As it turns out, Prosper couldn't beat the payday loan companies because the people who need payday loans are atrocious credit risks and they collectively relieved us lenders of hundreds of millions (cough, not a typo) before we wised up about this.
I realize that this is sort of a personal nitpick and that it does nothing to invalidate your central claim, but when you make minimum wage and your car breaks down there's not really any money to manage. The thing about living paycheck to paycheck is that unexpected expenses are insuperable (by definition).
LendingClub is hardly flawless, for example verification of potential borrowers' income as presented to lenders is voluntary for borrowers, but the platform allows lenders to question potential borrowers and pressure them to verify income.
First, ZestCash is charging a substantially lower APR than payday loan shops (280% versus 480%).
Second, ZestCash allows partial repayment. This is critical, as requiring full repayment is a major factor in forcing payday loan customers to rollover their loans, incurring additional fees and leading to additional loans. Partial repayment is far more likely to result in a customer who can actually pay off their loan and is not trapped in a cycle of debt.
Third, ZestCash further increases the chances of repayment by allowing flexibility in both amount and length of the loan.
Fourth, as the Center for Responsible lending points out, most payday loan employees are minimum wage and not trained to help customers in any way. Anyone approved at ZestCash gets a personal representative who will work with the customer 1-on-1 for the life of the loan.
Time will tell whether the ZestCash team is able to generate positive change for the underbanked -- full disclosure, I've worked with Douglas and think he's very sharp -- but I certainly think their story is a lot more balanced than the original article would suggest.
You're cherry picking one of their lowest rates and putting it against the assumption that someone's going to roll a payday loan 7 times. If you actually click through and read the CRL report they're quoting, you'll notice that they're misusing the statistics. ZestCash claims that the CRL reports that 80% of payday loans are rollovers, but when you click on that link, the CRL page you're taken to doesn't give that statistic anywhere. I've only skimmed the full report, but I haven't been able to find where they're getting that number from. I'm left highly dubious of the claim that the average payday loan is rolled over 7 times, though, given that the report does explicitly state that the average number of transactions per borrower who takes out more than one payday loan per year is only 9 (and 20% of people who take out payday loans only take out 1 per year, and aren't counted in that group).
But they also require a minimum of a two month term, and I can't find any indication on the site that they let you pay off the loan early to avoid additional interest accrual.
That's what they claim. Hard to state it as fact just yet. And if the chances of repayment are increasing, shouldn't the APR be going down? The justification for such high rates is supposedly that these are such high-risk loans.
Anyone approved at ZestCash gets a personal representative who will work with the customer 1-on-1 for the life of the loan
A part of what makes me so mad about this site is that they're posturing themselves as a caring, responsible alternative that's going to hold your hand through this process. If you care and are responsible, you're not going to charge such usurious rates. Period.
So you'd prefer that economically viable rates are only offered by people who are irresponsible and/or uncaring.
I fail to see how that would be an improvement.
No. I'm saying that only irresponsible and/or uncaring people offer those rates, that the act of charging those rates demonstrates you to be irresponsible or uncaring.
This is the most damning part, IMO. I can understand the necessity of high fees to cover risk, but when someone has the ability to pay a loan back and you refuse to take their money so that you can get more interest, that's pretty shady.
The only other time I've heard of conditions like that are for some car loans, where they give you a better price on the car and then try to make the money back with a higher-interest loan. Then they want to prevent early payback to ensure their profit margins.
Yeah, and a 5% APR on a 30 year mortgage would look ridiculously large if you quoted it as an MPR (Millenium Percentage Rate).
The only utility of using a standard such as the APR is to compare loans with the same term. Quoting a one week, single payment period loan in terms of an APR leads readers to compare its magnitude with that of other much longer term loans; this is a wholly disingenuous attempt to appeal to emotion over basic mathematical reasoning.
If you look at most "normal" debt markets, debts of quite different terms compare on reasonably similar APR scales: a 1-month piece of corporate paper and a 30-year government bond all fall within a few percentage points APR spread. It's not like nobody's ever thought of the idea of an APR curve before!
