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Minnesota Appeals Court Upholds State Regulation Of Online Payday Lender
On March 31, the Minnesota Court of Appeals held that the Minnesota state legislature may regulate the activities of online payday lenders that extend loans to individuals residing within the state’s borders, even if the lender’s operations are based in a different state. State of Minn. v. Integrity Advance, LLC, No. 62-CV-11-7168, 2014 WL 1272279 (Minn. Ct. App. Mar. 31, 2014). The state of Minnesota alleged that an online payday lender violated Minnesota law by charging high annual interest rates, automatically rolling-over loans for extended periods, and failing to obtain a state lending license. The lender argued that the dormant commerce clause of the U.S. Constitution, which prohibits states from discriminating against or unduly burdening interstate commerce, prevented the Minnesota legislature from regulating the lender because the lender received and accepted Minnesotans’ loan applications at its place of business in Delaware, where the loans were consummated. The court rejected the lender’s argument and held that the U.S. Constitution permits states to regulate commercial transactions that affect their citizens so long as the transactions are not “wholly extraterritorial” – that is, occurring entirely outside of the state’s borders. The court determined that the online lender’s loans were not “wholly extraterritorial” because the lender (i) accepted loan applications online from Minnesota residents that indicated the applicant resided and worked in Minnesota; (ii) contacted Minnesotans in their home state approximately 27,944 times for loan underwriting and other business purposes; and (iii) deposited loan funds directly into Minnesota borrowers’ bank accounts. The court also upheld the district court’s award of $7 million in civil and statutory damages against the lender, finding that the lower court did not abuse its discretion since the award amounted to only 21% of the statutorily-allowed amount.
CFPB Report, Field Hearing, Build Record For Changes To Payday Lending Market
On March 25, the CFPB released a report and held a field hearing on payday loans. Through both, the CFPB sought to expand the record on which it will formulate new rules to address its concerns about the payday lending market. Director Cordray indicated in his remarks at the field hearing that the CFPB is on the verge of initiating the public phase of a rulemaking.
The Report
The report—the first such “Data Point” report from the CFPB’s Office of Research—focuses on “loan sequences,” what the CFPB describes as “a series of loans taken out within 14 days of repayment of a prior loan.” The analysis was performed using the same data obtained from storefront payday lenders through the supervisory process and used by the CFPB in its prior analysis and report. Like the prior analysis, this latest analysis did not include online payday lending data. The CFPB acknowledges certain limitations of the data used, including that data collected from different lenders contain different levels of detail and that some lender data did not include default-related information. (Note that the CFSA challenged, under the Information Quality Act, the CFPB’s prior report and the data on which it relied. The CFPB rejected that challenge.)
The CFPB reports that over 80% of payday loans are rolled over or followed by another loan within 14 days. In addition, the CFPB’s report offers the following findings:
- State rollover restrictions: Same-day renewals are less frequent in states with mandated cooling-off periods, but 14-day renewal rates in states with cooling-off periods are nearly identical to states without such limitations.
- Sequence duration and volume: 36% of new loans end with loan being repaid; more than half of loans that are renewed are only renewed one time, but 22% of sequences extend for seven or more loans; 15% of new sequences are extended for 10 or more loans.
- Loan size and amortization: For more than 80% of the loan sequences that last for more than one loan, the last loan is the same size as or larger than the first loan in the sequence. Loan size is more likely to go up in longer loan sequences, and principal increases are associated with higher default rates.
- Loan usage: Monthly borrowers are disproportionately likely to stay in debt for 11 months or longer. Among new borrowers (i.e., those who did not have a payday loan at the beginning the year covered by the data), 22% of borrowers paid monthly averaged at least one loan per pay period. The majority of monthly borrowers are government benefits recipients. Most borrowing involves multiple renewals following an initial loan, rather than multiple distinct borrowing episodes separated by more than 14 days. Roughly half of new borrowers (48%) have one loan sequence during the year. Of borrowers who neither renewed nor defaulted during the year, 60% took out only one loan.
The Field Hearing
In remarks to open the hearing, Director Cordray offered his conclusion that “the business model of the payday industry depends on people becoming stuck in these loans for the long term, since almost half their business comes from people who are basically paying high-cost rent on the amount of their original loan.” He stated that the “fundamental problem is that too many borrowers cannot afford the debt they are taking on or at least cannot afford the size of the payments required by a payday loan.” He identified as a particular concern borrowers who receive monthly payments, including borrowers “who receive Supplemental Security Income and Social Security Disability or retirement benefits, are thus in serious danger of ensnaring themselves in a debt trap when they take out a payday loan.” Director Cordray suggested that state-mandated cooling off periods are insufficient to help consumers avoid these so-called debt traps.
