-09. The industry’s popularity since the 2008 crash has made it a pet bugaboo of the regulatory left. Wonga.com, an online lender that booked a £62.5 million profit last year, has had its ads banned by the Advertising Standards Authority. Headlines scream that Wonga and its peers charge four-digit annualized percentage rates. Wonga’s 1% daily interest rate would add up to an APR of 5,853%—if Wonga didn’t stop charging all interest after 60 days for its 30-day loans.

The government has so far resisted calls to cap the industry’s rates and fees, rightly warning that price controls would only restrict supply. They will also drive those who need money, but can’t qualify for loans under the new rules, to less savory credit channels.

Consider the experience of the U.S. states of Georgia and North Carolina, which banned all payday lending in 2004 and 2005. Borrowers instead went out of state or to less scrupulous creditors. The preliminary result, according to a 2007 study by the Federal Reserve Bank of New York, was that relative to other U.S. states, households in Georgia and North Carolina “bounced more checks after the ban, complained more about lenders and debt collectors, and were more likely to file for bankruptcy.” Some consumer protection that turned out to be.

People often turn to payday lenders because they have little choice, often on account of their credit histories. That’s why they’re often bigger credit risks. Barring lenders from charging enough to cover those risks can only result in less access to loans for people who need them.

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Consumer of the Month: Melissa

Consumer of the Month: Melissa

OCLA interviewed Melissa from Fredericktown, Ohio in March 2013. Here’s a transcript from the interview:

Do you feel that the charges for these services are upfront and transparent?

Yes. Everybody’s really friendly, and I’ve gotten to know them on a first-name basis. … (It’s) step-by-step, asking me for my paystub and seeing how much I’m able to borrow. They know the steps really well.

Has there been a time when these services have helped you through a crisis?

Yeah. There’s been times it’s saved me from overdraft charges on my bank account, and that’s good because those are a lot more expensive, especially if you have four or five of them, and then coming in here and just having the one charge.

Do you feel this industry tries to trap you in a cycle of debt?

I’d say, no, not whatsoever because they’re more helping people, and they’re not jamming it down your throat (like) ‘Borrow more! Borrow more!’ You should know how much you need and not feel pressured into borrowing more than you need.

What would happen to you or the community if these services were eliminated?

I think there’d be a lot more people in really bad situations where they’d probably end up homeless possibly or not able to make it to work because they don’t have gas or not able to feed their kids because they don’t have that $100 extra they need to buy some food for their kids. I think it’s a good service.

What would you say to those people trying eliminate these services?

I would say, “It’s not a good idea. We’re in hard times, the economy’s not real well, jobs aren’t real secure nowadays and a lot of people have to work several jobs to make ends meet. I say any extra help there is, you know? Unless they want to do something about the banks charging so much for overdraft fees or bounced checks, I think this is a better alternative to having the bank charge you. People make mistakes on their checking accounts.

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New Harris Poll: 9 in 10 borrowers felt product met their expectations

  • 84% of Borrowers Say It Was Easy to Repay Their Loan

  • 95% of Borrowers Agree Using Payday Lending Should Be Their Choice, Not the Government’s

More than nine in 10 payday loan borrowers report their experience with the terms (96 percent) and cost (92 percent) of their payday loans was as expected or better than expected, while more than four in five borrowers (84 percent) say it was very easy or somewhat easy to repay their loans, according to a new national survey commissioned by Community Financial Services Association of America (CFSA) and conducted by Harris Interactive, an international and research polling company, by telephone among 1,004 respondents ages 18+, who are customers of store-front companies within the CFSA, and took out a loan which they repaid in the summer of 2013.Screen Shot 2013-12-16 at 10.17.05 AM

Harris Poll

As the first in-depth examination of borrowers’ motivations and rationale, the survey found an overwhelming majority of borrowers are very satisfied or satisfied with their recent payday loan experience (91 percent), carefully weighed the risks and benefits before taking out a loan (93 percent), and value having the option to take a payday loan (95 percent).

Notably, borrowers almost unanimously agree that it should be their choice whether or not to use payday lending, not the government’s choice (95 percent).

“The great majority of borrowers we surveyed said that, for them, payday loans are an important and valuable credit option that helps them overcome financial shortfalls,” said Humphrey Taylor, Chairman of the Harris Poll at Harris Interactive. “Our survey findings reveal almost all borrowers understood the cost of their loans and how long it would take to repay them.”

In contrast with common misconceptions about payday loans and those who borrow them, the poll reveals that borrowers fully understand their options and choose the service over a variety of other financial services offered by banks and non-bank lenders:

  • 97 percent of borrowers agree that their payday lender clearly explained the terms of the loan to them, including nearly nine in 10 (88 percent) who strongly agree.
  • 68 percent prefer a payday loan over incurring a late fee of approximately $30 (4 percent) or an overdraft fee of $35 from their bank (3 percent) when faced with a short-term financial crisis and unable to pay a bill.
  • Fewer than one in 10 (8 percent) said that a payday loan was their only option and they had no other resources available.

“The voice of the customer rings loud and clear, and the survey shows they not only understand the terms of their loans, they also value having this credit option and use it responsibly,” said Dennis Shaul, CEO of CFSA. “The results also reflect the integrity and commitment of our members who work with borrowers to ensure their experience with the payday loan is a positive one.”