You can play with the terms as much as you like. ZestCash is a rip-off compared to any other option.
ZestCash loans are marketed and scheduled for 2 month to 6 month terms, and that APR percentage includes a 30% origination fee that's about double the typically origination fee of most payday loan companies.
In reality they're an awful source of funds if you've got other options, but that's the point, they're for people who can't get a traditional loan, and whom are most likely high-risk.
When your cost of money is 30000 basis points, it just means that you're shifting default risk from the landlord/doctor/drug dealer to a speculator, aka "loanshark". That's why it's not so predatory as it seems. Would you rather people shaft the dentist or some asshole?
For the 'price based' bonds, the APR (or IRR) is a nonsense measure : because it is only considering the best outcome (payback at maturity). Most people don't understand that the high IRRs exist partly because people are bundling the price-effect of the downside case into the single 'yield' number of the best case.
I don't want to defend payday loans really - just point out that Treasury Bonds and (say) Lehman bonds are two very different animals.
I don't know if I'd go so far to say they don't exist, but I do have a lot of sympathy for the borrowers.
I used to think this way until I met a guy who was doing research into opening a payday loan shop. Taking a bit of risk and being blunt, I said to him, "Hey dude, you know, I like finance. I get finance, it's good. I'm not a person who just bashes finance because I'm ignorant... but c'mon, aren't payday loans, like, totally fucking evil?"
He took it in a good spirit and answered. Here's his take:
The first thing he said is that payday loan shops don't charge a huge APR, they charge a flat fee for getting a payday loan, often $20 or $40 on a $500 loan.
That's 5% to 10% of the loan amount, however, if you average that to APR you get a crazy %, something in the low thousands, like 1000% or so.
So I said, "Well, dude, yeah, 1000% is evil. Right?"
He says, and I'll never forget this, "What do you think the default rate is on a payday loan?"
I said, "Well, jeez, I dunno..."
He said, "Okay. It's really high. Many of them don't get paid back. And it's a shitty business to be in, nobody likes selling payday loans. The price of a payday loan is what it is considering the default rate and the unenjoyableness of the business. If someone found a better system or enjoyed it, they could get in with lower rates. Traditionally banks don't want anything to do with it, since it's such a high risk and unpleasant business."
I said, "But... isn't that taking advantage of people?"
I won't forget his second quote either - "People only go get a payday loan when, for whatever reason, they can't get money anywhere else. If payday loan places didn't exist, there'd be no emergency credit for people. Mind you, these are the worst borrowers. These are people with no savings who no one trusts enough to lend them 500 bucks for two weeks. Do people abuse it to go drinking a week early? Yeah, sure, like anything else. People abuse eating fast food, drinking too much, tobacco, all sorts of things. I don't approve of that. But for other people, a payday loan is a lifeline. If you regulate it so you can only charge $5 for a $500 loan, there won't be payday loan shops any more. They won't exist. And that'll be bad for people who desperately need credit and can't get it elsewhere. The people that complain about this aren't doing anything to help people, they're not opening a shop to compete with more fair rates, because they'd go out of business. They just like to talk about how unfair it is, but haven't thought about what to do after they drive all these shops out of business with their regulation."
He explained some valid reasons for people to get a payday loan - car breaks down and they need to replace it, emergency expenses... he said under those conditions, it can make sense to get a payday loan. And with the huge default rates, the payday shops need to charge a large amount to stay in business. Later he went on to say that people really like making money by lending, so if they thought they could beat a CD or bond rate by lending for low amounts at payday shops, they would. The reason it doesn't happen is because of the default rate and how unpleasant the business is. (No prestige, in fact it's anti-prestigious, and not fun working conditions either)
Changed my view on the industry. Still don't like the business, would never go near it personally. But it puts it into context some.
I still would go back to cleaning oil pipes with a toothbrush prior to working for them, though, regardless of how much money they were prepared to throw at me. Like Thomas mentions below, they are a loathsome industry.
