Managing Debt

4 of 5 Payday Loans Are Rolled Over, Report Finds

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The newest report from the Consumer Financial Protection Bureau targets payday loans — in prepared remarks released ahead of a speech today in Nashville, Tenn., CFPB Director Richard Cordray referred to them as “debt traps.”

Released today, the report found that four out of five payday loans (sometimes called cash advances or check loans) are renewed or rolled over, essentially negating the purpose of the loan product as a short-term financial solution for cash-strapped consumers.

A Troubled Problem Solver

Payday loans are small-dollar loans — typically $500 or less — that are designed as emergency financing to be repaid with the borrower’s next paycheck. In addition to the triple-digit APRs that are often charged, these loans carry steep origination fees, and consumers can end up paying much more than they borrowed in the first place. The CFPB report found that three of five payday loans are made to borrowers whose fee expenses exceeded the initial loan amount.

If you’re wondering how that adds up, it’s because these loans become much more cyclical than they were intended to be. Only 15% of borrowers repay their payday debts when due without re-borrowing within 14 days (the CFPB considers payday loans taken out within 14 days of paying off the previous loans to be renewals, or part of a loan sequence). Conversely, four of five borrowers end up defaulting on or renewing a payday loan within a year.

“We are concerned that too many borrowers slide into the debt traps that payday loans can become,” Cordray said, in a news release about the report. “As we work to bring needed reforms to the payday market, we want to ensure consumers have access to small-dollar loans that help them get ahead, not push them farther behind.”

About half of initial loans are repaid within one loan renewal, but about one in five initial loans leads to a sequence of seven or more loans. Overall, more than 60% of payday loans are made over the course of loan sequences amounting to seven or more loans. About half of all payday loans are made to borrowers in a sequence of 10 or more loans in a row.

“From this finding, one could readily conclude that the business model of the payday industry depends on people becoming stuck in these loans for the long term, since almost half their business comes from people who are basically paying high-cost rent on the amount of their original loan,” Cordray said.

Potential Action

Obviously, this isn’t a rosy picture of the payday loan industry. Still, it’s a commonly used product: About 12 million Americans currently have payday loans. With a consumer base like that, it’s clear that there’s a need for short-term loans, which the CFPB acknowledges, but it is also clear that these loans could use a redesign.

Cordray says payday loan changes could be on their way soon, saying the CFPB is in the late stages of considering ways to reform the industry. Meanwhile, millions of consumers bounce from one payday loan to the next.

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  • Jeremiah Diskin

    Christine, you brought up a topic which is rarely discussed. Kudos to you. Normally people are obsessed with mortgages and bankruptcies. Payday loans, like credit cards, must be paid with in the time limit otherwise it leads to an uncertain and long debt cycle.

    Jeremiah Diskin
    Financial Planner
    http://www.randalclark.com/

    • Christine DiGangi

      Thanks, Jeremiah.

  • Jillian Galloway

    The sad thing is that if payday loans were outlawed then a lot of these people would turn to loan sharks for their money. Payday loans therefore protect people from getting their kneecaps broken by some very nasty characters.

    We may not like payday loans and we may not like the rates they charge but they are protecting a lot of very vulnerable people from a great deal of physical harm.

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    Very good article, thank you for sharing!

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