Copyright (c) 2002 Minnesota Law Review
Minnesota Law Review

November, 2002

87 Minn. L. Rev. 1

LENGTH: 57042 words

ARTICLE: Payday Loans: Shrewd Business or Predatory Lending?

NAME: Creola Johnson+

BIO:

+ Assistant Professor of Law, The Ohio State University Moritz College of Law. The author is grateful for thoughtful comments provided by Richard Alderman, Patrick Bauer, Douglas Berman, John Caskey, Ruth Colker, Thomas Crandall, Jean Ann Fox, Arthur Greenbaum, Michael Greenfield, Dennis Herrington, Louis Jacobs, Kathleen Keest, Robert Lawless, Alan Michaels, Mary Dee Pridgen, Allan Samansky, Deborah Schmedemann, and Douglas Whaley. The author received invaluable research assistance and secretarial support from Loraine Brannon, Kamau Edwards, Robert Feigel, Jeffery Harris, Denean Hill, Raymond Keyser, Arleesia McDonald, Carol Peirano, James Sarconi, and Michele Whetzel-Newton. Thanks to the University Seed Grant Program at The Ohio State University for providing the funding for the author's study of payday lenders in Franklin County, Ohio.

SUMMARY:
... Payday loans are extremely high-interest, short-term loans offered to cash-strapped consumers. ... On the other hand, the horror stories of huge debts justify such a prohibition and payday lenders should bear some responsibility given that they make no assessment of a consumer's ability to repay, and given that the average payday loan customer lacks access to traditional forms of credit. ... Another payday lender stated that it awards a free music compact disc after the customer obtains the fifth payday loan. ... In summary, although the image of the typical payday loan customer remains incomplete, one should at least envision a consumer drawn to the payday loan industry because she lacks money to pay for financial emergencies, suffers from a recent income reduction (e.g., work hours reduced), earns nonliving wages, or a combination thereof, and because she lacks access to a moderately priced alternative form of credit. ... Because section 85 only preempts a conflicting state usury statute, payday loans are therefore subject to credit disclosure requirements such as TILA, irrespective of whether the payday lender is acting alone or in concert with a bank. ...

TEXT:
[*2]

INTRODUCTION

Payday loans are extremely high-interest, short-term loans offered to cash-strapped consumers. Some of the problems with payday loans can be illustrated succinctly by the experience of one payday loan customer, Leticia Ortega. 1 Realizing that her next payday was two weeks away, Ortega worried about how she was going to get enough cash to pay overdue telephone and electric bills. 2 Then Ortega, a cashier in San Antonio, Texas, spotted an advertisement by National Money Service in a local weekly newspaper. 3 National Money Service charged her a $ 90 interest fee for a $ 300 loan, due by her next payday. 4 Calculated on an annual percentage rate (APR) basis, this fee amounts to an APR of 780%. 5 When the loan's due date arrived, Ortega did not have sufficient cash to repay the entire loan. 6 Consequently, for almost a year, National Money Service [*3] debited Ortega's bank account every two weeks in the amount of $ 90 as interest to "roll over" the loan (i.e., extend the due date). 7 Because none of the $ 90 interest payments counted as principal, Ortega still owed National Money Service $ 300 even though she had paid $ 1800 in interest charges. 8 Subsequently, Ortega filed a complaint against National Money Service with the state and learned that Texas usury law restricts lending charges. 9 Because it had partnered with a bank located in Delaware, however, National Money Service claimed it was not subject to Texas usury law but could instead issue payday loans charging the maximum interest rate allowed under Delaware law, the bank's home state. 10 This lawsuit is still pending.

Ortega's experience with National Money Service brings to light three of the major criticisms lodged against the payday loan industry. 11 First, because payday lenders charge fees constituting extremely high-interest rates, these lenders are modern-day loan sharks. 12 Second, because the payday loan business model requires payment of the loan in full and does not allow partial payments or renewal fees to reduce the [*4] principal, payday lenders trap consumers in a vicious cycle of indebtedness. 13 Third, payday lenders are partnering with national banks in order to take advantage of a loophole in federal banking law that allows them to charge rates in excess of state law. 14

Disguising payday loans, threatening criminal prosecution, and collecting excessive damages are among the other major complaints lodged against the industry. To evade compliance with state usury limits and federal and state disclosure requirements, payday lenders in some localities disguise the payday loan transaction with a layer of subterfuge such as selling advertisements to people who only need cash. 15 For example, a customer pays a lender a $ 33 fee for a $ 100 cash loan and promises to repay that amount in two weeks in return for the $ 100 and the opportunity to place an advertisement such as "Go Cowboys" in a paper circulated only to the lender's customers. 16 Once a customer obtains a loan and has difficulty repaying it, many payday lenders intimidate customers by threatening to have them prosecuted for the crime of passing bad checks because they lacked sufficient funds in their bank accounts to cover the checks. 17 Many payday lenders are going beyond threats and are filing complaints with prosecuting attorneys or are having customers arrested. 18 Moreover, in civil lawsuits against their customers, some payday lenders take advantage of state statutes designed to compensate victims of bad-check crimes to collect treble damages plus court costs and attorney's fees. 19 In response to complaints about the foregoing practices, payday lenders contend that these cited [*5] practices are rare and are perpetrated by only a small minority of lenders.

While this Article does not conclude that every payday lender is predatory, it establishes that a large number of payday lenders engage in predatory practices. A predatory lender is one who, for personal profit, takes advantage of another by unfair, albeit technically legal, means. 20 In this Article, payday lenders are labeled predators because they reap generous profits 21 by taking advantage of consumers through means that are not only grossly unfair but, in many cases, also entirely unlawful. This conclusion is based on the results of a survey conducted by the author as well as investigations performed by state regulators and consumer advocacy groups. The survey conducted focused on payday lenders in Ohio (Ohio Survey) and is unique in that it is the first where surveyors actually obtained payday loans and attempted to rescind them. Contrary to the industry's contention, the Ohio Survey [*6] demonstrates widespread noncompliance with consumer protection laws and the industry's own self-regulatory guidelines. The totality of results of the Ohio Survey and other investigations clearly exposes the payday loan industry as predatory. While this Article discusses unlawful payday lending practices, other technically legal practices discussed herein frustrate the purposes of state and federal consumer protection laws even though the practices might be characterized as merely shrewd business conduct necessarily attendant to capitalism. These technically legal practices exist within loopholes that generate both excessive profits for payday lenders and adverse consumer effects entirely unintended by responsible legislative bodies. As a result, this Article concludes the payday loan industry needs to be federally regulated.

Part I of this Article explains the characteristics of a typical payday loan transaction and the characteristics of consumers in need of payday loans. 22 It provides the background information necessary to appreciate why payday lending practices evoke strong condemnation from consumer protection advocates and concerned lawmakers. By refuting the frequent industry assertion that payday loans are merely services provided to consumers, Part I further establishes that payday loans are a form of consumer credit. 23 The credit label is highly important. Because payday loans constitute a form of credit, borrowers should be afforded legal protections comparable to those available to users of traditional forms of consumer credit. 24

Part II of this Article describes the unfair and unlawful lending practices permeating the payday loan industry and analyzes how they violate various laws. 25 Using the results of the Ohio Survey and other studies, Part II details the exorbitant interest charges payday lenders have managed to collect from their borrowers. It further describes the unlawful means employed by payday lenders to mislead consumers about [*7] the cost of credit, thereby enticing them into a loan transaction. Part II also examines common egregious practices following the consummation of the loan. These practices include "rollover" terms that trap consumers like Ortega in a permanent cycle of debt and collection practices that subject defaulting borrowers to both punitive sanctions through the imposition of treble damages and criminal sanctions through bad-check prosecutions.

Part III of this Article explains how the payday lending industry has managed to thrive despite the egregious treatment of its borrowers. 26 This section first explores demographic data demonstrating that payday loan customers are particularly susceptible to oppressive loan terms and collection practices because they lack access to traditional forms of credit. Part III further describes how payday lenders exploit ambiguities in state law and federal banking law to take full advantage of their customers' lack of financial options. Part III highlights the recent trend among payday lenders to use "rent-a-bank" partnerships with traditional banks to charge fees higher than those allowed by state law. 27

Part IV argues for a comprehensive system of federal [*8] regulations to protect consumers from the rampant overreaching that is common in today's payday loan transactions. 28 This Article concludes with recommendations for a payday lending statute that protects consumers from predatory payday lending practices and that enables consumers to exit the subprime lending market, while protecting the legitimate interests of payday lenders. 29

I. THE NATURE OF PAYDAY LENDING

Payday lenders are central figures in the fringe banking industry, which has arisen to serve consumers with low-to-moderate incomes. 30 In the book Fringe Banking: Check-Cashing Outlets, Pawnshops, and the Poor, Professor John P. Caskey first described the nationwide proliferation of fringe banks, companies that offer credit products to consumers excluded from mainstream banking services. Because of widespread bank branch closings in poor and minority neighborhoods, these consumers lack access to traditional forms of credit. 31 Only a small number of check-cashing outlets issued payday loans when Professor Caskey wrote Fringe Banking. 32 He stated, however, that if check-cashing outlets [*9] regularly issued payday loans, a strong case would exist "for fairly extensive regulations and monitoring" of check-cashing outlets. 33 While Professor Caskey's 1994 book did not elaborate on the point, this Article explains why he was correct to make that assertion. To appreciate why payday lending practices deserve federal regulatory supervision, one must first understand how a typical payday loan transaction operates, and, second, how these transactions qualify as a form of consumer credit rather than merely a contract for check-cashing services. In this regard, section A provides a general description of the common loan terms and a brief description of typical payday loan borrowers. Section B then explores the considerable authority that firmly establishes payday loans as a form of consumer credit.

