Payday Loan Times

Payday loans are not necessarily predatory, says a surprising new report from the Federal Reserve Bank of New York.

Payday lenders are touting the report while consumer groups note that the report is still preliminary and does not reflect what they see in the real world of low-income borrowers.

The report comes out at a time of growing concern about fast payday advance lenders. New Kansas Attorney General Paul Morrison has called for a round-table discussion on whether payday loans trap borrowers in long-term debt.

However, the report by Federal Reserve Bank of New York research officer Donald P. Morgan argues that contrary to arguments that payday loans are predatory, payday lenders may actually enhance the welfare of households by increasing the supply of available credit in a state.

The report agrees that bad credit cash loans can be expensive, but it found “credit delinquency rates are not higher for households in states with higher payday loan limits.”

Moreover, it said payday loans may provide a “preferable” alternative to pawn shops. “Despite their alleged naiveté, payday borrowers appear sophisticated enough to shop for lower prices.”

“This report gives clear and objective scholarly evidence that payday loans are not predatory,” said Darrin Andersen, president of QC Holdings in Overland Park and also president of the Community Financial Services Association of America, which represents many easy payday loan lenders nationally.

But consumer groups and credit counselors disagreed with the findings of the report, which they note is still preliminary. The report seeks comment from consumer groups and the public.

“It depends on how you define predatory,” said Tim Hagan, director of education for Consumer Credit Counseling Service in Kansas. “It appears the Federal Reserve report is an academic discussion,” he said. But, he said, in the real world, counselors are seeing more people trapped in payday loans with high fees.

The trap, he said, is that people don’t fully understand how payday cash advances, which can carry 390 percent annual interest rates, can be sucked into revolving debt with fees costing three times the amount of the debt.

“We’ve seen people in counseling who are just trying to maintain the fees on the debt.”

Both sides say the report will help spark more debate nationally.

Payday Loans Not Predatory.

Such is the name of the release issued earlier today by Community Financial Services Association of America. We’re printed it below, as it outlines why a bad credit cash loan is not as dangerous as many have been led to believe.

WASHINGTON, Jan. 24 /PRNewswire/ - Payday loans are not predatory and may actually enhance the welfare of households, according to a new report issued by staff of the Federal Reserve Bank of New York concluding that payday lending “does not fit our definition of predatory.”

“This report gives clear and objective scholarly evidence that [instant cash loans] are not predatory,” Darrin Andersen, president, Community Financial Services Association of America (CFSA), said of the groundbreaking report, Defining and Detecting Predatory Lending, which was authored by Federal Reserve Bank of New York Research Officer Donald P. Morgan.

“To the contrary, the report concludes that payday lenders may actually enhance the welfare of households by increasing the supply of credit.”

“By demonstrating that payday loans are not predatory, this report refutes the key criticism leveled against [fast payday advance] lenders,” Andersen said. “The media and critics of the industry should consider the conclusions made in this important study.”

Payday advances have helped countless people pay their utility bills, make auto and household repairs and take care of other immediate family needs.

“Our industry exists solely because we offer our customers a product that is more desirable than the alternatives,” said Andersen.

“Higher prices are neither necessary nor sufficient to conclude that a certain class of credit is predatory,” Andersen continued. “As shown in this report, our customers are capable of looking at their financial options and making educated decisions as to how they can meet unexpected or unbudgeted expenses.”

Defining and Detecting Predatory Lending examined differences in household debt and delinquency across states that allow payday cash loan lending and those that do not and compared the change in those differences before and after the advent of payday lending.

Particular attention was paid to those households that are generally perceived as more vulnerable to predation (those with income uncertainty or less education).

To read the report, click here.

Motley Fool offers readers stock and financial tips. Here’s what it has to say about the future of one pawn shop/payday loan company:

What management says:
Cash loans are going to continue to become a much larger part of EZCORP’s future as 100 new EZ Money stores will be opened this year. In 2006, that expansion of the payday loan concept - EZCORP’s “signature loans” - caused revenues to nearly double to $7.7 million, while pawn shops, which haven’t had a single new store added since 2000, grew 17% last year.

President and CEO Joe Rotunda noted that the company opened 46 new cash advance loan shops in the fourth quarter alone, marking it as the third consecutive year of 100 or more new store openings.

He plans to open a few more stores in Mexico, a market that was already heavily using the Texas border stores. The company was forecasting per share earnings of $0.58 to $0.60 for the first quarter, but that was before the three-for-one stock split the board authorized in November, so analysts are on board for EZCORP to hit the high end of their range.