Based on its payday lending supervisory program, the CFPB has concerns about the following payday practices: (i) inhibiting borrowers from using company payment plans that are intended to assist them when they have trouble repaying their outstanding loans; (ii) use of the electronic payment system in ways that pose risks to consumers; and (iii) unfair or deceptive collection activities, including using false threats, disclosing debts to third parties, making repeated phone calls, and continuing to call borrowers after being requested to stop.
Director Cordray stated that the Bureau is in “the late stages of its consideration about how [it] can formulate new rules to bring needed reforms to this market.” His comments and the study findings suggest that these new rules could include, among other things, ability to repay requirements, a two-week or more cooling off period, and limits on the number of rollover or renewal loans. The Director did not provide any additional detail on a rulemaking timeline, but it is likely to take many months . Director Cordray promised that any eventual rule will not limit access to small dollar credit for those who can afford it.
Nevada Federal Court Affirms FTC's Authority Over Tribal Payday Lending Businesses
On March 19, the FTC reported that the U.S. District Court for the District of Nevada held that the FTC Act “grants the FTC authority to regulate arms of Indian tribes, their employees, and their contractors,” including tribe-affiliated businesses sued by the FTC over allegedly unfair and deceptive practices in the origination and collection of payday loans. FTC v. AMG Servs., Inc., No. 12-536, 2014 WL 910302 (D. Nev. Mar. 7, 2014). The court’s order affirmed a report and recommendation issued last July by a magistrate judge in which the magistrate concluded that under controlling Ninth Circuit precedent, the FTC has authority to regulate “Indian Tribes, Arms of Indian Tribes, employees of Arms of Indian Tribes and contractors of Arms of Indian Tribes with regard to” the payday lending activities at issue in the case. The district court rejected the defendant’s objections that the magistrate erred in (i) assigning the defendants the burden of establishing whether they fall within the FTC’s jurisdiction; (ii) determining that the FTC Act is a statute of general applicability; and (iii) failing to apply Indian law canons and Supreme Court opinions the defendants argued are controlling in determining whether a federal statute of general applicability applies to Indian tribes and arms of Indian tribes.
Maine Seeks To Halt Unlicensed Consumer Lending
On March 16, Maine enacted legislation that makes it a violation of the Maine Unfair Trade Practices Act for a lender not organized and supervised under the laws of any state or the United States to solicit or make, either directly or through an agent, a loan to a Maine consumer unless licensed under state law. The law also establishes as an unfair or deceptive act or practice for entities other than supervised financial institutions to process a check, draft, other form of negotiable instrument or an electronic fund transfer from a consumer's financial account in connection with a loan solicited from or made by an unlicensed lender who is not exempt from the licensure requirement. The statute similarly establishes as an unfair or deceptive act or practice for any person or lender to provide substantial assistance to a lender or processor when the person or lender or the person's or lender's authorized agent either knows or consciously avoids knowing that the lender or processor is unlicensed and not otherwise exempt from licensure or is engaging in an unfair or deceptive act or practice. The Maine UTPA provides a private right of action and allows the state attorney general to seek injunctive relief and civil penalties for violations of an injunction.
CFPB Announces Payday Loan Field Hearing
This afternoon, the CFPB announced that it will hold a field hearing on payday loans on March 25, in Nashville, TN. The event is open to members of the public who RSVP, and will feature remarks from consumer advocates, industry representatives, and CFPB officials, including Director Richard Cordray. The CFPB often announces policy initiatives in connection with its field hearings, and in its most recent rulemaking agenda the CFPB anticipated additional “prerule activities” related to payday loans and deposit advance products this month.
Payday lending was the topic of the CFPB’s first ever field hearing in January 2012, at which the Bureau released examination procedures for short-term, small-dollar lending. Since then, the CFPB has, among other things, (i) launched a payday loan complaint portal; (ii) announced its first enforcement action against a payday lender; (iii) participated in an ongoing, multi-agency effort to revise the Military Lending Act regulations; and (iv) published a white paper on payday loans and deposit advance products.
