On June 2, the Consumer Financial Protection Bureau released a newly proposed rule that, if enacted, will place new burdens on lenders who offer consumers payday loans, auto title loans, and other short-term, small-dollar loans.
The proposed rule will require lenders to inquire about the loan applicant’s income and expenses by conducting a “full-payment” test in which lenders verify a loan applicant’s income and conduct a credit check to determine the applicant’s outstanding debt.
To qualify for a payday or single-payment auto title loan, the lender must determine that the applicant has sufficient income to pay the full amount of the payment due, and sufficient income to meet the applicant’s other financial obligations. Under the proposed rule, a lender must determine that the applicant can repay the loan while successfully making other debt payments and covering living expenses throughout the term of the loan and 30 days thereafter. For high-cost installment loans, lenders must verify that an applicant can make all of the payments when they are due, including any balloon payment required by the loan, while meeting other financial obligations and basic living expenses throughout the loan’s term. If the loan includes a balloon payment, the lender must verify that the applicant can afford basic living expenses and payments on other major obligations for 30 days after paying the loan’s highest payment.
The full-payment test also requires lenders to justify the decision to issue additional loans to borrowers struggling to repay previous loans. Lenders will not be permitted to issue additional payday or single-payment auto title loans to a borrower who has paid off a previous loan within the past 30 days unless the borrower demonstrates a materially improved financial situation. Furthermore, lenders will be capped at offering three successive loans, even if justified by a borrower’s improved finances, until the completion of a 30-day “cooling off” period. Lenders will be allowed to refinance installment loans into loans with lower total payoff amounts or into loans with substantially smaller payments, but lenders will be prohibited from refinancing installment loans into loans with similar payments absent verification of a borrower’s materially-improved financial situation.
The full-payment test will not apply to some short-term loans issued to lower-risk borrowers. The principal payoff option will allow lenders to offer short-term loans up to $500 to borrowers who have no outstanding short-term loans or who have not been in debt for more than 90 days in the preceding 12-month period. In this situation, a lender will be prohibited from refinancing or rolling over loans issued under the principal payoff option. Instead, a lender can offer a borrower up to two payment extensions, but the borrower would have to make a payment amounting to at least one-third of the remaining principal with each extension. A lender offering a loan under the principal payoff option will also be required to provide a borrower with a plain-language notice that explains the terms of the loan.
The proposed rule will limit lenders to two options for issuing longer-term loans to borrowers. One option will require lenders to adhere to the parameters of the National Credit Union Administration’s payday alternative loans (PALs) program, which limits term lengths, principal amounts, and interest rates on loans. Alternatively, the proposed rule allows another longer-term loan option where lenders may offer loans with payments of roughly equal amounts, all-in costs of 36 percent or less, and terms no longer than two years. Furthermore, lenders offering loans under this option will be required to refund origination fees for any year in which the lender’s default rate on these loans exceeds five percent.
Apart from restructuring the types of loans lenders may offer to higher-risk borrowers, the proposed rule will require lenders to use credit reporting systems to report consumer information related to loans made pursuant to the full-payment test or principal payoff option. Lenders will be required to update reported information and to use reporting systems to verify applicant eligibility prior to the issuance of a loan.
Limits on Payment Collection
The proposed rule limits lenders’ ability to collect payments from borrowers. Of particular interest to lenders and payment processors is the prohibition of repeated attempts to debit borrowers’ bank accounts that can result in borrowers being hit with multiple overdraft and other bank fees. The rule requires lenders to issue a written notice to the borrower at least three days before any debit attempt, and it caps lenders to two unsuccessful debit attempts in a row. To continue to debit the account after two attempts, a lender would have to obtain new, explicit permission from the borrower.
The CFPB’s long-awaited proposed rule regarding payday and other short-term lenders will no doubt be met with legal challenges as to its reach and applicability. The proposed rule also does little to help borrowers for whom a payday or title loan is their only option. Given all of the steps that a lender must take in order to consummate and maintain a loan, some lenders may elect to no longer participate in payday lending or to restructure many of their current practices and procedures.