Recent class action lawsuits and state regulators are confronting head-on the tribal payday lending business model. [1] Tribal lenders are companies that originate small dollar (payday) loans online from servers located within Indian Country, permitting them to largely bypass state regulatory scrutiny. The payday lending industry as a whole generates an estimated $40 billion annually. [2] Online lending is estimated to comprise 36% of the payday lending market. [3]
Payday loans are unsecured short-term loans with fixed fees. For example, an average payday loan might involve a $30 fee for a two-week cash advance of $200. This fee “corresponds to an annual interest rate of almost $400%.” [4] Besides the initial fee, payday lenders profit from the penalty fees accrued by payday borrowers who roll over their loans. In fact, payday lenders amass “90% of their profits from borrowers who roll over their loans five or more times during a year.” [5] Roughly half of all payday loans are renewals of existing loans. [6] As a result, payday loans are “arguably designed to take advantage of consumers’ optimism bias and their consistent underestimation of the risk of nonpayment.” [7]
Online payday lending is on a larger scale than other payday lenders, in the sense that they make larger loans. Advertisements tout available lending of up to $10,000 in one day. But “the catch: if you stick to the suggested payment plan, a $5,000 loan will cost a grand total of $40,872, more than eight times the original loan.” [8]
The regulation of payday lending occurs mostly at the state level through consumer protection laws that set loan terms, fees and conditions. Tribal lending companies assert that tribal sovereign immunity applies to state investigatory enforcement actions, including state consumer protection efforts. [9] Tribal lending has escaped scrutiny from state courts by originating loans with arbitration clauses requiring individual arbitration in tribal jurisdiction.
Tribal payday lender immunity is now being challenged by a number of state actors, including New York, Michigan, Georgia, Oregon, Colorado, Minnesota and Maryland. [10] These states have sued prominent payday lender Western Sky Financial for engaging in in predatory lending in violation of state usury laws. The New York State Department of Financial Services blocked online payday lenders from accessing its Automated Clearing House network, which processes the loan transactions. In August, New York called upon the major commercial banks to assist the state’s efforts; these banks have since cutoff online payday lenders from accessing borrower’s bank accounts. Several tribes operating payday loan companies filed an injunction against the state.
Federal regulators are also stepping forward to challenge tribal lending. The Federal Trade Commission has an ongoing action against Western Sky Financial and its affiliates for alleged violations of the Credit Practices Rule, addressing unfair collection practices, and the Electronic Fund Transfer Act, prescribing preauthorized fund transfers as a condition to an extension of credit. [11]
The Dodd Frank Act created a federal agency to promote consumer protection, the Consumer Financial Protection Bureau (CFPB). The CFPB has not yet issued rules that address the payday lending industry specifically. [12] However, on November 6, 2013, CPFB announced it would accept complaints about payday lending problems from the public. [13] Some speculate enforcement actions and regulations are soon to follow. [14]
[3] Lisa McGreevy, CFPB Must Work with Legit Online Lenders, Stop Outlaws, Am. Banker, Jan. 25 2012.
[4] Oren Bar-Gill & Elizabeth Warren, Making Credit Safer. 157 U. Pa. L. Rev. 1, 45. (2008) citing Ronald J. Mann & Jim Hawkins, Just Until Payday, 54 UCLA L. Rev. 855, 857 (2007).
[5] Id. at 45.
[6] Id. at 55.
[7] Id.
[9] See e.g. Cash Advance & Preferred Cash Loans v. State 242 P.3d 1099 (Colo. 2010).
[10] Danielle Douglas, Payday Lender Western Sky Financial to Stop Funding Loans on Sept. 3, Wash. Post, Aug. 26, 2013; Nate Raymond, Following NY Lawsuit, Online Lenders Cease Funding Loans, Reuters, Aug. 26, 2013.
[11] F.T.C. v. PayDay Financial LLC, CIV-11-3017 RAL. (D. S.D. Sept. 30 2013) (order granting in part and denying in part plaintiff’s motion for summary judgment).