A. What Are Payday Loans and Who Uses Them?

Payday loans are known by various names, including payday advances, deferred deposit loans, and cash advance loans. 34 To apply for a loan, a consumer usually needs to present a driver's license, pay stub, bank statement, telephone bill, and checkbook. 35 Payday lenders advertise that consumers can obtain, in minutes, payday loans without hassles or credit checks. 36 Assuming a consumer qualifies for a payday loan, a [*10] nontraditional lender 37 makes a small cash advance (ranging from $ 50 to $ 1000) to the consumer in exchange for the consumer's post-dated personal check written for the amount of the loan plus a fee. 38 Instead of taking a post-dated check, some lenders require the consumer to authorize a debit to the consumer's bank account when the loan is due. 39 Because the lender holds the check until the consumer's next payday, the usual term of the loan is up to two weeks. 40 The lender then attempts to cash the check unless the customer repays the loan in full and reclaims the post-dated check, pays a fee to "roll over" or extend the loan's due date for another two weeks, or, in states that prohibit rollovers, refinances the loan by paying a fee. 41

Assuming the customer cannot repay the loan by its due date and must roll over the loan, the customer pays a fee usually equal to the initial borrowing fee, 42 further increasing [*11] the cost of the loan. If the customer signs a debit authorization agreement, the payday lender automatically withdraws the rollover/refinance charge from the customer's bank account. 43 No matter how the lender characterizes or collects the fee, the fee does not count towards the original principal, and the consumer, therefore, remains indebted until he or she pays the entire original loan in a single payment. 44 In other words, lenders do not accept partial payments, which explains why Ortega still owed $ 300 even though she paid National Money Service $ 1800 in rollover fees. 45 The rollover practice will be addressed later in Part II.B.1. Given such payment terms, one may wonder what type of consumer chooses payday loans.

While borrowing against future income represents a common practice in America, payday lenders serve a unique class of consumers lacking sufficient income to cover financial needs. 46 Part III discusses these consumers in depth. For now, realize that payday loan customers, like many Americans, possess limited incomes and no savings, but they are a distinct subset of the populous because they lack access to traditional forms of credit. 47 Turned down for credit or owning maxed-out credit cards, they also have no homes and thus cannot get an equity line of credit to cover expenses. 48 Many have damaged credit histories for any number of reasons, including a previous bankruptcy filing. 49 These consumers can turn to nonbanks that stand ready to meet their need for short-term credit. As explained below, it is clear these consumers approach payday [*12] lenders seeking extensions of credit. 50 Ample legal authority buttresses this conclusion.

B. Payday Loans: Ordinary Check-Cashing Services or Lending Money?

Originally earning most of their income by charging "unbanked" 51 consumers fees to cash checks, check-cashing companies started to expand their operations in the early 1990s by issuing payday loans to consumers who had bank accounts with relatively low balances. 52 When charged with lending without a license and evading usury laws, check-cashers initially denied that they were issuing loans. 53 Consider the following example of a typical payday loan transaction. Assume Mary, who needs $ 100 until her next payday, visits a nearby check-cashing store. After Mary produces proper documentation, the check-casher gives Mary $ 100, takes from [*13] her a postdated check for $ 115 (or for $ 100, if she pays the $ 15 fee in cash), and requires her to sign a contract obligating her to repay the loan in two weeks. It seems incredible that a check-casher would contend that transactions like the one in which Mary engaged in are not loans. 54 Payday loans could be characterized as a sham transaction; that is, a transaction meant to disguise the lending of money without a license and lending at an unlawful rate of interest. 55 Once regulators began enforcing the laws against payday lenders, some lenders began complying with state and federal law. Other lenders began adding a new feature to the transaction; they claimed they were leasing appliances or selling merchandise or services. As explained below, payday lenders have been issuing and continue to issue loans, using a variety of artifices. 56 As a result, a plethora of federal and state laws regulating consumer credit transactions apply to payday lenders. 57.

1. Payday Loans Are Covered by the Truth in Lending Act

The most significant law that payday lenders violate is the federal Truth in Lending Act (TILA). 58 Passed in 1968 as Title I of the Consumer Credit Protection Act, TILA is the "cornerstone of consumer credit legislation." 59 In Mourning v. [*14] Family Publications Service, the United States Supreme Court noted that Congress, after years of study and debate, concluded that consumers were "ignorant of the nature of their credit obligation and of the costs of deferring payment." 60 To remedy such ignorance, Congress enacted TILA for the purpose of "assuring a meaningful disclosure of credit terms so that the consumer will be able to compare more readily the various credit terms available to him and avoid the uninformed use of credit." 61 Primarily a credit disclosure statute, TILA does not generally regulate what terms a creditor must offer, but requires that those terms, whatever they are, be uniformly disclosed to the consumer. 62

TILA's language supports the conclusion that payday lenders are subject to TILA's disclosure requirements because they are creditors that regularly 63 issue "consumer credit." 64 [*15] [*16] Despite TILA's plain language, payday lenders initially contended that they were not extending consumer credit but were merely providing check-cashing services and, therefore, were not subject to TILA. 65 With one exception, courts addressing the issue have held that payday loans are extensions of credit under TILA. 66 In Hamilton v. York, the court deemed that these "check-cashing" services were "nothing more than interest bearing loans," and found it difficult "to imagine how charges for exchanging money today for more money at a later date could be classified as anything but interest on a loan." 67

Congress authorized the Federal Reserve Board to issue regulations implementing TILA. 68 In 2000, the Federal Reserve Board revised its Official Staff Commentary to Regulation Z to clarify that payday loans constitute "credit" for [*17] purposes of TILA. 69 If a fee charged in connection with a payday loan meets the definition of a "finance charge" under TILA, the Official Staff Commentary ignores the characterization of the fee under state law. 70 Moreover, "persons that regularly extend payday loans and otherwise meet the definition of [a] creditor ... are required ... to provide disclosures to consumers consistent with the requirements of Regulation Z." 71 Because courts treat the Official Staff [*18] Commentaries as law, 72 payday lenders must comply with the disclosure requirements of TILA. 73

2. Disguising Payday Loans Through Sham Transactions

To skirt TILA's disclosure requirements, some payday lenders cloak the payday loan transaction with alternative lending schemes. 74 Critics claim that, besides violating TILA, these lenders violate state laws by not complying with state usury limits, by failing to obtain licenses to issue consumer loans, by failing to pay state and local taxes, and by failing to comply with state credit disclosure requirements. 75 Following a description of popular alternative lending transactions, this section analyzes whether these transactions are "loans" or "credit" transactions subject to federal and state laws.

a. Leasing Appliances or Selling Goods and Services

One popular scheme is the sale-leaseback transaction. 76 In this exchange, the lender "buys" a consumer's household appliance and then leases it back to the consumer for a rental fee until the consumer can repurchase it. 77 The appliance, however, is never actually delivered to the lender. 78 Instead, [*19] the lender gives the consumer cash and takes only a post-dated check from the consumer as security. 79 Even though sale-leaseback companies claim they are not lenders, they advertise along with traditional lenders in the loan section of local yellow pages. 80 In a 2001 survey of payday lenders in Texas, Consumers Union found sale-leaseback lenders charging consumers rental rates as low as $ 18.40 and as high as $ 64.94 for a two-week loan of $ 100. 81 Moreover, Consumers Union found that fourteen out of the twenty-one companies surveyed offered sale-leaseback services and ten out of those fourteen specifically claimed the service was "not a loan." 82 The average fee for the sale-leaseback service was $ 33 (or an effective APR of 832%) for a $ 100 two-week loan. 83

The Texas Committee on Economic Development's Subcommittee on Consumer Credit Laws recently investigated companies offering sale-leaseback loans and concluded that these companies "embrace the subterfuge of renaming the loan transaction in order to avoid regulatory oversight." 84 If the customer is unable to repay the loan, the companies do not take the property but only accept payment of a lease renewal fee. 85 As with regular payday loans, some customers of sale-leaseback companies find themselves caught in a vicious cycle of debt. 86

In addition to offering sale-leaseback services, some payday lenders operate "cash catalog sale" companies. This type of scheme has surfaced in several states, including Alabama, Florida, Georgia, Nevada, and Texas. 87 By [*20] advertising in the loan section of the yellow pages, 88 and by operating under names such as Instant Cash Catalog Sales 89 and Money Express Catalog Sales Inc., 90 catalog sale companies do not try to hide their status as payday lenders. Catalog sale companies require a borrower to purchase catalog certificates in order to obtain a loan. 91 In exchange for cash, the borrower writes a check for the amount of the loan plus the cost of the catalog certificates. 92 For example, the borrower writes a $ 130 check for a $ 100 loan, with the additional $ 30 supposedly in consideration for the certificates. When the loan becomes due, the catalog company cashes the check and gives the borrower the certificates. 93 In theory, the borrower may then use the certificates to purchase merchandise from the company's catalog. 94 In Cashback Catalog Sales v. Price, however, the court noted that the certificates at issue could only be used to purchase items from a mail-order catalog that was never given to the consumer. 95

Additionally, like cash-back catalog companies that issue potentially worthless certificates, some payday lenders have created cash-back advertisement companies that print useless advertisements. 96 Consumers needing cash can find the nearest cash-back advertisement company in the loan section of the yellow pages 97 and go there to borrow $ 100 by purchasing [*21] an advertisement for publication and paying a $ 33 advertisement fee. 98 Usually, the consumer has nothing to advertise; however, companies insist upon the purchase of an advertisement before distributing any cash. These ads are then placed in a publication distributed by the lender to its customers. 99 The consumer must also issue a check as security for repayment of the loan. 100 If the consumer is unable to repay the loan when due, the consumer must renew the loan by purchasing another ad and paying an additional fee. 101

b. Sham Transactions Are Usurious Extensions of Credit

Arguably, the disguised payday loan companies are simply selling a service or product and, therefore, their transactions are distinguishable from regular payday loans. In fact, when the Federal Reserve Board revised the term "credit" to include payday loans, 102 some advocates feared that the proposed comment would be limited to transactions thus labeled. 103 The Board made clear, however, that "transactions in which the parties agree to defer payment of a debt are "credit' transactions regardless of the label used to describe them." 104 Therefore, offering a service or product in conjunction with a payday loan should not prevent the transaction from being defined as a consumer credit transaction. 105

In Cashback Catalog Sales, the defendant, Cashback, argued that it had not extended credit for purposes of TILA when it took a customer's $ 130 post-dated check - $ 100 for the loan and $ 30 for the catalog certificates. 106 Denying Cashback's motion for summary judgment, the court held that a reasonable trier of fact could find that Cashback extended "credit" when it [*22] promised not to cash the post-dated check until the customer's next payday, assessed a "finance charge" when it required the post-dated check to include the cost of the catalog certificates, and operated as a "creditor" when it regularly had customers make the post-dated checks payable to Cashback. 107 Consequently, upon meeting the relevant statutory definitions, a cashback catalog company is subject to TILA's disclosure requirements. 108

