Borrower beware: payday loans, an expensive and controversial option

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For a family struggling to make ends meet, an unexpected expense – a broken down car, a broken water heater, emergency medical care, etc. – can force difficult choices. For people who don’t have the luxury of borrowing from financially stable family or friends, and for those with less than ideal (or non-existent) credit histories, a payday loan may appear. as the most promising option.

Payday loans are short-term loans that last approximately the length of a typical pay period (14 days). Essentially, high-risk borrowers use a payday loan as an advance on their next paycheck, and the lender charges a fee for the service.

The numbers show just how popular payday loans are in Indiana. According to a Center for Responsible Lending report, Hoosiers borrowed $502.9 million in payday loans and paid $70.6 million in related finance charges in 2013. In Marion County, there are 92 loan storefronts on salary, more than the number of McDonald’s and Starbucks stores combined (71).

Jessica Fraser, program manager for the Indiana Institute for Working Families, said while payday lenders provide a necessary service to people who might otherwise be shut out of financial institutions, they are not without drawbacks.

One of the main concerns is the possibility of a borrower getting stuck in a debt trap – a cycle of paying off then reborrowing payday loans, racking up finance charges along the way.

Another major concern: high interest rates.

“We know that businesses need to be profitable; we know people need access to credit. But there has to be a way to do that without having such high rates, a way for them to profit and for people not to profit,” Fraser said.

According to a report by Fraser’s organization, Indiana law does not limit the annual percentage rate (APR) that can accompany a payday loan, but “finance charges essentially cap the APR at approximately 391%.

“Thirty-six percent APR is the maximum we can sustain in good conscience,” Fraser said of the Indiana Institute for Working Families.

Fraser said Indiana also limits payday loan principal and finance charges to 20% of the borrower’s income, but research indicates low-income borrowers can only pay up to 5% of their income. income on these loans while being able to cover living expenses and avoid re-borrowing. of the lender.

So-called cooling off periods – the time a borrower must wait before borrowing again – are another controversial area of ​​payday loans. Fraser said the institute will study cooling periods over the summer to identify best practice, but across the country these periods vary from 24 hours to 45 days.

These and other concerns, including the fact that payday lenders are clustered in poor areas and are sometimes seen as taking advantage of borrowers’ need, are why the Federal Consumer Financial Protection Bureau should issue new regulations. regarding payday loans. Fraser said there was a lot of speculation about the new guidelines, but there was no clear information yet on what the rules might entail.

But Indiana Rep. Woody Burton, R-Whiteland, said news circulating about potential new regulations has prompted payday lenders to seek his help in creating a new kind of product. Thus, House Bill 1340 was drafted to create “small long-term loans”.

The bill was referred between committees and had several hearings; eventually he was recommended for a summer study committee, but not before eliciting a community response.

Fraser said the Indiana Institute for Working Families was just one organization among a coalition of faith leaders and community leaders who banded together to oppose the bill as it was drafted in the origin.

In the first draft, a “long-term small loan” was defined as a $2,000 loan with a one-year term with an APR of 340%. Interest would also be charged based on the original principal, rather than the principal remaining over the life of the loan.

“So when you add it all up, someone would take out a $2,000 loan and pay $4,800 in interest,” Fraser said.

After learning more about the interest implications, Burton said, he couldn’t “accept this type of interest rate.”

The committee did not accept the original version of the bill, and it was later amended to allow a six-month loan of $1,000 with an APR of at least 180%. The second project also failed to make it out of the committee.

Both Fraser and Burton said that having the bill taken up by the summer study committee would be positive, as it would allow for an in-depth discussion of the issue.

Burton said while he’s usually not a regulator, he wants to make sure consumers who use payday lenders are protected.

“Before, they were absolutely unregulated. People were lending money in parking lots, breaking people’s arms, all kinds of crazy stuff,” he said. “So I argued, as long as the payday lenders are here, let’s make sure we know what they’re doing, and that consumers are made aware of what they’re getting into and what’s going on for them. cost.

“There are people who thought I was trying to lobby for some sort of high interest loan. I was never in favor of that. I try to make sure those are regulated where consumer safety is paramount and the supplier is fair and equitable.

Fraser said she looks forward to new federal guidelines for payday loans, but in the meantime borrowers should look for other options. Some credit unions offer short-term loans with better interest rates than consumers can find at payday lenders. She said two pilot programs in Lafayette and northeast Indiana are also experimenting with short-term loans for high-risk borrowers at 18% interest. And while Indiana’s payday loan regulations are considered better than other states (no loans are made for vehicle titles as collateral, for example), Fraser said the job was not not finished.

“In some ways, we’re in a much better position than some other states, but that doesn’t mean Hoosiers shouldn’t expect better consumer protections. It could always be better.

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