What management does:
As EZCORP continues to expand into payday cash advance lending, the costs associated with running those shops continue to drop in comparison to its pawn shops, which require half the personnel the latter does.

Moreover, with pawn shops largely dependent upon the price of gold to determine both its profits and its costs, the easy money might be over there for awhile. Profits have been fat - gross margins on pawn sales grew from 38.5% in 2004 to 39.8% in 2006 - but if inflationary pressures subside as oil prices stabilize, we may see precious metals like gold come down as well.

Advice:
Better returns at higher rates with fewer expenses make it easy to see why EZCORP is turning to faxless payday loan lending, even if it has to comply with the full set of federal and state regulations that have been imposed on the industry in the past few years.

With most of its operations centered in and around Texas, EZCORP is largely dependent upon the local economy, though it is branching out in the U.S. and now Mexico.

The easy money may already have been made in this stock. However, if the subprime lending market is in as much trouble as analysts contend, then short-term cash advance lenders may see some opportunities for good growth yet.

The following is from a study just completed by the Federal Reserve:

A forthcoming study, “Defining and Detecting Predatory Lending,” by Donald P. Morgan, Research Officer, Federal Reserve Bank of New York, and Samuel G. Hanson, Graduate Student, Harvard Business School, concludes that bad credit payday loans are not a “welfare reducing” form of credit.

To the contrary, the authors suggest that payday lenders enhance the welfare of households by increasing the supply of credit.

Noting the difficulty in defining “predatory,” the authors set out to distinguish predatory lending from “the kind that helps households maintain consumption even as their incomes fluctuate.” They examined differences in household debt and delinquency across states that allow payday cash advance lending and those that do not and compared the change in those differences before and after the advent of payday lending.

Particular attention was paid to households that seem more vulnerable to predation (those with income uncertainty or less education).

Excerpts from the report:

• Payday loans are not welfare reducing, or “predatory”

“We define predatory lending as a welfare reducing provision of credit.”

“Our findings seem mostly inconsistent with the hypothesis that [no fax cash advance lenders] prey on, i.e., lower the welfare of, households with uncertain income or households with less education.”

“On the whole, our results seem consistent with the hypothesis that payday lending represents a legitimate increase in the supply of credit, not a contrived increase in credit demand.”

• Payday loans may enhance the welfare of households

“Credit delinquency rates are not higher for households in states with higher payday loan limits.”

“Households with uncertain income who live in states with unlimited payday loans are less likely to have missed a debt payment over the previous year…consistent with claims by defenders of payday lending that some households borrow from payday lenders to avoid missing other payments on debt.”

“Those types of households who happen to live in states that allow unlimited payday loans are less likely to report being turned down for credit, but are not more likely, by and large, to report higher debt levels…”

• Price does not make payday loans online “predatory”: limiting access raises prices

“Higher prices are neither necessary nor sufficient to conclude that a certain class of credit is predatory.”

“We find somewhat lower payday prices in cities with more payday stores per capita, consistent with the hypothesis that competition limits payday loan prices…The problem of high prices may reflect too few payday lenders, rather than too many.”

“Before payday lending…very small, short-term loans may not have been worthwhile for banks. [Lending of payday cash loans] technology may have lowered those fixed costs, thus increasing the supply of credit…That suggests the payday innovation was welfare improving, not predatory.”

The government must reform lending practices - such as those involving payday cash advances - that prevent the poor from saving money and owning a home, said Senator Chris Dodd, (D-Conn., pictured) the incoming chairman of the Senate committee on banking, housing, and urban affairs.

It may take a new law to do so, if pressuring financial services companies and other bad credit payday loan lenders to alter their lending practices doesn’t yield results, he said.

“I’m not overly anxious to pass legislation,” Dodd said to reporters after a speech on Tuesday. But if the problems aren’t fixed, he added, “the law will be changed.”

The White House hopeful - who repeated Tuesday that he will make a final decision on whether to run in the 2008 presidential election “probably in the coming days” - spoke at the 10th annual Wall Street Project economic summit held in Midtown Manhattan.

Wall Street Project is a group run by the Rev. Jesse Jackson and his Rainbow/PUSH civil rights organization that aims to ensure equal opportunity for minority employees, consumers and entrepreneurs.

Jackson, as well as the Rev. Al Sharpton, attended Tuesday.

Dodd said his goals as chairman included getting Wall Street firms to work with the Wall Street Project to increase low-income families’ access to capital, and holding hearings on “predatory” lending practices, including faxless payday advance lending and the credit card industry’s targeting of those who can’t pay off their bills.

