For years, the country's makeshift network of payday lenders and check cashers has operated with little competition or federal regulation.
But as the financial crisis sparks a new wave of consumer protections, lawmakers and the private sector alike are training their sights on an industry that caters to one of the most vulnerable populations: the estimated 40 million households on the margins of the nation's financial system, with limited, if any, access to banks or credit — the so-called unbanked.
No Fax Payday Loan in WashingtonCongress is considering whether to create a Consumer Financial Protection Agency that would, for the first time, provide federal oversight of the payday lending industry. In addition, several bills have been introduced to cap the often-triple-digit interest rates on no fax payday loans in Washington, long considered by many to be one of the industry's most abusive practices.
Meanwhile, new players, lured by the promise of a largely untapped $13 billion market, are muscling into a sector that has been dominated by independent operators. Wal-Mart Stores Inc. slashed prices on its most popular financial services, and startups have emerged to offer lending to niche groups at dramatically lower rates.
With spotty bank records and thin or nonexistent credit reports, the unbanked rely on storefront businesses that might charge a 4 percent fee to cash a check or a 995 percent annual interest rate for a short-term loan.
Instant No Fax Payday Loans
The proposed federal agency would have broad authority to set national standards for non-bank lenders and investigate complaints. Congress is still hashing out details, and a vote is expected this year.
Three bills in the House and one in the Senate submitted this spring seek to curb one of the industry's most controversial practices: charging triple-digit interest rates for short-term loans to risky customers. The bills would impose caps as low as $15 for every $100 borrowed and, in some cases, require greater transparency of the lending terms.
But industry representatives say they provide necessary services for households that have become alienated from traditional financial institutions. The payday lending industry has opposed caps on interest rates, and its trade group, the Community Financial Services Association, is raising $1 million from its members to lobby against the bills.
The Financial Service Centers of America, which represents check cashers, said it supports increasing transparency to customers but that additional federal regulation "is unnecessary and duplicative and will only increase the cost of financial services to consumers without any corresponding benefit." The group said it began requiring members to display fees on posters in their stores last year.
Industry advocates say innovation, not legislation, is the key to reform. And the private sector has been quick to step in.
Meanwhile, startups such as Progreso Financiero in California are targeting new niches. James Gutierrez founded Progreso in 2005 to make short term unsecured loans of $250 to $2,500 to families lacking credit scores and banking records. The company charges 36 percent interest, significantly less than other payday lenders charge but still more than double the average consumer credit card interest rate.
Financiero has made about 25,000 loans to its customers in California but needs to make 100,000 before it can turn a profit because the loan amounts are so small and the cost of doing business is high, Gutierrez said.
Perhaps the biggest hurdle the industry faces is improving customers' financial literacy. Many are afraid of leaving their money in banks, do not have the documentation to open a bank account or have had accounts closed.
Washington resident Gregory Warf, 20, said he doesn't want a bank account. He turns his savings over to people he trusts or hides it. If he needs to cash a check, he goes to the nearest liquor store, which charges him a fee.