Today, the House Committee on Financial Services held a hearing titled, “Rent-A-Bank Schemes and New Debt Traps:  Assessing Efforts to Evade State Consumer Protections and Interest Rate Caps.”

During the hearing, the most attention was paid to H.R. 5050, the Veterans and Consumers Fair Credit Act, which would extend the 36 percent usury annual percentage rate (APR) cap under the 2006 Military Lending Act (MLA) to all consumers. 

The MLA set the APR cap at 36 percent for loans to military members and their families, with the goal of improving the financial situations of military personnel.  Like many other “well-intended” bills in Congress, the cap has done much more harm than good.  According to a November 2019 Harris Poll, 54 percent of active duty servicemembers reported that they use their entire paycheck to cover monthly expenses.  For those that make $50,000 or less, 59 percent are living paycheck to paycheck. Furthermore, 51 percent of active duty military households were denied a loan, including a credit card, because of the MLA.

The numbers for non-military individuals and families are not much better.  The same Harris Poll found that 47 percent of Americans in the lower-income bracket live paycheck to paycheck each month.  A May 2019 Federal Reserve study showed that 39 percent of Americans would find it difficult covering an unexpected $400 expense, and 12 percent would be completely unable to cover the cost.

While the intention of H.R. 5050 is to protect Americans from predatory lending and other financial maltreatment,  this one-size-fits-all approach to short-term, small-dollar lending that follows the MLA’s flawed APR cap will have the opposite effect, especially for low-income Americans.  Roughly 40 million Americans have a FICO score less than 600.  Those under that mark that are seeking non-prime lending would have a hard time finding a lender to provide a line of credit with an APR of 36 percent, equal to a 3 percent monthly interest rate.  This could result in millions of Americans losing credit or access to a new loan.  For example, an October 12, 2017 Mercatus Center study found that in Arkansas, which has a 17 percent APR cap, residents living in counties bordering other states would simply drive to a neighboring state with a less restrictive rate.  This resulted in a “credit desert” for those that lived in the state’s interior counties.

With banks generally unable to serve non-prime consumers with loans under 36 percent APR, low-income Americans would turn to much riskier credit options, including predatory lenders (loan sharks) and pawn shops, or face expensive penalties for failing to meet financial obligations like bounced checks, drastic credit score reductions, and eventually bankruptcy.  A 2008 Federal Reserve report that researched the effects of banning payday loans in Georgia and North Carolina found that banning payday loans resulted in “reduced payday credit supply and increased credit problems,” including higher rates of bankruptcy.

With the rise of FinTech, the opportunity to provide credit to millions of underserved, creditworthy consumers is better than ever.  As Rep. Ted Budd (R-N.C.) stated during the hearing:  “In a time when we should we be doing everything we can to provide small businesses and consumers better access to credit and financing alternatives … it seems unwise to put caps on consumer loans.”  Citizens Against Government Waste agrees that legislation like H.R. 5050 is counterproductive and destructive.  The Financial Services Committee should listen to Rep. Budd and look for positive alternatives that prop up short-term, small dollar lending rather than stifle a well-functioning private sector lending industry that provides credit for those who need it most.