The CFPB’s Payday Lending Rule: An Opportunity in Disguise?

by Vedder Price
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On October 5, 2017, the Consumer Financial Protection Bureau (“CFPB”) released its nearly 1,700-page final rule for short-term loans (“Payday Lending Rule”). Notably, almost simultaneously with the CFPB’s announced Payday Lending Rule, the Office of the Comptroller of the Currency (“OCC”) rescinded its longstanding Guidance on Supervisory Concerns and Expectations Regarding Deposit Advance Products (“DAP Guidance”), theoretically opening the door for banks to offer short-term credit products to customers with less regulatory burden.

When will the Payday Lending Rule become effective?

While certain provisions of the Payday Lending Rule relating to the registration of information systems will become effective 60 days after the Payday Lending Rule is published in the Federal Register, the rest of the Payday Lending Rule will become effective 21 months after publication in the Federal Register. Consequently, the Payday Lending Rule will not become effective until sometime during the summer of 2019. Given that the term of the current CFPB Director expires in mid-2018, and will presumably be replaced by a director less hostile to the payday loan industry, some industry commentators speculate that the Payday Lending Rule, at least in its present form, may never become effective.

What type of loans are covered under the Payday Lending Rule?

The rule applies to all lenders, including banks, credit unions, FinTech companies and non-banks, that make the following two (2) types of covered loans:

  • The underwriting portion of the Payday Lending Rule, including the ability-to-repay requirements, apply to short-term loans that have terms of 45 days or less, including typical 14-day and 30-day payday loans, as well as short-term vehicle title loans that are usually made for 30-day terms and longer-term balloon payment loans.
  • Second, other parts of the Payday Lending Rule, including payment restrictions, apply to loans with terms of more than 45 days that have (1) a cost of credit that exceeds an APR over 36%; and (2) a form of “leveraged payment mechanism” that gives the lender a right to withdraw payments from the consumer’s account (e.g., checking or prepaid account).

What types of loans are exempt from the Payday Lending Rule?

The rule excludes from its coverage several types of consumer credit, including: (1) loans extended solely to finance the purchase of a car or other consumer goods in which the goods secure the loan; (2) home mortgages and other loans secured by real property or a dwelling if recorded or perfected; (3) credit cards; (4) student loans; (5) non-recourse pawn loans; (6) overdraft services and lines of credit; (7) wage advance programs; (8) no-cost advances; (9) alternative loans (similar to loans made under the Payday Alternative Loan program administered by the National Credit Union Administration); and (10) accommodation loans.

Importantly, as part of the “accommodation loans” exemption, the CFPB created a carve out for community banks and credit unions from the Payday Lending Rule; provided, however, that banks and credit unions (i) only extend 2,500 or fewer covered loans in the current calendar year; (ii) only extended 2,500 or fewer covered loans in the preceding calendar year; and (iii) during the most recent completed tax year in which the lender was in operation, the lender derived no more than ten percent (10%) of its receipts from covered loans.

What are the key requirements of the payday lending rule?

As stated by the CFPB, the purpose of the Payday Lending Rule is to “stop debt traps by putting in place strong ability-to-repay protections.” Generally, these protections apply to loans that require consumers to repay all or most of the debt at once.

Ability-to-Repay Loans. Under the Payday Lending Rule, it is an unfair and abusive practice for a lender to make short-term loans or longer-term balloon-payment loans without first making an ability-to-repay determination. In accordance with the ability-to-repay determination, a lender, before making either a covered short-term or longer-term balloon-payment loan, must make a reasonable determination that the consumer would be able to make the payments on the loan and be able to meet the consumer’s basic living expenses and other major financial obligation without needing to re-borrow over the next 30 days. Specifically, a lender is required to:

  • (a) Verify the consumer’s net monthly income using a reliable record of income payment, unless a reliable record is not reasonably available;
  • (b) Verify the consumer’s monthly debt obligations using a national consumer report and a consumer report from a “registered information system” as described below;
  • (c) Verify the consumer’s monthly housing costs using a national consumer report if possible, or otherwise rely on the consumer’s written statement of monthly housing expenses;
  • (d) Forecast a reasonable amount for basic living expenses, other than debt obligations and housing costs; and
  • (e) Determine the consumer’s ability to repay the loan based on the lender’s projections of the consumer’s residual income or debt-to-income ratio.

Additionally, lenders must comply with a 30-day cooling-off period before making a short-term loan, or longer-term balloon-payment loan, if the consumer has already taken out three (3) short-term loans or longer-term balloon-payment loans that were outstanding within 30 days of each other.

Conditionally Exempt Loans. The Payday Lending Rule conditionally exempts from the ability-to-repay requirements short-term loans under $500 where no security interest is taken in the consumer’s vehicle and where other structural requirements specified in the Payday Lending Rule are satisfied. Lenders making conditionally exempt loans still need to review the consumer’s borrowing history, both in the lender’s own records and in a consumer report from a registered information system contemplated under the Payday Lending Rule.

In addition to the above listed requirements, a lender is allowed to make up to three (3) covered short-term loans in short succession; provided, however, that the first loan has a principal amount no larger than $500, the second loan has a principal amount at least one-third (1/3) smaller than the principal amount on the first loan, and the third loan has a principal amount at least two-thirds (2/3) smaller than the principal amount on the first loan. However, this exemption will not apply where a lender’s extension of credit would result in the consumer having more than six (6) covered short-term loans during a consecutive 12 month period or being in debt for more than 90 days on covered short-term loans during a consecutive 12 month period.

