In the town of Logan, Utah, in a strip mall next to an audiology clinic and TV shop, there's a little storefront. In a past life it was a bank branch; today, it's where Michael Berry works. He's a payday lender, and every day people come in and borrow money from him.
"Our loan is $1.50 per hundred per day, so after 5 days, $7.50," Berry says. "It would be $107.50 is what they owe back."
That's an annual interest rate of 547 percent. A year after taking out the loan, you'd owe more than five times what you originally borrowed.
This fact is not hidden from Berry's customers. It's printed in block letters on a big chart facing them right next to where Berry sits: 547% Annual Rate.
As Congress finalizes language in the massive financial overhaul bill, lawmakers will be debating whether and how to regulate payday loan stores like Berry's. Critics say they're predatory lenders that take advantage of desperate people; defenders say the stores offer a service that helps people get through short-term financial emergencies.
Berry says he would never take out a payday loan, but he can see why his customers would.
"I'm assuming that it's because their credit cards are maxed out," he says. "They can't get any more money any other way." He says customers tell him a few times a week how grateful they are to be able to borrow the money.
People who take out payday loans often let their debt just roll over. They'll borrow, say, $100, and a month later they'll pay off only the interest — about $45. They'll do this month after month. After three months, they've paid $135 to borrow $100.
A Growing Business
Payday lending has grown rapidly in the past decade or so. Between 2000 and 2004 alone, the number of payday lending stores in the U.S. more than doubled, to more than 20,000. There are now more payday lending stores than there are Starbucks outlets.
"2001 seemed to be the breaking point," says Chris Browning, who worked at a payday lender in Mansfield, Ohio. "Everyone wanted a piece of the pie."
Payday lenders sprang up all around the store where she worked. "If I was a good golfer, I could put a golf ball through the window of three other companies," she says. Some of her customers would rotate through all the payday lenders, one day after the next.
It seems like all those stores in Mansfield would mean lower interest rates, as the lenders competed to lure borrowers. But that didn't happen.
Unintended Consequences Of Rate Caps
According to Robert DeYoung, a finance professor at the University of Kansas, the answer to this mystery may have to do with regulations that cap the interest rates on payday loans.
"Almost every state puts a price ceiling on how much a payday lender can charge," he says. "Now, that sounds like a recipe for keeping prices low. But one thing about price ceilings is that they often over time have acted as magnets for prices."
DeYoung and a colleague did a big study of payday lenders in Colorado. They looked at about six years of data, which started at the same time Colorado passed a law capping the maximum interest that payday lenders could charge. They found the law had the opposite effect of what was intended.
"Payday loan prices went up, and after about three or four years, over 95 percent of the payday loans in Colorado were priced at the price ceiling," he says. The price cap allows lenders to charge the maximum allowable rate and not have to compete to offer the best deal, according to DeYoung.
DeYoung does favor some regulation of the industry, including limiting the number of times people can use a payday lender, so borrowers don't get trapped in a cycle of ever-increasing interest payments.
An amendment by Sen. Kay Hagan, a Democrat from North Carolina, would have made it illegal to offer customers more than six payday loans in a year. But the Senate bill was passed without considering that amendment.
It's unclear whether any new rules will be in place for payday lenders in the final version of the financial overhaul bill being hammered out by the House and Senate.
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