Payday Lending in Virginia: The Lesser of Many Evils?

Abstract

The use of “payday” lending has exploded in the U.S. and gained even greater momentum since the recession began in 2008. Attractive because they do not require borrowers to go through a credit check and can be approved quickly, payday loans have also fallen under harsh criticism from consumer advocates across the country and in the state of Virginia. These groups claim that payday lenders charge exorbitant interest rates (as high as 819 percent APR in Virginia in 2010) and set loan terms so short (typically 14 days) that it makes it nearly impossible for the borrower to pay off the loan without having to take out a second or third loan just to pay off the accrued interest. Payday loan use in Virginia has been highly responsive to the tightening of restrictions on the industry. In 2008, payday lending was a $1.3 billion business, providing nearly 3.4 million loans annually. After stricter regulations were passed, in 2009, payday loans decreased by over 80 percent and the average number of loans per borrower drastically declined. While the decline in total payday loans and the average number of loans taken out by borrowers represents a positive step forward, we believe that, since the tightening of state regulations around payday loans, borrowers may have migrated to other, more predatory financial products. We explore four policy alternatives for the payday loan industry: 1) enacting a statewide ban on payday lenders, 2) keeping current law, 3) providing incentives to employers to provide small-dollar loans to employees, and 4) removing the allowance of a 20 percent loan “origination fee” in the current payday loan regulations. Our research shows that the revised Virginia Payday Loan Act as it stands goes to great lengths to protect borrowers. We find that the best policy option for Virginia is to keep current law but infuse competition into the small-dollar loan market by incentivizing public and private employers to provide loans through credit unions to their employees. Because we believe that the current decline in payday loans has resulted in greater proliferation of more predatory financial products, we do not recommend taking action that would cause payday lenders to leave the state entirely. Until these new products are fully understood and examined, we cannot support an alternative that would ban a borderline exploitative industry in favor of a purely predatory one. To better understand these new loan products, we further recommend the creation of a Commission to examine their scope and growth. Because much of the evidence is anecdotal, there is a need for data to be collected on lines of credit and Internet loans, among any other fringe products that can be identified.