I strongly believe there is an opportunity here: just like FICO and credit cards made short-term loans effectively free for much of the middle class or like how competition and technology has brought the price of remittances to Mexico to below the cost of a Big Mac, I think there is some combination of technology and innovative products which should bring the cost of short-term loans down by more than an order of magnitude for the poor. Maybe it resembles a credit union account. Maybe it is something weird, like cell phone companies moving further into the consumer credit space. (It might not be obvious, but cell phone contracts are economically equivalent to an extension of credit, and they're made to work profitably among populations that no sane financial institution would touch.) But we can do this better.
I learned an important lesson from that job: when someone tells you he doesn't want to have you on the books because of "OSHA and the IRS and all that rot", that is a leading indicator you can use for "not someone you want to work for" prior to getting a 20 lb oil pipe thrown at your head close enough to move your hair.
On a more serious note: gangsters used to give free turkeys away to the neighborhoods. Just managing to be of some use to somebody sometime doesn't make one less of a predator.
I don't think that the set of all people who have had or currently have a blue-collar job is particularly relevant to the argument, other than as a backdrop for speculation.
Just asking how many people doesn't disprove anything.
Except isn't the big way that cell phones are expanding into the poorer marketplace is through prepaid cell phones like Boost Mobile?
I'm moderately skeptical that the price of payday loans is far from the cost of making them, though willing to be convinced otherwise, and I agree with you about my likelihood of participating in that industry.
In the case of ZestCash, they offer a minimum 2 month loan term. Their fee on $500 in that period isn't $40, it's $219.12, and I can't find any indication on their site that you can pay it off early to avoid accruing additional interest. It's similar to a credit card that forces you to only make minimal payments.
Edit: I also don't think enough attention is being paid to the two other major points I tried to make in the post, that ZestCash is using some shady tactics to try to convince the unsavvy consumer that they're getting a much better deal than they really are, and that all of the coverage from major blogs was surprisingly positive given such a controversial space, and that none of it mentioned ZestCash's actual rates despite implying that their model represented a significant improvement over payday loans.
The origination fee is 30%, $150. It seems a little high, but if you end up extending the term, it lowers the impact of the interest rate.
What you seem to be missing in your analysis is that payday loans are typically a 14 day term, whereas these can be stretched out to 6 months, which gives people a more reasonable chance of paying it back without having to roll it over and incur new fees. In a typical payday loan scenario, you'd be paying the origination fees every two weeks...
In a typical payday loan scenario, you'd be paying the origination fees every two weeks
Saying that ZestCash is significantly better in this regard assumes that a person taking out multiple payday loans in a given year isn't going to be taking out multiple ZestCash loans in a year. While there are certainly some reasons to guess that might be true, there's simply no way to make that claim for certain. You've already shown that you're better at going through the site than I am: do you see anything saying ZestCash won't let someone take a second loan while they're repaying a first?
I should also point out that my arguments aren't centered around the idea that ZestCash's model is worse than or just as bad as payday loans. You can be better than a payday loan and still be Not Good. And what's actually making me angry is how ZestCash is marketing itself. As another example: on the "A Word From our Founder", Merrill descibes payday loans as bad because "they are very expensive, charging more than 400% interest in some cases." - completely ignoring the fact that ZestCash charges more than 400% interest itself.
The point I'd like to add to the above post, is that this business is going to exist in some shape or form anyway. By allowing pawn shops/payday loans to exist as legal businesses, at least the proprietors operate (generally) within the law, in plain view, and pay taxes.
If you outlawed payday loans or brought in some type of regulations or maximum interest rate, the legitimate businesses would close. The lending would still take place, but instead of colorful shops on street corners, it would be taking place in back alleys. The lending conditions for the customers would get worse, and the penalties for not paying would extend past penalty fees and seized TVs and enter the leg-breaking scenario. It makes no sense at all to try and regulate the profits of payday loans and pawn shops.