Unfair lending practices have come under fire in recent years as mortgage delinquencies and foreclosures surge.

The trend is expected to continue: in December, the Center for Responsible Lending predicted that lenders will foreclose on nearly a fifth of the subprime mortgage loans - high-interest home loans given to people with poor credit - issued in 2005 and the first three quarters of 2006.

“For these people, the American dream can truly become a nightmare, in a sense,” Dodd said.

(Read on …)

 
Banking trade groups want the Pentagon to narrowly apply a law that caps interest rates and fees on military payday loans only and not to other credit services, according to a letter obtained by Reuters on Friday.

Congress recently passed legislation that imposes a 36- percent cap on annual interest rates and fees that lenders can charge on credit cards and other instant cash loans provided to U.S. military personnel. The law, passed last year, was tucked into a Defense Department authorization bill.

“Our primary concern is that a broad application of the legislation could have the unfortunate impact of … harming servicemen and women and their spouses and dependents by limiting their access to credit or increasing their credit costs,” the letter said and The Washington Post reported.

Banking lobbyists are worried the law essentially creates another regulator, the Pentagon, which will be required to work with federal banking regulators to implement it by October 2007.

The law has financial institutions scrambling to find ways to avoid being affected by the cap, which lobbyists say sets a worrisome precedent that could spill over into financial products outside the military.

The letter, dated January 5, is signed by five trade groups: American Bankers Association, Association of Military Banks of America, Consumer Bankers Association, Independent Community Bankers of America and America’s Community Bankers.

In the letter, which is addressed to David Chu, undersecretary for personnel and readiness, the banking groups urge the Pentagon to implement the law to apply to payday advances, which can carry high fees for small denomination, short-term loans.

(Read on …)

Not that being a pawn broker is a dying industry, but making short-term cash advances - commonly referred to as payday loans - just happens to be more profitable.

So states an article by The Motel Fool, an online financial publication.

It’s the reason why companies that operated primarily (even wholly) as pawn brokers just a few years ago, such as like Cash America and EZ Corp, are now moving more broadly into making payday loans.

Yet those profits have also drawn the attention of regulators and industry critics, which has caused a backlash to develop and have them seek to limit payday cash advance lenders, if not drive them out of business altogether.

Challenges for 2007
Cash America was once predominantly an operator of a slew of pawn shops that accouned for more than 93% of revenues as late as 2003. Steadily, though, as the profit potential of payday loans became more apparent, the company began branching out and opening a series of stores that catered to the same “unbanked” consumer population.

By 2005, pawn operations had accounted for just 81% of revenues, and in the third fiscal quarter of 2006, it had dropped to 76% of revenues.

But even as Cash America was making that transition, the regulatory playing field was changing. The FDIC essentially put the typical online payday loan lending business model out of business, requiring many operators to operate as “credit services” companies.

State regulators also prompted action, and many lenders had to close up shop in states like North Carolina, Georgia, and Pennsylvania.

Pawn brokers are heavily dependent upon the price of gold, since jewelry happens to be the merchandise most often pawned for a cash advance. While Cash America has to pay a higher price to the customer to acquire the merchandise when gold is high, it’s also able to sell the jewelry at higher prices, increasing its profit margins.

Yet the price of gold has eased back lately, which could impact the company’s profits.

Payday loans that click
To spread its risk out more evenly in the market, Cash America is having fast cash advance services account for more of its revenues. While it’s not giving up on being a pawn broker, there are opportunities to advance its profits further by reaching more of the target consumer who might never walk into a pawn shop, but who aren’t as reluctant to frequent a payday loan center.

Even so, being able to acquire cheap payday loans anonymously without having to physically enter a brick-and-mortar office also holds an attraction to leery consumers. Cash America has acquired CashNetUSA, a privately held online payday lender with customers in 27 states, for $35 million.

The transaction, completed in September, was immediately accretive to earnings and allowed the pawn broker to raise guidance for 2006 and 2007.

There are a number of other private online lenders catering to the unbanked and under-banked consumer, but even though it was founded just two years ago, CashNetUSA finds itself already profitable. With the marketing capabilities of Cash America now supporting it, the company is expecting earnings growth for the next year of 32% over 2006.

Interested in playing the stock market? If so, you ought to be familiar with The Motley Fool. It gauges the performances of various stocks and companies.

