CFPB OT 5, 2017 PRESS RELEASE [re-posted]
CONSUMER FINANCIAL PROTECTION BUREAU FINALIZES RULE
TO STOP PAYDAY DEBT TRAPS
Lenders Must Determine If Consumers Have the Ability to Repay Loans That Require All or Most of the Debt to be Paid Back at Once
WASHINGTON, D.C. — The Consumer Financial Protection Bureau (CFPB) today finalized a rule that is aimed at stopping payday debt traps by requiring lenders to determine upfront whether people can afford to repay their loans. These strong, common-sense protections cover loans that require consumers to repay all or most of the debt at once, including payday loans, auto title loans, deposit advance products, and longer-term loans with balloon payments. The Bureau found that many people who take out these loans end up repeatedly paying expensive charges to roll over or refinance the same debt. The rule also curtails lenders’ repeated attempts to debit payments from a borrower’s bank account, a practice that racks up fees and can lead to account closure.
“The CFPB’s new rule puts a stop to the payday debt traps that have plagued communities across the country,” said CFPB Director Richard Cordray. “Too often, borrowers who need quick cash end up trapped in loans they can’t afford. The rule’s common sense ability-to-repay protections prevent lenders from succeeding by setting up borrowers to fail.”
Payday loans are typically for small-dollar amounts and are due in full by the borrower’s next paycheck, usually two or four weeks. They are expensive, with annual percentage rates of over 300 percent or even higher. As a condition of the loan, the borrower writes a post-dated check for the full balance, including fees, or allows the lender to electronically debit funds from their checking account. Single-payment auto title loans also have expensive charges and short terms usually of 30 days or less. But for these loans, borrowers are required to put up their car or truck title for collateral. Some lenders also offer longer-term loans of more than 45 days where the borrower makes a series of smaller payments before the remaining balance comes due. These longer-term loans – often referred to as balloon-payment loans – often require access to the borrower’s bank account or auto title.
These loans are heavily marketed to financially vulnerable consumers who often cannot afford to pay back the full balance when it is due. Faced with unaffordable payments, cash-strapped consumers must choose between defaulting, re-borrowing, or skipping other financial obligations like rent or basic living expenses such as buying food or obtaining medical care. Many borrowers end up repeatedly rolling over or refinancing their loans, each time racking up expensive new charges. More than four out of five payday loans are re-borrowed within a month, usually right when the loan is due or shortly thereafter. And nearly one-in-four initial payday loans are re-borrowed nine times or more, with the borrower paying far more in fees than they received in credit. As with payday loans, the CFPB found that the vast majority of auto title loans are re-borrowed on their due date or shortly thereafter.
The cycle of taking on new debt to pay back old debt can turn a single, unaffordable loan into a long-term debt trap. The consequences of a debt trap can be severe. Even when the loan is repeatedly re-borrowed, many borrowers wind up in default and getting chased by a debt collector or having their car or truck seized by their lender. Lenders’ repeated attempts to debit payments can add significant penalties, as overdue borrowers get hit with insufficient funds fees and may even have their bank account closed.
Rule to Stop Debt Traps
The CFPB rule aims to stop debt traps by putting in place strong ability-to-repay protections. These protections apply to loans that require consumers to repay all or most of the debt at once. Under the new rule, lenders must conduct a “full-payment test” to determine upfront that borrowers can afford to repay their loans without re-borrowing. For certain short-term loans, lenders can skip the full-payment test if they offer a “principal-payoff option” that allows borrowers to pay off the debt more gradually. The rule requires lenders to use credit reporting systems registered by the Bureau to report and obtain information on certain loans covered by the proposal. The rule allows less risky loan options, including certain loans typically offered by community banks and credit unions, to forgo the full-payment test. The new rule also includes a “debit attempt cutoff” for any short-term loan, balloon-payment loan, or longer-term loan with an annual percentage rate higher than 36 percent that includes authorization for the lender to access the borrower’s checking or prepaid account. The specific protections under the rule include:
- Full-payment test: Lenders are required to determine whether the borrower can afford the loan payments and still meet basic living expenses and major financial obligations. For payday and auto title loans that are due in one lump sum, full payment means being able to afford to pay the total loan amount, plus fees and finance charges within two weeks or a month. For longer-term loans with a balloon payment, full payment means being able to afford the payments in the month with the highest total payments on the loan. The rule also caps the number of loans that can be made in quick succession at three.
