A “payday loan” is a short-term loan for a small amount, typically $500 or less, that is typically due on your next payday, along with fees. Payday loans may go by different names — cash advance loans, deferred deposit loans, check advance loans or postdated check loans — but they typically work the same way.
These loans may be marketed as a way to bridge the gap between paychecks or to help with an unexpected expense, but the federal Consumer Financial Protection Bureau says that payday loans often become “debt traps.” https://www.consumerfinance.gov/ask-cfpb/category-payday-loans//. This is because many borrowers can’t afford the loan and the fees, so they end up repeatedly “rolling over” or refinancing the debt until they end up paying much more in fees than the amount they borrowed.
The Pew Research Center has conducted extensive research on the high-cost small-dollar loan market. The findings show that although these products offer quick cash, the unaffordable payments lead consumers to quickly take another loan to cover expenses. According to Pew, 12 million Americans take out payday loans each year, spending $9 billion on loan fees. https://www.pewtrusts.org/en/research-and-analysis/fact-sheets/2016/01/payday-loan-facts-and-the-cfpbs-impact
The Pew Study issued the following findings:
· The average payday loan borrower is in debt for five months of the year, spending an average of $520 in fees to repeatedly borrow $375. The average fee at a storefront loan business is $55 for two weeks.
· Payday loans are usually due in two weeks and are tied to the borrower’s pay cycle. Payday lenders have direct access to a borrower’s checking account on payday, electronically or with a postdated check. This ensures that the payday lender can collect from the borrower’s income before other lenders or bills are paid.
· A borrower must have a checking account and income to get a payday loan. Average borrowers earn about $30,000 per year, and 58 percent have trouble meeting their monthly expenses.
· Although payday loans are advertised as being helpful for unexpected or emergency expenses, 7 in 10 borrowers use them for regular, recurring expenses such as rent and utilities.
· The average payday loan requires a lump-sum repayment of $430 on the next payday, consuming 36 percent of an average borrower’s gross paycheck. Research shows, however, that most borrowers can afford no more than 5 percent while still covering basic expenses.
· As a result, most borrowers renew or reborrow the loans. This explains why the CFPB found that 80 percent of payday loans are taken out within two weeks of repayment of a previous payday loan.
· The payday lending business relies on extended indebtedness: three-quarters of payday loans go to people who take out 11 or more of the loans annually.
· The payday loan market is not price-competitive. Most lenders charge the maximum rate allowed under state law. States without rate limits have the highest prices.
Payday lenders argue that payday loans carry substantial risk to the lender which justifies high interest rates. The Pew Study indicates that payday loans carry no more long-term risk for the lender than other forms of credit. These studies seem to be confirmed by Form 10K financial statements of public payday lenders.
According to the Pew Study: "Most payday loan borrowers are white, female, and are 25 to 44 years old. However, after controlling for other characteristics, there are five groups that have higher odds of having used a payday loan: those without a four-year college degree; home renters; African Americans; those earning below $40,000 annually; and those who are separated or divorced." Most borrowers use payday loans to cover ordinary living expenses over the course of months, not unexpected emergencies over the course of weeks.
This reinforces the findings of the U.S. Federal Deposit Insurance Corporation (FDIC) study from 2011 which found black and Hispanic families, recent immigrants, and single parents were more likely to use payday loans. In addition, their reasons for using these products were not as suggested by the payday industry for one-time expenses, but to meet normal recurring obligations.
The 2008 “Great Recession” was especially hard on low income people. Unable to pay for necessities, people went to payday lenders to pay the rent, the utilities, and even for food. The recession created a huge demand for high interest, short term loans.
There had been substantial litigation over which jurisdiction regulates a loan. Is it the location of the lender, or is it the location of the borrower? This issue is discussed elsewhere on this website. Lenders were adamant that they are only regulated by their home jurisdiction, and therefore they locate themselves in the jurisdiction with the most lenient regulations.
In 2009, Lori Swanson was able to get enacted legislation which required online payday lenders to register or be licensed with the Minnesota Department of Commerce. The legislation also regulated the maximum interest rate and fees that may be charged on such loans.
In September of 2011, in a “test case” of the legislation, Swanson filed a lawsuit against Integrity Advance.
Since 2009, Integrity Advance, a Delaware lender, was offering loans through the internet. It made approximately 1,200 loans in Minnesota after enactment of the legislation. Integrity Advance, claiming that the state could not regulate its interstate activity, did not apply for a lender license or registration from the Minnesota Department of Commerce. It charged rates far exceeding the 2009 law.