In addition to being subject to TILA, cashback catalog companies are subject to state usury laws. 109 In Cashback Catalog Sales, the court found that a loan existed because Cashback agreed to hold the customer's check until his next payday and the customer had an obligation to repay the money received. 110 Cashback argued that the catalog certificates given to the customer did not constitute interest. The plaintiff countered that the $ 30 certificates constituted a finance charge amounting to an APR of 780% for a $ 100 two-week loan; 111 Georgia, home to Cashback's operations, caps the legal interest rate for loans less than $ 3000 at 16% per year. 112 Agreeing with the plaintiff, the court explained that substance must prevail over form. 113 The court concluded that the certificates [*23] constituted usurious interest, noting the lack of an order form or any material about actually ordering merchandise. 114 The court further stated that "check cashing" appeared to be the main purpose of the contract and questioned whether the catalog certificates would ever be redeemed. 115

The holding in Cashback Catalog Sales should not be confined to payday loan transactions involving catalog certificates. The holding should apply to similarly disguised payday loan transactions. Take for instance, payday loan transactions involving the "leasing" of an appliance or "selling" of an advertisement. 116 Companies that engage in these transactions act much like regular payday lenders. First, they advertise their business in the loan section of yellow pages. Second, they take post-dated checks from their customers. Third, they distribute cash immediately to their customers. Fourth, they agree not to cash their customers' checks for two-weeks. Finally, they demand fees that amount to triple-digit interest rates for their services or merchandise.

Payday loans exceed interest rate caps in states lacking laws regulating payday lending as well as those states regulating the industry because disguised payday loans carry triple-digit APRs. Two facts support this conclusion. First, disguised payday loans may carry an APR of 792% or more, 117 but state usury laws typically limit APRs to double-digit interest rates. 118 Second, while twenty-two states and the [*24] District of Columbia regulate payday lending and allow triple-digit interest rates, 119 only one of these states allows fees amounting to an APR in excess of 792%, and the majority require that APRs remain below 469%. 120

Given the outrageous APRs of payday lending schemes, lawmakers should not rely on judicial decisions alone to determine if future schemes 121 are covered by consumer protection laws. 122 The burden on the judicial system is already enormous. 123 Therefore, efficiency dictates that state lawmakers enact statutory provisions that broadly define "loans" or "credit" and thereby strip payday lenders of any legal [*25] defense for their disguised payday loans. 124

In summary, payday lending superficially appears grounded on a straightforward and seemingly innocuous concept. Consumers sometimes need extra cash to get by for a week or two, and check-cashers have stepped in to meet this demand. They do so by simply agreeing to hold onto the customer's personal check until the customer's next payday. In exchange, the borrower agrees to pay a fee larger than the typical check-cashing fee associated with a check of that size. 125 As evident by the rapid growth of the payday loan industry, these fees have translated into generous profits. 126 Accordingly, it is not surprising that payday lenders have resisted disclosing the APRs of their loans. As the next section demonstrates, the APRs on payday loans far exceed those allowed for any other form of personal consumer credit. Payday lenders, therefore, possess a strong economic incentive to avoid disclosing their finance charges in a way that allows consumers to compare the cost of one credit transaction to another. The industry's creativity in characterizing payday loans as anything but credit extensions stems directly from this incentive. Unfortunately, the industry's quest to protect its profits extends beyond merely engaging in sham transactions. Part II reveals the industry's desire to protect its profits extends far beyond legal and ethical boundaries.

II. CRITICISMS OF THE PAYDAY LOAN INDUSTRY

The sham transactions discussed above represent practices employed by payday lenders to deceive regulators and evade consumer protection laws. This section identifies payday lending practices that deceive and exploit consumers by means that are quintessentially unfair to consumers and also often illegal. The practices include charging fees amounting to triple-digit APRs, distorting information relevant to assessing the cost of credit, charging high fees to roll over payday loans, refusing to honor representations that consumers have the [*26] right to rescind at no cost, seeking treble damages from customers in default, and threatening delinquent customers with criminal prosecution. Section A analyzes unfair and unlawful payday loan practices occurring before or during contract formation. Section B continues this analysis with a focus on payday loan practices occurring post contract formation.

A. Unfair and Unlawful Practices Before or At Contract Formation

As explained below, the results of various studies show that payday lenders charge enormous fees, sometimes in violation of state law. 127 This practice, coupled with other practices such as seeking treble damages and criminal prosecution, 128 leads many critics to conclude that payday lenders are nothing more than loan sharks or predatory lenders exploiting vulnerable consumers. 129 The Ohio Survey conducted by the author confirms these conclusions. The survey results reveal that the majority of lenders surveyed mislead consumers about the cost of payday loans.

1. The Cost of Payday Lending: Triple-Digit Interest Rates

Customers who obtain payday loans pay fees amounting to effective APRs usually totaling several hundred percent. 130 For [*27] example, in a 1999 survey of 230 payday lenders in twenty states, the Consumer Federation of America (CFA) found lenders making payday loans of $ 100 to $ 400 at interest rates of 390% to 871%. 131 In its 2001 survey, the CFA found one-third of the 235 payday lenders surveyed charged an APR greater than 500% for a fourteen-day, $ 100 loan. 132 The CFA reported an average APR of 470% for all states surveyed for the same loan. 133

Currently, the maximum fee to allowed payday lenders depends on the state law governing the transaction. Four states - Idaho, New Hampshire, New Mexico, and Wisconsin - have no interest rate or usury caps on small loans. 134 Therefore, a licensed payday lender and the consumer can contract at interest rates that far exceed small loan caps. 135 The CFA's 2001 survey discovered an average APR of 504% in two states lacking usury limits. 136

When it surveyed lenders in thirteen states where payday lending is legal, the CFA uncovered an average APR of 443%. 137 As of this writing, twenty-nine states and the District of Columbia expressly authorize payday lending, 138 and the majority limit the size of the loan and the interest rates or fees [*28] that may be charged. 139 According to the CFA, these state laws [*29] stem from pro-industry bills. 140 Consequently, it should not be surprising that some states that have legalized payday lending have no maximum fee limitations. 141 Of the states that limit fees and loan amounts, fees for payday loans range from as low as $ 5.50 on a $ 50 loan 142 to as high as $ 120 on a $ 1000 loan. 143 On the high end are Montana and Wyoming, which cap allowable effective APRs at 650% and 780%, respectively. 144 On the low end are Oklahoma and Texas, which limit allowable effective APRs to 240% and 309%, respectively. 145

Currently, laws in nineteen states, Puerto Rico, and the Virgin Islands either mandate small-loan interest caps or make payday loans technically illegal because such loans violate double-digit APR limits. 146 The CFA's 2001 survey found an [*30] average APR of 606% in six states prohibiting payday loans through their usury limits. 147 Until recently, Arkansas and North Carolina permitted payday loans, but such loans were made illegal by judicial opinion or legislative inaction. 148

The above laws and opinions are being ignored by payday lenders offering "services" that are really disguised payday loans 149 or by lenders partnering with banks (i.e., through rent-a-bank partnerships) to take advantage of a loophole in federal banking law. 150

[*31] Payday lenders may circumvent state usury law by partnering with banks located in states that allow higher APR rate charges. 151 One surmises, then, that where such partnerships exist, the bank resides in a state with more favorable (i.e., higher allowable) interest rate maximums than the state in which the payday lender is located. 152 For instance, Advance America charges an APR of 390% in several states where it is operating without a partnership with a national bank, but in Virginia, where such a partnership exists, Advance America charges an APR of 442% (thus evading Virginia's usury limit of 36%). 153 The foregoing data establish that lenders charge triple-digit interest rates regardless of the state law governing the jurisdiction where the consumers are located. Because many payday lenders charge fees amounting to triple-digit-interest rates irrespective of state law, it appears that these lenders are violating state law and not complying with the industry's purported commitment to limit its fees to those allowed by state and federal law. 154

[*32]

2. Ohio Survey Shows Lenders Fail to Provide Basic Information

A recent survey conducted by the author reveals that consumers learn about the triple-digit interest rates charged by payday lenders only after signing the payday loan contract. This phenomenon results because payday lenders hide basic information. In doing so, these lenders violate mandatory disclosure requirements. 155 In the summer of 2001, the author conducted the Ohio Survey, in which she surveyed payday businesses located in Franklin County, Ohio. The survey revealed the following lender practices: refusing to provide customers with basic written information about the payday loan transaction, giving consumers false or misleading information about the cost of credit, failing to advertise the cost of credit using APRs, refusing to supply customers with written disclosures prior to contract consummation, claiming no credit check would be conducted but doing so anyway without obtaining consumer consent, including clauses in their loan documents that appear to be illegal or unconscionable, 156 [*33] representing that consumers have the right to rescind the contract at no cost, allowing consumers to roll over payday loans in violation of state law, representing to consumers that the lenders have the ability to collect treble damages from defaulting consumers, and intimidating consumers with the threat of physical violence and criminal prosecution. 157 This section of the Article analyzes the numerous violations of state and federal law uncovered in the Ohio Survey that occurred at the contract formation level. Scant case law exists in the payday loan context to support the author's analysis. The lenders' activities, however, should be construed as violations based on a plain meaning statutory construction and based on the purpose of applicable law.

Outlining the author's methodology in conducting the Ohio Survey before discussing the specific findings of the Ohio Survey and violations of applicable law will provide context. The Ohio Survey investigated payday lending stores located in Franklin County, Ohio, which at the time of the survey had twenty-two payday lenders with eighty-three stores. 158 The majority (95%) of the stores are located in Columbus, the fifteenth largest city in the United States, 159 and the remaining stores are located in suburbs surrounding Columbus. Because some of the results of the Ohio Survey accord with national [*34] surveys 160 and because the majority of the nation's largest payday lenders were represented in the Ohio Survey, 161 the results of the Ohio Survey would likely be found in a survey conducted on a national level. 162 The author, along with research assistants, posing as potential customers, contacted (by telephone and in person) one store location for each of the twenty-two payday lenders in Franklin County and made sure locations from each geographic region of the county were represented in the survey. 163 The Ohio Survey tested the [*35] industry's compliance with state and federal laws and compliance with the industry's best practice list. 164 Data were collected during the following lending stages: information gathering, contract consummation, and contract rescission. The Ohio Survey did not test for legal violations after a customer's default. 165 The Appendix shows the results of the Ohio Survey and enumerates, among other things, which payday lenders refused to provide information and which failed to make required disclosures.