- Principal-payoff option for certain short-term loans: Consumers may take out a short-term loan of up to $500 without the full-payment test if it is structured to allow the borrower to get out of debt more gradually. Under this option, consumers may take out one loan that meets the restrictions and pay it off in full. For those needing more time to repay, lenders may offer up to two extensions, but only if the borrower pays off at least one-third of the original principal each time. To prevent debt traps, these loans cannot be offered to borrowers with recent or outstanding short-term or balloon-payment loans. Further, lenders cannot make more than three such loans in quick succession, and they cannot make loans under this option if the consumer has already had more than six short-term loans or been in debt on short-term loans for more than 90 days over a rolling 12-month period. The principal-payoff option is not available for loans for which the lender takes an auto title as collateral.
- Less risky loan options: Loans that pose less risk to consumers do not require the full-payment test or the principal-payoff option. This includes loans made by a lender who makes 2,500 or fewer covered short-term or balloon-payment loans per year and derives no more than 10 percent of its revenue from such loans. These are usually small personal loans made by community banks or credit unions to existing customers or members. In addition, the rule does not cover loans that generally meet the parameters of “payday alternative loans” authorized by the National Credit Union Administration. These are low-cost loans which cannot have a balloon payment with strict limitations on the number of loans that can be made over six months. The rule also excludes from coverage certain no-cost advances and advances of earned wages made under wage-advance programs offered by employers or their business partners.
- Debit attempt cutoff: The rule also includes a debit attempt cutoff that applies to short-term loans, balloon-payment loans, and longer-term loans with an annual percentage rate over 36 percent that includes authorization for the lender to access the borrower’s checking or prepaid account. After two straight unsuccessful attempts, the lender cannot debit the account again unless the lender gets a new authorization from the borrower. The lender must give consumers written notice before making a debit attempt at an irregular interval or amount. These protections will give consumers a chance to dispute any unauthorized or erroneous debit attempts, and to arrange to cover unanticipated payments that are due. This should mean fewer consumers being debited for payments they did not authorize or anticipate, or charged multiplying fees for returned payments and insufficient funds.
The CFPB developed the payday rule over five years of research, outreach, and a review of more than one million comments on the proposed rule from payday borrowers, consumer advocates, faith leaders, payday and auto title lenders, tribal leaders, state regulators and attorneys general, and others. The final rule does not apply ability-to-repay protections to all of the longer-term loans that would have been covered under the proposal. The CFPB is conducting further study to consider how the market for longer-term loans is evolving and the best ways to address concerns about existing and potential practices. The CFPB also made other changes in the rule in response to the comments received. These changes include adding the new provisions for the less risky options. The Bureau also streamlined components of the full-payment test and refined the approach to the principal-payoff option.
The rule takes effect 21 months after it is published in the Federal Register, although the provisions that allow for registration of information systems take effect earlier. All lenders who regularly extend credit are subject to the CFPB’s requirements for any loan they make that is covered by the rule. This includes banks, credit unions, nonbanks, and their service providers. Lenders are required to comply regardless of whether they operate online or out of storefronts and regardless of the types of state licenses they may hold. These protections are in addition to existing requirements under state or tribal law.
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FOR IMMEDIATE RELEASE:October 5, 2017
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Prepared Remarks of Richard Cordray
Director, Consumer Financial Protection Bureau
Payday Rule Press Call
Washington, D.C.
October 5, 2017
Thank you for joining us. After a long process of research, outreach, and review of over one million public comments, the Consumer Bureau today has issued a rule aimed at stopping debt traps on payday and auto title loans. The rule is guided by the basic principle of requiring lenders to determine upfront whether people can afford to repay their loans. These strong protections cover loans that require consumers to pay all or most of the debt at once, including payday loans, auto title loans, deposit advance products, and longer-term loans with large “balloon” payments. The new rule also curtails repeated attempts to debit checking accounts that rack up fees and make it harder for consumers to get out of debt. This provision applies to the same kinds of loans and to high-cost installment loans as well. These protections bring needed reform to a market where far too often lenders have succeeded by setting up borrowers to fail.
