High-Cost Lending

Most of us have been offered or have used credit cards. We probably have also received installment loans from a bank or other lender to buy automobiles, furniture, and appliances, and perhaps have even managed to secure a home mortgage to support the financing of a new home.

In short, debt is nothing new to most of us and sometimes the interest rate we pay for a loan seems high. For example, some credit cards may charge 15 to 24 percent, depending on the circumstances and our credit record. But, what would be our reaction if a lender quoted us an annual interest rate of 100 percent or even higher!

Some folks who have taken out so-called "pawn shop," "pay-day," "check-cashing," or "title" loans have bumped up against such expensive forms of credit, frequently because they feel that they have few choices when it comes to borrowing money. Indeed, one of the fastest-growing financial-service industries since the mid-1990s have been pawn, payday, check-cashing and title loan companies. These lenders often appeal to individuals and families whose monthly budget comes up short and their credit rating is so low there's no other ready source of cash available. They may find their next pay-check is still several days away, but the need for groceries and cash demands to cover unpaid bills continue to mount up. Where's the money going to come from?

Payday lenders typically let you write them a check to be cashed at a later date, provided you have a job, a telephone (which is a sign of stability and provides the lender a lower cost way of contacting you if you don't pay), a personal ID (usually a driver's license), and a checkable deposit at a bank, credit union, or other depository institution. Your post-dated check won't be cashed for several days (say, until the first of the month comes around).

You may receive a $200 loan on the spot but the lender gets the interest on that loan up front. Thus, while you are expected to repay the $200 in full within, perhaps, a week or two, you actually may receive just $150 or $175 for your use until payday arrives. Figured on an annual rate basis you're paying an interest rate normally several times larger than many credit cards charge. If you extend or roll over your loan for additional days, fees will usually be charged for each loan extension.

A related form of lending focuses on so-called "title loans." You show the lender the title to your car but you can continue to drive it around during the term of the loan. Using you car as collateral you may receive a loan of $500 for a month, but may pay close to $100 in interest costs. If you fail to repay the loan principal plus interest, the lender can secure title to your vehicle.

Loans of this type often fall under the terms of the U.S. Truth in Lending Act. This law requires that the lender disclose to the borrower, in writing, the amount of any finance charges and the annual percentage rate (APR) applying to the loan.

The rapid expansion of payday, check-cashing, pawn, and title lenders in recent years has aroused a storm of controversy. Folks on the negative side of this issue feel that such lending activity takes unfair advantage of the most vulnerable borrowers who don't understand what they are getting into. Some borrowers may owe so much in loan principal and interest that they find themselves with no way to pay. They may fall into what seems like a nightmare with no practical end in sight.

On the other hand, folks looking at the positive side argue that lenders of this kind must be fulfilling a real public need for service. Otherwise such firms would be unlikely to last very long, given the great risks inherent in the lending business. When distressed borrowers have no other avenue to get spending money (as many have no credit cards or are up to their credit card limits), pay-day, check-cashing, pawn, or title lenders may seem to represent the only possible escape route.

Moreover, with bank check-bouncing (insufficient funds) fees significantly on the rise in the wake of government deregulation of the banking industry, these high-risk loans may look to many potential borrowers somewhat cheaper that was true in the past.

There's no easy solution to this issue. Proponents and opponents both have reasonable-sounding arguments to offer. Several states and some federal agencies are taking a serious look at this burgeoning loan business today. One special area of concern centers on the loan rates and fees assessed, trying to decide if tougher regulations may be needed to protect the public. Government officials face a tough and painful decision in striving to do the right thing for their citizens.

Recently the Federal Trade Commission (FTC) published their own analysis of the check-writing, payday, and title loan industries (see the FTC's web site at www.ftc.gov). They suggest several alternatives for individuals and families who feel they have few other choices for borrowing money than these particular types of loans. Among the alternative sources of credit recommended for consideration by the FTC are:

1). Obtaining small loans from a credit union. 2). Getting an advance on a worker's salary. 3). Asking family and friends for financial help. 4). Contacting community organizations for small business loans. 5). Requesting more time from creditors. 6). Applying for overdraft protection on a checking account. 7). Seeking help with budgeting and bills from a credit counselor.

If a borrower feels that he or she has not been dealt with fairly by any lender covered under the Truth in Lending Act or under FTC regulations, that person should first contact the lender involved. If the problem cannot be resolved at that level the loan customer should consider filing a complaint with the Federal Trade Commission at 877-382-4357 or via an FTC online complaint form at www.ftc.gov.