The reader may be surprised to discover that the surveyors could not obtain basic written information about payday loans from the majority of lenders studied. While creditors generally have no legal obligation to give potential customers brochures or applications, 73% of the payday lenders surveyed during the information-gathering stage did not have brochures about payday loans available for potential customers to peruse and 77% refused to allow the surveyor to have a copy of the application to take home and review. 166 Many simply stated, "I'll tell you all you need to know." 167 Of those who refused to [*36] provide an application, a few became belligerent and made statements such as "it's against company policy" 168 or "it's illegal for you to take the application out of the store." 169 Even after contract consummation, only 18% of the payday lenders gave the customer a copy of his or her signed application. 170 Obtaining a copy of the payday loan application is important because most of them contain contractual obligations that one may not remember unless one has a photographic memory. 171 In summary, by refusing to provide basic written information to potential customers, the payday lender fits the profile of a predatory lender even though it has no legal obligation to provide such information. 172 Telling a potential customer, "I'll [*37] tell you all you need to know," more likely means, "I'll tell you what I want you to know."

a. Lenders Violate TILA's Disclosure Rules

Lending practices that attempt to limit the consumer's knowledge about payday loans frustrate the purpose of TILA. Its purpose is to "assure a meaningful disclosure of credit terms so that the consumer will be able to compare more readily the various credit terms available to him and avoid the uninformed use of credit." 173 The Ohio Survey demonstrates that the majority of payday lending practices frustrate the express purpose of TILA and fail to comply with the industry's own pledge to adhere to the requirements of TILA. 174

i. Lenders Fail to Disclose the Cost of Credit

TILA does not mandate that a creditor orally supply information regarding the cost of credit; however, if the creditor chooses to respond to a consumer's oral inquiry about the cost of credit, the creditor must give the consumer the APR. 175 If [*38] the APR cannot be determined in advance, the creditor may state an APR for a sample transaction. 176 As explained in Part I.B.1 of this Article, the Federal Reserve Board, on March 31, 2000, finalized commentary to TILA which makes it clear that payday loans equal credit transactions covered by TILA. 177 Therefore, payday lenders in the Ohio Survey should have adhered to TILA's disclosure requirements when they chose to respond to the consumer's oral request. Yet in the Ohio Survey conducted during the summer of 2001, members of the industry failed to comply with a number of TILA's requirements, including providing correct responses to oral inquiries. 178

When Ohio payday lenders were asked during the information-gathering stage to state the APR for a $ 100 loan, only 32% of the payday lenders surveyed disclosed the APR. 179 Ohio law allows a maximum fee of $ 7.50 per every $ 50 borrowed. 180 Therefore, the maximum finance charge for a $ 100 loan would be $ 15.00, which amounts to an APR of 391% for a two-week loan. Incredibly, 32% of the payday lenders surveyed denied that there was an APR associated with the loan while 18% claimed they did not know the APR. 181 Roughly, 14% stated that the $ 15 finance charge was the APR, [*39] and one of the twenty-two lenders answered evasively: "That doesn't count because you don't have the money for a whole year." 182 The results of the Ohio Survey resemble those in the CFA's 2001 Rent-A-Bank Payday Lending Report, where only 21% of payday lenders in twenty-six states verbally disclosed an APR in response to a customer's inquiry. 183 In the CFA's 2000 Show Me the Money report, only 37% of payday lenders quoted even nominally correct APRs when asked by customers over the telephone. 184

To comply with TILA, payday lenders could have easily found out the APR by simply putting the appropriate figures into their computer programs. 185 Several facts support this conclusion. First, each payday lender in the Ohio Survey charged the maximum fee allowed by state law and lent money in specified increments. 186 Therefore, the lenders had a finite, manageable number of possible transactions for which to determine the APR. 187 Several other lenders issued loans in $ 50 increments only. 188 Moreover, given that most lenders claim not to perform credit checks on the borrowers, 189 the lenders would have no reason to adjust the preset APRs following the initial credit application. Finally, because most of the lenders posted fee schedules for loans of various denominations, 190 the APRs could have easily been posted along with the finance charge fees. Payday lenders contend that having to disclose the APR is misleading, 191 but TILA mandates [*40] that lenders disclose the cost of credit using an APR so that consumers can do comparison shopping. 192 A consumer who has a basic understanding of APRs and who has the option of obtaining a cash advance using a credit card will readily recognize that the APR for a payday loan is astronomically higher than the APR charged for a credit card's cash advance. 193 By giving evasive answers and denying the existence of or claiming lack of knowledge about the APR, the payday lenders in the Ohio Survey not only failed to comply with TILA, but frustrated its primary purpose of providing consumers with information relevant to making an informed decision. 194

ii. Lenders Fail to Provide the APR

In addition to violating the disclosure requirements for oral inquiries, the majority of the Ohio payday lenders violated TILA's advertising requirements. As stated previously, in the businesses surveyed, most lenders (nineteen out of twenty-two) had some type of fee schedule (posted on either a sign on the wall or on a placard on the teller's window); 195 yet 84% (sixteen out of nineteen) had fee schedules that failed to disclose the APR for each loan amount. 196 TILA provides that if a creditor advertises the finance charge, the cost of credit must be stated "as an annual percentage rate, (using that term)." 197

[*41] To prove a violation of this provision, the Federal Trade Commission (FTC) would have to show that the fee schedules are advertisements and that the fees are finance charges. 198 TILA's Regulation Z defines an advertisement as "a commercial message in any medium that promotes, directly or indirectly, a credit transaction." 199 According to the Federal Reserve Board's Official Staff Commentary, a message includes "visual, oral or in print media." 200 A few payday loan outlets surveyed had placards that consisted of nothing more than the words "loan fees" followed by, "$ 50=$ 57.50, $ 100=$ 115, ... $ 500=$ 575." 201 Two lenders had signs that provided the origination fee and the interest on the principal (for example, $ 5.00 origination fee, $ 2.50 interest on $ 50). 202 Some of the stores had signs or placards containing three columns exactly like or similar to the following: 203

<WPTABLE> Amount You Want BackFee TotalAmount of Your Check $ 50 $ 7.50 $ 57.50 $ 100$ 15.00$ 115.00 $ 500$ 75.00$ 575.00</WPTABLE> All of the aforementioned fee-schedule formats constitute advertisements because they are commercial messages - visual media - that promote directly or indirectly the payday loan, a [*42] credit transaction. 204

TILA's advertising provision applies to the advertisement of a finance charge, which is "the cost of consumer credit as a dollar amount." 205 A finance charge "includes any charge payable directly or indirectly by the consumer and imposed directly or indirectly by the creditor as an incident to or a condition of the extension of credit." 206 No matter which fee-schedule format a payday lender uses, the posted fees represent "finance charges" because they are the cost of the payday loans stated in dollar amounts. All but three of the payday lenders studied failed to post the APRs along with their finance charges, thus violating TILA. 207 One obvious reason why most of the payday lenders did not post the APR is that they do not want the consumer to realize the true cost of the loan. Disclosing the cost of credit as $ 15.00 does not appear to be a costly deal in comparison to an APR of 391% for a $ 100 loan. Fear of losing business, however, is not an excuse for failing to comply with the advertising requirements of TILA.

iii. Lenders Refuse to Provide Disclosures Prior to Contracting

Besides making truthful advertisements, payday lenders have a duty to make TILA disclosures available in writing to the consumer prior to actual contract consummation. 208 As [*43] previously established, creditors must disclose to consumers the cost of credit as a dollar amount - the finance charge - and as an APR. 209 The timing of these disclosures is critically important if the purposes of TILA are to be fulfilled. TILA's section 226.17(a) of Regulation Z provides that "the creditor shall make the disclosures required by this subpart clearly and conspicuously in writing, in a form that the consumer may keep." 210 Section 226.17(b) subsequently provides that "the creditor shall make disclosures before the consummation of the transaction." 211

In Polk v. Crown Auto, Inc., the United States Court of Appeals for the Fourth Circuit agreed with the plaintiff-consumer that the defendant-car dealer violated the timing disclosure requirements of TILA when it did not give the disclosures in a form that the plaintiff could keep until a few minutes after he had signed a contract purchasing a truck. 212 Prior to consummating the purchase transaction, the car dealer explained the credit terms to the consumer but did not disclose the terms in written form until after both parties had signed the contract and the consumer was given a copy of it. 213 The defendant wanted the court to adopt an interpretation that the creditor had complied with TILA so long as it had, before consummation, made the disclosures in some form, including orally, and had later given the consumer a copy of the disclosures in writing. 214 The court disagreed based on a plain meaning and legislative intent interpretation:



On balance, we believe that the plain meaning of the regulation must be understood to be that written disclosure in the form specified in subpart (a) must be provided to the consumer at the time specified in subpart (b). That is, Crown Auto was required to make the disclosures to Polk in writing, in a form that he could keep, before consummation of the transaction.



