If you read these two articles here and here you will realize that the Federal Deposit Insurance Corporation (FDIC) tried its level best to kill the payday loan industry by trying to make banks a direct competitors of payday loan industry.
In short what it did was to encourage many banks to lend small-dollar loans to consumers. This experiment started in 2008 and ended sometime in 2010. FDIC considered the program a success. (Oh really, then why most banks do not offer payday loans to their clients?) However they also agreed that small dollar loans from banks cannot compete with the cost and ease of payday loans.
The result? As you can guess even today, payday lenders are preferred over small loans from the banks. Even consumers do not go to banks to apply for a payday loan. They know they will get rejected anyway.
We will not get into details of what happened in the testing phase. You can read about them from the articles. But would just like to say that banks were actually using the small-dollar loans as a medium to get clients open a current account with them and deposit cash. They were more interested in overdraft fees and Non-Sufficient Funds (NSF) fees made from these clients. If you don’t know Moebs Services, an economic research firm, estimates that NSF fees account for 18% of the net operative income of the banks. Credit unions are even better. They make around 60% of the operating income from NSF fees. How is that?
Now even after a successful experiment, banks are still shy of giving away small-dollar loans to people with bad credit. Here are a few reasons to explain why:
1. Banks do not have proper rules in place for short-term lending and small-dollar lending.
2. They still have no expertise in handling payday loans. They will actually mess it up over a period of time if lot of their customers start demanding payday loans from them.
3. Banks do not have enough manpower to handle small-dollar loans. They are already preoccupied with many other services that banks already offer. Payday loans will be an extra burden on the same manpower. This may actually hinder their growth.
4. Big bank’s business model is not short-term loans. They are better off proving longer term personal loans, home loans, car loans and other products.
5. Payday loans profits are not very attractive for banks. They are least bothered to make $50 to $100 on a loan.
6. Moreover banks are regulated by so many rules that it is impossible for them to charge like payday lenders.
7. Banks don’t miss payday loans (though they hate payday lenders but love the money payday loans bring to their business indirectly) because they make up with the overdraft fees and Non-Sufficient Funds (NSF) fees.
8. Most people will be rejected applying for payday loans from banks as banks look for credit rate and history using traditional means from the three credit agencies. Payday lenders do not go to these credit agencies to look for a persons’ credit history. They are just interested in looking for payday loan history of the consumer. They can get this data from TeleTrack.
9. There is a social stigma attached to payday loans. Big Banks are brands and they do not want their brand to get a bad name in society. They will never ever lose a big business for a small business.
These are some reasons we think it is still a long time before banks even think of offering payday loans to their clients. Though some banks do offer short-term loans but that is not fully advertised.
What does it implies? It means that if state laws allows and Federal Deposit Insurance Corporation (FDIC) cooperates, payday loans business is here to stay.
Do not forget that whatever the financial guys says, the truth is that millions of people depend everyday on payday loans to pay their bills and live life smooth. If payday loans are banned or are taken over by the big banks – the people with low access to credit will suffer.
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