Providers of short-term, small-dollar loans, including deposit advance products and payday loans, have increasingly come under attack in recent months by Federal and State regulators.  These attacks have been both collateral and direct and they appear to be close to reaching a dramatic crescendo.  A summary of these actions follows.

Final Deposit Advance Guidance and Other Recent Activity by Prudential Regulators

On November 21st, the Office of the Comptroller of the Currency (OCC) and the Federal Deposit Insurance Corporation (FDIC) issued final guidance establishing supervisory expectations for banks offering deposit advance loans.  Although the guidance “encourage[s] banks to respond to customers’ small-dollar credit needs,” it warns that “deposit advance products can pose a variety of credit, reputation, operational, compliance, and other risks,” including risks to consumers. 

To mitigate these risks, the guidance prompts banks to impose strict underwriting criteria for extending deposit advance loans to their customers.  Principally, this criteria should include consideration of whether such customers can repay deposit advance loans, along with any fees and expenses associated with such loans, while continuing to meet their basic living expenses and their other outstanding debt obligations – and without having to resort to repeated or prolonged use of deposit advance loans.  To properly evaluate customers’ loan eligibility, the guidance states that banks should look to customers’ income levels (but not necessarily their credit reports) and should analyze customers’ account activity spanning at least the prior six consecutive months.  The guidance furthermore suggests that banks should impose a “cooling-off” period of at least one monthly statement cycle after customers repay deposit advance loans before banks extend additional such loans to customers.  When considering whether to extend additional loans to customers, banks should reevaluate customers’ eligibility for the loans if such analyses have not occurred during the prior six months.  Moreover, banks should not increase loan amounts unilaterally and should not do so without conducting full underwriting reassessments of customers’ ability to repay the increased loan amounts.

In issuing this final guidance, the FDIC and OCC flatly dismissed an oft-repeated protest of the industry that the restrictive terms of the guidance would cause deposit advance products to disappear from the marketplace, thereby limiting consumers’ access to small-dollar, short-term credit and driving consumers to pursue even less desirable alternatives.  The FDIC and OCC responded by suggesting that this objection is overstated, noting simply that they are “aware of a number of banks offering affordable small-dollar loans at reasonable terms to their customers.”

The FDIC’s guidance comes only a few months after it issued a controversial letter to banks regarding online payday lending.  To ensure that banks are not facilitating fraudulent or illegal activities, the letter encourages banks providing payment processing services for online lenders and certain other merchants engaging in “higher-risk” activities to perform risk assessments and conduct due diligence to determine whether such merchants’ activities are legal.  In response to Congressional pressure, the FDIC has since clarified its letter to make clear that it merely expects banks to manage properly the risks of doing business with higher-risk merchants.  Nevertheless, the effect of the FDIC’s letter, along with concurrent subpoenas that the Department of Justice has issued to payment processors, has been to frighten away many banks from doing business with online payday lenders and has curtailed lenders’ access to payment processing services.

Recap of Recent CFPB Actions

Not to be left out of the fray, the Consumer Financial Protection Bureau (CFPB or Bureau) has ratcheted up its scrutiny of the payday industry.  After issuing its White Paper on Payday Loans and Deposit Advance products last April, the CFPB had been relatively quiet on the payday loan front until recently.  Below is a recap of the CFPB’s recent activities.

First, in mid-September, the CFPB amended its examination procedures for short-term, small-dollar lending to include reviews for violations of the Military Lending Act (MLA).  The MLA restricts the terms by which lenders may extend certain types of credit to military servicemembers, including but not limited to capping at 36 percent the APR that payday lenders may charge to servicemembers.  As we discuss below, these new examination procedures would ultimately prove to be crucial in driving not only the work of the Office of Supervision, but also the work of the Enforcement Division with respect to payday loans.

