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Personal Finance Lending

Predatory Lending Laws: What You Need to Know

These rules help to protect borrowers from scams

By Tom Barkley

Updated August 25, 2022

Read by Katie Miller

If you’re in the market for credit, it’s easy to fall victim to scams that take advantage of borrowers. If they are requesting a high interest rate on an payday loan, taking your car title as collateral, or offering a higher mortgage than you can afford There are a myriad of ways for unscrupulous lenders to take advantage of customers.

These lenders typically target those who are most vulnerable, like someone who recently lost a job, has bad credit, or simply doesn’t know what to watch for. Black as well as Latinx communities, specifically have been a victim to predatory lending practices.1

There are laws that protect borrowers against loan sharks as well as other lenders that are predatory. These laws restrict interest rates, stop discriminatory practices and outlaw some types of lending. Although Congress has passed a few federal credit laws, many states have taken the initiative to regulate predatory lending. With regulations and the products for credit constantly evolving, it’s essential to be aware of the latest rules and regulations.

The most important takeaways

Predatory lenders can employ aggressive tactics and unfair loan conditions, such as excessive interest rates and fees to make money off of borrowers who aren’t aware.

These lenders usually go after the most vulnerable and least knowledgeable borrowers, typically targeting Black and Latinx communities.

A plethora of laws have been enacted to protect the borrowers from establishing limits on interest rates to banning discrimination and other unsavory practices.

Definition of a Loan Shark

Predatory Loans and How They’re Regulated

Efforts to combat the practice of predatory lending have gone since the time people have borrowed money. It all started centuries ago when various religions condemned the use of usury and charging excessive interest rates.

The U.S., a patchwork of laws at both the federal and state levels have been developed to protect borrowers, but they sometimes struggle to keep pace with new predatory practices. Here are a few illustrations of predatory loans along with the specific laws and regulations that pertain to each kind of financing. Knowing the characteristics of these loans can help you spot one if it’s offered to you, and help avoid being found guilty. It’s not always easy to recognize.

The Subprime Mortgage and the Housing Discrimination

Subprime mortgages, which are provided to those with weak or subprime credit ratings, aren’t always considered predatory.2 The higher interest rate is seen as compensation for subprime lenders who take on more risk by lending to borrowers who have a bad credit score.

Some lenders have also been aggressively promoting subprime loans to homeowners who are unable to afford them–or sometimes qualify for more favorable loan terms , but don’t even realize it. These shady tactics were seen on an alarming rate in the months leading up to subprime’s mortgage crises of 2008, which led to the Great Recession.3

The fallout from the financial crisis hit Black as well as Latinx home owners the hardest.4 A lot of these neighborhoods that for decades faced racial discrimination in getting mortgage loans and other loans, also called redlining, were targets of so-called «reverse redlining» by lenders who were predatory and charged high interest rates.5

Black and Latinx home owners were more at risk to being targeted by subprime lenders as one study revealed, even when considering aspects like credit scores and the amount of income goes toward home and debt costs.6

Discrimination continues to be a major issue, according to a separate study that found the racial disparities in mortgage rates persist over the last four decades.7

Additionally mortgage discrimination has exacerbated the racial wealth gap according to the Urban Institute, with Black homeowners having built up little more than a quarter the housing wealth of White homeowners.8

The Housing Laws Protect Borrowers

Over the last 60 years, significant progress has been made in protecting homeowners from abuse and discrimination despite the persistance of unfair practices. Two laws took different approaches to strengthen homeowners’ protections–and they are constantly evolving. In 1968, the Fair Housing Act (FHA) banned discrimination in the real estate market and mortgage borrowers.9 The first law banned discrimination based on race, religion, national origin, and sex However, the statute was changed later on to cover disabilities and family status as well.10

The other key law passed in 1968, the Truth in Lending Act (TILA) was a law that required mortgage lenders and other lenders to provide the terms for the loans.11 It was extended multiple times to encompass the full range of real property practices. It was in 1994 that TILA included an additional provision, the Home Ownership and Equity Protection Act (HOEPA) which protected borrowers from predatory, high-cost mortgages.1213