I agreed with you up to that point. Regulating them IS the point of allowing them, as long as the laws aren't draconian this will stop the bulk of these types of arrangements happening on the black market.
I said I'm against regulating the profits - in other words, let them set their own charges and interest rates.
At the heart of it, they offer less money to those who need in the most. That's scummy, any way you want to slice it.
Pawn shops work on interest payments. The pawned item is just the security on the loan. They're after the interest payments, not the physical goods. This is doubly so in the world of Walmart, where just about anything can be bought cheaply, new.
The ideal customer for a pawn shop is someone who regularly pawns something, pays 25% interest per month on a regular basis, and comes back and pays the loan and has their item returned to them. It's not unusual for pawn shops to have regular customers who pawn some family heirloom every year to pay for christmas presents or car registrations, then pays the loan back, and does the same thing next year.
The items for sale in a pawn shop are the result of failed loans. The storage area 'out the back' is the arena of the performing loans. If the display stock is larger than the stored stock, it shows the pawn shop is doing badly because they are making bad loans and having to sell a lot of old stuff.
The actual business of selling the used stuff is just to (a) bring people into the store so they can get new customers and (b) dispose of the items that have been given up by customers, to recoup the capital to make new loans. It's not the main profit centre at all. The reason you get 25% LTV rate on your old TV is because the pawn shop knows you're a credit risk (otherwise, why would you be there), the TV set might be busted and they cannot possibly maintain a good knowledge on the market price of all pawned items, so they give a conservatively low estimate of the value so there is a chance of at least recouping the capital if the load goes bad : ie, the person does not pay it back.
The analogy is that Banks would rather foreclose on a house and sell it rather than collect 30 years worth of interest payments. That's patently not true. While that might be the hypothesis of someone who has just had their house foreclosed, from the point of the view of the bank, they just want their interest payments and want nothing to do with the icky business of courts, keys and irate customers. The very last thing a bank wants is to own houses. That's why they'll do many things to try and get your loan performing again before doing the foreclosure. The unmistakeable sign of a failing bank is one that owns a lot of foreclosed property.
The very same applies to Pawn shops. The quality of their loan book is the key to their business, not the quality of the merchandise in the glass cases.
Again, I think the pawn business is a nasty business but these people fill a need in society, and the regular customers are surprisingly well informed on what a good deal is, and what isn't.
The interest rates are high because the risk is high. Many borrowers simply don’t pay the money back.
If you really think they’re too high, start your own payday loan business and offer your “fair” 36% rate. Be sure to post here again and let us know how it works out.
So we should tolerate placing the burden of compensating for that risk on the poor people who do pay their loans back? It's somehow okay that we're punishing the people who found themselves in a desperate situation who actually are responsible enough to pay their debts, because it makes business sense given that other poor people aren't?
You don't mean it's "somehow okay", you mean "it's somehow morally right". No, it isn't morally right. The world isn't fair. The world isn't kind. However, not having this form of credit available at all would be even more unpleasant for those who need it, so all things considered I'd rather these businesses exist than not.
I still remember earning under-18 minimum wage and being happy if my disposable income after rent and food was $15 a week. In those situations, credit of any kind is far better than no credit at all - if the person in question considers the terms unacceptably usurious they always have the option of not taking those terms. All regulation would achieve is to eliminate such businesses - effectively the government taking that choice away because somehow allowing people to choose is not "somehow okay".
It isn't fair. It isn't morally good. It isn't pleasant. But it is what it is. Welcome to reality - sometimes it really sucks.
Then maybe the loan shouldn't be getting made. If an industry can't ethically do business, maybe it shouldn't exist. If there's a serious problem that industry is solving (and there is), then maybe it's time for society to step in.
Welcome to reality - sometimes it really sucks.
I'd like to think that drawing attention to suckage could result in people doing something to make it suck less. We don't have to blindly accept our current reality, we can work to change it.
But if you're a priori indistinguishable from people who have a default rate, yes, you will pay more. You can't be given a retroactive discount any moreso than the defaulters can be retroactively denied their loan. Them's the breaks. Knowledge is imperfect; time does not run in reverse.
