As promised in the 2016 spring semi-annual agenda, the CFPB released today its proposal to end payday debt traps for consumers. The proposed protections will cover those products that have developed a stigma of being harmful to consumers, including payday loans, auto-title loans, deposit advance products, and certain high-cost installment and open-end products. While these may not be common products utilized in your financial institution, there may be a loan or two lurking on your books that fit the definition of one of these products.
The proposal generally covers two types of loan products:
- Loans with a term of 45 days or less, and
- Loans with a term of more than 45 days , if they:
- Have an “all-in” annual percentage rate greater than 36 percent; and
- Either are repaid directly from the consumer’s account or income, or are secured by the consumer’s vehicle.
If these types of covered loans are made it would be considered an abusive and unfair practice if the lender does not determine that the borrower has the ability to repay the loan. Under the proposal, a “full-payment test” would be required. For short-term loans and installment loans with a balloon payment, full payment means affording the total loan amount and all the fees and finance charges without having to reborrow within the next thirty days. For payday and auto title installment loans without a balloon payment, full payment means affording all of the payments when due.
Under the proposal, consumers could borrow a short-term loan up to $500 without the “full-payment test” as part of the principal payoff option that is directly structured to keep consumers from being trapped in debt. Lenders would be barred from offering this option to consumers who have outstanding short-term or balloon-payment loans or have been in debt on short-term loans more than 90 days in a rolling 12-month period. Lenders would also be barred from taking an auto title as collateral.
The proposal would also permit lenders to offer two longer-term loan options with more flexible underwriting, including one option where interest rates are capped at 28 percent and the application fee is no more than $20. The other option would be offering loans that are payable in roughly equal payments with terms not to exceed two years and with an all-in cost of 36 percent or less, not including a reasonable origination fee, so long as the lender’s projected default rate on these loans is 5 percent or less.
One very important limitation under the new proposal is the requirement that a lender must provide written notice to a consumer before attempting to debit the borrower’s account to collect a loan payment covered under the rule.
The proposal does include some exclusions for certain types of credit including:
- Loans extended solely to finance the purchase of a car or other consumer good in which the good secures the loan;
- Home mortgages and other loans secured by real property or a dwelling;
- Credit cards;
- Student loans; and
- Overdraft services and lines of credit.
The comment period for the proposed rule ends on September 14, 2016; once finalized this will become Regulation OO under the CFPB’s umbrella of alphabet regulations. See the link for a full review of the proposed regulation.