Not only are we satisfied that this is the plain meaning of the provision, but this interpretation comports with Congress' intent to require "meaningful disclosure of credit terms so that the consumer will be able to compare more readily the various credit terms [*44] available to him." 215

The Polk decision has been hotly debated. Some believe it was incorrectly decided. 216 Despite protest, the Federal Reserve Board has declined to modify or overrule section 226.17 of Regulation Z. 217 Moreover, Polk has been followed by several courts. 218

The Ohio Survey reveals an industry-wide practice of refusing to provide consumers with a written copy of the required disclosures prior to contract consummation. Admittedly, every payday lender disclosed the APR in the written contract. 219 But when the research assistants asked the loan clerks to allow them to take the contracts and review them prior to signing, 77% (seventeen of twenty-two) of the payday loan clerks surveyed would not allow the consumer to take the contract. 220 Some clerks even held onto the corner of the written contract while the research assistants were reviewing it prior to signing. Such an act would be insufficient for TILA purposes because "courts that have considered the [*45] issue have uniformly concluded that merely showing the consumer the disclosures in a contract before he or she signs the contract is insufficient; the consumer must be given a copy of the disclosures before signing the contract." 221 Additionally, TILA does not require the consumer to request the written disclosures before execution; the creditor bears the burden of providing the disclosures prior to contract consummation. 222 TILA "reflects a transition in congressional policy from a philosophy of "Let the buyer beware' to one of "Let the seller disclose.'" 223 Consequently, the Ohio payday lenders' practice of contemporaneously providing written disclosures at the time of contract consummation violates TILA. 224

iv. Lenders Violate Their Own "Best Practice" of Complying with TILA

The Ohio Survey uncovered three TILA violations: failure to provide the APR in response to oral inquiries about the cost of the loan, 225 failure to provide the APR in payday loan advertisements, 226 and failure to provide the consumer with written disclosures prior to contract consummation. 227 Despite the lack of an economic incentive for TILA compliance, payday lenders purport a commitment to complying with the law and affording consumers some level of protection. In a strategic move to combat further regulation, the Community Financial Services Association of America (CFSA), the newly-formed trade association for the industry, 228 announced in 2000 a list of ten best practices that its members should follow. 229 Shortly [*46] thereafter, the list was amended and an eleventh best practice was added to "reflect CFSA's responsiveness to the emerging concerns of policy makers as well as our commitment to providing substantive consumer protections and ensuring the long-term success of the industry." 230

Specifically, the CFSA professes a commitment to "comply with the disclosure requirements of the State in which the payday advance office is located and with Federal disclosure requirements including the Federal Truth in Lending Act." 231 When asked to state the APR for a $ 100 loan in the Ohio Survey, however, 68% of the payday lenders violated TILA by failing to disclose the APR. 232 Yet, a consumer in desperate need of a payday loan is not likely to ask for the APR of the loan. Moreover, a consumer who later complains about the lack of disclosure will have great difficulty proving at trial the content of any oral recitation by the lender of a different APR. 233 Consequently, payday lenders lack any incentive to comply with TILA's requirement for a response to oral APR inquiries or to comply with the best practice of full disclosure.

In addition to lacking an incentive to comply with TILA's disclosure requirements for oral inquiries, a majority of payday lenders have no incentive to comply with TILA's advertising requirements. When it first announced its best practices list, the industry pledged to comply with TILA as a guide for truthful advertising. 234 Only 16% (three out of nineteen) of the lenders surveyed, however, posted fee schedules stating the [*47] APR for each loan amount. The most obvious reason for this noncompliance is that the lenders do not want the consumer to realize the amount of the finance charges. Continued noncompliance with TILA's advertising requirements remains likely because payday lenders fear losing business if their advertisements disclose the APR. Further, no private right of action exists for a creditor's violation of TILA's advertising requirements 235 and the FTC does not have the resources to pursue the numerous violators. 236 Thus, no economic incentives exist to spur payday lenders to advertise truthfully.

As with TILA's advertising requirements, current laws fail to motivate payday lenders to comply with TILA's timing-of-disclosure requirements. As discussed earlier, a majority (77%) of the Ohio lenders surveyed refused to provide the customer with a copy of the contract containing TILA disclosures prior to contract-consummation. 237 This widespread practice is consis-tent with a larger industry pattern of keeping the consumers uninformed about the true cost of payday loans. 238 Consequently, consumers cannot obtain full disclosure about [*48] the cost of credit until the contract is consummated. Consumers brave enough to sue lenders for TILA violations face difficulty obtaining lawyers and receiving a compensatory award because of a growing trend among payday lenders of including contract provisions mandating that all claims against the lenders be arbitrated and, in some instances, preventing the consumer from filing class action suits. 239 Nine of the twenty-two payday lender contracts obtained in the Ohio Survey contained arbitration clauses. 240 Of those nine [*49] contracts, five included clauses waiving the consumer's ability to file class actions, three included clauses shifting the arbitration fees to the consumer in the event the lender prevails, three contained clauses allowing the arbitrator to decide who should bear the costs of arbitration, and four granted the arbitrator authority to award attorney's fees to the prevailing party. 241 Given the payday lenders' pattern of noncompliance with several TILA requirements and their inclusion of the arbitration clauses, 242 payday lenders lack an economic incentive to adhere to TILA's timing-of-disclosure requirements.

b. Lender Deception: The Customer's Purported Right to Rescind at No Cost

The Ohio payday lenders add to their predatory image by falsely representing that consumers have the option to rescind payday loans. CFSA members claim that they will follow the best practice of allowing a customer to rescind a payday loan at no cost if rescission is sought by the close of the business day following the initial transaction. 243 Many payday lenders display posters at their outlets that indicate they are members of the CFSA and list all of the best practices, including the practice of permitting cost-free rescissions. 244 The Ohio Survey tested compliance with this best practice and discovered only 50% of the CFSA members authorized a cost-free rescission when the customer requested one. 245

[*50] Falsely representing that consumers can make cost-free rescissions constitutes a deceptive act in violation of federal and state laws aimed at preventing deceptive acts. Section 5 of the Federal Trade Commission Act (FTC Act) authorizes the FTC to regulate conduct which prohibits "unfair or deceptive acts or practices in or affecting commerce." 246 Under the FTC Act, "commerce" means a company's course of business, 247 and therefore would include payday loan businesses. 248

The FTC possesses "considerable latitude" in determining what constitutes an unfair or deceptive act. 249 The FTC's 1983 Policy Statement on Deception defines a deceptive practice as "a representation, omission or practice that is likely to mislead the consumer acting reasonably in the circumstances, to the consumer's detriment." 250 Representing that cost-free [*51] rescissions can be made likely misleads reasonable consumers to their detriment because they might erroneously believe they can back out of a payday loan if they later decide it was not the right solution for dealing with their financial crisis and because the consumers who are not permitted to rescind will be unable to recover the fee.

In the FTC's first action against payday lenders, 251 Consumer Money Markets, Inc., Continental Direct Services, Inc., and several other connected entities falsely represented that consumers would receive a credit line, including cash advance privileges, of thousands of dollars if they paid a membership fee ranging from $ 149 to $ 169. 252 After paying the fees, consumers discovered that they could only use the credit line to buy items from Consumer Money's catalog or to obtain payday loans at interest rates of up to 360%. 253 The FTC alleged that this scheme amounted to deceptive acts or practices in violation of section 5(a) of the FTC Act. 254 Although this case settled, the allegations suggest that, like Consumer Money, half of the payday lenders in the Ohio Survey engage in deceptive acts by falsely representing that they allow consumers to make cost-free rescissions of payday loans. 255

[*52] Payday lenders might maintain that a mere failure to perform a contractual promise gives rise only to a breach-of-contract claim, not a deceptive act claim under state or federal law. 256 If the actor had no intention of performing when the promise was made, however, that failure to perform is a deceptive act, 257 and intent not to perform may be inferred from the circumstances, including the actor's subsequent conduct. 258 In Mapp v. Toyota World, the plaintiff alleged that the defendant committed an unfair and deceptive act under Georgia law when the defendant led her to believe that she could rescind an agreement to purchase an automobile. 259 In ruling on the sufficiency of the evidence supporting a jury verdict in favor of the plaintiff, the court stated that "the jury could reasonably find that defendant induced plaintiff to purchase the Ford Escort by promising her that she could [*53] return the car if she was not satisfied with it and that defendant had no intention of allowing plaintiff to return the car when this promise was made." 260 The court found that the plaintiff showed more than a breach of promise but "a fraudulent scheme, i.e., a contract induced by the defendant's promise to allow rescission of the contract by plaintiff, which promise defendant never intended to keep." 261

Similarly, the court in Orkin Exterminating Co. v. FTC, held that a creditor's practice of breaching form contracts constitutes an unfair trade practice under the FTC Act. 262 In that case, Orkin, an exterminator, entered into "lifetime" contracts with over 200,000 customers to provide them extermination services at annual fixed rates. 263 Over the years, however, Orkin decided that these fixed-rate contracts jeopardized its profitability and unilaterally raised the rates. 264 In upholding the FTC's decision that Orkin committed an unfair trade practice, the court rejected Orkin's argument that Orkin merely breached a contract provision and held that Orkin's practice represented a breach of over 200,000 contracts. 265 The court found that whether or not Orkin intended to deceive its customers was irrelevant because a practice in violation of the FTC Act "may be unfair without being deceptive." 266

Like Orkin, many of the lenders in the Ohio Survey represent that consumers have the right to rescind the payday loan deal but refuse to allow them to do so. 267 This is an unfair practice in violation of the FTC Act, and a deceptive practice if, in reality, payday lenders have no intention of allowing rescissions. Therefore, such a representation should constitute an unfair or deceptive act under federal and state law.

Currently, payday lenders have no incentive to refrain from falsely representing the ability of customers to rescind. Until the Ohio Survey, no one knew about the large percentage [*54] of noncompliance with the best practice of allowing cost-free rescissions. 268 Moreover, except for Colorado and North Dakota, no state or federal law requires payday lenders to permit cost-free rescissions. 269 Consequently, except in those states, payday lenders are not breaking any express law when denying rescissions. While CFSA members are ostensibly committed to following the best practice of permitting cost-free rescissions, no economic incentive exists for payday lenders to follow this practice because permitting rescissions limits the payday lenders' ability to generate significant revenue from consumers who get caught in the cycle of indebtedness.

Given that half of the CFSA members in the Ohio Survey did not allow cost-free rescissions and given that they failed to comply with other laws previously discussed, 270 the industry's best practice commitment may just be a smoke screen designed to convince legislators that the industry does not need additional regulation. Like the Ohio Survey, other surveys of the industry show that payday lenders do not disclose the cost of credit. 271 Accordingly, the refusal to make required [*55] disclosures reflects a nationwide practice. While payday loan customers may be able to effectively challenge these pre-contract payday lending practices under a plethora of state and federal consumer protection laws, many states' laws fail to adequately protect consumers from post-consummation practices that can be characterized as nothing less than unconscionable.

