Tricks of the Trade
Payday and title lenders prey on low-income and impoverished people at their time of greatest need.
And their business model depends on borrowers who make only interest payments repeatedly without whittling down the principal – often paying far more in interest than they borrowed in the first place.
With title loans especially, many consumers don’t even know, and are shocked to find out, that they’re not paying down the principal when they make regular payments.
John*, who has been in the payday loan business in Montgomery for nearly a decade, said he earns $17.50 in interest for each $100 he lends for a two-week period. With his loans limited to $500 per customer, that’s not enough to make his business worthwhile. But if the customer cannot repay the principal, he continues to earn $17.50 twice each month on the original loan, while the principal remains untouched.
He estimates that 98% of his customers don’t pay back the loan right away, typically because to do so would mean they couldn’t pay their other bills.
“I bank on that,” John said. “It’s put my kids through school. When they come in and they say, ‘I just want to pay my interest,’ yeah, I got them. Once you pay it once, you’re going to be doing it again.”
He typically offers borrowers more money than they ask for, knowing the more they take, the harder it will be to pay off unless they don’t pay their rent or utilities.
“To be honest, it’s an entrapment – it’s to trap you,” he said.
John told of one customer, for example, who paid $52.50 in interest every two weeks for a $300 loan – for two years. That equals $2,730 in interest alone.
National data tells the same story. More than three-quarters of all payday loans are given to borrowers who are renewing a loan or who have had another payday loan within their previous pay period.4 This means that the vast majority of the industry’s profit is derived from loans where the borrower is obtaining no new principal.
When customers do manage to pay off the loan, they frequently come back for another one. Studies show that borrowers are indebted for an average of five to seven months per year.5 John and his salespeople encourage that.
“The payday loan system has made my lifestyle quite easy, I guess you could say,” John said. “There’s enough money out there for everybody if you want to do this kind of business.”
Those who work in payday or title loan stores are under heavy, constant pressure to lend money to people they know will soon be trapped in debt they cannot pay off. Tiffany* worked in a store in Mobile that offered both payday and title loans. She said employees were graded on their “check count,” or number of loans they had outstanding. (Borrowers are typically required to leave a check with the lender so that if they default, the lender can attempt to cash the check to recoup the principal, interest and any fees that might apply.) “When a borrower pays in full and doesn’t renew, you lose a check,” she said. “They don’t want you to ever drop checks, and if you do, they want to know why.”
Most of the employees she knew earned between $8 and $10 an hour, plus commissions based on the number of outstanding loans they had. If she had 300 loans outstanding, her bonus would double.
“You get emails all day long: ‘Grow the business or find another job,’” Tiffany said.
Some customers, she said, carried the same payday loan for years, making only interest payments. “They could have bought a car or two with that interest money by now.”
No longer working in the business, Tiffany said she felt horrible seeing what happened to customers mired in debt. She believes that shutting down these lenders would be good for the communities they prey upon.
“These people are really trying,” she said. “They’re just everyday, hardworking people.”
The following are features of the payday and title loan industry that harm consumers:
EXORBITANT INTEREST RATES
Low-income families and individuals pay effective annual interest rates of 456% for payday loans and 300% for title loans. The industry and the law express the interest rate as 17.5% for payday loans and 25% for title loans each loan period. Most borrowers have outstanding loans for many pay periods, and the high interest rates are not tied to the risk associated with these loans.6 This is especially evident with title loans, because the loan is secured by a car valued at an amount greater than the principal loan amount.
Title loan interest rates can be devastating for borrowers like Cierra Myles in Dothan. Her car, for which she had paid $1,200 a few months earlier, was repossessed when she was late making a $129 monthly payment on a $700 title loan. “I feel embarrassed and upset every time I see my car behind that fence,” she said.
LENDERS ENCOURAGE HIGHER PRINCIPAL
Lenders often offer customers more money in loans than they request.
John, the payday lender cited earlier, said he would put money on the counter and say, “Look, this is what you’re approved [for]. You can take this, or I can put $200 back in my pocket. You can walk out the door with it.” Most people take the money.
Borrowers are limited by law to $500 in outstanding payday loans at any time. However, payday lenders do not have a centralized database to determine whether borrowers have loans with other lenders, so many borrowers’ total debt load exceeds $500. Title loans have no maximum loan amount; instead, they are extended based on the value of the car. The 300% annual interest rate drains thousands of dollars in interest payments from families and individuals every year.
