Money’s tight out there. And the fast, easy credit that payday lenders offer is a tempting source of cash when you’re in a financial jam.
But industry critics say that’s a debt trap. Interest rates and fees on payday loans, averaging 390 percent, are so onerous that some customers end up taking out new loans to pay off old ones and wind up filing for bankruptcy.
In response, a group of Kansas City churches, bankers, lawyers and nonprofit agencies has created what it hopes will be an alternative source of credit for those who need a small amount of cash for a short amount of time to pay bills, fix the car, even buy groceries.
In other words, the kind of loans regular banks once offered but haven’t since Americans became awash in plastic and payday loan shops.
“There’s a huge gap between what banks were providing 40 years ago and what payday lenders provide today,” says businessman Ace Wagner, a board member of this new entity, Fair Community Credit.
Through a partnership with Central Bank of Kansas City, Fair Community Credit this month issued the first of what the nonprofit hopes will be 500 loans in its first year of business.
Fair Community Credit’s organizers have no illusions about having a big impact on the market. After all, 500 loans is a drop in the bucket in an industry that, according to the Missouri Division of Finance, issued 2.4 million loans statewide in 2010.
Still, they hope their experiment will grow and become a model for similar ventures in this region.
“We want it to be replicated,” said Eva Schulte, executive director of Communities Creating Opportunity, the group that worked three years to establish Fair Community Credit.
There’s nothing complicated about how it works.
Central Bank has agreed to make old-fashioned signature loans (that means no collateral from the borrower) of $300 to $2,500. That’s also what payday and installment lenders do. Except Fair Community Credit will lend money for slightly longer durations and at a double-digit interest rate, not a triple-digit one. That way borrowers will have a better shot at paying off their loans, rather than defaulting.
What makes that possible is Fair Community Credit’s promise to cover any loan losses from a $200,000-plus loan guarantee pool donated by foundations and individual donors.
And the reason the group is confident that borrowers will pay off their loans, rather than deplete the guarantee pool with loan losses, is that customers will be by referral only.
No walk-ins allowed.
Industry under scrutiny
This new lending product comes at a time when the payday loan industry is under increasing scrutiny on the local, state and national levels.
On Tuesday, Jackson County joined Kansas City and several other area cities in restricting where payday lenders, pawn shops and similar businesses can locate their businesses. Also last week, the new federal consumer protection agency announced it will begin taking a hard look at the industry.
At least two bills capping interest rates are pending in the Missouri General Assembly. Neither is expected to get much traction, but industry critics in Missouri are mounting a statewide campaign to limit the amount of interest payday lenders can charge customers, an effort that they think will resonate in an anti-big-business political climate that has spawned groups like Occupy Wall Street.
“The general populace see triple-digit interest rates as wrong,” Schulte said.
Though proponents have yet to gather the signatures necessary to put their measure before the voters, payday lenders and their sister industry, the installment loan business, are already fighting back. According to campaign finance records, they’ve collected more than $1 million so far from donors for an effort to keep the measure from being put on the ballot.
All of the $850,000 donated to the payday lending group, Missourians for Equal Credit Opportunity, as of Jan. 5 has come in chunks of $200,000 to $250,000 from Missourians for Responsible Government, which lists a Kansas City post office box and is not required to say where it gets its cash.
Whereas the pro-ballot initiative group, Missourians for Responsible Lending, has raised just $63,000, though that doesn’t discourage members.
“My confidence comes from knowing that grassroots organization does work,” said Jennifer Thomas, pastor of Immanuel Lutheran Church in Westport.
But despite the murky source of its funds, Missourians for Equal Credit Opportunity’s website reflects the industry’s views. Among its contentions is that annual percentage rate is the wrong measurement to consider for short-term credit products. Annualizing the interest rate on a short-term loan makes about as much sense as extrapolating the cost of a short cab ride to what it would cost to rent a cab for an entire year, one industry spokesman said.
What’s more, Missourians for Equal Credit Opportunity says that payday lenders provide a needed service for people who might not have credit cards or other sources of credit.
The group did not make a spokesman available, but Randy Scherr, a lobbyist for United Payday Lenders of Missouri, defended the industry against charges of predatory lending.
“The interesting thing about payday loans is they don’t cause bankruptcy, they prevent bankruptcy,” he said, giving the example of people with unexpected bills that, if paid, would lead them to bounce checks.
Though they are high, payday lending charges for borrowing a couple of hundred dollars are far lower, he said, than the overdraft fees someone might pay on a number of checks because of insufficient funds in the account. Those who take out payday loans, he said, are far more sophisticated with money than industry critics give them credit for.
“People are very satisfied with the product,” Scherr said, because they know going in exactly what they will pay to borrow money. The charges are right there on the wall. “It’s the simplest, most transparent loan in our society today.”
Some payday loan customers, however, have been outspoken about their bad experiences. Among them is the Rev. Stevie Wakes, a Baptist minister in Kansas City, Kan.
“It’s a debt trap,” Wakes said.
His isn’t the horror story sometimes told of people losing everything, but to him it was sobering nonetheless. Shortly before the recession, Wakes suffered a deep pay cut at the bank where he worked at the time. He and his wife had trouble paying the bills. They worried about losing the house. They had no credit card.
“We got in a pinch, so we took out a payday loan,” Wakes said.
He borrowed $500, expecting to repay it in two weeks. That amount and the duration are typical in the industry.
“We thought it was short term,” Wakes said. He figured he’d find a higher-paying job right away, but no luck.
So every two weeks, Wakes returned to the payday lending store and got an extension, rolling his loan over until, in just four months, that initial $500 debt grew to $1,250.
High fees like that aren’t out of the ordinary, nor are multiple loan renewals. Payday lenders typically make loans ranging from $100 to $500 and charge $15 to $20 for every $100 borrowed per two- to three-week period the loan is outstanding.
Wakes figures he renewed 10 times. His annual interest rate was close to 450 percent, close to the average of 444 percent at Missouri payday loans shops, according to the state Division of Finance. (The average in Kansas is closer to the national average of 390 percent.)
When Wakes realized how fast those fees were mounting up, he scraped together the cash to pay off his loan and has been railing against payday lenders ever since.
“I’d like to see them cap the rate so that no one has to experience that kind of robbery, which is why I support the campaign 100 percent.”
The campaign to which Wakes refers is the push by Missourians for Responsible Lending for a ballot initiative that would cap the interest rate on all loans at 36 percent. That’s the same rate Fair Community Credit is charging its customers.
Regardless of what happens statewide, Fair Community Credit will push ahead. Kansas City isn’t the first in the nation to have such a program. But one aspect that makes it one of a kind is the referral network Fair Community Credit will employ to recruit borrowers.
Based on the microcredit model out of Bangladesh that’s proved so successful in helping poor people become entrepreneurs, the success of Fair Community Credit depends on groups of people keeping one another accountable for repaying their debts.
So far, seven churches and social agencies have signed on. They promise to only refer people they know and have continuing relationships with.
Someone like Stevie Wakes, with close ties to church and community. He now has a steady job teaching high school Spanish.
From the industry’s perspective, Fair Community Credit is just one more competitor in a crowded field of lenders, from title loans to check-cashing operations and pawn shops.
“I welcome them to the marketplace and wish them well,” Scherr said. “Competition is good.”