The Equal Credit Opportunity Act (ECOA) is a different security measure for borrowers, was enacted in 1974. While initially focused on banning discrimination in credit against women, it has since been extended to include race or color and religion, as well as national origin and age as well as participation in public assistance programs.14

The ECOA and FHA were used in a number of the biggest enforcement actions against discriminatory practices that took place in the 2008 economic crisis. In settling settlements, with penalties in the amount of $335million from Countrywide Financial and $175 million from Wells Fargo, the Justice Department required the banks to compensate Black and Latinx borrowers who were improperly guided into subprime loans.1516

In 2010 the Dodd-Frank Act, enacted in response to the financial crisis, placed the newly created Consumer Financial Protection Bureau (CFPB) responsible for supervision over ECOA and TILA. The CFPB created new, precise and clear requirements for disclosure under TILA and with each new presidential administration, reexamines the priority, disclosures, and rules under its purview.17

Payday loans

It’s normally very easy to get the payday loan. You can go to the office of a payday lender and walk out with a loan. It is not necessary to provide any money to the lender in order to secure the loan like you would with a in a pawnshop. Instead the lender will usually request permission to electronically take cash from your bank, credit union or prepaid card account. Sometimes, the lender may require you to sign an

Check the amount of repayment, which the lender will pay when you pay the loan is due.18

Payday loans aren’t cheap. Payday lenders charge extremely large amounts of interest: up to 780% as an annual percentage rates (APR), with an average loan that is close to 400%.

Payday lenders claim that their high interest rates are misleading since if you pay back the payday loan on time, you won’t be charged high rates of interest. In some cases, that might be true, but 80percent of payday loans are renewed multiple times, according to the Consumer Financial Protection Bureau (CFPB), indicating that the majority of the loans aren’t paid back in time.19

There are also ongoing issues regarding the fairness of payday loans. One study found the following: Black wage earners are three times as likely than White salaried people–and Latinx payees are more than twice likely to take out a payday loan.20 The use for payday loans has also been associated with a doubled increase in bankruptcy rates.21

400%

APR is the annual percentage rate (APR) that payday loans often approach–one reason these loans are considered a predatory product

Payday Loan Regulations

The oversight on payday loans has largely been handed over to states, even though federal laws offer certain protections to borrowers. TILA For instance, TILA demands that payday lenders–just as other financial institutions to disclose the cost of loans to borrowers, including fees for financing and the APR.22

Many states have usury laws that limit interest charges to anywhere from 5 to 30%. But payday lenders fall under exemptions that allow for their high interest. Sixteen states–Arizona, Arkansas, Colorado, Connecticut, Georgia, Maryland, Massachusetts, New Jersey, Montana, New Hampshire, New York, North Carolina, Pennsylvania, South Dakota, Vermont, and West Virginia, and the District of Columbia, which either prohibits outright on payday loans that are extremely expensive or have implemented restrictions capping interest rates.23

Seven states, including Maine, New Mexico, Ohio, Oklahoma, Oregon, Virginia, and Washington–have implemented some kind of measure like term limits, fee limits, or the number of loans per borrower, which provide some form of protection for consumers.

In 2017 the CFPB took steps to strengthen payday loan user protections, requiring payday lenders to determine when they underwrite whether the borrower will be able to pay back the loan and limiting the use of aggressive collection methods by lenders for late payments.24 However, in July of 2020, the agency removed the obligatory «ability to repay» requirement. The CFPB has set a date for the final implementation for their complete and updated «Payday Rule» for June 2022.25

Car Title Credit

A title loan similar to an auto loan makes use of your car’s name as collateral. But while an auto loan can be used to purchase the car, the cash from the title loan can be used for any purpose. In addition, short-term, high-interest title loans can be predatory. Lenders often target people who are unable to repay the loan that could make them to refinance their loan at astronomical costs and potentially lose their car.