Latara Bethune, a hair stylist in Dothan, was offered almost double what she asked for at a title loan shop in her neighborhood. She hesitated, but the employee persuaded her to take the extra money. The agreement she signed required her to pay back, over 18 months, approximately $1,787 for a $400 loan.
When a loan quickly comes due and the borrower cannot repay the full amount, the lender can renew, or roll over, the loan, charging an additional interest payment. Lenders intend for borrowers to be unable to repay and to roll over their loans after their first payment is due.
Often, title loan borrowers do not understand that their payments are covering only the interest.
“People would cry,” said Tiffany, the former payday and title loan employee. “They said, ‘I’ve been doing this for a year, why isn’t this done?’ They really didn’t understand. Once I explained it, they were heartbroken. They thought they were working towards a goal, but they weren’t.”
REPAYMENT PERIOD TOO SHORT FOR MEANINGFUL OPPORTUNITY
FOR ON-TIME REPAYMENT
Borrowers are required to pay back payday loans by their next pay period. Title loans are expected to be repaid within 30 days. But for borrowers using these loans to pay for routine expenses, it is frequently impossible to repay the full amount of the loan plus interest in such a short period without needing additional funds to pay their bills. Borrowers are almost never able to get ahead and pay back the principal with such high interest payments every week. Studies show that nationwide, 76% of all payday loans are taken out by borrowers who have paid off a loan within the previous two weeks.7
Despite the fact that title loans are often extended with principal values of thousands of dollars, borrowers are given only 30 days to repay the principal and interest of up to 25%. If the borrower does not repay the full amount, the lender may decide whether to extend the loan for another month. The title loan borrower is at the mercy of the lender, as the lender may repossess the car at the end of any 30-day period in which the full amount of the loan is not repaid – even though the vehicle may be worth thousands of dollars more than the borrower owes.
NO VERIFICATION OF ABILITY TO REPAY
Most title lenders do not ask for any proof of income or whether the borrower has other obligations. While payday lenders often ask for some proof of income and a bank account, there is no meaningful assessment of a borrower’s ability to repay the loan. Studies show that 69% of borrowers use payday loans to meet everyday expenses, such as rent, bills, medicine and groceries.8 Many individuals present lenders with only their Social Security income or disability checks as proof of income. While these checks are sometimes enough to cover basic expenses, seniors on Social Security rarely have an opportunity for extra income, making them among the most vulnerable to being trapped in the payday loan debt cycle.
Tiffany said lender employees were encouraged to make loans to Social Security recipients, because they made their interest payments on time and were unlikely to be able to pay back the principal. Edward*, an 89-year-old retiree in Birmingham, was a prime example. He borrowed $800 against his 1996 Buick Riviera to help out a younger relative, understanding that he would pay back a total of $1,000 with interest. But after paying $1,000 over five months, he was informed that he had only been paying the interest and still owed the original $800. Angry, he refused to pay any more, and the lender repossessed the vehicle.
Lenders do not verify borrowers’ ability to repay, because their goal is to extend loans that borrowers cannot pay back and force them to renew. For payday loans, Tiffany said she was able to lend up to 30% of someone’s paycheck. That meant that if someone were to pay off the entire principal and interest in two weeks, they would need to take almost half of their paycheck back to the lender. “According to the financial records they gave me, they qualified according to [the lender’s] standards,” Tiffany said. “According to my personal standards and morals, no, they don’t qualify, because they can’t pay this back ever.”
NO INSTALLMENT PLANS OFFERED
Title loan lenders offer only one option for borrowers who cannot repay the full amount of their loan: rolling over the loan every 30 days. If the lender does not agree to roll the loan over, the car is repossessed.
The law allows but does not require payday lenders to offer a repayment option of four equal monthly installments, with no new interest, if the lender cannot pay on the day that the loan is due. The option is usually offered only when the borrower specifically asks for it. Industry professionals agree that offering such a plan is a “best practice,” but only if the customer informs the lender that they are unable to repay the loan the day before it is due.9
Tiffany noted that she was not allowed to offer this program to borrowers unless they specifically requested it, and very few customers knew enough about the law to ask for such a plan. However, Tiffany noted that the few customers to whom she was able to provide this plan repaid their loan without incident. She believed this payment plan was much fairer and wished she could offer it to more borrowers to help them escape their debt.
