The Consumer Financial Protection Bureau’s proposed new rules on payday lending are likely to shut down most payday lenders, regulate auto title lending and potentially even crimp small-dollar lending by banks and credit unions.
But the rules will not affect pawn brokers. The agency specifically excluded pawnshops from the rules because they see them as a better alternative than payday lending for people desperate for cash.
To payday lenders, the carve-out for pawnshops looks like the federal government giving a preference to another industry over their own. Whether and what pawnshops stand to gain is a matter of conjecture, but some critics of payday loans believe that hard-up families might be better off patronizing pawnshops than payday lenders.
The bureau’s logic is that pawnshops don’t cause the problems that motivated them to impose the new regulations on payday lending.
The rules were meant to end debt “traps,” in which borrowers take out loans with super-high interest rates to avoid a short-term crisis, and then end up falling deeper into debt trying to pay off that loan. The bureau’s own statistics indicated that such traps are common: Four out of five payday loans are rolled over or followed by another loan in 14 days. Half of all payday loans are part of a sequence in which the borrower ultimately takes out more than 10 loans. With interest rates above 300 percent, those fees typically end up exceeding the initial loan amount.
Pawning does not have the same danger of the borrower falling into a cycle of debt. If they cannot repay the loan, the broker simply holds onto the pawned item and the transaction ends there.
In its proposed rule, the bureau spelled out two other reasons that pawning might be preferable to payday borrowing. One is psychological: People might be “more likely to understand and appreciate the risks associated with physically turning over an item to the lender when they are required to do so at consummation.”
The second is more practical. The pawned item that the broker takes is less likely to hurt the customer’s ability to work and damage his overall finances than having the lender take money directly out of his bank account, as payday lenders do, or having the lender repossess a car, which is the risk with auto title lending. The customer loses his pawned guitar or gold watch but doesn’t face the cascading repercussions that would come if his bank account was emptied and he fell short on rent or that would result if he couldn’t get to work because his car was repossessed.
The bureau even noted pawn lending’s long history, pointing out that it has existed in what is today the U.S. since the 17th century and that it is referenced in the Old Testament — Exodus 22:26: “If you take your neighbor’s cloak in pawn, you shall restore it before the sun goes down.”
Nick Bourke, an analyst at the Pew Charitable Trusts who has researched payday lending extensively and advocated regulations to replace it with short-term bank lending, agreed with the logic that pawning doesn’t involve the “trap” risks that payday loans do. “The CFPB’s choice to exclude pawn from this rule seems reasonable,” he said.
To others, however, the idea that the rules might redirect people with short-term credit needs to pawnshops is proof that the rules are absurd and out of touch with reality.
And to payday lenders, it’s an unfair advantage to pawnshops.
“Our customers decide based on their personal circumstances and preferences whether to borrow $200 from us or to pawn their belongings; they don’t need the government to make that decision for them,” said Jamie Fulmer, a representative for the payday lender Advance America. “The CFPB is trying to choose winners and losers, and worse, they’re trying to do so without ever bothering to talk to real consumers in order to understand their preferences or rationale.”
Emmett Murphy, a spokesman for the National Pawnbrokers Association, said that the rules would “not significantly affect the pawn industry.” In states that have outlawed payday lending, brokers have not seen a major difference in business, he said.
Exactly how pawn borrowers differ from payday borrowers is not clear, but there are more of them. Among underbanked households, according to the Federal Deposit Insurance Corporation, 10 percent have turned to pawnbroking in the past year. Just over 4 percent have used payday services, while 2.7 percent have used auto title loans. The pawn industry earned $6.3 billion from 11,000 storefronts in 2014, according to the bureau, while the payday industry made $3.6 billion in loan fees from more than 15,000 storefronts in 2015.
Both the bureau and outside analysts have projected that the rules would prohibit the vast majority of the payday loans made today. In that case, payday lenders have warned, their customers will turn to even more costly alternatives, such as bouncing checks or incurring overdraft fees on their bank accounts. Another possibility is pawning.