Yesterday (October 5th), the CFPB finalized its long-awaited payday lending rule, which it said was five years in the making. As expected, the final rule is substantially similar to the proposal the Bureau issued last year, with one major difference being that the Bureau decided not to finalize at this time requirements for longer-term high-cost installment loans, choosing to focus instead only on short-term loans and longer-term loans that have a balloon payment feature.

The final rule will be become effective in mid-summer 2019, 21 months after it is published in the Federal Register (except that provisions facilitating “registered information systems” to which creditors will report information regarding loans subject to the new ability to repay requirements become effective in 60 days after publication).

The final rule identifies two practices as unfair and abusive: (1) making a covered short-term loan or longer-term balloon payment loan without determining that the consumer has the ability to repay the loan; and (2) absent express consumer authorization, making attempts to withdraw payments from consumers’ accounts after two consecutive payments have failed.

For purposes of the ability-to-repay requirement, a “covered loan” generally means a consumer-purpose extension of credit (other than those that are excluded as listed below) that the consumer must substantially repay within 45 days of consummation (or must repay an advance within 45 days of the advance). In addition, a “covered loan” generally includes a longer-term loan (more than 45 days) when the consumer must repay substantially the entire balance of the loan (or an advance on a loan) in a single payment or through at least one payment that is more than twice as large as any other payment(s).

The rule also covers loans for which the cost of credit exceeds 36% per year and provides for a “leveraged payment mechanism.” A lender or service provider obtains a leveraged payment mechanism if it has the right to initiate a transfer of money from a consumer’s account, other than by initiating a single immediate payment transfer at the consumer’s request. While those loans are subject to the rule’s restrictions on payment practices, they are not subject to the ability-to-repay requirement.

Determining Loan Affordability

Lenders that make loans subject to the rule that are short-term covered loans or longer-term covered loans with a balloon payment feature must determine whether the borrower can afford to make the loan payments and still meet major financial obligations and basic living expenses during the loan and for 30 days after the consumer makes the highest payment under the loan. The lender must make this determination based on its assessment of either the consumer’s debt-to-income ratio or residual income for the relevant monthly period, which is the month in which the highest sum of payments is due on the loan. The lender must verify income and payments for major financial obligations other than rental housing expense, and must estimate basic living expenses. Lenders are allowed to rely on the consumer’s written statement about rental housing expenses, and may also accept stated income if no reliable record of net income is reasonably available. If the consumer has a reasonable expectation of access to the income of another person in the relevant monthly period, the lender may use that person’s income to support its projection, provided the lender obtains verification evidence.

Whereas the proposed rule contained presumptions of unaffordability during the period in which a consumer had a covered loan outstanding or for 30 days thereafter, the final rule does not apply presumptions that a consumer will be unable to repay a second or third loan in a sequence. Instead, the lender has discretion to make the ability-to-repay determination. The Bureau opted not to finalize those provisions given the complexity associated with implementation, but the Bureau noted in the preamble to the final rule that it will “view extensive re-borrowing…as an indicator that the lender’s ability-to-repay determinations may not be reasonable.” It seems that three is the limit though—the rule prohibits loan sequences of more than three covered loans in a row.

Conditional Exemption for Short-Term Loan of Up to $500

For certain short-term loans of up to $500, the lender need not make an ability-to-repay determination. This option is only available if the loan is a closed-end loan and the lender is not taking an auto title as collateral. It cannot be offered if the consumer has recent or outstanding covered loans, nor is it available where the consumer has had more than six short-term loans or loans outstanding for more than 90 days in any 12-month period. The Bureau refers to this as a principal-payoff option, designed to allow the borrower to get out of debt gradually. Under this option, the lender can make a series of three loans in a step-down balance structure, so the first loan could be not more than $500, the second loan not more than two-thirds of the first, and the third loan is not more than one-third of the first. Specific disclosures are required for each loan in the sequence.

Exclusions from the Rule

Loans that the CFPB views as less risky are not subject to the ability-to-repay requirement. These include so-called “accommodation loans” and “payday alternative loans.” Accommodation loans are generally loans that are made by lenders that are not otherwise generally engaged in the short-term lending business. In other words, they are made by lenders that, collectively with their affiliates, made no more than 2,500 covered loans in the current calendar year, and no more than 2,500 or fewer such loans in the preceding calendar year. In addition, the lender and any affiliates generally derived no more than 10% of their receipts from those loans. Such accommodation loans are not subject to the ability-to-repay requirement described above.

So-called “payday alternative loans” also are exempt from the ability-to-repay requirements under certain conditions. A payday alternative loan that is exempt from the ability-to-repay requirements is a covered loan that is closed-end, has a term from one to six months, in an amount of $200 to $1,000, repayable in two or more amortizing payments that are substantially equal in amount and due in substantially equal intervals, and for which the lender generally does not impose any charges other than the rate and permissible application fees. In addition, in order to qualify as a payday alternative loan, the consumer must not be indebted on more than three such loans within a 180-day period, and no more than one at a time. Plus, the lender must maintain and comply with policies and procedures for documenting proof of recurring income.

In addition, as under the proposed rule, the following types of products are generally not subject to the rule:

  • Purchase money loans: credit extended for the sole and express purpose of financing a consumer’s initial purchase of a good when the credit is secured by the property being purchased.
  • Mortgage loans: credit secured by any real property or personal property used as a dwelling.
  • Credit cards.
  • Student loans made, insured, or guaranteed pursuant to the Higher Education Act of 1965, or a private education loan.
  • Non-recourse pawn loans.
  • Overdraft services and overdraft lines of credit.
  • Wage advance programs.
  • No-cost advances, in which the consumer is not required to pay any charge or fee for the advance.

Finally, loans made by federal credit unions under National Credit Union Administration regulations for a Payday Alternative Loan are deemed to be in compliance with the ability-to-repay requirements and conditions.

Other Requirements

Beyond origination, the final rule imposes certain compliance monitoring, loan servicing, compliance management, and anti-evasion obligations. First, creditors will be required to furnish information regarding covered short-term loans and covered longer-term loans with balloon features to “registered information systems,” and the rule creates provisional and permanent registration processes to authorize such systems. Second, when servicing any covered loan, creditors subject to the rule will be prohibited, in most cases, from processing a third payment from a consumer’s account after two prior payments have failed due to insufficient funds, unless the creditor obtains a new payment authorization from the consumer. The rule establishes notice and consent requirements to support this prohibition. Third, creditors subject to the rule will be required to maintain a compliance program for ensuring adherence to the rule’s requirements. Finally, the rule prohibits creditors from taking any action with the intent of evading the rule. With the exception of limiting information furnishing requirements to loans subject to new underwriting obligations, the final rule is similar to the 2016 proposal with respect to each of the above areas.