One in five title loan customers ends up having their vehicle seized according to Consumer Financial Protection Bureau.26

Car Title Loan Regulations

Similar to payday loans, car title loans are controlled by states. Overall, about half of states permit car title loans.27 Some states combine these together with payday loans and regulate them with usury laws, capping the amount that lenders are allowed to charge.

Some treat them the same way as they do pawnshopsand hence they are referred to as «title the pawn.» For instance, in Georgia as an example, a bill has been introduced to bring title pawns–which have an APR of up to 300% as per the state’s pawnshop regulations–under the laws governing usury in Georgia which limit interest rates at 36%.28

Can Regulations Keep Up With Technology?

The explosive growth of online and app-based lending also poses new challenges to consumer protection. Fintech’s share of personal loan originations has increased by more than four years to account for about half the market in September, according to credit reporting firm Experian.29 And half of the cash flow from payday loans is generated by online players as per the CFPB.30

Online lenders generally utilize a «rent-a-bank» method of operation, in which they partner with a bank to get around state-specific usury laws and other laws, the practice of predatory lending can be difficult to enforce, some consumer advocates argue. States have seen some success in clamping down on predatory online lenders’ strategies in courts, however, rules related to fintechs are constantly changing as the technology and regulatory environment innovates, adjusts and evolves.

What Is an Example for Predatory Lending?

Whenever a lender seeks to take advantage of the borrower by binding them into unfair or unmanageable loan conditions, it may be classified as predatory lending. Signs that you’re being targeted include aggressive offers as well as excessive fees for borrowing and high prepayment penalties. big balloon payments, and being encouraged to consistently switch loans.

Is the practice of predatory lending a crime?

In the theory of things it is possible to say it is. If you are enticed and misled into taking out the loan with higher fees than your risk-based profile would warrant or is unlikely in your ability to repay the loan, you could be the victim of an act of crime. There are laws to protect consumers against predatory lending, though plenty of lenders still get away with it due to the fact that consumers don’t know their rights.

Can I Sue to recover Predatory Lending?

If you can prove the lender you used to lend to violated local or federal laws, including federal laws, including the Truth in Lending Act (TILA), you may be interested in filing a lawsuit. It’s never easy going against an institution with a large amount of money. If you can provide evidence that the lender violated regulations, you stand an opportunity to be compensated. In the first instance make contact with your state’s department of consumer protection.

The Bottom Line

Despite the decades of progress made in protecting borrowersfrom predatory lending, it continues to be a recurring and ever-changing risk. If you’re in need money, it helps to research your options by researching different options for financing, understanding the small print of credit terms, and educating yourself about the rights of consumers and their protections as well as the rates available for the kind of loan you’re looking for.

The Federal Deposit Insurance Corporation (FDIC) has tips on how mortgage borrowers are protected and the CFPB offers tips regarding payday loans and how to avoid scams.3132

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Related Terms

Predatory Lending

Predatory lending imposes unfair, misleading or abusive loan terms to a lender. There are many states with law against predatory lending.

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What is a Payday Loan? How It Works, How to obtain One and the Legality

An payday loan is a type of borrowing that’s short-term and where a lender will extend high-interest credit based on your income.

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Usury Rate

The term usury rate refers to an amount of interest that is considered to be too high in comparison to prevailing market interest rates.

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Truth in Lending Act (TILA): Consumer Protections and Disclosures

The Truth in Lending Act (TILA) is a law of the federal government that was passed in 1968 to ensure that consumers are protected in their dealings with creditors and lenders.

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What Is Usury? Definition, How It Works Legality, and an Example

Usury is the act of loaning money at a rate that is considered unreasonably excessive or higher than the rates permitted by law.

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Unlawful Loan

An unlawful loan is an illegal loan which isn’t in compliance with lending laws like loans with unconstitutionally high interest rates or that are larger than the limit.

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