Payday loans, regulated or not, do more harm than good

The explosive growth of the quick cash loan industry has led to a number of states and municipalities trying to regulate the ever-increasing number of payday loan stores that have opened within their jurisdictions in the last five years. While the industry maintains that they are offering a much-needed and welcome service, detractors say that the industry preys upon those who are least able to repay them.

While the arguments continue, Michigan has become the most recent state to pass legislation that attempts to regulate these lending institutions, which can charge interest rates of up to 1000% per year.

The new legislation proposes to put limits on the amount of money that can be borrowed at one time at $600. In addition, borrowers are limited to one loan at a time and the interest rate, or “fees” as the lenders call them, will be limited to a maximum of $15 per $100 borrowed. A loan for the maximum of $600 would require repayment of $690 two weeks later. This represents an annual interest rate of nearly 400%. Compared to that, a credit card loan at even 25% would seem reasonable.  Those in the industry point out, probably correctly, that a lot of customers of payday loan stores do not have credit cards from which to borrow the money. As such, they are providing a valuable service that no one else in the community can offer.

That may be true, but many people cannot pay back such a steep “fee” in such a short period of time and the loans are often “rolled over” for another two weeks. For a $600 loan, that means paying another $90. These loans have a habit of being rolled over time and again, and before long, the borrower will find himself or herself paying more money in interest than was borrowed in principal.

The bill was signed into law despite the objections of various consumer groups, who claim that the law now legalizes an industry that was previously illegal in the state. That is true, as the state has a usury law on the books that prohibits the lending of money at interest rates that exceed 25% per year. This would effectively ban the cash advance industry, which requires substantially higher interest rates to function due to the high number of loans that are not repaid. On the other hand, the state has had a poor record of enforcing the usury law and quick cash stores have been doing business there for years without any oversight, regulation or fear of being closed down by state regulators.

The state will now officially attempt to regulate the industry in order to keep a closer eye on it. One of the things that will be done, and it is admirable, is to keep a statewide database of everyone who has a current loan from a cash advance store. By doing so, the state hopes to prevent people from taking a loan out at one store and then taking out another one to pay the first one. This practice, which is allowed in may other states, rapidly deteriorates into a situation where the borrower owes more money than her or she can pay and to multiple lenders, at that.

This law, which goes into effect in June 2006, looks like a mixed bag. Time will tell.

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