UK FCA Finalizes New Consumer Credit Rules
On February 28, the UK Financial Conduct Authority (FCA) announced final rules for consumer credit providers, including new protections for consumers in credit transactions. The FCA states that the most drastic changes relate to payday lending and debt management. For example, with regard to “high-cost short-term credit,” the new rules will (i) limit to two the number of loan roll-overs; (ii) restrict to two the number of times a firm can seek repayment using a continuous payment authority; and (iii) require creditors to provide a risk warning. Among other things, the new rules also establish prudential standards and conduct protocols for debt management companies, peer-to-peer lending platforms, and debt advice companies. The policy statement also describes the FCA’s risk-based and proactive supervisory approach, which the FCA states will subject firms engaged in “higher risk business” that “pose a potentially greater risk to consumers” to an “intense and hands on supervisory experience” and will allow the FCA to levy "swift penalties” on violators. The new rules take effect April 1, 2014. The FCA plans next to propose a cap on the cost of high-cost, short-term credit.
CFPB Director Defends Mortgage Rules, Discusses Plans In Other Markets
On January 28, the House Financial Services Committee held a lengthy hearing with CFPB Director Richard Cordray in connection with the CFPB’s November 2013 Semi-Annual Report to Congress, which covers the period April 1, 2013 through September 30, 2013. The hearing came a day after the Committee launched a CFPB-like “Tell Your Story” feature through which it is seeking information from consumers and business owners about how the CFPB has impacted them or their customers. The Committee has provided an online submission form and also will take stories by telephone. Mr. Cordray’s prepared statement provided a general recap of the CFPB’s recent activities and focused on the mortgage rules and their implementation. It also specifically highlighted the CFPB’s concerns with the student loan servicing market.
The question and answer session centered on the implementation and impact of the CFPB’s mortgage rules, as well as the CFPB’s activities with regard to auto finance, HMDA, credit reporting, student lending, and other topics. Committee members also questioned Mr. Cordray on the CFPB’s collection and use of consumer data, particularly credit card account data, and the costs of the CFPB’s building construction/rehabilitation.
Mortgage Rule Implementation / Impact
Generally, Director Cordray pushed back against charges that the mortgage rules, in particular the ATR/QM rule, are inflexible and will limit credit availability. He urged members to wait for data before judging the impacts, and he suggested that much of the concerns being raised are “unreasoned and irrational,” resulting from smaller institutions that are unaware of the CFPB’s adjustments to the QM rule. He stated that he has personally called many small banks and has learned they are just not aware of the rule’s flexibility. He repeatedly stated that the rules can be amended, and that the CFPB will be closely monitoring market data.
The impact of the mortgage rules on the availability of credit for manufactured homes was a major topic throughout the hearing, On the substance of the issue, which was raised by Reps. Pearce (R-NM), Fincher (R-TN), Clay (D-MO), Sewell (D-AL), and others, Director Cordray explained that in his understanding, the concerns from the manufactured housing industry began with earlier changes in the HOEPA rule that resulted in a retreat from manufacture home lending. He stated that industry overreacted and now lenders are coming back into the market. Mr. Cordray has met personally with many lenders on this issue and will continue to do so while monitoring the market for actual impacts, as opposed to the “doomsday scenarios that are easy to speculate on in a room like this.” Still, he committed to work on this issue with manufacturers and lenders, as well as committee members.
Several committee members, including Reps. Sherman (D-CA), and Huizenga (R-MI) raised the issue of the requirement that title insurance from affiliated companies must be counted in the QM three percent cap. Mr. Cordray repeated that the CFPB believes Congress made a determination to include affiliate title protections in numerous places in the Dodd-Frank Act. That said, the CFPB is looking at the data on the impacts and meeting with stakeholders. Rep. Huizenga was most forceful, stating that while the CFPB has sought to limit the impact of the three percent cap, it is not enough. He raised again his bill, HR 1077, Rep. Meeks’ HR 3211, and ongoing work with Senators Vitter (R-LA) and Manchin (D-WV). He cited a survey conducted by the Real Estate Settlement Providers Council that found the inclusion of title charges causes 60 percent of loans under $60,000 to fail as qualified mortgages, and such loans actually become high-cost HOEPA loans. The survey also found that 45 percent of affiliated loans between $60,000 and $125,000 failed to qualify as qualified mortgages, and that 97 percent of the loans that failed as QMs were under $200,000 simply due to the inclusion of title insurance. Director Cordray did not have time to respond in full, but indicated the CFPB is waiting to see data on the actual impact.
Rep. Capito focused on the QM rule impact on Habitat for Humanity and other 501(c)(3) entities. Director Cordray stated that he spoke with the Habitat CEO prior to the hearing and believes the CFPB can address all of that organization’s concerns through rule amendments. He added that the CFPB already amended the rule to address Habitat’s first set of concerns, and that its latest concerns are new.
