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Pity the Payday Lenders

I recently got an e-mail from someone who works for the Community Financial Services Association, the national trade group of payday lenders. She is unhappy that Congress wants to put a cap on the rates that payday lenders can charge. The proposed cap is 36% APR.

If this legislation were passed, the CFSA woman writes, “Payday advance lenders could not even meet employee payroll at that rate, let alone cover employee payroll, other fixed business expenses and make a profit.” In other words: in trying to protect poor people from usurious loans, Congress will shut down one of the few legal avenues for poor people to get short-term loans.

To which I thought: 36% APR! I haven’t read Merchant of Venice in a while, but I’m pretty sure Shylock didn’t get anywhere near that much. According to Using “The Merchant of Venice” in Teaching Monetary Economics, Jewish and Christian doctrines concerning usury were even less permissive than standing Roman law, which allowed up to 12% APR interest on cash loans.

But the payday lenders can’t survive on 36%? If that’s the case, I don’t know how the poor credit-card companies are scraping by, to say nothing of financial advisors, book agents, and even Realtors. It even makes the I.R.S.’s recent move to hire collection agencies look pretty reasonable.

For what it’s worth, here’s the entire e-mail:

Senator Jim Talent has sponsored an amendment to cap the APR of payday loans to military personnel at 36%. It passed the Senate. The DOD also supports the 36% cap.

The unintended consequences of the proposed legislation:

At a 36% APR, the fee on a $100 payday advance would be $1.38, less than 10? per day. Payday advance lenders could not even meet employee payroll at that rate, let alone cover employee payroll, other fixed business expenses and make a profit.

The result would be that lenders would be prohibited from offering payday advances to members of the military, limiting credit availability for service members and restricting their ability to choose what products and services are best for them.

The fact is, traditional banks no longer offer small, unsecured short-term loans, due to their high cost structure. According to a report by the Federal Reserve, it cost small banks about $174 to originate and service a loan for one month. They certainly couldn’t offer these loans for less than 10? per day-and neither can payday advance lenders, who have similar fixed costs. A 2005 study by the FDIC reported the cost to originate and service the average payday advance is approximately $32.

Ultimately, the amendment eliminates consumer choice and outlaws the use by military personnel of a short-term loan option that is regulated in 37 states and the District of Columbia. Customers, including those in the military, say a payday advance is often cheaper and more desirable than their alternatives. Elimination of regulated storefront lending to the military will only force them to more expensive (bounced checks/overdraft protection) and even unregulated alternatives, like offshore Internet lending.

The more appropriate way for Congress to protect members of the military would be to enact legislation that essentially incorporates protections such as those in CFSA’s Military Best Practices and applies them to all creditors, including finance companies, title lenders and small loan companies, as well as payday advance lenders. Doing so would provide appropriate protections for military customers and allow reputable lenders to stay in business and service growing demand for this credit option.