Later in September, CFPB Director Richard Cordray issued a first-of-its-kind order denying a petition filed by three tribal lenders to set aside civil investigative demands (CIDs) that the CFPB issued to them.  The petition argued that the Consumer Financial Protection Act (CFPA) did not authorize the CFPB to issue CIDs to tribal-affiliated lenders, and even if it did so, the tribes’ sovereign immunity trumped such statutory authority.  Director Cordray rejected the first of these arguments by concluding that, pursuant to his interpretation of jurisprudence addressing the applicability of Federal statutes of generally applicability to tribes, the CFPA applies to all persons, including tribal groups, insofar as it does not interfere with tribal self-governance and does not abrogate rights guaranteed by Indian treaties, in the Director’s view, and because nothing in the CFPA’s legislative history exists to the contrary.  As to the second argument, Cordray determined that sovereignty immunity does not shield tribal groups from lawsuits by the CFPB because the Federal Government is a superior sovereign to such groups.  Whether or not the Director’s order will prove to be enforceable is an open question.

On November 6th, the CFPB announced that it is now accepting payday-related complaints from consumers.  In making this announcement, the CFPB set forth several categories of industry misconduct from which consumers must choose to classify their complaints.  Arguably, the selection of these particular categories offers hints as to focus of the CFPB’s supervisory and enforcement arms going forward.  The issues selected include lenders: charging consumers unexpected fees or interest; making unauthorized or incorrect charges to consumers’ accounts; failing to properly credit consumers when they repay loans; extending loans to consumers for which they did not apply; and failing to provide consumers with the proceeds of their loans. 

Later in November, the CFPB’s Legal Division weighed in on a simmering legal dispute between the New York State Department of Financial Services and two online tribal lenders. In response to a series of cease-and-desist letters that the Department issued in August to deter a short-list of online lenders, including some tribal lenders, from doing business in New York and to cut off their access to the electronic payments network, two tribal lenders sued the Department in Federal district court. After the court denied the tribes’ request for a preliminary injunction, the tribes appealed the decision to the Second Circuit Court of Appeals on an emergency basis.  On November 13th, the CFPB filed an amicus brief with the Second Circuit in which it sought to refute certain arguments that the tribes raised in their appeal. Specifically, the CFPB disputed the tribes’ assertion that the CFPA evinces a Federal interest in protecting tribal-affiliated lenders from State consumer protection laws.  It should be noted that the approach of the two tribes that sued the Department, the Otoe-Missouria Tribe and the Lac Vieux Desert Band of Lake Superior Chippewa Indians, is vastly different from the approach of other tribal lenders that have been engaged in education and policy meetings with numerous State and Federal regulators and that have been exploring government-to-government dialogues since the Department issued its August cease-and-desist letters.

On November 20th, the CFPB announced its first-ever enforcement action against a payday lender.  In this action, the CFPB ordered the payday lender to refund to its customers $14 million and pay $5 million in civil money penalties in response to allegations that the payday lender and its subsidiaries improperly “robo-signed” court documents used in debt collection lawsuits, that it spoliated records and impeded the CFPB’s supervisory examination, and that it violated the MLA by extending loans to several hundred servicemembers with APRs in excess of the 36 percent cap.

Following closely on the heels of this enforcement action, the CFPB’s Assistant Director for Servicemember Affairs, Holly Petraeus, testified before the Senate Commerce Committee on November 21st about the need to update the MLA to keep pace with new and evolving payday-like products.  Petraeus testified that such products are designed to or have the effect of falling outside of the narrow and rigid scope of the MLA.  Petraeus noted that efforts are underway among the Department of Defense (DOD), the prudential regulators, and the CFPB to explore updates to the DOD’s regulations implementing the Act.  She cautioned that any update to these regulations “that has strict definitions that define individual products will fall victim to the same evasive tactics that are plaguing the current rule.”  She also suggested that rules governing “predatory” payday loans should be uniform and not vary based upon whether such loans are offered by depository or non-depository institutions or whether they are structured as open- or closed-end products.  Finally, she expressed her view that financial education alone provides inadequate protection for servicemembers who utilize payday loans.

These elements of Petraeus’ testimony may provide hints as to the likelihood of occurrence and the nature of the CFPB’s hotly-anticipated payday rulemaking.  Similar hints may have been provided by Director Cordray in a recent interview where he stated that the Bureau is exploring the merits of requiring lenders in a variety of contexts to assess consumers’ ability-to-repay before extending credit to them.

Despite such hints, what lies ahead for the payday industry remains a matter of speculation.  Given the quickening pace and intensity of regulatory activity, however, it is reasonable to expect that this holiday season will not bring to the industry the peace and joy for which it hopes.