Banking & Credit

CFPB Takes Initial Step to Stop Debt Trap With “Ability to Repay” Requirement For Certain Loans

Requirement Applies to Payday and Auto Title Loans; CFA Urges CFPB, Congress, and States to Finish the Job

Washington, D.C.Today, the Consumer Financial Protection Bureau (CFPB) took the first step toward ending the debt trap by finalizing new consumer protections for shorter-term loans where consumers must repay all or most of the debt at once including payday and auto title loans, and longer-term loans with balloon payments.

The Debt Trap Harms Consumers

Payday loans, which often carry an annual interest rate of over 300%, are unaffordable and ultimately trap consumers in a cycle of debt where consumers roll over loans because they are unable to repay them. Lenders make money even if the loan is never successfully paid back because of high interest rates and fees—the debt trap. Financially vulnerable communities and communities of color are particularly harmed. Almost 70% of borrowers take out a second loan within a month, and one in five borrowers take out 10 loans or more consecutively. These borrowers taking out more than 10 loans a year are stuck in the debt trap and generated 75% of the payday loan fees in the CFPB’s research.

Auto title loans feature many of the same problems as payday loans and the CFPB found that 1 in 5 short term title loans ended up with borrowers losing their vehicle for failure to repay.

The New Rule is a First Step to Addressing the Harms of the Debt Trap

The CFPB’s new rule addresses some of the worst excesses of these loans, in states that allow them, by requiring lenders to establish a borrower’s ability to repay the loan before making the loan.

“The rule is an important first step and will benefit some consumers who need relief the most, but a great deal of work is still needed to ensure that American families are no longer ensnared in the debt trap of high interest, abusive loans,” noted Michael Best, Director of Advocacy Outreach at Consumer Federation of America.

Consumers will be pleased to see the rule as, in a recent poll, 73% of respondents supported requiring lenders to check a borrower’s ability to pay before making a loan.

Much Work Remains to Protect Consumers from Other Debt Traps

While an important first step, the rule does not address other debt traps. Additional action is needed from the Bureau, Congress, and state legislatures especially as the CFPB’s rule does not impact longer term loans without balloon payments. These longer term loans tend to be larger than short term loans which can mean higher overall costs and more time in the debt trap.

  • Consumer Financial Protection Bureau: The Bureau recognized in the proposed rule that longer term installment loans are also problematic. Consumers need a rule addressing the problems with longer term installment loans as quickly as possible.
  • Congress: While Congress did not grant the CFPB the authority to establish interest rate caps, Congress can and should extend the interest rate cap of 36% that is in place for active-duty servicemembers to all consumers.
  • States: The states play a critical role in pulling consumers out of the debt trap through interest rate cap laws and the enforcement powers of their Attorneys General.
    • State Interest Rate Caps: Fifteen states and the District of Columbia are free of high cost loans because they have interest rate caps of approximately 36%. Those states need to maintain and vigorously enforce those rate caps—the CFPB’s new consumer protections establish a floor, not a ceiling, for states that do not adequately protect consumers from abusive short term loans. States with rate caps have the strongest protection against the debt trap. States that do not have a rate cap should follow the lead of South Dakota where 75% of voters approved a 36% rate cap for payday and car title loans in 2016.
    • State Enforcement: State Attorneys General and state regulators have authority under the Dodd Frank Act to enforce certain consumer protections, such as today’s rule. CFA urges state Attorneys General and regulators to vigorously use this authority to aggressively enforce the new consumer protections for payday and auto title loans.

“We are glad to see these protections and urge swift implementation of the rule, as well as strong enforcement by the Bureau and state Attorneys General,” said Best.

Contact: Michael Best 202-939-1009

The Consumer Federation of America is an association of more than 250 non-profit consumer groups that, since 1968, has sought to advance the consumer interest through research, education, and advocacy.