Predatory Loans and How They’re Regulated
The Subprime Mortgage and the Housing Discrimination
Payday Loans
Car Title Loans
Are regulations up to date with Technology?
Predatory Lending FAQs
The Bottom Line
Personal Finance Lending
Predatory Lending Laws: What You Need to Be aware of
These rules help to protect borrowers from scams
By Tom Barkley
Updated August 25, 2022
Reviewed by Katie Miller
When you’re in need of credit, it’s easy to fall victim to predatory lending scams. If they are requesting a high interest rate on a payday loan, taking your car title as collateral or pushing a bigger loan than you’re able to afford, there are many ways for unscrupulous lenders to profit from the borrowers.
The most targeted by predatory lenders are the most vulnerablepeople, for instance, someone who recently lost a job, has poor credit, or simply isn’t sure what to look out for. Black as well as Latinx communities, in particular are prone to predatory lending practices.1
Fortunately, there are laws aimed at protecting the borrowers from loan sharks as well as other lenders who are predatory. These laws restrict interest rates, ban discriminatory practices, and outlaw some types of lending. Although Congress has passed several federal credit laws, many states have taken on the initiative to curb the practice of predatory lending. With the regulations and the products for credit constantly evolving, it’s important to familiarize yourself with the latest regulations.
Key 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 educated borrowers usually targeting Black and Latinx communities.
A patchwork of laws has been enacted to protect the borrowers from establishing the limits of interest rates to banning discrimination and other unethical practices.
Definition of a Loan Shark
Predatory Loans and How They’re Regulated
The fight against the practice of predatory lending have gone on almost as long as individuals have borrowed funds. It all started centuries ago when various religions condemned the use of usury and charging excessive interest rates.
Within the U.S., a patchwork of laws at the national and state levels has been developed to protect those who borrow, yet they often struggle to keep pace with the ever-changing predatory practices. Here are a few examples of predatory loans along with the specific laws and regulations relevant to each kind of financing. Knowing the characteristics of these loans can help you spot one that is offered to you, and help avoid being taken in. It’s not always easy to discern.
Home Discrimination and Subprime Mortgages
Subprime mortgages, offered to borrowers with weak or subprime credit scores, aren’t necessarily considered predatory.2 The higher interest rate is seen as compensation for subprime lenders who are taking on more risk by lending to borrowers who have a bad credit rating.
Some lenders have also been aggressively promoting subprime loans for homeowners who cannot afford them–or sometimes qualify for more favorable loan conditions, but they don’t know that they qualify. This kind of shady practice was seen on a mass scale in the lead-up to the subprime mortgage crisis in 2008, which resulted in the Great Recession.3
The aftermath of the financial crisis struck Black and Latinx home owners the hardest.4 Many of the same communities that for years been subject to discrimination based on race when seeking mortgage loans and other loans, also called redlining, were targets of so-called “reverse redlining” by lenders that were predatory, charging high interest rates.5
Black and Latinx home owners were more at risk to being targeted by subprime lenders, one study found, even when taking into consideration things like credit scores as well as how much income goes toward home and debt costs.6
Discrimination remains a problem, according to another recent study, which found that the racial disparities in mortgage rates have persisted over the past four decades.7
Furthermore, discriminatory mortgage practices have increased the gap in wealth between racial groups as per the Urban Institute, with Black homeowners accumulating just more than a quarter of the property wealth of White homeowners.8
Housing Laws That Guard the Borrower
Over the past six decades, significant progress has been made in protecting homeowners from discrimination and abuse despite the persistence of illegal practices. In 1968, two new laws used different strategies to strengthen homeowners’ protections–and they continue to evolve. In 1968, the Fair Housing Act (FHA) banned discrimination in the real estate market as well as mortgage borrowers.9 Initially banning discrimination based on race religious belief, national origin, religion as well as sex, the law was later amended to cover the status of family members and disabilities as well.10
The other key law adopted in 1968, known as the Truth in Lending Act (TILA) was a law that required mortgage lenders as well as other lenders to reveal the conditions they offer in the loans.11 This law has been extended multiple times to encompass the full range of real property practices. The law was amended in 1994. TILA included an additional provision, the Home Ownership and Equity Protection Act (HOEPA) which was designed to protect borrowers from predatory, high-cost mortgages.1213
The Equal Credit Opportunity Act (ECOA) is another important pillar of protection for borrowers, became law in 1974. Although it was initially designed to ban discrimination in the field of credit for women, the law has since been extended to cover race or color and religion, as well as national origin, age, or the participation of public assistance programs.14
The ECOA and FHA were applied in some of the most significant enforcement actions against discriminatory practices that occurred during the 2008 crisis. Reaching settlements that included penalties of $335 million from Countrywide Financial and $175 million from Wells Fargo, the Justice Department required the banks to pay Black and Latinx borrowers who were improperly steered into subprime loans.1516
In 2010 in 2010, the Dodd-Frank Act, enacted in response to the crisis, put the new Consumer Financial Protection Bureau (CFPB) with the responsibility of ensuring the oversight of ECOA as well as TILA. The CFPB created new, precise and clear requirements for disclosure under TILA and, with each new presidential administration, reexamines the priority in terms of disclosures, rules, and other requirements that fall within its purview.17
Payday Loans
It’s usually very simple to obtain the payday loan. You can walk into the office of a payday lender and walk out with a loan. There is no requirement to give anything to the lender in order to get the loan the same way you would with the pawnshop. Instead, the lender will normally ask you for permission to electronically take money from your credit union or prepaid card. Sometimes, the lender may request that you sign a
Make sure you check the amount due for repayment to the lender, which they will cash when the loan is due.18
Payday loans can be costly. Payday lenders charge extremely high levels of interest: as much as 780% as an annual percentage rate (APR), with an average loan running at nearly 400 percent.