But even that reform is double-edged: by cleaving away the clearly reliable it raises the effective rates for all those left behind at the worst categorization.
And the repayment odds are unlikely to be binary, or stable: someone who repays one loan (but still looks like a defaulter in other respects) may be nearly as likely to default on a subsequent loan. A borrower may at some point even consider a default their 'due', if they look at all the fees they've paid. So the idea that one agency would just specialize in the 'hardest' cases, and never reclassify someone, may make good business sense without being irrational or malicious. The proper 'escape' is then going to another lender (or even better to stop borrowing), rather than renegotiating with a bottom-predator.
This seems like the right way to think about this, and it leads me to believe that there should be caps on the profits made on payday loans.
For most of the borrowers, these loans are a bad habit. For other bad habits, we have sin taxes that discourage them without totally driving them into the black economy/violent underworld.
I think it's a reasonable policy goal to have fewer payday loan shops, so they're not a constant temptation for the poor. It can't be that crappy a business when most poor neighborhoods have more payday loan shops than grocery stores. If they weren't so profitable, there wouldn't be so many - capping interest and fees seems like a good way to reduce the numbers, while also keeping the borrowers from being ripped off quite as badly.
Someone who desperately needs $200 to see them through the end of the month is someone who is a lot less likely to be able to pay it back at the end of the month. So the lender needs to charge them a more. It might only be $10— but of course, to someone who desperately needs $200 to see them through the end of the month, $10 is a lot of money.
Meanwhile, someone borrowing a hundred times as much to buy a new car can pay a hundredth of the interest, because they have the income to afford it.
And there really isn't any way around that. At least, not in this political climate.
Why did the person end up desperately needing $200 more than she earned at the end of the month in the first place?
Why does he have no savings put aside for the rainy days?
Why doesn't this person have a safety net of some kind, be it family, friends, a boss that can pay in advance etc.. and yet ends up with debts at the end of the month?
(there are obviously many reasons for finding yourself in a shitty situation, but from the outside the size of irresponsible personal finance management in the US seems crazy)
The problem is consumerism, and the real problem is people desperate for stuff they can't really afford (like, a big TV) and not accepting they simply cannot afford it.
This sucks, ideally everyone should have what they want.
But life is unfair, and for most it just does not work out.
It is misdirection to list the example of "single, kids, illness" as proof of anything. Almost anyone can get ill and hit financial trouble; it is an unexpected and perfectly legitimate problem that can lead you to financial problems, especially if stacked on top of your current circumstances.
Just a single mum with two kids? sure it's not going to be luxurious but I know plenty of people who manage and are perfectly happy. Then again, I also know plenty of single mums who waste money like water. I think such circumstances are often irrelevant to the families ability to get by.
My argument is this; once you throw consumerism, poor money management and an inability to accept the unfairness into the mix it tips the balance in favour of "generally in debt".
I don't think anyone thinks it's unfair that someone who simply can't wait to get that new gadget should pay a premium, but there's no rational reason that someone living in a first-world country should have to choose between letting their kids go hungry, going hungry themselves, and becoming a "big credit risk".
Well, apart from the whole shutting down other profitable services thing :P
Walmart using it's clout to drive profit margins down is always an unequivocal good. The sole reason a free market is better than the alternatives is that given enough time, margins trend as low as they can possibly go.
How is that a free market?
The whole problem is that Wal-Mart is big enough to drive margins below what is sustainable. Forced reduction in margins leads to lower quality products, layoffs, and eventually the outsourcing of entire manufacturing sectors— and what good is a socket set for 15¢ less than the competition when the socket set company that used to pay you $35,000 a year moves to Indonesia and now pays you $0?
I would call that "good" quite equivocal.
A free market doesn't guarantee that you get to stay in business.
what good is a socket set for 15¢ less than the competition when the socket set company that used to pay you $35,000 a year moves to Indonesia and now pays you $0?