Recently, it looked at Advance America and forecasted the future for this payday loan company. Here’s a summary:

Imagine you’re the poster child for all of your industry’s ills. Critics accuse you of taking advantage of the poor. You’re the target of the do-gooders’ ire. And the government - at both the federal and state levels - changes the rules of the game on you so you need to change your business model.

Welcome to the world of Advance America, the country’s leading payday advance loan lender with around 2,750 storefronts in 36 states. The fact that this company has still been able to advance some 18% this year in the face of such challenges shows the resilience and profitability of the service.

Can it make a repeat performance in 2007?

Challenges to overcome
When images of goon squads showing up to break your legs are routinely raised in describing your business, it’s a particularly salty picture. So even though payday cash loan providers are not roughing up their customers, industry critics nonetheless enjoy conjuring up thoughts of them as latter-day loan sharks.

Besides some bad press, let’s look at some of the other hurdles Advance America faces:

• Legacy costs associated with its prior agency business model that was abandoned when the FDIC changed the rules of the game nationally.

Rivals like First Cash Financial, Cash America, and EZ Corp have alternative means of earning revenue outside of bad credit payday loans, such as pawn shops and used car dealerships, or have less exposure to the U.S. market and its onerous regulations.

• Lawsuits from states that don’t appreciate the company’s end run around their regulations by introducing new products

• An economic downturn could play havoc with its customers’ ability to repay the quick cash loans.

A chance to advance
Advance America focuses on making short-term loans to consumers. For that service, it’s paid a fee that’s nominal by itself, though as an annual rate, it can look steep. Over the past year, even in the face of being forced to close down operations in North Carolina at the end of 2005 and Georgia in 2006, there were still a total of almost 150 net new store openings last year.

To continue that growth strategy, Advance America can continue to follow its game plan:

• Grow by opening new regular and faxless payday loan stores. The company is geographically diverse with operations in more than half the states, with only California commanding a large presence and accounting for 11% of company revenues in 2005. There’s still plenty of room to grow.

• Operate on the credit service organization (CSO) model following the FDIC rule change.

• Focus on a single service. Advance America keeps operations streamlined. Management kept a lid on expenses in 2005 and for the first nine months of 2006, they rose a miserly 4% compared to a 6% increase in revenues, which also served to improve gross margins.

(Read on …)

A settlement has received court approval in a class action lawsuit brought against the now defunct Internet-based payday loan company, Quik Payday Inc., and its US parent.

This class action was filed on behalf of everyone in Canada who took out a faxless payday advance from Quik Payday, from October 2, 2002 until February 11, 2005, when Quik Payday Inc. ceased carrying on business in Canada.
The claim alleges that Quik Payday, whose online payday loans were offered exclusively on the Internet, charged interest on its payday loans in excess of the maximum legal rate of 60% per year. Quick Payday charged a flat fee of $25.00 per $100.00 borrowed.

A rollover option was originally available for a further 4-18 day term, for an additional $25.00 per $100.00 borrowed. Moreover, Quick Payday charged a $20.00 late fee and interest at the purported rate of 25% per annum on overdue cash advance loans.

The claim alleges that all of these charges are “interest” as defined by the Criminal Code, and that the interest on all payday loans exceeds the maximum legal rate, and constitutes a criminal rate of interest. The Statement of Claim was issued on January 28, 2005.

The settlement calls for Quik Payday Inc. to pay all of its remaining assets into a settlement fund, which will be used to repay customers a portion of the interest and fees they paid at the time the payday loans were advanced.

Settlement funds will only be available to customers who did not default on the repayment of any of their loans with Quik Payday.

Quik Payday also agreed that it will take no collection action against any of its customers who defaulted on their payday loans.

As Defense officials begin their work on regulations to implement a federal law that caps interest rates at 36 percent on small consumer cash loans to military members, they are tackling some big questions.

One such question:

• Whose fault is it if a no fax payday loan lender or other lender loans money at higher interest rates to a service member or dependent if the person either inadvertently or purposely conceals their connection to the military?

That question is not addressed by the recently passed law, so it will be up to the Defense Department to deal with it, said Robert Lee, counsel for the Federal Deposit Insurance Corporation, at a conference Dec. 6 hosted by the FDIC.

Officials with FDIC as well as other regulators and organizations will be working with the Defense Department on questions like this as they craft their rules to put the payday advance loan law in place, Lee said.

Since the statute specifically refers to a knowing violation of the law, Lee said, if a financial institution does not know that the person has a military affiliation, it is possible that the financial institution would be protected under the law.

The cash loan law takes effect Oct. 1, 2007, or earlier, if the Defense Department finalizes its regulations before then.