Payday lenders claim that their high rates of interest are false since if you pay back the payday loan on time, you will not be charged high rates of interest. In some cases, that may be the case, however the majority of payday loans are renewed multiple times, as per the Consumer Financial Protection Bureau (CFPB) which indicates most of these loans are not paid off on time.19
There are still issues concerning the fairness of payday loans. One study showed that Black wage earners are three times as likely to be able White workers–and Latinx workers are two times as likely to get a payday loan.20 The use of payday loans has also been connected to a rise in bankruptcy rates.21
400%
The annual percentage rate (APR) is what payday loans often approach–one reason they are loans are considered a predatory product
Payday Loan Regulations
Control on payday loans has largely been left to the states, even though federal laws offer some protections for the borrowers. TILA is one example. It requires payday lenders–just like other financial institutions–to reveal the cost of loans to borrowers, including fees for financing and the APR.22
Most states have usury laws which limit interest rates to anywhere from 5% to 30 percent. Payday lenders are under exemptions that allow for their high-interest rates. 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–either outright bans on extremely high-cost payday lending or have implemented restrictions that limit interest rates.23
Seven states, including Maine, New Mexico, Ohio, Oklahoma, Oregon, Virginia and Washington — have put in place some form of regulation that include term limits, fee limits, or number of loans per borrower which offer some protection for consumers.
In 2017, the CFPB made changes to strengthen payday loan user protections, obligating payday lenders to decide during the underwriting process whether the borrower is able to repay the loan and limiting aggressive collection strategies from lenders who are unable to collect payments.24 In July, 2020 the organization lifted the mandatory “ability to make repayment” requirement. The CFPB has set a final implementation date for their full and updated “Payday Rule” for June 2022.25
Car Title Credit
A title loan as with an auto loan, uses your car’s title to secure collateral. While an auto loan can be used to buy the car, the cash from a title loan can be used for any purpose. Additionally, short-term high-interest title loans can be predatory. They typically target those who are unable to repay the loan, which could force them to refinance their loan at astronomical costs and potentially be forced to sell their vehicle.
One in five title loan borrowers ends up having their vehicle confiscated, according to Consumer Financial Protection Bureau.26
Car Title Loan Regulations
As with payday loans, car title loans are controlled by states. The majority of all states allow the use of car title loans.27 Some states group them with payday loans and regulate them with usury laws, capping the amount that lenders are allowed to charge.
They are also referred to as are pawnshops, hence the alternative term “title pawn.” In Georgia as an example, a bill has been made to allow title pawns, which have an APR of as high as 300% in the state’s pawnshop regulations – under the state’s usury laws which limit the interest rate at 36%.28
Can Regulations Keep Up With the advancements in technology?
The rapid growth in loans via apps and online presents new challenges for consumer protection. The fintech sector’s share of personal loan originations has doubled in four years and now accounts for around half of the market as of September of 2019 according to credit report firm Experian.29 And half of the profits from payday loans are made by online lenders as per the CFPB.30
Online lenders generally use the “rent-a-bank” commercial model of business, in which they partner with a bank in order 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 found some success in clamping down on lenders who use predatory strategies in courts, however, rules related to fintechs are always changing as the technology and regulatory environment innovates, adjusts, and grows.
What is an example Of Predatory Lending?
When a lender attempts to gain a profit from the borrower by binding them to unsustainable or unfair loan terms, it can be considered predatory lending. The indicators that you’re being targeted include aggressive offers as well as excessive fees for borrowing, high prepayment penalties, big balloon payments, and being urged to constantly flip loans.
Does Predatory Lending Constitute a Crime?
In theory the case, yes. If you are enticed and lured to take out a loan which has higher costs than what your risk profile allows or you’re not likely not to pay back the loan, you could be the victim of an act of crime. There are laws in place to safeguard consumers from loans that are geared towards exploitation, yet a large number of lenders are still able to get away with it due to the fact that consumers don’t know their rights.
Can I sue for Predatory Lending?
If you can show that your lender violated the laws of your state or federal such as the Truth in Lending Act (TILA) If you believe that your lender violated federal or local laws, you might want to consider filing a lawsuit. It’s not an easy task to take on an institution with a large amount of money. However, if you can show evidence that the lender violated the law, you stand an opportunity to be paid. First to contact your state’s Consumer Protection Agency.
The Bottom Line
Despite decades of advancement in safeguarding borrowers, predatory lending continues to be a recurring and ever-changing risk. If you’re in the market for money, be aware of the risks by investigating different options for financing, understanding the fine text of credit terms and learning about consumer rights and protections and the rates available for the type of loan you seek.
The Federal Deposit Insurance Corporation (FDIC) provides tips on how mortgage borrowers can safeguard themselves. CFPB offers information on payday loans and how to beware of scams.3132
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Related Terms
Predatory Lending
Predatory lending imposes unfair, misleading, or abusive loan terms to a lender. Many states have law against predatory lending.
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What is a Payday Loan? How It Works, How to obtain One and the Lawfulness
The term payday loan is a type of borrowing that’s short-term and where a lender will extend high-interest credit based on your earnings.
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Usury Rate
The term”usury rate” is a term used to describe a rate of interest considered to be too high in comparison to market interest rates.
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Truth in Lending Act (TILA): Consumer Protections and Disclosures
The Truth in Lending Act (TILA) is a federal law that was passed in 1968 to protect consumers in their dealings with creditors and lenders.
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What Is Usury? Definition, How It Works, Legality, and Example
Usury is the act of loaning money at a rate that is considered unreasonably excessive or higher than the maximum rate allowed by the law.
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Unlawful loan
An illegal loan is a loan that is not in compliance with lending regulations, such as loans with unconstitutionally high interest rates or which exceed the size limit.
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