Under the law, Integrity Advance could charge, in lieu of interest, a $5.50 fee for a $50 loan that had a 30 day maturity date, and similar fees on loans up to $350. After the 30-day maturity date, the lender could not charge more than 2.75% per month.
Integrity Advance actually charged an APR of up to 1,369% on loans, far in excess of Minnesota law.
Swanson moved for a preliminary injunction to stop Integrity Advance. Integrity Advance moved the court for a declaratory order that the payday lender statute could not regulate online loans made in the state of Delaware. The lender argued that the statute interfered with interstate commerce and violated the Commerce Clause of the U.S. Constitution.
The matter was hotly litigated. Swanson eventually secured a judgment for $7 million in damages. Integrity Advance appealed the matter to the Minnesota Court of Appeals, which affirmed the decision.
Thereafter, the case was appealed by Integrity Advance to the Minnesota Supreme Court. Swanson argued that the statue did not violate the Commerce Clause because the law was “even-handed” in its treatment of out-of-state and domestic lenders. Swanson also pointed out that the statute does not impose any burden on the extraterritorial lender which impedes the lender’s activity in other states.
In October of 2015, four years after Swanson filed the lawsuit, the Minnesota Supreme Court affirmed the decision, holding that the state can regulate online loans issued from a lender physically based in another state to a Minnesota borrower. Swanson v. Integrity Advance, 870 N.W. 2d 90 (2015). This was a significant ruling at a time that more and more business is migrating online from bricks-and-mortar institutions.
Complaint: Download Below.
Cash Call was a California corporation affiliated with WS Funding. Both companies worked closely with Western Sky Financial, LLC., a South Dakota company. Western Sky was owned by Martin Webb, a member of the Cheyenne River Sioux Tribe. Western Sky claimed it is subject only to tribal law and therefore is exempt from state and federal lending.
Western Sky offered an $850 “loan product” to Minnesotans. It charged a $350 loan origination fee and a 342% annual percentage fee (APR) on the full loan amount even though the origination fee was deducted before the borrower got any money. Western Sky charged a $500 fee on a $1,500 loan bearing a 234% APR. Western Sky offered up to a $10,000 loan for which it charged an 89% APR.
Once Western Sky originated the loan, it immediately sold the loan to Cash Call and WS Funding. Cash Call administered Western Sky’s website, its telephone lines, its advertisements and its underwriting. In other words, Western Sky was simply a “front” for Cash Call. Cash Call then initiated collection efforts that run afoul of state law.
In 2013, Swanson filed a lawsuit against Cash Call, WS Funding and Western Sky and moved for a temporary injunction to stop the companies from operating in Minnesota. She argued that they were required to be licensed by the Minnesota Department of Commerce. In addition, she noted that the licensing statute also regulated the fees that may be charged by the lender and the amount of the APR. The law in Minnesota provided for a loan fee of $25 on certain small loans and no more than 21.75% APR. As it relates to an $850 loan, the lender could charge a 6% placement fee plus an APR of 33%.
The defendants argued that Western Sky was exempt from regulation because it originated the loans under tribal law. Cash Call and WS Funding argued that they didn’t make the loans. Rather, they argued that they only purchased the loans once they were issued by Western Sky. They also argued that they were exempt from state law due to the tribal immunity doctrine. Finally, they argued that the “dormant commerce clause” precluded the state from regulating activity which originated in another jurisdiction.
The court penetrated the vail used by the defendants to separate each other and enjoined their operation.
In August of 2016, three years after the intense litigation commenced, the matter settled with Cash Call paying $4.5 million in damages to the Minnesota borrowers.
Swanson v. Cash Call, Fourth Judicial District 27-CV-13-12740 (2013)
Complaint. Download Below.
Temporary Injunction. Download Below.
Consent Judgment and Order. Download Below.
Swanson filed lawsuits against many more online short-term lenders. The lawsuits and settlements may be of interest to practitioners. For example, in September of 2011, Swanson filed a lawsuit against Sure Advance, a Delaware company engaged in online payday lending. Sure Advance had a considerably smaller loan volume and, in November of 2012, signed a consent order in which Sure Advance paid damages of $760,000 and was enjoined from further violations of the law.
Complaint. Download Below.
Consent order. Download Below.