Are payday loans safe for consumers?

The payday loan racket may have gotten tougher for lenders, but it remains treacherous for consumers.

Last week, the Consumer Financial Protection Bureau announced a new set of protections for borrowers using these services. Financial experts and consumer advocates have sharply criticized the payday loan industry for its predatory practices that trap borrowers in cycles of debt. According to the CFPB, the new rules aim to break this pattern.

Payday loans are usually for relatively small amounts, usually several hundred dollars at a time, and are due by the borrower’s next paycheck. Essentially, they act as a third party advance; however, at interest rates that almost dwarf any other form of loan. A typical payday loan may charge an APR of 300-400%.

Cash-strapped consumers often struggle to make these payments and therefore must take out a new loan at the end of the month to pay for both necessities and service on the loan. According to research by Pew Charitable Trusts, although the average borrower takes out $375, they can only afford to pay $50. So they take out a new loan and then another to avoid defaulting on debt or bills elsewhere, so much so that the same research indicated that over 80% of the time a payday borrower takes out another within 14 days.

About a quarter of all loans are rolled over in this way at least nine times, with the borrower eventually paying more interest than they borrowed in the first place.

It is for this reason that industry experts have often criticized the payday loan industry as targeting vulnerable consumers. People with more money and therefore generally better credit have access to better regulated products such as credit cards and short-term personal loans.

The new CFPB rules aim to ensure that borrowers can afford to repay their debt without crippling their household budgets. Among other things, the agency will institute three major consumer protections:

A full payment test

This rule, according to the Bureau’s announcement, will require lenders “to consider whether the borrower can pay loan repayments while meeting basic expenses and major financial obligations.” It will apply to any short-term loan requiring payment in full, but lenders who offer more structured payment options can skip this test.

Principal repayment options

To weaken the cycle of debt triggered by consecutive loan cycles, the CFPB announced, this rule will allow borrowers to skip certain consumer protections if the lender offers extensions and payment plans to borrowers who need more. time.

Charge attempt thresholds

Lenders can only debit a borrower’s checking or prepaid account directly with written notice, and can only do so twice without additional written authorization from the borrower.

Altogether, these protections are intended to help low-income borrowers manage their debt more effectively, the CFPB said in its announcement. Many of the new rules target the original nature of payday loans, requiring and incentivizing lenders to offer structured payment plans that borrowers might find easier to repay.

However, not everyone is happy with this.

Talk with consumer reportsDennis Shaul, CEO of the Community Financial Services Association of America, argued that these new rules will make it much harder for low-income people to access cash.

“Millions of American consumers use small dollar loans to manage budget shortfalls or unexpected expenses,” he said.

And the demand is there. According to research by Pew Charitable Trusts, almost 5% of adults take out a payday loan in any given year. The demand is certainly there, and proponents argue the industry is filling a need by allowing people to cover for emergencies and unexpected expenses.

Yet researchers say these claims are misleading. Experts say the overwhelming majority of payday loan funds are used for day-to-day expenses such as groceries and bills and about 75% of industry profits come from borrowers who have to take out more than ten loans per year.

These borrowers may now have more options available than a one-year debt trap.

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