Payday loans capped for military
A new federal law has capped interest rates that can be charged to members of the military at 36% per year.
In an effort to cut down on predatory lending to service members and their families, the Department of Defense has issued a new regulation capping the interest rates on payday loans, vehicle title loans and tax refund anticipation loans.
Lending companies are now required to ask loan applicants if they are in the military or a military dependent. The regulation caps the annual percentage rate at 36 percent for service members and their families.
The response of lenders in at least one state has been predictable: don’t lend to the military. The reason is straightforward. Payday lenders charge high rates because they lend money to people with limited capability to repay. The high interest rates allow them to make money even with high default rates. If they can’t assess a rate or fees commiserate with the risk involved with the loan they simply won’t loan the money.
Now I personally hold payday lenders in the utmost contempt. They are lowlifes who profit on the misery of the poor. But the role of the government is not to protect us from our own bad decisions. Hell, they have a monopoly on educating Americans – why can’t they at least teach people enough about personal finance so that citizens can see that payday loans are a bad, bad idea so lawmakers don’t have to make laws inhibiting our freedoms?
A perfect example of why government shouldn’t be looking out for the idiots is the so-called “toxic” mortgage. Despite being derided as a terrible product proffered to prey on the ignorant it is actually the best – that’s right, the best – mortgage option for those wise enough to use them properly. When the government acts to protet the stupid the smart suffer. In all financial transactions you, the consumer, must fully understand every facet of the transaction. Otherwise you set yourself up for a fall.
In the end it all comes back to personal responsibility and the freedom to do whatever the hell you want – even take out a payday loan.
I wonder on what basis you say, “Payday lenders charge high rates because they lend money to people with limited capability to repay. The high interest rates allow them to make money even with high default rates.”
According to the Denver University Law Review (via Rocky Mountain News), in Colorado “payday lenders report that only 3.34 percent of their total loan volume goes bad.” This is easily better than the 5.15% of credit card debt that goes bad (reported in the same article).
And the Minneapolis – St. Paul Star Triburne reports, “A Star Tribune analysis of records from the state Commerce Department showed the overall default rates for payday lending at 2 percent in 2003, far lower than typical default rates for many credit cards.”
A spokesman for the industry does not dispute the 2% figure from the Star Tribune.
I agree with you that the industry should charge “a rate or fees commiserate with the risk involved.” At the end of one year of providing payday loans in only two states (Alabama & Arkansas), payday loans accounted for 20 percent of one Washington bank’s earnings. Why? Because, according to the CEO, while payday loans “comprise only 2.5 percent of the bank’s loan portfolio, they carry substantially higher yields than those in the bank’s traditional portfolio because of their rapid turnover.”
2.5% of the portfolio, 20% of the earnings.
I’m with you. Let’s have fees & rates commiserate with the risk. Let’s not exempt these kinds of loans from Alabama’s Small Loan Act which caps the APR for other loans at 36%.
If the debtors in question do not merit high rates by virtue of their current financial situation and/or credit history then why are they resolved to accepting those rates? The simple answer is that they knowingly accept the high rate loans because they have no alternatives since they appear risky. Lenders can’t see into the future so they have to charge rates based on past performance, which, as they say in the mutual fund biz, is no guarantee of future returns.
Just based on the sheer multitude of payday institutions in every city I can think of there is obviously significant competition. Common sense dictates that in a market with lots of competition the prices are as low as possible for the businesses to remain profitable, otherwise more people would be opening payday loan businesses regardless of the stigma associated with them.
I would venture to say that you are ascribing common sense and mathematical skills to people who, if they actually had them in abundance, would not be interested in payday loans. You know that people act irresponsibly; you said as much in your last post on the lottery. Why do we protect consumers from abusive loan practices for other types of loans but specifically exempt this one?
Common sense tells you that the prices are low as possible for the businesses to remain profitable? Does common sense tell you that with the abundance of places to buy Cokes that convenience stores are selling them (or anything else) as low as possible to remain profitable? Does common sense say that family doctors and medical services in metro areas are priced as low as possible to remain profitable because of the competition?
And truthfully, how can you say that a bank reporting that the 2.5% of its portfolio which is payday loans accounts for 20% of its earnings is keeping prices “as low as possible to remain profitable?”
This is really interesting… thanks for helping us to think about it.
I’m aware that people will engage in irrational, self destructive behavior of many forms. Substance abuse, financial recklessness, gluttony, etc. That doesn’t mean that government should step in and protect them from themselves and consequently preventing those of us responsible and smart enough to engage in potentially harmful behavior in a responsible manner. What if there was a rash of people banging on their own feet with hammers. Should the government outlaw hammers to protect those morons and force the rest of us to seek an alternate method of driving nails? I believe in freedom of choice – good or bad.
Common sense and basic market theory dictate that in any competitive market with fairly low barriers to entry the prices (rates and fees in this case) are driven down to the point where profits are thin enough to dissuade further entrants. Take the specific example of the bank you mentioned. How many other lending institutions do you think took notice and entered that market with lower (although still quite high) rates in a bid to attract some of their customers?