HMDA Rule Amendments & Small Business Fair Lending Rule
As she has done several times in the past, Rep. Velazquez (D-NY) raised the status of rulemaking required by Dodd-Frank Act section 1071 regarding small and minority/women-owned business lending. As he has in the past, Director Cordray explained that the CFPB is having difficulty addressing this rule given it is the only area in which the CFPB is required to address business lending. He added that the CFPB has determined that as it moves forward with the rule to amend HMDA data collection, which is underway now, the Bureau will attempt to fold the small business lending element into that process. He stated that the CFPB is working with the Federal Reserve Board on “overhauling that whole [HMDA] database” and “it feels to me that the right spot for this, and we've talked to a number of folks both from industry and consumer side on this, is to make [the small business lending requirements] part of the later stages of that, so it's coming, but not immediate.”
Auto Finance
Rep. Bachus (R-AL) asked Director Cordray to specify appropriate dealer compensation alternatives. Mr. Cordray responded that the CFPB does not know all the mechanisms yet that would be satisfactory. It is “open to auto lenders and others bringing those to [the CFPB’s] attention, but [the CFPB] did say flat fees are one possibility. A flat percentage of the loan might be a possibility. Some combination of that with different durations of the loan, different levels, and potentially other things that [the CFPB has not] thought of but others in the industry may think of and bring to [its] attention. So [the CFPB is] open-minded on that.”
Reps. Scott (D-GA) and Barr (R-KY) also were critical of the CFPB’s auto finance guidance and suggested the CFPB should have met with industry stakeholders in advance or should have conducted a rulemaking. Mr. Scott asserted that auto credit is tighter and more expensive now. Mr. Cordray defended the guidance, as he has in the past, as a restatement of existing law. He does not believe the guidance has impacted or will impact the health of the auto market.
Rep. Beatty (D-OH) raised a recent proposal from the National Association of Auto Dealers on alternative dealer compensation models. Mr. Cordray acknowledged having seen it, and said that as long as all parties agree that the CFPB is respecting its jurisdictional lines in the auto context, the Bureau is willing to sit down with dealers and others to work on a “broader solution.”
Credit Reporting
Rep. Velazquez (D-NY) asked for an update on the CFPB’s efforts to regulate consumer credit reporting agencies. Director Cordray described the CFPB’s efforts to, for the first time, provide federal supervision of the major credit reporting agencies. He stated that those agencies are not used to such supervision and that, in his view, it has been an adjustment for them. The CFPB has had examination teams into each of the three largest credit reporting agencies and is discussing “various issues” with them and areas of concern. He informed the committee that as a result of the CFPB’s efforts the credit reporting agencies, for the first time, are forwarding the documentation that consumers send them about problems and potential errors in their credit reports to the furnishers to be evaluated. The CFPB still is concerned about errors and error resolution.
Prepaid & Overdraft
In response to an inquiry from Rep. Maloney (D-NY), Mr. Cordray stated that the CFPB is continuing to work on the prepaid card proposed rule to address “a hole in the fabric” of consumer protection. He said the rule likely will address disclosures and add new protections. On overdraft, he acknowledged the CFPB is not as far along—the agency is still studying the market.
Payday & Internet Lending
Rep. Luetkemeyer (R-MO) stated the FDIC and DOJ have admitted to working to shut down online lending. He confirmed that the Oversight Committee is considering investigating DOJ on Operation Choke Point (its payment processor investigations). He asked Director Cordray to support, perhaps with a letter of some sort, legitimate online lending businesses and processors. Mr. Cordray agreed that there is plenty of appropriate online lending, but declined to offer specific help absent further context.
Rep. Murphy (D-FL) later suggested that the CFPB look at the “good regulation and great enforcement” in Florida. Director Cordray responded that the CFPB is looking at “a number of states that have developed different provisions on short-term, small-dollar payday lending” including Florida, Colorado, and Washington.
Rep. Heck (D-WA) inquired as to the status of proposed Military Lending Act regulations. Director Cordray explained that the CFPB has been “actively engaged” on writing new rules with the Department of Defense, the Federal Reserve, the FDIC, the OCC, Treasury Department, and the FTC. It stated that it has been difficult to get multiple agencies to work together, and asked Congress to “keep our feet to the fire and make it clear that you want to see that quickly.”
Mobile Payments & Emerging Products/Providers
Rep. Ellison (D-MN) asked about the CFPB’s views on emerging financial service providers, citing recent reports about T-Mobile’s efforts. Mr. Cordray stated that the CFPB is watching very closely and trying to keep up with the rapidly changing products and markets. He stated that it will present challenges to the current regulatory structure, particularly when phone companies are involved, and that the CFPB will need to coordinate with other regulators and probably will need legislation from Congress. Rep. Heck asked the CFPB to conduct a front-end in-depth analysis of consumer protection issues across various emerging mobile payments platforms. Mr. Cordray did not commit.