COMMISSION PAYMENTS TO EMPLOYEES
In order to ensure that individual employees are following the profit model outlined above, lenders pay employees based on the amount of current loans outstanding, not including any loans in collections or past due. This encourages employees to persuade borrowers to take out loans with high principal values and to continue rolling over their loans when they are due. This also encourages employees to use any tactics necessary, including deception, threats and other abusive techniques, to collect the money owed.
Latara Bethune of Dothan said she was threatened by a title lender employee. The employee told her that if Latara did not hand over the keys to her car, the employee would call the police and accuse Latara of stealing.
Borrowers are sometimes even threatened with criminal charges and jail time for failure to pay their loans.
DECEPTIVE EXPLANATIONS OF CONTRACTS, ESPECIALLY FOR TITLE LOANS
Payday lenders frequently do not explain many of the terms of the contract, including stipulations requiring borrowers to agree to mandatory arbitration and to waive their right to a jury trial in the event of a dispute. The contracts are often long and confusing to borrowers, many of whom say they have the most trouble with title loan contracts.
John, for example, does not allow his customers to take contracts home to read them in depth. He said he knows they will not read the contract, or at least the important part buried in the middle. “The first two paragraphs [are] just not very important,” he said. “That third paragraph is the one that you need to read.”
Title loan contracts state that the loan is for 30 days only. However, employees extending these loans often tell consumers they can have as much time as they want to pay off the loan. Many explain only that the borrowers will have to make a “minimum payment” every month, which is equal to the interest due each month and does not include any partial repayment of the principal. Tiffany, for instance, was instructed by her employer that she should never talk about the principal when explaining the monthly payments to a potential borrower. Lenders also do not explain that they can, at any time, refuse to roll over the loan and can repossess the car if the borrower does not pay the full amount of the loan by the end of any 30-day period. Lenders also impose late fees and repossession fees that are not clearly explained, either orally or in writing.
DIRECT ACCESS TO BANK ACCOUNTS OF PAYDAY LOAN BORROWERS
Because payday loan borrowers are required to provide lenders with a postdated check or a debit authorization, lenders have direct access to their bank accounts and can try to collect at any time after the loan term expires. Cashing these checks may result in additional fees for the borrower, including overdraft or insufficient fund fees from the bank and bad check fees from the lender of up to $30.
Lenders’ direct access to borrowers’ bank accounts also allows them to evade federal protections against garnishment of Social Security benefits. This also ensures that lenders stay out of court, where the fees charged and terms of the loan would need to be approved by the court before a judgment is awarded to the lender.
These factors provide additional coercion for borrowers to roll over their loans multiple times, even if the loan does not comply with the law.
HOLDING CAR AS COLLATERAL IN TITLE LOANS
Title loan borrowers can be forced to pay interest for months or years, as otherwise lenders can take from them one of their most valuable possessions. Borrowers in Alabama – where public transportation is inconvenient, unreliable and, in many places, simply unavailable – need cars to get to work, transport their children to school, and do other daily errands.
BUYOUTS OF OTHER TITLE LOANS
When a title loan borrower falls behind on payments and wants to avoid repossession, some lenders will offer to pay off the borrower’s existing loan and extend a new loan. The principal balance on the new loan thus becomes the total amount due on the old loan, including principal, interest and any late fees or other charges that have accumulated. The new lender may also encourage the borrower to borrow additional money. This causes the interest payments to increase dramatically.
This highly predatory practice shows that lenders are not attempting to lend responsibly but rather are choosing to extend additional funds to consumers who have demonstrated an inability to repay a smaller loan. Lenders, in fact, target consumers who cannot afford to pay off their loans but who will do anything they can and make as many interest payments as possible to avoid losing their cars.
RETAINING SURPLUS FROM VEHICLE SALE IN TITLE LOANS
When lenders repossess and sell a borrower’s car, they never return any surplus that exceeds the amount due on the loan. Some borrowers may have paid thousands of dollars in interest and principal by the time the car is repossessed. They lose this money and their car.
Many of the contracts for these loans contain mandatory arbitration clauses that prevent consumers from challenging the terms of these loans in court, either through individual actions or class actions.
* NOT HIS REAL NAME.