B. Egregious Practices Post-Consummation

This section differs from the previous one in that it analyzes payday lending practices occurring post-consummation. These practices may result in the greatest harm to the consumer. At contract formation, a predatory payday lender takes the first bite at the customer's wallet. After contract consummation, however, the lender may devour the customer's money through the use of rollovers (the collection of fees to extend the loan's due date), and through the use of unfair collection practices (including the collection of treble damages).

1. The Debt Treadmill: Rollovers

Recognizing that some consumers become payday loan customers even though they should not, members of the CFSA purport to adopt the best practices of limiting rollovers and encouraging consumer responsibility so that consumers will use payday loans only as a solution to a short-term financial crisis. 272 In states that expressly prohibit rollovers, industry members purport to disallow rollovers; in the remaining states, members purport to limit rollovers to the lesser of four or the state law limitation. 273 A casual observer may think the payday loan industry should be commended for recognizing that payday loans are not right for consumers in the throes of long-term debt problems. But consider again the case of Leticia Ortega who obtained a $ 300 loan from National Money [*56] Service. 274 Assuming National Money Service is a CFSA member, it should have informed Ms. Ortega that the payday loan should only be used to cover a short-term financial crisis and should have limited her to only four rollovers. Rather than taking $ 90 from her bank account every two weeks for almost year, National Money Service should have extracted from Ms. Ortega $ 450 (the initial $ 90 loan fee plus $ 360 in rollover fees), not $ 1800.

This section scrutinizes the rollover practice and demonstrates how payday lenders earn generous revenues even when being "kind" enough to limit rollovers. 275 It also explains why payday lenders have no real incentive to foster consumer responsibility or limit rollovers in the absence of state law. First, state laws currently fail to address all the various forms rollovers may take. Second, repeat business constitutes a major component of the industry's revenue. Consequently, states limiting or prohibiting rollovers should amend their statutes to encompass the various rollover manifestations and thereby hold the industry to its purported commitment of encouraging consumer responsibility and limiting rollovers.

a. Rollovers Defined

Many, if not most, payday loan customers lack sufficient funds to pay off the entire indebtedness by the loan's due date and therefore have to roll over the loan. 276 A "rollover" normally means a customer's payment of a fee to extend the payday loan's due date for another two weeks. 277 Ms. Ortega's experience represents a straightforward rollover. As explained later, rollovers should be defined more broadly to encompass not only the straightforward practice of paying a renewal fee [*57] but also the practice of refinancing a loan by taking out a "new loan" from the same payday lender to pay off the "old loan" with the proceeds from the new. 278 An example of a refinancing loan is when a customer who took out a $ 115 loan two weeks ago gives the lender a new postdated check either for $ 130 (the original $ 115 loan plus a $ 15 fee) or for $ 100 (if the fee must be paid in cash). 279 The definition of rollover should also include borrowing from Peter and paying off Paul, 280 - that is, taking out a new loan from a different/second lender to pay off an outstanding loan previously obtained from the first lender.

b. Many Customers Roll Over Payday Loans

No matter what form a rollover takes, the results are the same: The customer steps onto the payday loan debt treadmill by making a stream of interest-only payments without reducing the principal and without obtaining additional cash. 281 Evidence of the debt treadmill may be found in studies conducted by state regulators and industry analysts. In a 1999 study, the Illinois Department of Financial Institutions found that the one-time payday loan customer represented the exception and found customers held an average of thirteen contracts. 282 Illinois also found that the average payday loan customer remains a customer for at least six months and pays an average APR of 533%. 283

Illinois's findings about rollovers were similar to findings made by regulators and industry analysts in other states. In 1999, the Indiana Department of Financial Institutions reviewed 54,508 payday loans and found that 77% of existing [*58] loans were rollovers with the average customer rolling over ten times. 284 The average loan amount was $ 165 and the average APR was 499%. 285 In a 2000 survey, the Iowa Division of Banking found an average of 12.5 loans per year per customer, an average loan of $ 239.23, and an average APR of 342.10%. 286 Forty-eight percent of the customers held at least twelve loans in the preceding twelve months, and 11.5% held more than twenty-five. 287 The Colorado Public Research Interest Group found that the average APR on a loan in that state was 451.7%, 288 and Colorado regulators reported that payday loans were refinanced "as many as thirteen or more" times. 289 In 1999, the North Carolina Office of the Commissioner of Banks' payday lending report indicated that 38.29% of customers studied transacted business with the same payday lender nine or more times and 14.06% did so nineteen or more times. 290 Although criticized for underestimating the number of rollers, the Wisconsin Department of Financial Institutions analyzed 3678 loans and found in its 2001 survey that the average loan and APR were $ 246 and 542%, respectively, and that 63% of the loans were rolled over once or twice and 38% were rolled over "more than three times in a row." 291 One borrower in the [*59] Wisconsin survey rolled over a payday loan thirty times in one year. 292 The foregoing data strongly suggests that, although the frequency of rollovers may vary, the majority of payday loan customers roll over payday loans. Consequently, despite the industry's representations, payday loans are not a quick fix to a problem that can be cured in two weeks - the initial term of the payday loan.

Besides the data on the frequency of rollovers, insight into the debt treadmill may be gleaned from several sources. First, the payday loan business model leads to the treadmill because it requires two-week terms (even though most payday loan statutes authorize one-month terms), 293 it prohibits partial payments (so that the loans are nonamortizing), and it requires payment of rollover fees to prevent a default. Moreover, recall the discussion showing that the average payday loan customer earns only low-to-moderate income and, therefore, does not have sufficient disposable income to service debt. 294 Further insight into the dynamics-of-debt treadmill exists in an ability-to-repay chart prepared by Senator Joseph Lieberman's staff for a 1999 payday lending forum. 295 The chart computes the amount of income remaining after paying necessary expenses and uses a two-week payroll period because it is the average term for a payday loan. 296 Assuming a payday loan customer earns $ 1138 297 every two weeks and owns an outstanding $ 168 loan, she will have a deficit of $ 34 if she pays back the loan in full on time. 298 The loan amount derives from data available at [*60] the time of the forum about the average payday loan amount. 299 If she instead earns $ 847, 300 a more realistic amount, 301 she will have a deficit of $ 196 if she pays back the loan in full on time. 302 Observe that, regardless of income, the consumer cannot repay the loan in full, as required by the contract, and must roll over or go without essentials in order to pay the loan by its original due date. When one takes into account the repayment ability chart, the payday loan business model, the average income data, and the rollover frequency data, one may reasonably conclude that the majority of customers will have to roll over their payday loans.

Note that the rollover data only identify rollovers by customers using the same lender and do not show those that use multiple payday lenders - "the "borrow from Peter to pay Paul' phenomenon." 303 While the Ohio Survey could not accurately test the extent to which consumers roll over payday loans using multiple payday lenders, other surveys indicate that it happens frequently. 304 Of the four research assistants involved in the contract consummation stage of the Ohio Survey, all obtained at least two loans in less than two [*61] hours. 305 Because the majority (twenty out of twenty-two) of the payday lenders used the services of Tele-Track, a credit reporting agency for sub-prime borrowers, 306 the lenders knew when a research assistant had at least one outstanding loan. The use of Tele-Track was a surprising discovery because payday lenders usually advertise that they do not perform credit checks. 307 In the study, after receiving a loan application and proper documentation, the payday lenders that subscribed to Tele-Track contacted Tele-Track by telephone and, based on the information received, either granted or denied the payday loan. 308 The information that Tele-Track provides to payday [*62] lenders meets the Fair Credit Reporting Act's definition of a "consumer report" because it aids a payday lender in deciding whether to extend credit to a consumer for personal use. 309 Further, Tele-Track's self-description leaves little doubt that it is a consumer-reporting agency. 310 One lender told a research assistant that it used Tele-Track to determine if a customer had any existing loans with that particular lender and to make sure the customer had not defaulted on any previous payday loans with any lender. 311

[*63] One research assistant obtained a total of nine loans in three days. 312 Most of the subsequent lenders asked why the researcher needed another loan so soon after the previous one. 313 In response, the research assistant gave various answers such as "The loan I got yesterday wasn't large enough," "My paycheck wasn't big enough," and "I lost money gambling last night." 314 Even though Tele-Track informed these lenders about existing payday loans, most granted the loans. 315 With statements such as "It's none of my business," some loan clerks ignored signs that a research assistant could be a consumer in grave financial trouble. 316 As discussed later in Part II.B.1.e., ignoring these warning signs violates the industry's purported commitment to encouraging consumer responsibility. After the ninth loan, the research assistant went to a tenth lender, but this lender refused to lend him money. 317 The lender told the research assistant that he had been "red-flagged" because of his excessive loan activity. 318 Only two weeks later, the same research assistant obtained two more loans from different lenders. 319 Based on these survey results, it is clear that a customer can obtain more than one payday loan from different lenders and that almost all lenders possess knowledge of the customer's loan activity. Therefore, lawmakers should expand the definition of rollovers to prevent [*64] consumers from staying on the treadmill of indebtedness by using multiple lenders to obtain loans.

c. Current State Law Fails to Address the Rollover Phenomenon

The majority of states that legalize payday lending keep consumers off the payday loan treadmill by prohibiting or limiting rollovers through the same lenders or other lenders. 320 Kentucky bans payday lenders from charging a fee to "renew, roll over, or otherwise consolidate" payday loans. 321 Additionally, Kentucky imposes a duty on payday lenders to question potential customers about any outstanding payday loans and to deny a loan to anyone having an outstanding loan with another lender. 322 Although Kentucky prohibits rollovers, it does allow lenders to issue second loans to their own customers as long as the combination of the loans does not exceed $ 500. 323 Florida law goes one step further and requires payday lenders to verify the existence or nonexistence of a payday loan by accessing the database managed by Florida's Department of Banking and Finance, which shows all outstanding payday loans. 324 Some states prohibit rollovers but do not impose on lenders a duty to inquire so as to prevent [*65] consumers from obtaining multiple loans with different lenders. 325 In these states, a lender can issue consumers up to two loans so long as they do not exceed the state's aggregate loan amount. 326

Instead of banning rollovers, the remaining states limit rollovers, require a warning in the payday loan contract informing the consumer that rollovers will raise the cost of the original loan, or both. 327 For example, in Colorado, payday lenders must include the following statement as a part of a warning in all contracts: "RENEWING THE DEFERRED DEPOSIT LOAN RATHER THAN PAYING THE DEBT IN FULL WILL REQUIRE ADDITIONAL FINANCE CHARGES." 328 In addition, a lender may allow customers to roll over a loan only one time and charge customers a rollover fee equal to the original loan fee. 329 Colorado only permits "refinancing" if the lender's finance charge is lower than the original loan fee. 330

Most state statutes prohibiting or limiting rollovers, however, fail to take into account the determination of payday lenders to circumvent the law and the capabilities of current [*66] technology to aid them in this endeavor. For instance, in Iowa and other states that prohibit rollovers but allow a customer to have two loans with the same lender, 331 lenders could claim technical compliance with the state law prohibition against rollovers while allowing consumers to continually roll an existing loan into a new loan as long as the lender does not exceed the maximum loan amount. 332 This possible end-run around the rollover prohibition prompted the Iowa Division of Banking to issue an interpretive bulletin informing lenders that the prohibition on rollovers means that they cannot issue a new loan to a consumer until at least one day after payment of the previous loan. 333 Given that the Iowa Division of Banking found, in its December 2000 report on payday lenders, that the average customer had 12.5 loans per year, the effectiveness of the bulletin is questionable. 334 Unlike Iowa, other states have not even tried to clarify the interrelationship between statutes that prohibit rollovers and statutes that allow multiple outstanding loans. Therefore, payday lenders in these states may practice rollovers even where it is technically illegal.

