The Federal Reserve Board is coming under fire from consumer advocates and congressional Democrats for reportedly not joining other federal banking regulators in a crackdown on so-called deposit advance loans.
Opponents of the loans compare them to payday loans, saying they trap consumers in a cycle of debt. But in an effort to sway the Fed, advocates are using a different argument — saying the loans also are a threat to the safety and soundness of the banks that make them.
It is unusual for one of the federal banking agencies to split with the others on proposed regulations. But the Fed has not agreed to a plan from the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp. to impose new restrictions on the loans, according to multiple sources.
"We hope that the Fed will follow suit. We don't know why they didn't join the other regulators," says Lauren Saunders, an attorney at the National Consumer Law Center.
The OCC and the FDIC are expected to release their proposed new rules Thursday. Under guidelines they are expected to propose, banks would be required to give borrowers a month-long cooling-off period between the repayment of one loan and the issuance of another. Banks would also be required to underwrite the loans based on the borrower's ability to repay them, rather relying on their ability to roll over the debt into a new loan. Taken together, the proposed rules will likely have a major impact on the ability of banks to offer the loans. But a split between the federal banking agencies might allow some banks to continue offering the products in their current form, while forcing others to make major changes.
Just six banks are known to offer deposit advance loans, according to the Center for Responsible Lending.
Four of them — Wells Fargo (WFC), U.S. Bancorp (USB), Guaranty Bank (GBNK) and BOK Financial (BOKF) — are regulated by the comptroller's office. But the other two — Fifth Third Bank (FITB) and Regions Financial (RF) — are state-chartered institutions that are regulated by the Fed.
The OCC and the FDIC were hoping to release their proposed rules weeks ago, according to a source familiar with the matter, but were delayed by the Fed's refusal to join them.
So far, the Fed appears unconvinced that deposit advance loans pose a threat to the safety and soundness of the banks that make them, consumer advocates and a Democratic congressional source said.
If the Fed concludes that the loans raise only consumer protection concerns, it could defer on the issue to the Consumer Financial Protection Bureau. The Fed is expected to release soon to the institutions it supervises an advisory that will discuss deposit advance loans from a consumer protection standpoint.
The consumer bureau is expected to move forward with its own crackdown on deposit advance loans, based on the idea that they are unfair to borrowers, but those rules will likely take significantly longer to implement than the actions of the other federal regulators.
According to a report issued Wednesday by the CFPB, chargeoff rates on deposit advance loans are less than 5%. Despite their profitability today, consumer advocates argue that the loans pose a safety and soundness risk.
"They could lose the customers," Saunders says. "The bank could become dependent on a form of income that goes away when consumer protection regulations come along."
In a letter Tuesday to Fed Chairman Ben Bernanke, three House Democrats attempted to turn up the heat on the Fed. Reps. Elijah Cummings, John Conyers and Suzanne Bonamici argued that deposit-advance loans violate basic safety and soundness principles because they lack traditional underwriting.
"They also pose severe reputational risk, as evidenced by sweeping negative reaction to these products," the Democratic House members wrote.
One member of the Fed's board of governors, Sarah Bloom Raskin, made a similar argument in a February speech, suggesting there may be a difference of opinion inside the Fed.
She said that payday loans are among a number of factors that have magnified "the public's lack of trust and confidence" in financial institutions. It was not clear, though, whether her remarks about payday loans were intended to refer to the deposit-advance loans made by banks or only those loans made by nonbanks.
Bloom Raskin was traveling Wednesday and unavailable for an interview, according to a Fed spokeswoman. Fellow Gov. Elizabeth Duke, who chairs the Fed's consumer committee, declined an interview request.
Fed representatives are scheduled to discuss deposit-advance loans in a meeting with congressional staffers Thursday, according to a House Democratic aide.
The Fed did release a statement Wednesday on deposit-advance loans, though it only addressed the consumer bureau's new report about the product, and not its own split with fellow regulators.
"The Federal Reserve welcomes the Consumer Financial Protection Bureau's analysis of deposit advance products and is working with the bureau to protect consumers from the risks in this market," the statement read.
Industry officials were measured in their responses to the CFPB report, which concluded that U.S. consumers often get trapped in a cycle of debt, no matter whether they borrow from a storefront payday lender or a bank.
"Many consumers rely on short-term loan products for life events and during tough economic conditions," Richard Hunt, president of the Consumer Bankers Association, said in an email. "We look forward to working with all regulators to ensure all financial entities provide these products in a transparent manner."
"It is important to underscore that this preliminary report is a starting point for further conversations rather than a set of definitive conclusions," the Consumer Financial Services Association, which represents storefront payday lenders, said in a statement. "The report also looks narrowly at payday loans and deposit advance and not at other short-term credit options available to consumers."