Student Lending
Rep. Peters (D-MI) raised his FAIR Student Credit Act bill, HR 2561. The bill, which is co-sponsored by Reps. Bachus (R-AL), Capito (R-WV), and seven other Republicans and 11 Democrats, would amend FCRA with respect to the responsibilities of furnishers of information to consumer reporting agencies. It would provide for the removal of a previously reported default regarding a qualified education loan from a consumer report if the consumer of the loan meets the requirements of a loan rehabilitation program, where the number of consecutive on-time monthly payments are equal to the number of payments specified in a default reduction program under the Higher Education Act of 1965. The bill would limit such rehabilitation benefits to once per loan. Rep. Peters indicated the Committee will consider the legislation, and that he has met with lenders who stated they could start offering rehabilitation immediately after the bill is enacted. Director Cordray stated that without having read the bill, it sounded promising, and that he would ask Rohit Chopra to work with the Congressman.
New York AG Settles Suit Against Internet Payday Lenders
On January 24, New York Attorney General (AG) Eric Schneiderman announced the resolution of a lawsuit filed in August 2013 against Native American tribe-affiliated payday lending firms and their owners for allegedly violating the state’s usury and licensed lender laws in connection with their issuing of personal loans over the Internet. The AG claims that the companies charged New York consumers annual interest rates on payday loans far in excess of the 16% rate cap set by state law. According to the announcement, the defendants agreed to modify the terms of all outstanding loans made to New York borrowers and to not collect interest on outstanding loans. The defendants also must provide refunds to borrowers who have paid back more than the principal of their loan plus the state-capped interest rate of 16%, and pay $1.5 million in penalties. The companies also must become licensed in New York before offering new loans in the state.
California Appellate Court Holds State Regulators Lack Authority To Regulate Tribe-Affiliated Lenders
On January 21, the California Court of Appeal, Second District, held that short-term, small-dollar credit businesses owned by certain federally recognized Indian tribes are sufficiently related to their respective tribes to be protected under the doctrine of tribal immunity from state regulation. California v. Miami Nation Enterprises, No. B242644, 2014 WL 212220 (Cal. Ct. App. Jan. 21, 2014). The court affirmed a trial court’s dismissal of a civil action filed by the Commissioner of the California Department of Corporations seeking to enforce an order directing five tribe-affiliated lenders to cease providing payday loans over the Internet to California residents allegedly in violation of several provisions of the California Deferred Deposit Transaction Law. The two tribes had entered into management agreements with a non-tribal payday marketing company to direct and operate their lending activities. The court rejected the Commissioner’s argument that tribal immunity does not apply because under those agreements the day-to-day operations of the businesses have been effectively delegated to a nontribal entity, and that the tribes do not participate in the net income from the businesses, receiving instead only a “modest percentage” of the gross revenues. The court held that a business functions as an arm of the tribe if it (i) has been formed by tribal resolution and according to tribal law, for the purpose of tribal economic development and with the clearly expressed intent by the sovereign tribe to convey its immunity to that entity; and (ii) has a governing structure both appointed by and ultimately overseen by the tribe. The court added that “[n]either third-party management of day-to-day operations nor retention of only a minimal percentage of the profits from the enterprise (however that may be defined) justifies judicial negation of that inherent element of tribal sovereignty.”
More State AGs File Suits Against Online Payday Lender, Loan Servicers
On December 16, the North Carolina attorney general (AG) filed a lawsuit against an online payday lender, two loan servicers, and a related debt collection company, and the Colorado AG filed suit against the same loan servicers and collection company. The Colorado AG previously filed a separate suit against the lender. In addition, the New Hampshire AG promised to enforce a state banking department order against the same entities targeted in the other state actions. All three actions are parallel to, and were taken in coordination with, a CFPB action filed December 16 purportedly signaling broader pursuit of “regulatory-evasion schemes.” In general, the states are alleging that the lender violated state usury or licensing laws in the online origination of short-term, small dollar loans. The lender asserts that it is a Native American sovereign entity not subject to relevant state laws. The states also allege that a servicer, either in its own name or through a related entity, provided the lender with marketing, web hosting and customer services, collected consumer information, and conducted the loans’ initial underwriting review, and then purchased all loans immediately after origination. The states further allege that either the servicers or a related debt collection company engaged in servicing and collections, and that the totality of the activities violated state lending and licensing laws by, among other things, financing and collecting on illegal payday loans. The state AG suits are similar to suits previously filed by other state attorneys general, including in New York, Georgia, Minnesota, and Virginia.