New study finds employers can help low-wage workers with payday loan alternative

Inside Subprime: May 17 2018

By Jacob Rogers

While high-interest payday loans continue to plague low-income Americans, new research from Harvard shows that, thanks to new Fintech products, employers can help employees access much needed credit at affordable rates.

Harvard researchers Todd Baker and Snigdha Kumar say mobile and online financial services products, sponsored by employers, can help a wide swath of borrowers by using salary-linked credit products. These services automatically deduct the loan cost from the employee’s paycheck, allowing the lender charge a lower rate, as the link to payroll confirms the borrower’s employment and income status in ways a traditional credit check cannot.

One example used by Baker and Kumar was an online loan service currently operating in the United Kingdom, whose services will be available in the U.S. mid-2018. SalaryFinance can offer short-term installment loans with an annual interest rate of 11.8 percent, even to borrowers with U.S. FICO scores of 480 to 500. Compare that to the average APR of 400 percent that these same borrowers would be shackled with if they took out a payday loan, and the benefit to consumers is obvious. On top of offering a lower rate, SalaryFinance’s default rates are 20 percent less than what would be predicted by credit scores.

Another example is PayActiv, which gives employees access to earned, but not yet paid, salary. It cost $5 in any month the service is used, but many employers pay all or part of the fee. Comparatively, the average cost of an overdraft fee or payday loan is $35, the researchers said.

According to Baker and Kumar, “These dramatically lower rates are possible because repayment comes directly from the employee’s paycheck. For PayActiv, this almost entirely eliminates risk.” PayActiv is now available to Walmart employees, who received over $30 million via the product from December 2017 to March 2018.

So what does this mean for employers? According to preliminary research, using products like this could improve employee retention. Annual turnover rates are 19 to 28 percent lower among users of PayActiv and SalaryFinance, though Baker and Kumar caution that more research is needed to prove a causal relationship. However, they don’t discount what less turnover means for businesses, estimating turnover cost at Target cost the company $567 million every year.

“Even a 5% reduction in turnover is worth around $28 million to a company like Target,” they said. “[A] full 28% reduction would be worth close to $160 million a year. That would be a gold mine for shareholders.”

While being good for business and shareholders is great, how it affects you, the consumer, is most important. Employer sponsored, salary-linked, short term loans could potentially help millions of low-income workers in the United States avoid predatory lenders who make money off the financial stress of poor people.

To learn more about short-term lending in the U.S., check out these related pages and articles from OppLoans: