Compliance Blog

Happy Friday, Compliance Friends! Last fall, one of my colleagues posted a blog about the PAL exemption under the CFPB's Payday Lending Rule. To refresh your memory, the CFPB issued a final rule in early October 2017. This rule is intended to put a stop to what the Bureau coined as,  "payday debt traps", but as written does, impact some credit unions' products. Today's blog will provide a high level overview of what's included in the CFPB's Payday Lending Rule.

Scope of the Rule

Payday loans are typically for small-dollar amounts and are due in full by the borrower's next paycheck, usually two or four weeks. From some providers, they are expensive, with annual percentage rates of over 300 percent or even higher. As a condition on the loan, sometimes the borrower writes a post-dated check for the full balance, including fees, or allows the lender to electronically debit funds from their checking account.

With that being said, the Payday Lending Rule applies to two types of loans. First, it applies to short-term loans that have terms of 45 days or less, including typical 14-day and 30-day payday loans, as well as short-term vehicle title loans that are usually made for 30-day terms, and longer-term balloon-payment loans. The rule also has underwriting requirements for these loans.

Second, certain parts of the rule apply to longer-term loans with terms of more than 45 days that have (a) a cost of credit that exceeds 36 percent per annum; and (b) a form of "leveraged payment mechanism" that gives the credit union a right to withdraw payments from the member's account. The payments part of the rule applies to both categories of loans. Note, at this time, the CFPB is not finalizing the ability-to-repay portions of the rule as to covered longer-term loans other than those with balloon payments.

The rule excludes or exempts several types of member credit, including: (1) loans extended solely to finance the purchase of a car or other member good in which the good secures the loan; (2) home mortgages and other loans secured by real property or a dwelling if recorded or perfected; (3) credit cards; (4) student loans; (5) non-recourse pawn loans; (6) overdraft services and lines of credit; (7) wage advance programs; (8) no-cost advances; (9) alternative loans (i.e. meet the requirements of NCUA's PAL program); and accommodation loans.

Ability-to-Repay Requirements and Alternative Requirements for Covered Short-Term Loans

The CFPB has indicated that it is concerned about payday loans being heavily marketed to financially vulnerable members. Faced with other challenging financial circumstances, these borrowers sometimes end up in a revolving cycle of debt.

Thus, the CFPB included ability to repay requirements in the Payday Lending Rule. The rule will require credit unions to determine that a member will have the ability to repay the loans according to the terms of the covered short-term or longer-term balloon-payment loans.

The first set of requirements addresses the underwriting of these loans. A credit union, before making a covered short-term or longer-term balloon-payment loan, must make a reasonable determination that the member would be able to make the payments on the loan and be able to meet the member's basic living expenses and other major financial obligations without needing to re-borrow over the following 30 days. The rule specifically lists the following requirements:

• Verify the member's net monthly income using a reliable record of income payment;
• Verify the member's monthly debt obligations using a national consumer report;
• Verify the member's monthly housing costs using a national consumer report if possible, or otherwise rely on the member's written statement of monthly housing expenses;
• Forecast a reasonable amount of basic living expenses, other than debt obligations an housing costs; and
• Determine the member's ability to repay the loan based on the credit union's projections of the member's residual income or debt-to-income ratio.

Furthermore, a credit union is prohibited from making a covered short-term loan to a member who has already taken out three covered short-term or longer-term balloon-payment loans within 30 days of each other, for 30 days after the third loan is no longer outstanding.

Second, and in the alternative, credit unions are allowed to make a covered short-term loan without meeting all the specific underwriting criteria set out above, as long as the loan satisfies certain prescribed terms, the member meets specified borrowing history conditions, and the required disclosures are provided to the member. Among other conditions, under this alternative approach, credit unions are allowed to make up to three covered short-term loans in short succession, provided that the first loan has a principal amount no larger than $500, the second loan has a principal amount at least one-third smaller than the principal amount on the first loan, i.e. below $350, and the third loan has a principal amount at least two-thirds smaller than the principal amount on the first loan, i.e. below $167.

In addition, the rule does not permit a credit union to make a covered short-term loan under the alternative requirements if it would result in the member having more than six covered short-term loans during a consecutive 12-month period or being in debt for more than 90 days on covered short-term loans during a consecutive 12-month period. The rule also does not permit credit unions to take vehicle security in connection with loans that are made according to this alternative approach.

Payment Practice Rules

The cycle of taking on new debt to pay back old debt can turn a single, unaffordable loan into a long-term revolving debt cycle. The consequences of this ongoing debt can be severe. For example, a credit union's repeated attempts to debit payments can add significant penalties, as overdue members get hit with insufficient funds fees and may even have their checking account closed.

As a result, the Payday Lending Rule is also intended to prevent credit unions from making multiple attempts to withdraw payment from member's accounts in connection with a short-term, longer-term balloon-payment, or high-cost longer-term loan. The rule prohibits additional attempts after the credit union's second consecutive attempt to withdraw payments from the accounts from which the prior attempts were made have failed due to a lack of sufficient funds, unless the credit union obtains the members' new and specific authorization to make further withdrawals from the accounts.

This prohibition on further withdrawal attempts applies whether the two failed attempts are initiated through a single payment channel or different channels, such as the automated clearinghouse system and the check network. The rule requires that credit unions must provide notice to members when the prohibition has been triggered and follow certain procedures in obtaining new authorizations.

In addition to the requirements related to the prohibition on further payment withdrawal attempts, a credit union is required to provide a written notice, depending on means of delivery, a certain number of days before its first attempt to withdraw payment or before an attempt to withdraw a nonconforming payment. The notice must contain key information about the upcoming payment attempt, and if applicable, alert the member to unusual payment attempts. A credit union is permitted to provide electronic notices as long as the member consents to electronic communications requirements.

Update on the Payday Lending Rule

Recently, the CFPB issued a press release that stated the Bureau intends to engage in a rulemaking process so that the CFPB may reconsider the Payday Rule. The Bureau also indicated that it may waive the April 16, 2018 deadline for preliminary approval to become a registered information system ("RIS") under the Payday Rule. NAFCU will continue to closely monitor the CFPB as its new leadership sets its pace and agenda.