American Banker recently published a column defending payday loans. The author, Ronald Mann, takes issue with those who say borrowers are "forced" to take out another loan, arguing that this word is too strong. "Forced" is not too strong a word.
Payday lenders often pull payments directly from a borrower's checking account as soon as they get paid, so by the end of the month most people cannot pay off their loans and cover their normal living expenses. They end up taking out loan after loan to cover the difference at the end of the month, falling into a swift downward cycle of debt.
Borrowers feel trapped because they are faced with two terrible choices: take out another exploitative loan because of the shortfall created by the first loan, or face a range of catastrophic consequences associated with defaulting.
These predatory payday loans are misleadingly marketed to cash-strapped borrowers as a one-time quick fix for their financial troubles. In my work representing California's 38th congressional district, I have seen the real-life impact these loans create on hardworking men and women struggling to make ends meet.
At a recent roundtable in my district, Davina Dora Esparza, a former payday loan borrower from East Los Angeles, told me: "I was stuck in the payday loan debt trap for over three years and paid over $10,000 in fees alone on multiple payday loans. This experience created a lot of stress for me and I couldn't find a way out. I ended up defaulting on my loans earlier this year, and I will never go back."
If we can look beyond lawyerly semantics, we can easily see most payday, car title and installment loans are carefully designed to trap borrowers in debt and maximize profits. According to a Department of Defense report, "The debt trap is the rule, not the exception." The CFPB's own research found that over 75% of payday loan fees were generated by borrowers who took out more than 10 loans a year. And the nonpartisan Center for Responsible Lending found that 76% of all payday loans are taken out within two weeks of a previous payday loan — this is a downward debt spiral.
In response to these troubling statistics the federal Consumer Financial Protection Bureau is considering rules to curtail these abuses. The payday lenders are mounting a full-court press to prevent the adoption of strong rules that would end the exploitation of borrowers.
As in many other financial transactions, there is a difference in the level of knowledge between the lender and the borrower. In mortgage lending, for example, there are firm rules in place that prevent lenders from signing borrowers into ruinous loans they will not be able to repay. An "ability to repay" standard that confirms payday loan borrowers can actually repay the loans they are taking out is a completely reasonable consumer protection. It should be included in the CFPB's rules because it will make it much more difficult for lenders to trap borrowers in debt. I also hope the bureau will consider stopping the debt cycle by putting outer limits on the amount of time that people can be stuck in unaffordable debt, such as the FDIC's guidelines of 90 days.
There is strong bipartisan support for the CFPB to create payday lending consumer protections. I am also convinced by what Davina told me. She said, "I hope the CFPB's new rules will prevent other people from going through what I did." That is my hope as well, and I hope the CFPB is paying attention to the real-world experiences of people like Davina.
Linda Sánchez, a Democrat, represents California's 38th district in the U.S. House of Representatives. She serves on the House Ways and Means Committee.