About 16,000 payday loan stores operate in the 35 states that allow payday lending, along with online lenders. About 95 million people live in the other 15 states and the District of Columbia, where payday lenders do not operate because of caps on interest rates and fees. Payday loans are generally for $500 or less, and they are typically due in full by the borrower’s next paycheck, usually in two or four weeks. They are expensive, with annual interest rates of over 300 percent or even higher. As a condition of the loan, the borrower writes a post-dated check for the full balance, including fees, or allows the lender to electronically debit funds from their account. Single-payment auto title loans also have expensive charges and short terms, usually of 30 days or less, but the borrowers have to put up the title to their car or truck as collateral. Some lenders also offer longer-term loans with a series of smaller payments for more than 45 days that then require the entire large balance of the loan to be repaid at the due date. These balloon-payment loans often require access to the borrower’s account or auto title.
Loans like these are heavily marketed to financially vulnerable consumers. Though they offer cash-strapped consumers access to credit, the full-payment requirement can make these loans unaffordable. If a borrower living paycheck to paycheck needs a payday loan to cover basic expenses or to recover from a large expense or drop in income, they will probably face the same cash shortfall when they get their next paycheck. Only now, they have the added cost of loan fees or interest. Faced with unaffordable payments, consumers must choose between defaulting, re-borrowing, or failing to pay basic living expenses or other major financial obligations.
Many borrowers in this difficult situation end up rolling over or refinancing their loans again and again. More than four out of five payday loans are re-borrowed within a month, usually right when the loan is due or soon thereafter. In fact, about one-in-four initial payday loans are re-borrowed nine times or more, as consumers pay far more in fees than they borrowed in the first place. Just like payday loans, the vast majority of single-payment auto title loans are rolled over or re-borrowed on the day they come due or soon thereafter. And one-in-five borrowers end up having their car or truck seized by the lender because they cannot repay the debt.
This cycle of piling on new debt to pay back old debt can turn a single unaffordable loan into a long-term debt trap. It is a bit like getting into a taxi for a ride across town, then finding yourself stuck in a ruinously costly cross-country journey, with no exit ramps. With each renewed loan, the consumer pays more fees or interest on the same debt. The consequences are severe. Even those borrowers who renew the loan repeatedly, and at great cost, may still wind up in default and get chased by debt collectors or have their car or truck repossessed. And the repeated attempts by lenders to debit payments from their accounts can add significant penalties, as overdue borrowers get hit with multiple fees and may even have their bank accounts closed.
Our research has shown that the business model for payday and auto title lenders is built on miring people in debt. Whether the borrower is paying to roll over a short-term loan or making interest-only payments on a longer-term loan, the key is that these charges are not reducing how much they owe. And that is how the payday lenders make their profit. Lenders actually prefer customers who will re-borrow repeatedly rather than simply repaying the loan when it comes due. They can continue collecting fees or interest as long as the borrower does not fully repay. So these lenders have no incentive to check to see if borrowers can afford to repay on time because it is more profitable if they cannot. The example of the consumer who takes out one payday loan for an emergency and then pays it right back is a misleading exception to the norm. Most of these loans go instead to people who are re-borrowing the same loan many times.
The rule takes square aim at the practices that produce these outcomes – the failure to underwrite these loans and the business model built on repeated re-borrowing. The primary way the rule stops debt traps is by requiring lenders to do a “full-payment test” upfront to determine whether a consumer can afford to repay their loan without re-borrowing in the next month. Under this approach, lenders have to verify the consumer’s income if evidence is reasonably available and pull a credit report to verify financial obligations. The rule also protects borrowers by capping at three the number of short-term loans that lenders can make in quick succession.
