Payday Loans Are Priced for Risk

I must respond to the letter from Bill Brooks in the Aug. 26 issue regarding CU payday loans. I believe Bill, the National Consumer Law Center and others are missing some major points. First, as Mike Moebs told me years ago, “The worst form of discrimination is to treat everyone the same.” This is the foundation for risk-based lending throughout the credit union movement. Most successful CUs price for risk. The reason to do so is to benefit prime borrowers with low, competitive rates (otherwise, they will go elsewhere for those loans and leave credit unions with only high-risk borrowers) and to benefit higher risk borrowers by allowing them to borrow at rates above the A paper folks, but well below the used-car “bad credit, no credit, no problem” lenders who charge north of 20% for their loans. Credit unions also price classic, gold and platinum credit cards at different rates for exactly the same reason-different risk levels. This methodology allows each member to carry his or her own weight-the good members don’t have to subsidize the weaker ones. Second, payday loans have extremely high risk. Generally, over 6% and sometimes as much as 10% of those loans are not repaid. If you lose up to 10% of your capital in every two-week cycle, let me know how you stay in business at 18% or even 36% APR. So, the easy answer is “don’t get into that business.” But here’s the rub. Our members are “in that business,” including some of the CU staff. Over 20 million Americans have decided that payday loans are the way they want or need to conduct their financial affairs. Banks don’t generally make micro-loans and the members couldn’t pass the credit check anyway, and they know it. Do I like payday loans? No. Would I prefer that members not use those lenders? Of course. But they do. So Mazuma has chosen to meet them at their point of need with a better deal. We make the loans and offer incentives to engage in no-cost education. Nevada Federal, Prospera, a large group of Ohio credit unions and numerous others have made similar decisions. And while some CUs maintain that they can do this at 12% (SECU in North Carolina) or 18% and still break even, I have studied the matter enough to doubt that very much. They are forcing their entire membership to subsidize the losses on those loans. A few CUs have gotten grants to underwrite the losses that come from such programs. So Bill, CUs who offer payday-type loans at “half pound of flesh” rates have not lost their way but are in fact benefiting all of their members-the ones who get a needed loan for a reduced rate and all their other members who aren’t paying some part of the freight for those who are on the fringe. To date, Mazuma has saved our payday borrowers over $500,000 on over 10,000 loans compared to the rates they would have paid using community payday lenders. Third, that isn’t even the biggest part of our reason for being in the business. If a significant piece of our membership is using payday loans and they do not come to us for such services, we never know their circumstances, and we never have the opportunity to discuss options with them. We just concede them to the mercies of local or Internet lenders-who very definitely do not have the member’s best interests at heart. I have multiple stories of members who came in demanding our XtraCash loan and walked out with one of our credit cards instead. If we didn’t offer the PDL, we would never have gotten to engage our members to understand their needs and meet them in a beneficial way. Bottom line, I believe if credit unions don’t offer a payday loan program, you have effectively disenfranchised a segment of your membership and left them at the mercy of a loan shark, who is truly only in the game for the profit. As noted above, in about two and a half years Mazuma has originated over 10,000 loans for over 3,000 members, and we have made a profit of $39,000-hardly a get rich scheme. We charge roughly 50% to 67% of the local street rate for a payday loan, have well below-market charge-offs and are at basically break even. So we are meeting a member need, not shaving our deposit rates for our main-stream members and limiting member costs to the lowest possible level for those that use this service. And most significantly, we get to talk to members so we can help them out of the cycle in the short term and build for a better future in the long term. I am surprised by the statement that the payday loan expenses and therefore rates should exclude loan losses and legal costs (and possibly, to continue the logical thread, any collection expenses). If you applied this logic to your vehicle, mortgage and HELOCs (secured loans) as well as credit card and signature loans (unsecured), you would have every loan priced virtually the same since allocation of costs for automated systems, document preparation, administration, cost of funds and staff time would not provide much rate differentiation between various types of loans. Yet that is clearly not the case in any segment of the financial services industry. Both CU management and examiners would be severely criticized if they allowed a CU to not factor in loan losses and other back-end costs to their rate structure.