Current Events in December 2006

The heavy reliance on credit scores to determine a person's "worthiness" for loans has led to the exclusion of many otherwise responsible citizens from the chance to purchase a home, a car, or any sort of collateral.

"Thin credit" histories often trap consumers into accepting deals with higher interest rates and predatory terms, which disproportionately affects black and Hispanic borrowers.

Now there is increasing support for the use of "alternate" credit scoring -- building a financial history through paying bills or other means besides using credit or debt -- to gauge a borrower's ability to handle their money.

A recent study by the National Association of Hispanic Real Estate Professionals found that one-third of the respondents couldn't get loans for their clients because they had little to no "traditional" credit records, and that many of their borrowers had to pay exorbitant rates as a result.

If the mortgage and financial industries embraced alternative credit scoring as a means to encourage home ownership within the growing Hispanic market, it would inject as much as $200 billion in capital into a slumping industry, the report said.

The Association joined a growing chorus of business professionals, lenders, and analysts calling for greater implementation of "alternate" credit scoring, utilizing payment of bills and rent to recalculate a borrower's overall "responsibility."

Alternate credit scoring is already practiced by many businesses, after a fashion. Many utilities regularly report customer payment data to the major credit bureaus. If a customer misses a single bill payment under the principle of "universal default," their credit scores could drop and their borrowing interest rates would rise accordingly.

The town of Havelock, North Carolina recently introduced a new policy that grades customers' utility payment deposit on their paying history, a trend being repeated across the state.

Havelock's finance director, Lee Tillman, said the new system would reward customers that pay regularly and on time, while recovering losses from customers who do not.

"Thin credit" advocates are pushing for credit reporting agencies and businesses to regularly document positive payment data on a wider level, in the hopes that it will grant more consumers the chance to enjoy the benefits of property ownership without taking on heavy debt.

Leading "alternative" credit bureau PRBC (Payment Reporting Builds Credit) recently obtained a patent for the system it uses to track and record monthly bill payments and develop credit files from the information.

PRBC chairman Michael Nathans said the move "recognizes PRBC's technologyfor storing and scoring that data to produce a report indicating the payer's creditworthiness, specifically their willingness and ability to make timely payments."

Corey Stone, PRBC's CEO, also touted the value of credit scoring as a way for banks and insurers to lure otherwise ignored customer groups to use their products.

"It gives banks and credit unions a new way to help their customers build credit and secure their financial futures, while supporting higher depositor retention and cross-selling with the institution's credit and insurance products," he said.

Consumers who borrow money from so-called "payday lenders" end up paying $4.2 billion in excessive fees, according to a new report from the Center for Responsible Lending.

The group's study finds that across the nation payday borrowers are paying more in interest, at annual rates of 400 percent, than the amount of the loan they originally borrowed. "Americans who think they're getting a two-week loan and end up trapped in debt," the report says.

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Efforts to reform the industry aren't working, the group claims. It says lenders still collect 90 percent of their revenue from borrowers who cannot pay off their loans when due, rather than from one-time users dealing with short-term financial emergencies.

The significance of that statistic hits home, it says, when you consider the payday loan industry now exceeds $28 billion a year.

The group said it used data collected by state regulators, financial records released by payday lenders, and assessments by third-party analysts, to update its 2003 quantification of the cost of predatory payday lending to American families.

Among the report's findings:

• Ninety percent (90%) of payday lending revenues are based on fees stripped from trapped borrowers, virtually unchanged from our 2003 findings. The typical payday borrower pays back $793 for a $325 loan.

• Predatory payday lending now costs American families $4.2 billion per year in excessive fees.

• States that ban payday lending save their citizens an estimated $1.4 billion in predatory payday lending fees every year.

"Payday loans sink borrowers into quicksand-like debt," said Michael D. Calhoun, CRL president. "Borrowers end up paying more in interest -- at rates of 400 percent -- than the amount they originally borrowed. But by addressing payday lending squarely with a 36-percent APR cap, state lawmakers can get working Americans back on solid financial ground."

Julian Bond, chairman of the NAACP said his organization is committed to fighting abusive financial practices like payday lending.

"This is hard-earned cash being siphoned out of the wallets of working people," said Bond. "This $4.2 billion is much-needed monthly benefits being squeezed out of the pocketbooks of retired and disabled folks. This $4.2 billion should be helping people stay firmly put in the middle class, rather than keeping them trapped in the quicksand of poverty."

Payday loans are marketed as short-term cash advances on the borrower's next paycheck. But previous research has found -- and this study confirms -- the industry depends on repeat business or "flipped" loans. In fact, 90 cents of every dollar payday lenders make comes from Americans caught in the debt trap -- those borrowers who are flipped into loan renewals five or more times per year.

The new report finds the average payday borrower pays back $793 for a $325 loan.

In spite of public scrutiny and recent attempts by state policymakers to reform the practice, repeat loans have only been eliminated in states that don't allow payday lending. These "safe" states -- Connecticut, Georgia, Maine, Maryland, Massachusetts, New Jersey, New York, North Carolina, Pennsylvania, Vermont, and West Virginia -- hold all lenders to their consumer loan laws, which usually include a double-digit interest rate cap.

"We join with the Center for Responsible Lending in calling for laws in every state in the nation that will protect the earnings of working people," said Jean Ann Fox, director of Consumer Protection for the Consumer Federation of America.

"In states that enforce reasonable limits on annual interest rates, payday lending is simply not a problem." Congress recently adopted this approach when the Pentagon sought protections for their troops from payday lenders. The Defense Authorization bill President Bush signed in September included a 36-percent interest rate cap on consumer loans to military families.