For certain short-term loans under $500, lenders do not have to satisfy the components of the full-payment test if they instead offer a “principal-payoff option” to allow borrowers to pay off debt more gradually. With this option, consumers could still take out one loan that meets the restrictions and pay it off in full. For those needing more time to repay, lenders may offer up to two subsequent loans, but only if the borrower pays down at least one-third of the original principal each time. Under this option, lenders cannot lend to borrowers who are still repaying another short-term or balloon-payment loan. They cannot make more than three such loans in quick succession. And they cannot make loans under this option if the consumer has already had more than six short-term loans or has been in debt on such loans for more than 90 days over a rolling 12-month period. The principal-payoff option is also unavailable for loans that take an auto title as collateral.
The new rule also addresses how lenders extract loan payments from consumers’ accounts. This part of the rule covers short-term loans, balloon loans, and high-cost longer-term loans where the lender has account access. After two straight unsuccessful attempts, the lender cannot debit the account again unless it gets a new authorization from the borrower. In addition, lenders must notify consumers in writing before attempting to debit an account at an irregular time or for an irregular amount. This allows consumers to question or dispute any unauthorized or erroneous debit attempts, and to arrange to cover unanticipated payments that are due. As a result, fewer consumers will be debited for payments they did not authorize or anticipate, and fewer will be slammed by multiple fees for returned payments and insufficient funds.
In addition to allowing loans to be made under the principal-payoff option, our new rule provides other means for people who need money in an emergency to get an affordable loan. Notably, we have no intention of disrupting lending by community banks and credit unions. They have found effective ways to make small-dollar loans that consumers are able to repay without high rates of failure. For instance, the rule exempts loans made by a lender that makes 2,500 or fewer short-term or balloon-payment loans per year and derives no more than 10 percent of its revenue from such loans. These are usually small personal loans made by community banks or credit unions to existing customers or members. The rule also exempts loans that generally meet the parameters of “payday alternative loans” (or “PAL” loans) authorized by the National Credit Union Administration. These low-cost loans cannot have a balloon payment and have caps on the number of loans that can be made over six months. The rule also excludes from coverage some new “fintech” innovations, such as certain no-cost advances and programs to advance earned wages when offered by employers or their business partners.
The Bureau has spent five years developing this rule. Over that time, we conducted supervisory examinations and enforcement investigations that have given us deep insight into the business practices of many of these lenders. We analyzed millions of loan records, and published five reports with our findings. We conducted field hearings to hear from local communities and stakeholders on all sides of these issues. We heard stories from faith leaders all over the country about the tragic ways these loans shatter financial stability for the people they serve. And we carefully reviewed well over a million comments on our proposal from all sides: payday and auto title borrowers, consumer advocates, lenders, tribal leaders, state officials, and others.
The final rule issued today applies the underwriting requirements only to lenders of short-term and balloon-payment loans. This is a change from our proposal, which would have required underwriting for a wider swathe of longer-term loans. We want to take more time to consider how the longer-term market is evolving and the best ways to address practices that are currently of concern and others that may arise as the market responds to the reforms prompted by this new rule. We also made many other changes in the rule in response to the comments we received. These changes include crafting the provisions just described for community banks, credit unions, and “fintech” innovations, among others. We modified many components of the full-payment test to make them more manageable and practical and we refined our approach to the principal-payoff option. These changes took considerable time and effort, but they led to the improved rule we are issuing today.
We believe this rule will have a positive impact on communities and borrowers and will improve the market for these products. The principle that lenders must actually evaluate the borrower’s chances of success before making a loan is just plain common sense. These protections also are in addition to existing requirements under state or tribal law, which can go beyond federal law to be even more protective of consumers. The states that do not authorize payday loans will not be affected by our rule. In the states that do authorize payday loans, we believe most people will be able to get the credit they need by passing the full-payment test or through one of the other options. And all those who use payday or high-cost installment loans will be safeguarded against multiple attempts to extract payments from their accounts that cause mounting fees and penalties. Ultimately, we believe this rule will allow for responsible lending while ensuring that people are not saddled with unaffordable loans that undermine their financial lives. That important goal is worth all the efforts we have made here. Thank you.
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The Consumer Financial Protection Bureau is a 21st century agency that helps consumer finance markets work by making rules more effective, by consistently and fairly enforcing those rules, and by empowering consumers to take more control over their economic lives. For more information, visit consumerfinance.gov.
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