In addition to leaving legal loopholes for payday lenders to exploit, some state statutes do not adequately define the prohibited conduct. In a complaint filed recently against ACE Cash Express (ACE), 335 Colorado Attorney General Ken Salazar alleged numerous violations of Colorado's payday lending [*67] law. 336 Colorado accuses ACE of violating section 5-3.1-108(1), which provides that "[a] deferred deposit loan" 337 "shall not be renewed more than once." 338 The payday loan statute does not define the term "renewed," and the attorney general's complaint does not describe factually how ACE's renewals take place. 339 One Colorado resident, Cathee Jones, did not technically "renew" a $ 300 loan that she obtained from Colorado Pay Day Loans Inc., but she wound up "paying back the loan and immediately taking out a new loan for the same amount - eight times." 340 Consequently, ACE could argue that whatever it is doing, it is not bound by Colorado's prohibition against renewals. 341

Compare Colorado to Ohio. In Ohio, a licensed check-cashing business cannot "make a loan to a borrower if there exists an outstanding loan between the check-cashing business and that borrower and if the outstanding loan was made pursuant to" Ohio's check-cashing loan law. 342 The legislative history states that the "bill prohibits the "rolling' of loans, also referred to as "flipping' when a loan operator issues a loan to [*68] retire a previous loan made by the same operator to circumvent the maximum time limit." 343 The statute, however, does not address rolling that takes the form of paying a renewal fee to extend the life of the loan. 344 Also, Ohio and Colorado are evidently seeking to prevent rollovers, but their statutes describe the prohibited conduct differently. 345 A clever payday lender can arrange the transaction in such a way as to technically fall outside the definition of the applicable statute. For example, one payday lender in the Ohio Survey stated that if the customer could not repay a $ 50 loan by its original due date, the customer could pay a fee of $ 2.50 every two days to keep from defaulting on the loan. This clearly constitutes a renewal fee but Ohio's statute does not expressly prohibit this practice. 346 Nevertheless, the lender may have violated Ohio's check-cashing loan law which limits "interest at a rate of five per cent per month" 347 and which states that the lender may not "collect, or receive, directly or indirectly, any additional fees or charges in connection with a loan, other than fees and charges permitted." 348 Because the legislative history expresses a legislative intent to prohibit "rolling," 349 the statute should be amended to expressly prohibit rollovers, which take the form of paying a renewal fee to extend the loan's due date. Assuming that a lender's renewal fees violate Ohio's check-cashing loan law, state lawmakers need to amend the statutes to limit or prohibit rollovers to reach rollovers involving multiple payday lenders.

Any proper review of state statutes should ask whether lawmakers in states like Ohio should amend their statutes that regulate rollovers to prevent a consumer from using multiple lenders to keep a loan afloat. Support for such a statutory [*69] expansion may be found in a state's legislative history. In Ohio, the legislature expressed an intent to prohibit rollovers. 350 Implicit in this express intent is the legislature's recognition that consumers need to be protected from perpetual indebtedness to payday loan companies. The payday loan industry's best practices list provides another basis for regulating rollovers using multiple lenders. 351 The industry claims to recognize the need to curb perpetual indebtedness in its best practices list, its response to the concerns of lawmakers and its "commitment to providing substantive consumer protections and ensuring the long-term success of the industry." 352 Payday lenders should therefore be required to comply with a well drafted law that limits or prohibits rollovers.

d. Rollover Business: Payday Lenders Are Blinded by Dollar Signs

While the industry claims it is committed to limiting rollovers and informing consumers of the occasional use of payday loans for a short-term financial crisis, data show that repeat transactions generate a majority of a payday lender's revenue. Data from North Carolina show that during 1999, 22.39% of the roughly 420,000 payday loan customers used a single company only once or twice while 42.41% of the customers transacted with the same payday lender nine or more times and 14.06% did so nineteen or more times. 353 These 420,000 customers generated 2,910,366 payday loan transactions for only 142 lenders. 354 Using this North Carolina data, one financial analyst demonstrated that high-frequency customers generate a disproportionate amount of payday lending revenue. 355 Customers who used payday loan [*70] transactions eighteen or more times comprised only 16% of the 420,000 customers but generated 36% of the payday lending revenue in North Carolina. 356 In contrast, 13% of the 420,000 customers who used the transaction only one time generated less than 2% of the revenue. 357 Clearly, one-time users contribute little to the profitability of the North Carolina payday loan industry.

The same results probably hold true for the industry at large, particularly since two very large payday loan companies, Dollar Financial and ACE, withdrew their memberships from the CFSA because they did not want to comply with the best practice standard for rollovers. 358 A few months after Dollar and ACE withdrew their memberships, Eagle National Bank in partnership with Dollar Financial and Goleta National Bank in partnership with ACE announced that they will both require their payday lenders to limit customers to three rollovers. 359 Critics of the industry assert, however, that payday lenders may easily circumvent this self-policing measure by "labeling rollovers as "new' loans." 360

The industry alleges that the risk of default is high and therefore justifies its exorbitant fees, 361 but because the rollover [*71] practice is part of its business model, the risk of losing capital decreases over time. The payday loan business model requires two-week terms even though most payday loan statutes authorize one-month terms. 362 It also prohibits partial payments so that the loans are nonamortizing and requires rollovers so that the customer can keep from totally defaulting on the loan. 363 Again, consider how this business model works in the example of Leticia Ortega and the thousands like her. 364 She still owed National Money Service $ 300 even though she had paid $ 1800 in rollover fees, which were deducted from her bank account every two weeks by National Money Service. Ms. Ortega's case shows how the lender's risk of losing capital actually decreases, and how the lender is paid substantially more than the principal borrowed. 365 For many lenders, the business model includes a fourth component of threatening and pursuing criminal prosecution, which dramatically increases the lender's ability to collect rollover fees. 366 As discussed in Part II.B.2.d., because many payday lenders threaten customers with criminal prosecution for writing bad checks and because it is commonly known that writing a bad check is a crime, payday lenders have a powerful tool to successfully intimidate defaulting customers into paying rollover fees. Consequently, through these two practices, lenders greatly decrease the risk of losing capital. Finally, the risk of losing capital cannot be that great when one recognizes that lenders [*72] like Check "n Go are advertising that if a national bank partners with it, the bank may receive a 20% return on equity. 367 Based on the foregoing, one has to doubt the industry's pledge to limit rollovers.

e. Consumer Responsibility

Related to the discussion of rollover practices is the concept of consumer responsibility. On the one hand, prohibiting rollovers constitutes paternalism and consumers should bear the responsibility for determining how much debt they are willing to accept and how they plan to repay it. On the other hand, the horror stories of huge debts justify such a prohibition and payday lenders should bear some responsibility given that they make no assessment of a consumer's ability to repay, 368 and given that the average payday loan customer lacks access to traditional forms of credit. 369 Without accepting responsibility for a consumer's actions, the industry pledged to limit rollovers and announced its commitment to encouraging consumer responsibility. 370 To achieve the best practice of encouraging consumer responsibility, the CFSA proposed that its members implement policies and procedures that inform consumers of the intended use of payday loans as a short-term cash-flow solution, not as a tool for managing long-term financial problems. 371

As revealed by the Ohio Survey, however, the industry practice belies its commitment to inform consumers that payday loans are intended only as a short-term solution. First, payday lenders advertise that consumers can obtain, in minutes, payday loans or credit checks without hassles and without being asked why the loans are needed. 372 Plus, the [*73] loan applications obtained in the Ohio Survey only requested information about income, not expenses. 373 Therefore, the lender does not typically know the consumer's debt-to-income ratio and cannot assess the customer's ability to repay. Through these practices, payday lenders embrace a willful ignorance of relevant information and, consequently, will not know whether a consumer inappropriately seeks a payday loan as a temporary fix for a long-term financial problem. These practices can hardly be considered the "best practice" of informing the consumer to use the payday loan as a solution for a short-term problem.