Over the long term and looking at the bigger picture, we'll hopefully wind up with a good number of people in Indonesia who are better off.
What's the practical difference between a government saying "You must sell your product for this price or we won't allow you to do business in this industry" and Wal-Mart saying the same thing?
You're right that there might not be much of a practical difference for the company making the socket sets, but they aren't the only factor in the equation. Your question addresses only the seller, and markets are made of both sellers and buyers.
If the government sets price limits, that means the company can't do business even if there's a willing buyer. You're removing the right of free choice.
When it's Wallmart setting a price that they're willing to pay, and it's lower than the price the company is able to sell for, that just means there isn't a willing buyer. Wallmart is in some sense acting as a proxy for the people who shop there, who are clearly saying that price is what's important to them.
To paint an exaggerated picture: if I'm trying to sell my socket sets for $1000 each, and no-one wants to buy them, that doesn't mean the market isn't free, it just means that there isn't a match in the buyer side of the market for my product.
What's the practical difference between a government saying "You must sell your product for this price or we won't allow you to do business in this industry" and Wal-Mart saying the same thing?
As far as selling convenience, I wish a 24 hour convenience store would open up close to my house and exploit me by overcharging me for products available at less convenient locations/times.
I'm drawing a blank, but there must be other options, like you say.
Shit happens, and a lot of time when it happens to poor people, they have no alternative. It's sad that society is structured in such a way that they are forced to turn to a source of credit that charges them so much, but the payday loans do provide a valuable service.
And the fact that ZestCash is competitive with other usurious lending companies really does nothing to improve my opinion of them.
News corporations may be more consistent, but do you really think they're more trustworthy?
*For the record, I feel like being "evil" means to prey on human weakness, for which it seems like the site in question and PayDay loans generally fit that bill.
I can't answer those questions any better than you already have:
(Already, certain issues that seemed outrageous have been deflated by other commenters.)
Can anyone point to a good article on how the industry works and who their customers are?
On the other hand it does not make sense to criminalize payday loans, because as gcheong mentioned -- the alternative is broken kneecaps by loansharks.
The result: payday loans are neither prohibited, nor supported by government, and are booed by society.
So you will end up paying 33.5 * 52 / 2 = $871 ($145.16 per month).
Isn't it cheaper to get something like this on Prosper or Lendingtree?
It makes a certain kind of sense that a guy who left Google for BMG would be capable of such a scummy company.
It's not that I don't think the rates reflect the risk... it's that I think these rich bastards are saddling poor people with loans, and they expect a good portion of them to drown in the loans.
They charge these rates so they can recover vast losses... in the end, the honest people get screwed and even the dishonest borrowers get buried in a tar pit of debt.
These companies know that XX% (not .XX%) will default. They intentionally drive some customers in debt, and then profit on the rest. This isn't providing loans for people in need... this is intentional destruction of people's lives and credit.
There is a spreadsheet in ZestCash HQ with some truly despicable calculations in it.
X% of people will also default on their home-loans. Ergo, no-one should offer them.
X% of people will default on service payments. X% of people will never claim on their insurance. X% of your customers will never go from 'trial' to 'customer'.
Every business requires examination of the risks and amortization via the costs. So yes, some of their clients will go bankrupt. The rest will be charged high fees. And the pay day loaner? They will make a moderate amount of money, because they DON'T GET BACK THE DEFAULTED LOANS.
They're not taking someone's house when they don't pay back, they're just losing their loan amount entirely.
None of "these rich bastards" are forcing anyone to take payday loans. How are honest people getting screwed if they voluntarily take on the debt?
Free market purists point out that payday loan customers can't access "traditional" loans. True. Many of them can't, because they have no income or collateral. And those people can't be loaned money ethically anyways. Meanwhile, a large fraction of people who currently avail themselves of payday loans can access better loans --- but they have to plan ahead (and fill out more paperwork) to do so.
also you know it's a scam, when the site's page rank, alexa rank and compete rank are set to private.
but that number is horrendous...it's like 10 hits a month