Lexington Herald-Leader

February 26, 2008

Unregulated payday loans are bait for debt trap

By Terry Brooks

If you had to choose between sending your children to bed hungry or taking out a loan certain to launch you into a painful cycle of debt, what would you do?

If you're like thousands of working Kentucky families, chances are you would choose the loan and head to the nearest payday lender for a quick cash infusion. Not surprisingly, as more low-to-moderate income Kentuckians struggle to meet basic needs, the payday lending industry has flourished, doubling in size between 1999 and 2006.

At the same time, few regulations have been put in place to ensure that consumers are getting a fair deal on loans that now cost state residents $131 million in fees annually, according to the Center for Responsible Lending.

That needs to change.

Legislation filed this month in the Kentucky General Assembly would set limits on payday loans, making them fairer for working families. Such limits are desperately needed.

Payday loans rarely just help someone out in a pinch. The requirement that borrowers -- already strapped for cash -- pay off the full amount in just two weeks often means that they are forced to take out another loan simply to pay off the initial one. In Florida and Oklahoma, two states that track use of payday loans, data show that 80 percent of borrowers take out another loan within one week.

From the onset, these loans are far costlier than virtually any other form of lending. A Kentucky Youth Advocates report released this month found that on a $300 payday loan, a customer is typically charged $45 in fees and receives $255 in cash, at an annual interest rate of 391 percent.

Much of the profit for payday lenders comes from making repeated small cash advances, essentially turning these short-term financial transactions into long-term, high-interest loans. In Kentucky, payday lenders are allowed to charge up to 38 times more than the average credit card for a comparable loan.

Simple remedies have already been adopted in dozens of states across the country. Kentucky should follow suit by passing clear and enforceable payday lending regulations. These include dropping the fee on payday loans from $15 to $12 per $100 loan; extending the loan term from 14 to 30 days, limiting rollovers by instituting a 72-hour waiting period between loans taken out from the same lender and creating a database to track the use of payday loans.

This final measure is crucial if Kentucky is to fully understand how payday-lending practices are affecting consumers. A database would allow the Kentucky Office of Financial Institutions to enforce current law limiting the number and total value of payday loans held at one time as well as restrictions on renewing or rolling over these loans.

Information from databases in Oklahoma and Florida has allowed those states to crack down on payday-lending violations. For example, data tracked by both states revealed that about 19 percent of loans in each state were declined in the last few years because they violated the law.

While these measures are not intended to shut down payday lending in Kentucky, they would force lenders to alter their practices or suffer the consequences. Struggling Kentuckians would still have plenty of options for getting the money they need to make ends meet.

In North Carolina, the number of small consumer finance loans has actually gone up 37 percent since that state banned payday lending in 2001. Consumers now use small loan alternatives from other financial institutions and credit unions with far lower interest rates, borrow from family and friends and use credit cards. Many have also learned to budget their money more efficiently and delay purchases.

Through financial education and alternative financial options in low-income communities, more hard-earned cash will stay in the pockets of working families. In the meantime, we owe it to all low- to moderate-income Kentucky residents to support laws which ensure that those who can least afford it don't get stuck in an endless cycle of high-interest, long-term debt.

Terry Brooks is executive director of Kentucky Youth Advocates.