How Should Payday Loans Be Underwritten?
This Isn’t Your Mother’s Underwriting.
As part of its clamp down on payday loans, the CFPB is proposing that lenders be required to determine a potential borrower’s ability to repay the loan. In fact, it looks to this non-underwriter like the CFPB is proposing a radical shift in the way lenders would traditionally underwrite loans. It is a shift that I would hate to see imposed on more traditional lending products. The Bureau is proposing that an ATR determination for payday loans goes far beyond a traditional debt- to-income analysis and instead requires the lender to be sure that an ability to repay a payday loan is” reasonable in all respects.”
Specifically, the proposed regulations stipulate that a lender’s determination of a consumer’s ability to repay a covered short-term loan is reasonable only if, based on projections, the lender reasonably concludes that:
(i) The consumer’s residual income will be sufficient for the consumer to make all payments under the loan and to meet basic living expenses during the shorter of the term of the loan or the period ending 45 days after consummation of the loan; and
(ii) The consumer will be able to make payments required for major financial obligations as they fall due, to make any remaining payments under the loan, and to meet basic living expenses for 30 days after having made the highest payment under the loan on its due date.
The requirement is even more detailed for a loan which is presumptively unaffordable. In addition, lenders must also take account of information known by the lender that indicates the borrower may not be able to repay the covered loan.
Needless to say this is a legal tripwire. It contains just enough specificity for regulators to call a foul while containing just enough flexibility to tempt the lender willing to push the envelope. For instance, for many consumers the internet is no longer a luxury but a necessity. And, for yours truly, cable is a basic expense. Why, how else would I have watched the US get humiliated by Argentina in soccer last night?
Traditional underwriting is based on the assumption that lenders are good at figuring out if a potential borrower has the means to repay a loan and that the potential borrower is best positioned to figure out how to manage his or her budget to repay it. The CFPB takes us one step further than this approach. When the Association sends out its request for feedback on this proposal, I’m curious how big a deal veteran underwriters out there think it is.