Analysis: SC lending bill would reduce consumer options, harm competition

A proposal filed this year would reduce the financial options available to S.C. consumers and could force lenders to exit the state. The Senate bill (S.910) aims to heavily restrict lenders’ ability to market their products, among other measures, potentially making South Carolina untenable for business and cutting off borrowers’ access to services.  

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SUMMARY

S.910 would ban, restrict or regulate a host of activities by anyone providing installment or deferred presentment loans[1], while exempting big banks and credit unions. The measures include heavy restrictions on marketing and mailed loan offers, limitations on when and how often loans can be renewed, and a requirement focused on borrowers and their ability to repay.

These measures, though perhaps well-meaning, would limit consumers' access to credit, stifle competition in the financial industry, and create an environment that makes it difficult, if not impossible, for lenders to operate.

Excessive marketing restrictions

The bill imposes heavy restrictions on lenders’ ability to market their products. Among these is a section that would ban lenders from mailing an unsolicited check, debit, or credit card that simply “prompts the recipient to borrow money,” or prompts them to take an installment or deferred presentment loan “in any way.”

This style of heavy-handed regulation is unwarranted in light of federal disclosure rules that help to inform consumers before they borrow money. The Truth in Lending Act is a primary example. Under the law, most lenders (including those subject to S.910) have to prominently display all charges and fees associated with a loan offer, including its:

• Annual percentage rate (APR)
• Finance charge
• Total amount financed
• Full payment amount
• Number of schedule payments
• Amount per payment
• Late fee charge
• Terms of prepayment
  
  

Accordingly, consumers have the full details of a loan before they choose to accept it. A ban on mailing loan products is an extreme measure that would not be justified under the circumstances.

Another section would ban any marketing related to installment or deferred presentment loans that is directed at low-income communities. This proposal, in particular, has been championed by many as a necessary step to protect vulnerable South Carolinians. But our review finds it could have sweeping unintended consequences.

Under the bill's definition of low-income communities[2], lenders would face restrictions on marketing to nearly half of the state's geographic area. The remaining areas where marketing is permitted are spotty, uneven and often surrounded by restricted zones. Navigating this environment would prove risky and impractical for lenders trying to do business. 

These provisions, in effect, serve as a de facto ban on short-term lending in South Carolina, as many lenders would be unable or unwilling to operate under the circumstances. Should that occur, the results would be detrimental for South Carolina consumers, many of whom rely on alternative financial services and short-term lending.

The facts

• Nearly 7% of households in South Carolinian are unbanked and more than 19% are underbanked (meaning a person who regularly uses alternative financial services), according to a survey by Bank On Charleston.
  
  
• The same survey found that 18% of Black households in South Carolina are unbanked, while over 32% are underbanked. In comparison, only 2.1% of White households in the state are unbanked, with 13% classified as underbanked.

Micromanaging loan renewals

S.910 would set arbitrary restrictions on when and how often short-term loans can be renewed or offered to customers. Specifically, it would prevent:

• Renewing a consumer installment loan for a third time, or more, within 180 days of the previous loan renewal from the same lender;
• Making a deferred presentment loan, or a paycheck advance loan, within 180 days of the previous loan renewal from the same lender; and
• Making a payday or paycheck advance loan within 30 days of the original loan

Under a free-market system, we should trust consumers to know their financial needs and avoid rules that limit credit access and prevent them from voluntarily accepting loans they might otherwise need. Emergency expenses—which present a common reason for borrowing—are by definition unpredictable, often very urgent, and do not necessarily involve a single-payment solution.

A problem created by these restrictions is that borrowers in need would have to stack loans across multiple lenders, creating more confusion and defeating the purpose of the bill.

The research also points to unintended consequences and a failure to achieve desired outcomes. An extensive 2013 study[3] examined several states, including South Carolina, that implemented laws to cut down on repeat borrowing. The process, it found, had “been disruptive, leading to lower lending volumes and, in at least one case, higher delinquency.” It also showed that “prohibitions on simultaneous borrowing appear to have little effect on the total amount borrowed.”

Ability to repay analysis

Lenders under the bill would be required to conduct an ability-to-repay (ATR) analysis for each borrower before extending a loan. The analysis must consider the borrower's (or any co-borrower's) employment status, monthly income, and monthly expenses, including other outstanding loans, and compare these factors with the loan’s repayment terms. If the loan is renewed or a subsequent loan is offered, the analysis must effectively be repeated.

