Sunday, April 5, 2015

The CFPB Proposal to End Payday Debt “Traps”: Part 1

A little over a week ago, the CFPB announced that it is considering rules that would “end payday traps by requiring lenders to take steps to make sure consumers can repay their loans.”  See Press Release, “CFPB Considers Proposal to End Payday Debt Traps.” If the final rules bear resemblance to the CFPB’s current proposal, they are likely to cause a significant contraction in both the market place and in consumer access to short term loan programs.    

Publication of a proposed rule is not likely until at least the late summer or fall.  Because the rules may have a significant economic impact on a substantial number of small entities, the CFPB is required to convene a small business advisory review panel to provide input as to the impact of the proposed rules.  Within sixty days of convening the Panel is required to issue a report setting forth the potential impacts of complying with the proposed regulations and feedback on the potential options and alternatives to minimize the economic impact.  After that, the CFPB will still be required to publish the proposed rule, seek comments and publish a final rule with an implementation period. 

The CFPB provides as its rationale for the proposal that the loan products at issue are harmful because “the loans are structured with payments often beyond a consumer’s ability to pay, forcing the consumer to choose between default and repeated reborrowing.”  See Outline of Proposals Under Consideration and Alternatives Considered, p. 3 (Mar. 26, 2015).   The CFPB goes on to contend that because these loan products often provide liens on motor vehicle titles or provide for repayment from consumer’s account of paychecks, lenders have “less incentive to carefully underwrite the loan and consumers face a greater risk that they will lose their transportation to work, incur bounced check fees and other charges, or experience other bank account problems if they fall behind.”  Id., pp. 3-4/   The CFPB’s proposal contemplates rule making for short term loans (those defined as requiring payment in full within 45 days), as well as higher cost longer term loan products.

Today’s entry will focus on the short term loan proposal with additional entries to follow regarding the longer-term loan proposal, the collection practice procedures and compliance measures proposed as to both, and our assessment of the problems presented by the proposal.

The Proposal: Prevention and Protection

The CFPB’s proposal regarding short term credit products sets forth two alternative path for lenders to take when dealing with short term credit products: prevention and protection.  Short term credit products are defined as being those credit products that would require the consumer to pay back the loan in full within 45 days.  Lenders will have the ability to choose one of two business models:

The “prevention” alternative focuses on the consumer’s ability to repay the loan.  This alternative requires the lender to make a good faith determination at the outset of the loan as to whether the consumer has an ability to repay the loan when due, including all associated fees and interest, without reborrowing or defaulting.  For each loan, the lender would be required to verify the consumer’s income, major monthly financial obligations and borrowing history (with the lender, its affiliates and possibly other lenders).   A lender would generally have to comply with a 60-day cooling off period between loans.  A second or third loan could only be made within the 60-day cooling off period where the lender could document a change in the borrower’s financial condition.  In any event, after three covered short term loans, a mandatory 60-day cooling off period would have to elapse before the lender could make a covered short term loan to the consumer. 

The “protection” alternative focuses on the repayment options and limiting the number of short terms loans a buyer could take out in any twelve month period.   Under this alternative, a lender would not be required to determine the consumer’s ability to repay.  Instead: (a) the loan could not exceed $500; (b) be secured by the consumer’s vehicle; (c) carry more than one finance charge; (d) rollover more than twice; and (e) any rollover would have to taper off.  The CFPB is contemplating two “tapering” alternatives.  Under the first, the amount of principal on each rollover would taper in such a manner as to prevent an unaffordable balloon payment when the third payment is due.  Under the second, the lender would be required to provide a no-cost extension to the consumer if the consumer was not able to pay off the loan in full at the end of the third loan.

Tomorrow’s entry will focus on the proposal regarding Longer-Term Loans.

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