Today, we take a look at some of the misconceptions brought on by politicians when it comes to payday lending. One example is a Colorado group campaigning to limit charges for what they call payday loans claims that current law allows payday lenders to charge more than 200% interest for small loans targeted at customers who are often in dire straits. The claim is in support of Proposition 111, a Colorado ballot measure to cap annual finance charges at 36 percent for small-dollar loans.
Is the claim by the group Stop Predatory Payday Loans accurate? Does current law allow payday lenders to charge more than 200 percent interest for small loans?
No, the claim is inaccurate and deceptive. First, the group’s reference to 200 percent interest conflates interest rates with finance charges. The interest rate is only one of the charges that may be levied on a loan, and Colorado law currently allows four distinct types: 1) a flat-fee origination charge; 2) an interest rate not to exceed 45 percent annually applied to the amount financed; 3) a monthly maintenance fee based on the amount borrowed; and 4) a one-time only charge of $25 for non-sufficient funds (i.e., when a borrower’s check to the lender does not clear).
Second, the 200 percent interest cited by the group relates to loans that remain unpaid after 12 months. However, just 0.2 percent of the small-dollar loans in Colorado in 2015 were written for one year; nearly 83 percent were written for six or seven months
Furthermore, what is called a payday loan in Colorado state law and by the group is different than what is typically known as a payday loan, and are actually installment loans. The two are different financial products. A payday loan is typically less than $500 and repaid in a single payment on the borrower’s next payday (or renewed). An installment loan typically involves uniform payments made at regularly scheduled intervals with interest applied through the life of the loan.
Colorado law sets a minimum loan term of six months and caps loans to individual borrowers at $500. No matter the type of loan, the total cost of the loan will be highly dependent on the amount borrowed and the time it takes to repay the loan.
Under federal law, the APR required in loan disclosures must account for the interest rate and fees calculated over a one-year period. The broader calculation was intended to aid consumers in comparing the terms of various loans.
Proponents of such propositiions say that high rates for small-dollar loans are predatory and trap borrowers in a cycle of poverty.
Following passage of the 2010 bill on payday lending, more than half of Colorado’s payday loan stores closed. Because small-dollar borrowers commonly use the loans for rent and utilities, a further reduction in availability would either adversely affect borrowers’ quality of life or force them to pay higher costs for different types of access to cash.