The Consumer Financial Protection Bureau soon will release its first draft of regulations aimed at governing a wide range of short-term loans - including credit backed by car titles, some installment loans and often-criticized payday loan.
Consumer groups and federal and state regulators have been clamping down on such loans for several years, and that intensified after the 2008 financial crisis.
The new federal rules likely will set off a fresh round of aggressive lobbying from the estimated $46 billion payday loan industry - something that already has happened in states such as Kentucky, New Mexico and Washington. Lobbyists are trying to weaken state laws restricting short-term loans or stop new caps before they gain traction.
The lenders believe that if the federal rules are too burdensome, extending loans will become too expensive, strangling a form of credit that often is the only option for millions of Americans, even if it is costly.
According to a CFPB analysis of roughly 15 million payday loans, the median income of payday loan borrowers was just more than $22,400 a year. Nearly 70% of borrowers use the loans to cover basic expenses, with only 16% tapping the loans for emergencies, The Pew Charitable Trusts found. That shaky financial footing helps explain how just one loan can spiral into a web of fees that exceed the amount first borrowed.
At the core of the regulations under consideration apparently is a requirement that lenders determine whether borrowers can repay loans - both interest and principal - at the end of a two-week period by examining their income, other debts and their payment history. The numbers have suggested few people can afford to do so. Too many borrowers either roll over their loans, heaping on more fees, or take out new ones. The CFPB found that during a 12-month period, borrowers took out a median of 10 loans, paid median fees of $458 and the median amount borrowed was $350. More than 80% of loans were rolled over or renewed within two weeks.
According to the Center for Responsible Lending, repeat borrower business accounts for a good portion of the business model. Borrowers who take out 11 or more loans annually account for an estimated 75% of the fees.
The CFPB is hoping to balance the negatives of the lending cycle with the positives of preserving some form of credit. It's as yet unclear how the bureau might be able to do that.
It's possible that lenders will need to put additional protections in place that could include limiting the size and timeline of loans or possibly limit the number of times a lender can roll over a loan in a 12-month period. Some lenders have argued against include car title loans and installment loans in the crackdown. But certain installment loans, for example, with interest rates that exceed 36% most likely will be covered in any new rules.
Last week, Nick Bourke, director of the small-dollar loans project at The Pew Charitable Trusts, wrote that the CFPB could learn a lot from reform taking place in Colorado.
"[The CFPB] would be well served to model its proposed rules after Colorado's. The meaningful reforms that state's lawmakers implemented in 2010 have dramatically improved outcomes for payday loan borrowers while still maintaining consumers' access to credit."