CFPB finalizes payday lending debt trap rule

Inside Subprime: October 6, 2017

By Caroline Thompson

On Thursday, the Consumer Financial Protection Bureau put the finishing touches on a rule that, if properly enacted, could stop payday loan debt traps by forcing lenders into stricter borrowing standards.

“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.”

By requiring that all payday lenders first verify that their borrowers will have the means to pay back their loans on time, the CFPB hopes to prevent money-stressed consumers from being trapped in an expensive cycle of rolling over their loans and getting stuck with even more fees as a result.

According to CFPB research, one of the biggest stressors on payday borrowers are the short payment terms of these kinds of loans. Many payday lenders offer as little as seven to 14-day initial payback periods, and this is deliberate. Payday lenders actually make most of their money from the four out of five borrowers who are forced to extend their loans, not from the borrowers who pay their loans back in time.

In a press call on Thursday, Cordray explained how the vicious payday loan cycle works to keep borrowers coming back against their will:

“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,” Cordray said. “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.”

In order to combat this destructive cycle, the CFPB rule will:

  • Require lenders to conduct a “full-payment test” on loans over $500, which will determine before a loan is granted whether or not the borrower has the means to make the payments and still afford basic necessities.
  • Prohibit lenders from offering loan extensions more than three times, or for people who already have outstanding short-term loan debt.
  • Give credit-poor consumers access less risky loan options from community banks and credit unions.
  • Ban lenders from making more than two unsuccessful, direct-from-checking withdrawals without getting new authorization from the borrowers.

These guidelines are the culmination of five years of “research, outreach and a review of more than one million comments” from borrowers, consumer advocates, state regulators and other affected parties. The rule will take 21 months to go into effect.

To learn more about the dangers of payday loans, check out these related pages and articles:

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