By Charlie Arlinghaus
December 21, 2011
As originally published in the New Hampshire Union Leader
Legislators too often ignore the negative but unintended consequences of an action motivated by good intent. The governor’s veto of a bill regulating auto title loans is just such an action. Although very well intentioned, sustaining his veto would hurt the people he’s trying to help.
Like many states, New Hampshire regulates the rate of loans, particularly the loans we find less desirable and more distasteful to middle class sensibilities. Not every American has the ability to take out a loan against the value of a home whether a mortgage or an emergency home equity line.
Small consumer loans include pawn broker loans, payday loans and auto title loans. Payday loans are the most commonly discussed product. They are an unsecured advance on a customer’s paycheck at the highest interest rates. Payday loans have essentially been banned in New Hampshire driving their customers to the internet and to loans from Indian reservations advertised on television. Whether that choice was sensible or not, legislation under consideration does not address payday loans at all. They are still off the market.
What is under consideration is adjusting the rates and terms of automobile title loans in New Hampshire. In 2008, legislation in New Hampshire capped interest rates on title loans as an attack on supposedly predatory lending. Instead those loans were driven from the market.
Opponents have watched them go and said good riddance. Yet most of those opponents have no need for a short term loan. These loans are intended for those who are unbanked or underbanked in financial terms. In other words, a title loan is a service for people who don’t have recourse to another method.
For any loan of any type, some of the overhead costs of the lending company are taken up by charging fees. For a consumer receiving a mortgage, those fees are many thousands of dollars. However, the fees are rolled into the mortgage and paid for over thirty years. The bigger the mortgage and the longer the term, the smaller the fees look when announcing them as a percentage. For a bigger mortgage, the fees look smaller while for a smaller loan the same fees appear larger.
For small consumer loans, there are also overhead costs and fees. Yet the loan is often for just one month and 80% of the loans don’t last most than five months. Covering overhead costs on a $500 loan in a month sounds much higher as a percentage than taking those same costs and spreading them over thirty years and $200,000.
Nonetheless, the interest rate expressed in annual terms sounds obscenely high. Under the proposed law, rates would still be capped but at a rate of 25% each month. The rate cap is not arbitrary. A Tennessee study of their title loan industry found the monthly rate to simply break even was 18%. That helps explain why banks and credit unions haven’t stepped in under the current law which is about a sixth of that break even rate.
The best reason to allow title lenders is that they are a better alternative for consumers. Federal bank regulators have found that the primary competition for small consumer loans are overdraft fees, bounced check charges. In fact, that’s the biggest reason to take out a loan – to avoid bounced check fees. No one suggests a bank not charge a fee for bouncing a check or would ever suggest it was usurious. Yet if you calculate those fees the same way, the annual percentage rate is in the thousands. By comparison, even over 10 months, a title loan’s charges would 138%.
A title loan is a better option than paying overdraft charges which may be ten times as expensive. It is a better option than paying for unsecured payday loans which have a much higher rate and are unregulated over the internet. To refuse to allow consumers this option does not change their situation because you wish it so. They don’t suddenly buy everything on layaway. Their need doesn’t vanish. It merely takes away the lowest cost option they might choose and drive them instead to the other alternatives of much higher fees they might have avoided or internet loans that cost much more.