The truth, however, is that many lenders already calculate ability to repay for obvious and practical reasons. It is not in their financial interest to offer loans to customers who cannot meet their obligations. This is especially true for unsecured loans, where borrowers do not put up any form of collateral, so lenders rely entirely on repayment.

Because ATR methods can vary by loan and lender, we would discourage lawmakers from adopting an analysis requirement that is overly prescriptive. In this case, S.910 would codify what are viewed as traditional ATR factors (employment, monthly income and monthly expenses). However, innovators in the financial technology space are developing alternative underwriting models that don’t necessarily rely on these factors, which are showing promise for their efficiency and effectiveness. A prescriptive ATR policy would undermine this progress.  

Here is an alternative solution: allow lenders to continue using their established methods for ATR. Should there be lenders not performing these calculations, allow them to adopt an industry-guided process or a flexible model provided by law. This would leave room for innovation while ensuring that more borrowers have the means to repay their loans.

In any case, this policy should be addressed separately from S.910 and its sweeping regulations.

Putting the issue in perspective

• In states where lenders have the flexibility to offer a range of loan products, such as South Carolina, consumers can transition from small, short-term alternative loans to mid-term installment loans, all the way to bank-issued, multi-year loans.
  
  
• Short-term loans are licensed and heavily examined by the S.C. Board of Financial Institution’s Consumer Finance Division, while subject to numerous federal regulations including the Truth in Lending Act, Fair Debt Collection Practices Act, Fair Credit Reporting Act and state regulations under the S.C. Consumer Protection Code.
  
  
• Short-term loans can be a good option for consumers to build credit. When borrowers pay back their loans on time, that data is reported to credit bureaus, which can help them move forward in the financial system.
  
  
• Credit needs vary by person and situation. As a best practice, borrowing decisions should be left to individuals in accordance with their financial needs and not be overly restricted to reduce access.
  
  
• These loans often fill a gap in the marketplace that exists for non-prime borrowers who aren’t served by banks. Should consumers lose access to these products, many will have nowhere to turn for financial services.

A valid concern, but the wrong approach

The South Carolina Policy Council is sensitive to the issues facing the community and acknowledges that debt can create significant hardships for individuals and families. We appreciate the well-meaning efforts of legislators and stakeholders to confront this matter. However, our review finds that S.910 would be ineffective in addressing these challenges and, instead, would create more problems for consumers.  

In review, the bill would:

• Make it harder for those with imperfect credit to learn about or access financial services
  
  
• Hinder competition in the lending sector by singling out short-term lenders while exempting big banks and credit unions
  
  
• Impose excessive and unwarranted marketing restrictions that could make doing business in South Carolina unfeasible
  
  
• Micromanage loan renewals to the extent that borrowers in need would have to stack loans across multiple lenders
  
  
• Supplant consumer decision-making with government-imposed standards

Rather than adopt these regulations, which could shut down businesses, South Carolina should explore how to improve financial literacy and make educational resources more widely accessible. The S.C. Department of Consumer Affairs’ financial literacy page is a great model for this initiative. It offers numerous resources for kids and parents, teens and teachers focused on money skills and the importance of saving. Adding more information that is tailored to adults, improving the page’s visibility, and replicating these efforts more broadly are just a few ways that South Carolina can help consumers.

Footnotes:

[1] The bill would apply to anyone providing a consumer installment loan pursuant to Title 37 or Title 34 of the S.C. Code, or a deferred presentment loan pursuant to Chapter 39 of Title 34.

[2] The bill defines low-income community as "any population census tract if the poverty rate for tract is at least twenty percent, in the case of a tract not located within a metropolitan area, the median income for the tract does not exceed eighty percent of statewide median income, or in the case of a tract located within a metropolitan area, the median family income for the tract does not exceed eighty percent of the greater statewide median family income or the metropolitan area median family income."

[3] Kaufman, Alex, Payday Lending Regulation (August 13, 2013). FEDS Working Paper No. 2013-62, Available at SSRN: https://ssrn.com/abstract=2350410 or http://dx.doi.org/10.2139/ssrn.2350410