 

Numerous studies have examined the economics and policy implications of short-term lending, but this Harris survey is the most comprehensive examination of payday loan borrowers’ experiences – specifically those who borrowed from regulated, licensed lenders:

 

  • 95 percent say payday loans can provide a safety net during unexpected financial difficulties.
  • 94 percent say they were able to repay their loan in the amount of time they had expected to.
  • 89 percent say they feel more in control of their financial situation because of this option when they need it.
  • 68 percent say they would be in worse financial condition than they are now without the option of taking out a payday loan.

“Credit markets are always evolving, but there remains a clear need for short-term, small dollar credit,” Shaul continued. “As an industry, we are always looking at ways to improve the customer experience and our products, and we look forward to working with regulators at all levels to ensure that credit – such as a payday loan – is available to all Americans.”

The full results of the poll can be found at www.harrispaydayloanpoll.com.

 

MEDIA CONTACT:

Amy Cantu, Communications Director

Amy Cantu (e) acantu@cfsaa.com (p) 703-842-2092

To see the release on the wire, please click here.

About Harris Interactive

Harris Interactive is one of the world’s leading market research firms, leveraging research, technology, and business acumen to transform relevant insight into actionable foresight. Known widely for the Harris Poll® and for pioneering innovative research methodologies, Harris specializes in delivering research solutions that help us – and our clients – stay ahead of what’s next. For more information, please visit harrisinteractive.com.

About the Survey Methodology

Harris Interactive conducted a telephone survey on behalf of the Community Financial Services Association of America (CFSA) from October 9 – 24, 2013, among 1,004 U.S. respondents ages 18+, who are customers of store-front companies within the CFSA, and took out a two-week payday loan of $700 or less which they made final repayment of in July or August of 2013. Data are unweighted and are a representative probability sample of the population who were surveyed.

 

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Consumer of the Month: Trina

OCLA interviewed Trina from Mt. Vernon, Ohio in March 2013. Here’s a transcript from the interview:

Do you feel that the charges for these services are upfront and transparent?

Oh yeah, they let you know right up front. You have papers that you sign that you have plenty of time to read and look at.

Has there been a time when these services have helped you through a crisis?

Sure. I’ve had children that have been in a bind before. They live out of state, so sometimes accessing money really quickly is really hard to do. You can come in here at any time, borrow against your paycheck knowing that it’s coming in in a week or two and get it where you can’t just go – if you’re with a big corporation – go to them and get an advance on your pay. You may not be able to walk into a bank and just get a loan instantly and money right away.

Do you feel this industry tries to trap you in a cycle of debt?

I have to disagree with that, and I’ve heard that in the past, but most people especially in small towns like this where there’s not a whole lot of opportunities to have a really good job or a high-paying job where you have money in excess, and everybody has emergencies that come up. And a lot of people don’t have savings nowadays due to the economy and they have to be able to access money quickly for emergencies. And you just can’t walk into a bank or a lending institution and get that. So, you’re reduced to having other ways of getting it. Places like this are open and people can walk in. Nothing is hidden. Everything’s on paper. You can read it right there. They tell you upfront what you pay back. There’s nothing that really can harm you while doing this, and it helps you out of a bind right away.

What would happen to you or the community if these services were eliminated?

I could see a lot of people that are on social security or disability really having a hard time making ends meet at the end of the month when they have no money left, when they have to pay – I know a lot of people who are on fixed incomes who have spend-downs to meet before they can even get their medicines. If they haven’t met those spend-downs and some of them are really high. You take an elderly person who has to meet a $278 spend-down such as my mother, what does she do toward the end of the month when she hasn’t met that spend-down yet she’s out of her meds until the end of the month? How does she make it? How does a cancer patient make it? How do you go on doctor visits if you’re sick all of the sudden? How do you access food if you’re out of food stamps or you just don’t have the money to get that? Or you child gets sick. What do you do?

What would you say to those people trying eliminate these services?

I would say try living on the means and the income that most of the people in Mt. Vernon live on without your family money, without the incomes that you’re making now. You try to live on what most people in here or around this community such as Knox or Morrow county and all of them, you live on what the basic income is, and let’s see how well you do if you don’t have the kind of credit established at a bank where you can walk in and get money handed to you within a couple of days.

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Short-term loans increasingly mainstream

Short-term consumer loans have long been viewed as a fringe service, but the recent financial crisis proved that the middle class uses them, too. A new Urban Institute study found that 41% of American households reported using “alternative financial services” in 2011. That’s up from 36% in 2009, Time reports. Prepaid debit cards make up a fair portion of that growth, but some 14% of households reported using “nonbank credit.”

Nonbank credit includes payday loans, pawn shops, rent-to-own contracts and tax refund anticipation loans. It’s a sign that there’s a demonstrated need for the product. And that need has grown fastest among households earning over $75,000 a year, Time reports. Households earning between $50,000 and $75,000 were the second-fastest growing demographic while those who make $15,000 or less a year actually scaled back their use of nonbank credit.

The growth in nonbank transactions coincides with a reduction in access to credit. “Across all of these metrics (including new account originations and total credit lines), credit appears to be less available today than it was in 2007,” the CFPB reported recently. Short-term consumer loans fill that gap.

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