Why it matters

The Consumer Financial Protection Bureau (CFPB) introduced a new proposal that would increase regulation of not only payday loans but also vehicle title loans and some types of installment loans. The sweeping proposal created two categories of loans within its scope: short-term credit products, which require full payback within 45 days, and longer-term loans if the lender has access to repayment from the borrower’s deposit account or paycheck or holds a security interest in the consumer’s vehicle and the annual percentage rate (APR) exceeds 36 percent. The Bureau suggested that for each category, lenders can choose between following preventative rules or complying with protective requirements. Preventative terms would mandate that lenders determine at the outset whether a consumer can repay the loan (including interest, principal, and fees) without reborrowing or defaulting. Under the protective option, lenders would face caps on the number of loans extended to borrowers and in some cases, limits on terms like the APR. Payment collection would also be impacted, with a rule setting a three-day advance notice requirement before a lender could submit a transaction to a consumer’s bank and only two consecutive unsuccessful attempts to collect allowed. CFPB Director Richard Cordray called the “strong consumer protections” proposed “an important step toward ending the debt traps that plague millions of consumers across the country.” Although the Bureau recognized “consumers’ need for affordable credit,” the agency expressed concern “that the practices often associated with these products—such as failure to underwrite for affordable payments, repeatedly rolling over or refinancing loans, holding a security interest in a vehicle as collateral, accessing the consumer’s account for repayment, and performing costly withdrawal attempts—can trap consumers in debt.” However, a Small Business Review Panel will convene to consider the proposals and gather feedback from small lenders as the next step in the rulemaking process, and it is unclear what form final rules will ultimately take.

Detailed discussion

The Consumer Financial Protection Bureau (CFPB) released proposals to regulate various types of loans, including payday loans, certain installment loans, and vehicle title loans.

The Bureau’s proposal adopted two approaches—prevention and protection—to regulate two categories of loan: short-term products and longer-term products. Lenders have the option to “either prevent debt traps at the outset of each loan, or they could protect against debt traps throughout the lending process,” the CFPB explained.

Short-term credit products are defined as those that consumers must pay back in full within 45 days (such as deposit advance products, payday loans, and some open-end lines of credit and vehicle title loans). In the prevention category, lenders would be required to make a determination at the outset that a consumer can repay the loan, including interest, principal, and fees, without defaulting or reborrowing.

Lenders would need to verify various information about consumers, such as income, borrowing history, and major financial obligations, to make such a determination, the CFPB said. A 60-day cooling-off period between loans would be the general rule; for a second or third loan to occur within the two-month window, a lender must be able to document that a borrower’s financial circumstances have improved so that a new loan to reborrow money is not required. Lending would be halted for a 60-day period after three loans in a row.

In the protection option, lenders would be forced to limit the number of loans a borrower could take out in a row and within a yearlong period. For example, a borrower could not remain in debt on short-term loans for more than 90 days in a 12-month period and rollovers would be capped after three total loans with a 60-day cooling-off period to follow.

To fall under the scope of the CFPB’s regulations, longer-term credit products must last more than 45 days with the lender collecting payments through access to the consumer’s deposit account or paycheck or by holding a security interest in the consumer’s vehicle, with the all-in annual percentage rate (APR) topping 36 percent. The Bureau expects that certain vehicle title loans as well as installment and open-end loans will meet the criteria.

To adhere to the debt trap prevention requirements, longer-term products would similarly consider at the outset the consumer’s ability to repay without defaulting or reborrowing to ensure enough money exists to cover other major financial obligations and living expenses. If a consumer demonstrates problems affording the current loan, a lender would be prohibited from refinancing into another loan absent documentation that the consumer’s financial circumstances have improved enough to repay the loan.

On the protection end of the spectrum, the Bureau presented two approaches for longer-term products, with a minimum duration of 45 days and maximum of six months for the loan. One option would require lenders to provide roughly the same protections under the National Credit Union Administration’s program for “payday alternative loans,” such as a cap on interest rate at 28 percent and a limit of $20 for application fees. The second choice would allow a longer-term loan if the consumer’s monthly repayment amount is no more than 5 percent of the consumer’s gross monthly income, limited to two such loans within a 12-month period.

The CFPB also proposed restrictions on payment collection practices for both short-term and longer-term credit products. Three business days’ advance notice before submitting a transaction to a consumer’s bank, credit union, or prepaid account for payment would be instituted, a change the Bureau said “would help consumers better manage their accounts and overall finances.” Notice of impending payments made by electronic means—e-mail, text message, or via a mobile app—is under consideration.

In addition, lenders would be limited to two consecutive unsuccessful attempts to collect money from a consumer’s account absent consumer authorization, the Bureau proposed, which would limit fees incurred by multiple transactions “that exacerbate a consumer’s financial woes.”

To read a fact sheet summarizing the proposals, click here.

To read an outline of the proposals, click here.

To read the list of questions to provide feedback on the proposals, click here.