Payment Restrictions. The Payday Lending Rule also identifies it as an unfair and abusive practice for a lender to make attempts to withdraw payment from consumers’ accounts (e.g., checking, savings and prepaid accounts) in connection with a short-term loan, a longer-term balloon-payment loan, or a high-cost longer-term loan after the lender’s second consecutive attempts to withdraw payments from the accounts fail due to a lack of sufficient funds. In such an instance, the lender will be required to obtain the consumer’s new and specific authorization to make any further attempts at withdrawals from the accounts.

In addition, the Payday Lending Rule requires lenders to provide a written notice to each customer, (i) a certain number of days before its first attempt to withdraw payment for a covered loan from a consumer’s account, (ii) before an attempt to withdraw such payment in a different amount than the regularly scheduled payment amount, (iii) on a date other than the regularly scheduled payment date, (iv) by a different payment channel than the prior payment, or (v) to re-initiate a returned prior transfer. This written notice must contain key information about the upcoming payment attempt and, if applicable, alert the consumer to unusual payment attempts. A lender is permitted to provide electronic notices as long as the consumer consents to electronic communications.

Reporting Requirements. The Payday Lending Rule permits companies to become designated as “registered information systems” by the CFPB. Lenders making short-term loans and longer-term balloon-payment loans will need to furnish loan information to such a registered information system, and will also be required to obtain and review a consumer report from a registered information system, prior to making either a covered ability-to-repay loan or a conditionally exempt loan.

Did the OCC’s rescission of the DAP Guidance open a door for banks?

Within hours after the CFPB’s announced Payday Lending Rule, the OCC rescinded its DAP Guidance. In theory, with the OCC’s rescission of the DAP Guidance, the OCC has signaled banks that the offering of DAPs may not trigger the regulatory scrutiny it has in the past. Below are answers to commonly asked questions concerning the OCC’s rescission of the DAP Guidance.

How Are DAPs Structured? A DAP could be structured a number of ways, but generally involve a line of credit offered by banks as a feature of an existing consumer deposit account. Repayment was automatically deducted from the consumer’s next qualifying deposit. Deposit advance products were available to consumers who received recurring electronic deposits if they had an account in good standing and, for some banks, several months of account tenure, such as six (6) months. When an advance was requested, funds were deposited into the consumer’s account. Advances were automatically repaid when the next qualifying electronic deposit, whether recurring or one-time, was made to the consumer’s account rather than on a fixed repayment date. If an outstanding advance was not fully repaid by an incoming electronic deposit within about 35 days, the consumer’s account was debited for the amount due and could result in a negative balance on the account.

What did the DAP Guidance Requirements. Generally, the now rescinded DAP Guidance provided for the following:

  • (a) Banks were to verify the DAP consumer’s monthly housing costs using a national consumer report if possible, or otherwise rely on the consumer’s written statement of monthly housing expenses;
  • (b) Bank were to forecast a reasonable amount for the DAP customer’s basic living expenses, other than debt obligations and housing costs;
  • (c) Banks were to determine the DAP consumer’s ability to repay the loan based on the lender’s projections of the consumer’s residual income or debt-to-income ratio;
  • (d) Banks offering DAPs were required to apply more scrutiny in underwriting DAP loans and were discouraged from extending credit where there had been repetitive borrowings;
  • (e) Banks were to ensure that the customer relationship was of sufficient duration to provide the bank with adequate information regarding the customer’s recurring deposits and expenses, and that the OCC considered a sufficient duration to be no less than six (6) months;
  • (f) Banks were to conduct a more stringent financial capacity assessment of a consumer’s ability to repay the DAP according to its terms without repeated re-borrowing, while meeting typical recurring and other necessary expenses, as well as outstanding debt obligations;
  • (g) Banks were to analyze a consumer’s account for recurring inflows and outflows at the end, at least, of each of the preceding six (6) months before determining the appropriateness of a DAP advance;
  • (h) In order to avoid re-borrowing, a cooling-off period of at least one (1) monthly statement cycle after the repayment of a DAP advance was to be completed before another advance could be extended; and
  • (i) Banks were not to increase DAP limits automatically and without a fully underwritten reassessment of a consumer’s ability to repay, and banks were to reevaluate a consumer’s eligibility and capacity for DAP at least every six months.

In announcing the rescission, Acting Comptroller of the Currency Keith Noreika stated that the release of the CFPB’s Payday Lending Rule “necessitates revisiting the OCC guidance” in order to prevent national banks and federal savings associations from being subject to “potentially inconsistent regulatory direction.” The Acting Comptroller also noted that, in his opinion, since the release of the Rescinded Guidance, “it has become difficult for banks to serve consumers’ need for short-term, small-dollar credit,” and many consumers have therefore had to turn to less regulated entities. The Acting Comptroller even went so far as to state that the OCC’s earlier guidance on deposit advances “may even hurt the very consumers it is intended to help.”

To view the full text of the CFPB’s factsheet summarizing the Payday Lending Rule, click here.

To view the full text of the Payday Lending Rule, click here.

To view the announced OCC rescission of the DAP Guidance, click here.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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