As discussed in our previous post, the Consumer Financial Protection Bureau (CFPB) has proposed a regulation that would impose numerous requirements regarding small-dollar lending. Unquestionably, that rule would be significant because it would establish a nationwide, federal standard for covered small-dollar loans, and lenders could not circumvent the rule’s requirements by choosing which state or states to operate in. But a CFPB rule also would not displace the role of the states. State regulators would continue to be able to license and supervise small-dollar lenders, and would be able to maintain their own laws, including those more protective of consumers and not inconsistent with the CFPB rule. State authorities would also continue to investigate and prosecute small-dollar lenders for unlicensed activity and other activity alleged to violate state law.
The role of cities in regulating small-dollar lending is often overlooked, but can have a significant impact as well. In Texas, for instance, over 20 cities have enacted ordinances that regulate payday and title loans. These ordinances generally limit the number of times a loan can be renewed and require that new loans taken out within a certain time period (such as seven days) of paying off a previous loan count as a renewal. The ordinances also limit the amount of credit a lender can extend to a borrower based on the borrower’s gross monthly income for payday loans and based on gross monthly income and vehicle value for title loans. Violations of these ordinances are punishable with criminal penalties.
Stakeholders should monitor activity at the state and local levels because state and local laws may change in a number of ways. A CFPB rule could actually embolden arguments for repealing or weakening state and local laws as unnecessary in light of the federal scheme. But conversely, state and local laws also could be amended to set stricter limits on small-dollar loans. If the CFPB’s issuance of a final rule is delayed, it could result in additional activity at the state and local levels. Consumer advocates continue to assertively press the states and cities to increase consumer protections in this area. For example, NCLC has urged states to remain alert to more dangers that could be posed by longer-term installment loans than traditional short-term payday loans, which include balloon payments. “In theory, installment loans can be safer and more affordable than balloon payment payday loans,” the NCLC stated. “But states need to be vigilant to prevent the growth of larger predatory loans that can create a debt trap that is impossible to escape.”
The NCLC has provided numerous specific recommendations for states, including to impose “clear, loophole-free caps on interest rates for both installment loans and open end credit. A maximum APR of 36% is appropriate for smaller loans, such as those of $1000 or less, with a lower rate for larger loans”; to “[p]rohibit or strictly limit loan fees, which undermine interest rate caps and provide incentives for loan flipping”; and to “[b]an the sale of credit insurance and other add-on products, which primarily benefit the lender and increase the cost of credit.”
NCLC is an influential group, and it is possible some states or localities may incorporate these recommendations into their laws.
It is also possible that states may look to the results of research studies when determining whether to enact new laws or amend existing ones. A number of entities have conducted studies of the effects of state measures to ban payday lending, evaluating whether such measures ultimately benefit consumers. Some studies have suggested that increased regulation of small-dollar lending may pose certain risks to consumers who could use such credit. For instance, one study, conducted by a former Director for the Federal Trade Commission’s Bureau of Consumer Protection, found that requiring the use of “simple” affordability criteria, such as payment-to-income ratio limits, may result in a substantial reduction to the availability of small-dollar credit and stated that a payment-to-income ratio alone is a poor predictor of loan repayment.
Three states have already taken action to amend state small-dollar lending laws this year. In New York, Governor Andrew Cuomo included changes in his proposed budget bill that would greatly expand licensing requirements for both consumer and commercial lenders. Currently, New York’s licensed lender law requires licensing for consumer and commercial lenders only if the lender will charge more than 16% interest per year. The proposed bill would generally require licensing for all consumer and commercial lenders, regardless of the interest rate on the loans. The bill would also expand licensing requirements to loan brokers and companies who purchase consumer or commercial loans.
New Mexico is considering a bill that would generally limit all loans made by an entity other than a federally insured depository institution to an interest rate of 36% per year. Currently, New Mexico’s payday loan statute caps interest at roughly a 400% annual percentage rate, but the statute does not apply to loans of more than $2,500 or loans longer than 35 days. The new law would apply to all loans, not just payday loans, and would require the interest rate limitation to include all fees on a loan, including any fees related to ancillary products. If the proposed law is passed, any loan entered into after July 1, 2017 with an interest rate higher than 36% would be void under New Mexico law.
In Indiana, a bill has been proposed that would increase the interest rates at which small-dollar lenders can extend credit. The proposed law, which, if enacted, would become effective July 1, 2017, would add new provisions to Indiana’s existing regulated and supervised loan statutes for “long term small loans.” A “long term small loan” would generally mean a loan made by an entity licensed by the Indiana Department of Financial Institutions with a principal amount of $605-$2,500 and a loan term of not longer than 24 months. A licensed lender would be permitted to charge a monthly loan finance charge up to 20% of the principal on such long term small loans.
Overall, state and local oversight should remain a focus for anyone involved in the small-dollar lending space even if the CFPB holds its course. We will continue to monitor the New York, New Mexico, and Indiana proposed laws, as well as legislative and regulatory developments affecting the small-dollar lending industry in other states.
Next: Competition for Nonbank Small-Dollar Lending?