Sara Routhier, Managing Editor and Outreach Director, has professional experience as an educator, SEO specialist, and content marketer. She has over five years of experience in the insurance industry. As a researcher, data nerd, writer, and editor she strives to curate educational, enlightening articles that provide you with the must-know facts and best-kept secrets within the overwhelming world o...

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Joel Ohman is the CEO of a private equity-backed digital media company. He is a CERTIFIED FINANCIAL PLANNER™, author, angel investor, and serial entrepreneur who loves creating new things, whether books or businesses. He has also previously served as the founder and resident CFP® of a national insurance agency, Real Time Health Quotes. He also has an MBA from the University of South Florida. ...

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Reviewed by Joel Ohman
Founder, CFP®

UPDATED: Apr 26, 2013

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The Consumer Financial Protection Bureau (CFPB) issued a report stating that payday loans and deposit advance loans lead customers into a cycle of debt.

The report attributes loose lending standards, high costs and risky loan structures to the impact short-term loans have on consumers’ financial health. Loans offered by both banks and payday lenders are given as a way to “bridge a cash flow shortage between paychecks.”

Findings

The CFPB study found that a high sustained use is common for these consumer loans. Nearly half of all payday loan borrowers take out 11 or more loans per year. The median borrower took out 10 loans and paid $458 in fees alone.

Deposit advance loans did not fare any better. For deposit advance borrowers, more than half took out advances of $3,000 or more. Of these borrowers, more than half paid off one loan and went back for another within 12 days.

The CFPB said this high usage can likely be attributed to several factors. A lack of underwriting is a major factor, according to CFPB director Richard Cordray.

“Lenders may rely on their ability to directly debit the consumer’s account when the consumer’s next paycheck or benefits payment is due rather than assessing whether the loan is affordable in light of the borrower’s income and other expenses,” Cordray said in a press call.

Cordray continued stating that the Bureau is concerned about these types of loans in particular because the cycles of debt can “disrupt the precarious balance of consumers’ financial lives.”

He said despite being labeled as short term, deposit advance loans and payday loans are debt traps.

“The stress of having to return every two weeks to re-borrow the same dollars after paying exorbitant fees and interest charges becomes a yoke on a consumer’s financial freedom,” Cordray said.

The study looked at over 15 million storefront payday loans and other depository institutions over the course of a year. Despite its large size, all organizations are not convinced the evidence is sufficient.

Advance America provided loans.org with a response to the CFPB’s actions. Jamie Fulmer, senior vice president of public affairs, said the study is not based on customer experiences and leaves out options for where payday loan borrowers would turn if denied a loan.

“The Bureau cannot draw any meaningful conclusions to inform policy until it follows up this preliminary review with the difficult work of understanding the rationale of cash advance customers; the choices and consequences faced by those in need of short-term credit; and the risks of driving people to higher-cost productions, expensive penalties or less-regulated providers,” Fulmer said.

The CFPB recognized that there is still work to be done to determine how to protect consumers and also give them access to responsible credit.

“We want to make sure that consumers can get the credit they need without jeopardizing or undermining their finances,” Cordray said. “Debt traps should not be a part of their financial futures.”