By Robert McGarvey
Should your credit union offer payday loans? Don’t rush to say no. In North Carolina, and spiraling out of there, Self-Help Credit Union and its offshoots such as the Center for Responsible Lending have documented that there is good to be done, and even some money to be made, by offering payday loans.
Technology, by the way, may be the magic that lets this flourish. Read on.
Start with Pew Charitable Trusts’ blockbuster report that says credit unions should look hard at plunging into payday lending.
But there could be more.
Understand: according to Self-Help’s CRL, the average rate for a payday loan is 391%.
In bygone days, when the Mafia offered street lending at shipyards and factories in north Jersey and New York City the typical term was “five for six.” Borrow $5 on Tuesday and when payday came on Friday the borrower owed $6. If he couldn’t pay in full, he could pay $1 to stay current. Many borrowers did exactly that, forever paying interest on a principal that long before was spent.
Everybody knew those loansharks were evil.
But – and this is the point that often is missed – they thrived because they lent money when others said no, and there weren’t that many others anyway. Banks and credit unions had no interest in small dollar, unsecured personal loans. There were no consumer credit vehicles in mass distribution (a la Visa and Mastercard). Mainly there were relatives and friends and when they said no, borrowers turned to loansharks.
An estimated 10 to 12 million of us want payday loans every year today.
Everybody knows these loans, too, are evil.
The market continues to thrive however. People need these loans, to feed their families, to keep the lights on, to stop an eviction.
So why aren’t more traditional lenders wading into these waters? Regulators are dragging their feet in enabling small dollar loans and many institutions just don’t like the smell of them, said Pew. “Because regulators have not yet issued guidance for how banks and credit unions should offer small-dollar installment loans, or granted specific regulatory approvals for offering a high volume of such loans, these programs have not achieved a scale to rival the 100 million or so payday loans issued annually.”
The Center for Responsible Lending has campaigned to cap interest rates on small dollar loans at 36% – enough, said CRL, for a smart institution to make some money but not so much as to bury the borrower in a spiral of indebtedness. According to CRL, 15 states plus the District of Columbia have enacted caps of 36% or less.
Payday loans to members of the military already are capped at 36% APR.
What needs to happen to get more credit unions making small dollar, personal loans? Said Pew: “banks and credit unions will need to develop small-loan products, and their primary regulators—the Office of the Comptroller of the Currency (OCC), the Federal Reserve Board of Governors, the Federal Deposit Insurance Corp. (FDIC), and the National Credit Union Administration (NCUA)—will need to approve the products.”
The NCUA has given a green light of sorts to credit unions to proceed, cautiously: “NCUA is aware that an increasing number of FCUs are interested in establishing short- term loan programs that are more advantageous to their members than programs available from traditional payday lenders and pawn shops. NCUA believes a well-run loan program can be an opportunity for an FCU to improve the lives of its members by providing low cost, small loans.”
Just offering such loans isn’t enough. Pew stressed that credit unions would have to get the word out that they in fact offer low interest payday loans. Just as cucially, noted Pew, “banks and credit unions would need to compete with nonbank lenders on speed, likelihood of approval, and ease of application.”
Pew did note that credit unions entering payday lending could do so with a lot of advantages: “banks and credit unions would also enter the market with large comparative advantages over nonbank lenders, with their lower costs of doing business allowing them to offer loans profitably to many of the same borrowers at prices six times lower than those of payday and other similar lenders.”
Note: Pew, in its report, persuasively argues that credit unions have enormous cost advantages when it comes to issuing payday loans versus a standalone paycheck loan operator. That can translate into much lower – but still profitable – interest rates.
Pew added: “The average payday loan customer borrows $375 over five months of the year and pays $520 in fees, while banks and credit unions could profitably offer that same $375 over five months for less than $100.”
A key to doing this profitably, said Pew, is to embrace automation: “The cost of manually processing applications is too high to offer small loans at scale. So, to keep the cost of origination low—and to compete with nonbank lenders on speed and ease—banks and credit unions will need to largely automate the lending process, including determining eligibility, establishing the maximum loan size, processing applications, and disbursing funds.”
What about provisions for losses? According to Pew, in pilots, charge offs have been comparatively few.
A bottomline: many Americans want credit unions to make payday loans and they are willing to pay for them. The regulators, admittedly slowly, have signaled support for cautious entry into payday lending. Smart, community focused credit unions will take the cue and get out the word that they are there to make loans to the very needy.
That’s a win in terms of community relations, it’s a win for the borrowers, and – according to the Pew and CRL data – it’s a win for the credit unions.