Consumer Groups Attack ‘Payday Loans’

In storefronts all over California a flourishing loan industry offering quick cash at exorbitant interest rates is under attack by consumer groups.

“Payday loans” allow borrowing against a future paycheck for two weeks at a cost of $15 per $100--a 390% annual percentage rate. It’s legal, but consumer advocates call it loan-sharking.

And vulnerable people are being targeted through television ads, they say, including those already deeply in debt and even teenagers who need money for dates.

“This basically creates a market for bad checks,” said Earl Lui, senior attorney with Consumers Union. “If you’re short before your payday, you can borrow from your next payday, but what do you do when your next payday comes around?”

Although the first payday loan inroads were made at military bases, outlets are now open all over the state, Lui said. He is leading a drive to shore up state oversight required by the January 1997 legislation permitting the loans--one in a series of similar laws passed nationwide at the behest of the check cashing industry.

The law attracted little attention when it was signed, but since then the state Department of Justice has issued permits for more than 1,500 payday loan brokers.

Proposed legislation now making the rounds of consumer protection agencies would dramatically limit fees and prevent loan rollovers, which trigger a second fee and, consumer advocates say, keep borrowers on a debt treadmill.

Even if changes come this year, they will arrive too late for Joyce McDougal, a San Leandro secretary and single parent who took her first payday loan in 1997 to keep the utility company from turning off her electricity. A year and a half and several loans later, McDougal found herself thousands of dollars in debt.

It became an addiction, McDougal said. She juggled payday loans from up to seven different outlets, sometimes borrowing from one to pay rollover fees at others--and not making a dent in the principal.

McDougal has no idea how much she borrowed overall, but at the depth of her involvement last year she owed more than $1,000 in fees alone. She still owes more than $700.

“Before you know it, you start relying on those [loans] to pay bills,” she said. “For weaklings like me, it would be nice if the state would do something to stop it.”

Representatives of the check cashing industry say they are providing a service their customers want. People like McDougal abuse the loans, they say, just like those who bounce checks and run up large credit card bills.

“It’s like any other credit--if people abuse it, it can be very bad for them,” said Jim Ball, operator of 20 Fast Cash outlets in Northern California and president of the state check cashers trade group.

Ball and others object to the computation of the two-week fees as annual interest rates instead of transaction fees that reflect their high-risk clients.

“When someone’s giving you a check and you know there’s no money in the bank, that’s pretty scary,” Ball said.

Some Regulation Is Sought

But the risk to lenders may not be all that big. Colorado, one of the few states that closely monitors the industry’s financial transactions, found that only 3% of the money loaned was lost last year, according to the attorney general’s office. Default rates on small-business loans are about 17%.

The California trade group is working to regulate itself, in part to limit losses, Ball said. Rollovers of loans are discouraged, and links to a central financial database are encouraged to prevent clients from borrowing from multiple outlets simultaneously.

Ball said he would not object to a new law tightening those aspects of the business, but the trade group has not taken an official position.

The state sides with the industry in viewing this form of credit as deferred check cashing, not loans, because borrowers provide a check that is usually dated for their next payday or two weeks ahead, whichever comes first.

The state Department of Justice treats the lenders like any other check casher, checking the owners’ fingerprints and requiring an annual application, but keeping no tabs on how much money is exchanging hands or whether consumers are being informed of the loans’ true cost.

California law allows deferred deposits of up to $300 and a fee of up to 15% of the face value of the check. The law places no specific restrictions on rollovers, which are banned in 11 of the 20 other states that allow payday loans. A $100 loan rolled over three times, for example, costs the borrower $45.

Consumer advocates consider the postdated checks a gimmick to persuade borrowers to compare the fees favorably to the cost of bouncing a check.

Instead, they say, California should follow the 20 other states where payday loans fall under the stricter rules governing banks and certain other lenders. Interest on small loans in California is capped on a scale ranging from 15% to 45%, depending on the loan amount and duration. Even pawnbrokers can charge no more than 100% annually. Some consumer groups would like to go further, but with California’s law relatively new, they concede that this may not be politically feasible.

“The ideal solution would be to simply prohibit payday loans, and that is still possible,” said Jon Golinger, a Sacramento-based lobbyist for the California Public Interest Research Group. “But putting in place stringent price caps and consumer protections might . . . cause some of [the payday loan brokers] to change their mind about doing business.”

In states that have aggressively prosecuted payday loan companies, judges have tended to side with the consumer advocates’ definitions.

The first federal court decision was issued in December 1997, when a Kentucky judge ruled that the transactions were interest-bearing loans, not check cashing. In Virginia, where the payday loan practice is illegal, the attorney general reached a $2.5-million settlement with a cash advance firm in 1994 after a court there decided the transactions were loans.

For borrowers, the problem is simpler: Payday loans encourage them to borrow against a future that is often already mortgaged.

People turn to payday loan services because “they are already in debt or just poor managers of money, who get to the end of the week with no money, no gas, no food,” said Michele Lagoy, a counselor with Consumer Credit Counselors of San Diego and Imperial Counties. “It’s just a vicious cycle.”

Storefront check cashing businesses proliferated in Depression-era Chicago, where employers had just started giving workers checks instead of cash. The businesses eventually grew to be the bankers of necessity, if not choice, of welfare recipients and others trying to cash public assistance checks.

Payday loans first emerged in the early 1990s in the Southeastern United States, often offered by those same check cashing businesses scrambling to replace lost customers because more and more government payments can be deposited electronically.

Getting a reliable estimate of the growth nationwide is thwarted by the lack of regulation in most states. But the national Consumer Federation of America reports that Loan & Check, a vendor to the trade, predicts that payday loans will grow by 600% over the next decade. And payday loan volume in Colorado more than quadrupled in just four years--from $9 million to $42 million. At the National Check Cashers Assn. annual convention last fall, seminars on payday lending were packed.

California was a relative latecomer to the business, legalizing payday loans in a bill by former Sen. Charles Calderon (D-Whittier).

Last year, Assemblyman Lou Papan (D-Millbrae) tried to raise the loan ceiling from $300 to $500 in a bill supported by the California Check Cashers Assn. It died in the state Senate after intense lobbying by consumer groups.

Cher McIntyre, advocacy director for Consumer Action in Los Angeles, supports increased regulation but with a dash of skepticism. She has come up against the check cashing industry before with minimal success.

“I think we’re in for a battle here,” she said.