Second, the Ohio Survey revealed that several payday lenders offered reward programs for repeat customers. For example, after issuing a payday loan, Kentucky Check Exchange gave one research assistant a coupon entitling him to $ 5 off his next payday loan. 374 Another payday lender stated that it awards a free music compact disc after the customer obtains the fifth payday loan. 375 ACE, America's largest check-casher issuing payday loans, handed one surveyor a sheet entitled "ACE PLUS BONUS POINTS." 376 Under this reward [*74] program, a customer receives "2 BONUS POINTS FOR EACH DOLLAR BORROWED" and 1000 bonus points when a payday loan is repaid on time. 377 A customer may receive a reward at four different levels. 378 Upon obtaining 20,000 points, which is the highest reward level, the customer is entitled to a ten-minute prepaid telephone card and "$ 10 CASH NOW!" 379 Clearly, this program rewards the habitual payday loan customer. The program does reward timely repayment, but the consumer may borrow from another lender to pay off ACE. 380

Third, the practice of up-selling also demonstrates that payday lenders do not adhere to the best practice of fostering consumer responsibility. In order to preserve limited research funds, the Ohio Survey restricted research assistants to borrowing only $ 50, yet two payday loan companies made the research assistants take out $ 100 loans. 381 Perhaps these lenders wanted to assure themselves of making at least a $ 15 revenue on each payday loan transaction. 382 At many of the payday loan outlets, the clerk tried to persuade the research assistants to take out the maximum loan amount for which they were approved. 383 While it is a normal business tactic, up-selling belies the industry's purported commitment to the best practice of encouraging consumer responsibility. 384 This is [*75] particularly true given the industry's business practices of refusing to ask the customer for the purpose of the loan, getting only partial information about the customer's ability to repay, and establishing reward programs for repeat customers. 385

Finally, the use of Tele-Track demonstrates that payday lenders are not committed to encouraging consumer responsibility. As explained previously, the majority (twenty out of twenty-two) of the payday lenders used the services of Tele-Track and, therefore, knew when a research assistant had at least one outstanding loan. 386 Each of the four research assistants, however, obtained at least two loans in less than two hours. 387 Even though Tele-Track informed these lenders about existing payday loans, most granted the loans. 388 When these lenders granted loans even though they knew about pre-existing loans, these lenders were turning a blind eye to a consumer with potentially major financial problems, 389 and evincing their intention not to follow the best practice of implementing "procedures to inform consumers of the intended use of the payday advance service." 390 Not once did a payday loan clerk advise a research assistant to seek credit counseling services even though "informing customers of the availability of credit counseling services" represents a best practice procedure [*76] that the CFSA endorses. 391

In summary, in light of the Ohio Survey's results, the business model of payday lenders, the data about multiple rollovers, and the vulnerability of payday loan customers, lawmakers should actualize the industry's ostensible commitment to encouraging consumer responsibility and limiting rollovers. A number of states recognize that consumers who use payday loan services need to be protected from perpetual indebtedness and have passed statutes limiting or prohibiting rollovers. 392 Nevertheless, most statutes do not define rollovers broadly enough to cover the various forms they take or to cover the use of rollovers with different lenders. 393 Accordingly, lawmakers need to broadly define rollovers and either limit or prohibit them. To regulate rollovers using multiple lenders, lawmakers should look to Kentucky or Florida for guidance. Kentucky law requires payday lenders to inquire about outstanding payday loans and to deny loans to those with outstanding debt. 394 Florida law requires payday lenders to access a state-managed database and verify that [*77] customers do not have outstanding debt before issuing the payday loans. 395

2. Inappropriate Collection Practices

While the payday loan industry's rollover practices alone merit legislative attention, its collection practices, in some respects, require more attention because they subject payday loan customers to horrific collection practices not imposed on consumers who default on traditional forms of credit. 396 Under the best practices list adopted by the CFSA, members pledge to follow appropriate collection practices. 397 Using the Fair Debt Collection Practices Act as a guideline, members pledge to be fair, lawful, and professional in debt collecting and to avoid using unlawful threats, harassment, or intimidation. 398 Members also pledge to follow the best practice of not threatening or seeking criminal action against customers who fail to repay loans. 399 Yet the Ohio Survey obtained loan applications containing clauses not germane to traditional unsecured loans that appear to have the purpose of providing the lenders with enough information to enable them to harass consumers who have defaulted on loans. 400 For example, one lender required that the consumer waive any privacy claims against the lender, 401 another lender requested that the consumer describe her "sex, hair color, eye color, height, and weight," 402 and another lender asked that the consumer provide the make, model, year, and color of his automobiles. 403

[*78] Complaints of inappropriate collection practices fall into four areas: harassing customers and their employers and relatives with vexing telephone calls; threatening violence against customers unable to repay; collecting excessive damages from customers; and threatening criminal prosecution against those who fail to repay. 404 This section of the Article limits its discussion to collecting excessive damages and threatening criminal prosecution because more data is available about these practices and both result in grave consequences for defaulting payday loan customers. Data discussed in this section raise the specter of predatory collection practices and underscore why federal legislation is needed to curb such practices.

a. Payday Lenders' Collection of Treble Damages

Payday lenders collect excessive damages in lawsuits against defaulting customers. 405 As an example, consider the fate of one Illinois debtor who defaulted on a payday loan of $ 240 ($ 200 loan, $ 40 fee). 406 The payday lender sued seeking a total of $ 1260, which equaled the $ 240 loan, plus $ 720 in treble damages (under the Illinois bad-check law), and $ 300 in attorney's fees. 407 The practice of collecting treble damages exists in several states, 408 and has come under particular scrutiny in the state of Ohio. 409

Under Ohio law, a victim of a bad-check crime may collect $ 200 or treble damages, whichever is greater, in a lawsuit [*79] against the debtor. 410 Prior to a 2000 amendment, payday lenders would take advantage of this law, and defaulting customers found themselves indebted to payday lenders for more than three times the original loans. 411 In a study conducted by the Legal Aid Society of Dayton, investigators discovered 381 lawsuits filed in Dayton Municipal Court by five payday lenders against payday loan debtors, 412 and found that these debtors were liable for judgments averaging $ 749, comprised of treble damages, 10% interest, and court costs. 413 Furthermore, most of the lawsuits ended in default judgments, and in 60% of them, courts issued garnishment orders against the debtors to ensure collection of the judgments by the payday lenders. 414 In a similar study of lawsuits filed in Hamilton County Municipal Court, at least twelve payday lenders filed more than 365 complaints over a four-year period, some of them seeking treble damages. 415 The Cincinnati Post conducted a random sampling of the lawsuits and discovered that courts awarded 65% of the payday lenders an average judgment of $ 930. 416 Moreover, in 46% of the cases won by lenders, courts issued garnishment orders against the debtors. 417

CFSA best practice number seven states that the payday lender will collect debts in a "fair and lawful manner." 418 Although collecting treble damages may technically be legal, the practice of using a victim's compensation statute to collect treble damages is unfair, especially given that payday lenders do not conduct a pre-loan assessment of the debtor's ability to repay, 419 and no alternative means of getting a short-term loan [*80] exist for the majority of payday loan customers. 420 Moreover, payday lenders generate substantial revenue from rollovers. 421 Because payday lenders do not assess a customer's ability to repay, and because they know that the post-dated checks they receive are not good, 422 payday lenders can hardly be classified as crime victims entitled to collect treble damages.

b. One State's Attempt to Prohibit the Collection of Treble Damages

Recognizing that payday lenders were taking advantage of the crime victim's compensation statute, the Ohio legislature amended its payday lending law in 2000 to prevent lenders from using the statute to collect treble damages. 423 The trade association for Ohio payday lenders approved of this amendment, 424 implying that they would encourage their members to comply with the law. However, the Ohio Survey uncovered payday loan documents suggesting that payday lenders may pursue treble damages in cases of default. Checkland's application cites section 2307.61, the Ohio victim's compensation statute, and states, "I understand I may be sued for 3 times the amount of the check or $ 200.00 whichever is greater." 425 Express Payroll Advance's loan contract states that it is a member of the CFSA, cites to the same Ohio statute, and provides, "You may be sued for 3 times the amount or $ 200.00 [*81] whichever is greater, if the check is returned." 426 Another lender, EZ Cash Advance, may be attempting to skirt the new law by stating that the customer could be liable for double damages upon default, even though no Ohio law entitles it to such damages. 427 Its application contains a holding agreement stating that the defaulting customer may have to pay "one hundred dollars or two times the face amount of the check, whichever is more by award of the court." 428 The Ohio Survey could not gauge the extent to which Ohio lenders are claiming the ability to collect treble damages, partly because the majority of the payday lenders refused to provide copies of the loan applications signed by the researchers who obtained loans. 429 Because the Ohio Survey could not test for compliance with Ohio's prohibition on the collection of treble damages, no one knows whether these lenders would seek double or treble damages on defaulted loans, or whether these provisions in the loan documents are simply false representations designed to intimidate consumers into timely loan repayment.

Payday lenders who threaten or represent the ability to collect treble damages under Ohio law breach the industry's commitment to follow appropriate collection practices set forth in Ohio's Fair Debt Collection Practices Act (FDCPA). 430 Ordinarily, payday lenders do their own debt collection work and are therefore not considered "debt collectors" under the FDCPA definition. 431 Nevertheless, the industry purportedly [*82] committed to follow the FDCPA, and by implication, the collection practices it recommends. Under the FDCPA, a debt collector cannot threaten to take action that could not legally be taken, 432 or use false representations or deceptive means in attempting to collect a debt. 433

In Edwards v. McCormick, a recent Ohio case analogous to the issue at hand, the plaintiffs asserted that the defendant made an improper threat in violation of the FDCPA when he mailed a letter claiming a right of foreclosure under state law. 434 The letter provided in relevant part, "This creates a lien on all real property in which either or both of you have an interest, and if foreclosed upon may result in the forced sale of those properties. If you wish to avoid this you must contact this office to arrange payment of this judgement [sic]." 435 The court found that the claimed right was prohibited under state law and highlighted the defendant's admission that he never foreclosed upon the residential property of consumer debtors. 436 Using the "least sophisticated consumer" standard to judge a violation of the FDCPA, 437 the court found that the defendant "violated [the FDCPA] in that he threatened plaintiffs with an action which he had no intention of taking, and indeed which he could not legally take." 438 The court also found that the defendant violated the FDCPA because his letter falsely represented that it had the right to foreclose on the plaintiffs' home. 439

Like the defendant in Edwards v. McCormick, Ohio [*83] lenders, such as Checkland and Express Payroll Advance, 440 violate the FDCPA because they incorrectly represent that they have the right to collect treble damages and that the debtors may be liable for three times the amount of the payday loan. Failure to comply with the FDCPA constitutes a failure to follow the industry's best practices standard and is further evidence that the industry cannot regulate itself and is in need of federal regulation. 441 Many states allow the collection of treble damages for payment of debts arising out of bad-check law violations, 442 but only a few states have passed legislation to prevent payday lenders from taking advantag