On March 23, 2021, the CFPB issued a brief statement highlighting its position regarding “consumer harms in the small dollar lending market” and likely future action to reverse the previous CFPB administration’s policy regarding the industry. The next day, the CFPB provided its Consumer Response Annual Report for 2020 to Congress, which stated the complaint volume for payday loans “decreased significantly in 2020” (down 24%) and personal loans (listing installment loans, personal lines of credit and pawn loan as “types” in this category) stayed relatively the same. Despite this overall decrease in small dollar lending consumer complaint volume, the CFPB indicated in its statement that it is focusing its attention on small dollar lending activity. The CFPB expressed “concern” for “any lender’s business model that is dependent on consumers’ inability to repay their loans,” citing prior research which, the bureau states, shows that small dollar loans frequently result in reborrowing chains that end in default and result in consumer harm. Finally, the statement alludes to the prior administration’s revocation of the “ability to repay” requirement of the Payday, Vehicle Title and Certain High-Cost Installment Loans (“Small Dollar Rule”) final rule and the current administration’s dissatisfaction of that decision, and confirms the CFPB will vigorously pursue the ability to repay issue through other authority provided by Congress.
Interestingly, the CFPB refers to “years of research by the CFPB” in its statement as a justification for why ability to repay analysis should be required in the small dollar lending context, even though the prior administration found this historical research to be flawed and a primary reason for removing the ability to repay element from the Small Dollar Rule. The prior administration received numerous comments related to the Small Dollar Rule, including from industry participants, on why the research was flawed. Furthermore, industry experts have long touted numerous studies that demonstrate the vast majority of small dollar borrowers can afford to repay their loans and are able to correctly predict their ability to repay a loan. For example, studies show that a consumer may take out a two-week payday loan, but understand that it would still take them six weeks to pay off the loan completely. Thus, because the consumer refinances the loan several times it is still a short-term loan and it does not mean that the consumer misjudged their ability to repay the loan or that the lender deceived the consumer.
As it relates to the CFPB’s changing position on its historical research, we agree with the last administration’s position. It is hard to envision how a business model based on the “inability to repay,” as the CFPB put it, could succeed as a lender needs the consumer to repay the loan or it does not make money. Some level of underwriting is therefore required, particularly when the loan is unsecured. As such, unsecured small dollar lenders generally take great care to underwrite their loans to ensure consumer identification and creditworthiness/ability to repay in order to lower the risk of default. Online lenders may be even more careful to underwrite loans since an online consumer is arguably harder to verify than a traditional brick and mortar consumer. In fact, many businesses are successful based in large part on their underwriting model, but many small dollar lenders underwrite loans differently. Therefore, the originally proposed ability to repay requirements in the Small Dollar Rule could have crippled the industry and cut off many consumers’ access to credit.
Industry arguments and studies aside, the CFPB initially issued tough standards in 2017 for the Small Dollar Rule. The new final rule in 2020 is slightly more favorable to the industry because it removed the mandatory underwriting requirements of the 2017 rule. However, the cumbersome payment provisions of the rule that require notices with complicated timing and content requirements and new obligations if a consumer receives two consecutive failed payment transfers (see prior blog) remain intact. This remains a big challenge to lenders in the small dollar industry and will increase compliance costs significantly as well as bring additional risk to both the consumer and the lender. The 2020 Small Dollar Rule, however, remains challenged in court along with the stay on the compliance date and its future is uncertain. Now that the pendulum of Washington policymaking has swung the other direction again, the CFPB is likely to return to the 2017 policy and will not broadly support the final rule issued in 2020. On March 23, 2021, citing merely its “legal obligation to respond to the lawsuit” the CFPB filed a motion in another action that was originally filed last October by a consumer advocacy group looking to reinstate the 2017 version of the Small Dollar Rule. That motion “address[ed] only the court’s jurisdiction to hear the case” and the CFPB made clear that the filing “should not be regarded as an indication that the bureau is satisfied with the status quo” in the small dollar lending market. The CFPB’s message is clear: it will be heavily “monitoring, supervis[ing], and enforce[ing]” the small dollar lending market.
Finally, a takeaway from the CFPB’s Consumer Response Annual Report for 2020 was the large number of small dollar loan consumer accounts that were settled or written off due to a consumer struggling to pay their loan. This speaks to the importance of customer relationships in this industry and shows that lenders worked with consumers during the pandemic last year despite no legal obligation to do so under the CARES Act. The CFPB’s renewed focus on small dollar lending is incongruent with the decline in consumer complaints about these loans from 2019 to 2020. It was one of only three categories (out of 13 total) in the CFPB’s 2020 Consumer Response Annual Report that saw a decline during the pandemic.
Even if the 2020 Small Dollar Rule proceeds and the stay is lifted, it is still possible the CFPB will engage in new rulemaking to expand the regulatory landscape with respect to small dollar lenders. Additionally, we are concerned the CFPB could potentially use its UDAAP authority to try to categorize a perceived ability or inability to repay as a consumer harm, especially in light of the recently rescinded policy guidance related to the “abusive” standard for UDAAP. Nevertheless, we will continue to watch and monitor as the CFPB rolls out its new agenda with respect to small dollar lending.
For more details on this and other CFPB updates, subscribe to the Bradley Financial Services Perspective Blog and read more about our Bradley Small Dollar and Unsecured Consumer Lending team.