How does payday lending exist in a post Williams world?

By Rebecca Coy

Pictured: “Until Debt Tear Us Apart” graffiti on a brick wall.

 

On its face, lending money to people in need seems to be an honorable pursuit.  The law, however, must look beyond the false pretense of a practice and look at the its effects.  Payday loans trap people in need in a perpetual cycle of debt.[1]  However, the decision in Williams v. Walker-Thomas Furniture Co. provides the courts with a legal precedent to strike down these predatory lending practices, including payday lending agreements.[2]

People in poverty often obtain payday loans that pay for unexpected immediate expenses.[3] Payday loans are essentially cash advances that usually only span no longer than two weeks, and the interest rates can be over 500 percent of the loan.[4]Other loans would require lengthy applications and review processes, but most importantly, for other types of loans, lenders would need to ensure that the borrower would be in a position to repay the loan.[5]  In contrast, payday loans impose high interest rates so that the borrower does not need to endure a lengthy application process.[6]  However, the borrower would need to take out another loan to pay back the high interest rate, and, thus, the borrower enters into a cycle of debt.[7]

Williams involved another example of predatory lending. In Williams,a furniture store sold household goods on credit to Williams, a single mother who was on public assistance.[8] Williams paid off most of the debt but eventually defaulted.[9]The furniture store then repossessed everything that Williams had purchased with credit at the store.[10] The court in Williams held that courts could refuse to enforce a sales contract if the agreement was unconscionable.[11] For a contract to be considered unconscionable, there must be “an absence of meaningful choice,” and the terms must be “unreasonably favorable to the other party.”[12] The court found both that Williams did not have a meaningful choice to enter into the contract and that the terms of the agreement were unreasonably favorable to the other party.

Similarly, the unconscionability doctrine has been used to protect consumers in the context of payday loans. In Mitchem v. American Loan Co., the district court held that a lender had violated the unconscionability doctrine when it required a 521.4 percent interest rate, which was determined to be unreasonably favorable to the defendant.[13]  To determine whether the contract was unconscionable, the court looked at whether the plaintiff “had a meaningful choice when faced with unreasonably unfavorable terms.”[14]  The court reasoned that because “a population with no other means of securing credit and facing a financial emergency would agree to loans with such exorbitant interest rates,” that the loan was unreasonably favorable to the defendant and the plaintiff lacked a meaningful choice.[15]

Critiques of the unconscionability doctrine claim that the doctrine is paternalistic and that it “rescues responsible agents from the consequence of their own mistakes.”[16]  This argument overlooks the valid concern of unequal bargaining power.[17]  There is a reason that the unconscionability doctrine is ingrained in American jurisprudence.[18]  America is supposed to be the land of opportunity.  How can America ignite opportunity if its law is used to preserve existing power dynamics?  The unconscionability doctrine is an attempt to level the playing the field, if only in extreme cases.[19]

Similarly, business professor Jeffrey Joseph has commented that payday lending is justified because of the risks the lenders incur.[20]  Joseph noted that because payday lenders are lending to high risk consumers, to make the risk profitable, lenders must set a high interest rate.[21]  He continued to comment that the regulations requiring lenders to guarantee borrowers are able to pay back the loan would actually hurt the borrowers.[22]  His evidence of harm to the borrowers is that they will either turn to other less regulated predatory lenders or will have to “forego Christmas presents.”[23]  Not to trivialize the value of being able to give gifts to loved ones, but such an argument should not be cited as a benefit of entering into a cycle of debt.

Legal scholars hoped that the ruling in Williams would ignite a reform in consumer rights.[24] The continued existence of payday lending demonstrates that this hope has not been realized. Thirty-seven states still permit payday lending; only thirteen states have abolished the practice.[25] Although the decision in Williams has catalyzed change for consumer rights, state legislatures need to implement policies that would prevent the injury in the first place.[26] After New York abolished payday lending, the Center for Responsible Lending found that low-income individuals, who might have otherwise sought payday loans with obscene interest rates, have preserved $790 million per year.[27] Pennsylvania has regulated payday loans by placing a maximum interest rate of six percent on the loans.[28] Under these regulations, Cash America, a payday loan company in Pennsylvania, has forgone offering the loans because it found “payday lending is not economically viable under the interest rate restrictions.”[29]

On a state level, the regulations that legislatures have imposed have been overwhelmingly successful; state legislatures across the country should continue this trend to protect their most vulnerable citizens.[30] However, both the federal legislature and the judiciary also need to continue to regulate the practice so that corporations such as Cash America are no longer incentivized to prey on poor consumers. Following cases such as Williams, the judiciary has precedent to end the practice of payday lending by applying the doctrine of unconscionability.[31] However, even if a court refuses to apply the doctrine of unconscionability to specific payday loan, the judiciary cannot deny the will of a legislature to abolish or limit such a practice.[32]

 

[1] Predatory Payday Lending Traps Borrowers, Ctr. For Responsible Lending 1 (2005), https://www.responsiblelending.org/payday-lending/tools-resources/2b002-payday2005.pdf.

[2] See 350 F.2d 447, 449 (D.C. Cir. 1965).

[3] Ctr. For Responsible Lending, supra note 1, at 1.

[4] Mitchem v. Am. Loan Co., 2000 U.S. Dist. 1, 2 (N.D. Ill. 2000).

[5] RMS Manual of Examination Policies, Fed. Deposit Ins. Corp., https://www.fdic.gov/regulations/safety/manual/section3-2.pdf (last visited Nov. 2, 2018) (explaining that responsible and fair lenders make sure the borrower is in a position to borrow money).

[6] Id. (explaining that in order to incentivize the borrower to accept the high interest rate, the lender does not impose an application process on the borrower).

[7] Ctr. For Responsible Lending, supra note 1, at 1.

[8] 350 F.2d 447, 450 (D.C. Cir. 1965).

[9] Id.

[10] Id.

[11] Id. at 449.

[12] Id.

[13] See Mitchem v. American Loan Co., 2000 U.S. Dist. 1, 11 (N.D. Ill. 2000).

[14] Id. at 10.

[15] Id. at 11.

[16] Jennifer Nadler, Unconscionability, Freedom, and the Portrait of a Lady, 27 Yale J.L. & Human.213, 213 (2015).

[17] Id. at 216

[18] See U.C.C. § 2-302 (establishing the unconscionability doctrine in the Uniform Commercial Code); see also Restatement (Second) of Contracts§ 208 (Am. Law Inst. 1981).

[19] Anne Fleming, The Rise and Fall of Unconscionability as the “Law of the Poor,” 102 Geo. L.J. 1385, 1386-87 (2014).

[20] Jeffrey H. Joseph, The Unnecessary Death of Payday Loans, The Hill (Dec. 17, 2015, 10:00 AM), https://thehill.com/blogs/congress-blog/economy-budget/263510-the-unnecessary-death-of-payday-loans.

[21] Id.

[22] Id.

[23] Id.

[24] Fleming, supra note 20, at 1385.

[25] Heather Morton, Payday Lending State Statutes, Nat’l Conference of State Legislatures (Jan. 23, 2018), http://www.ncsl.org/research/financial-services-and-commerce/payday-lending-state-statutes.aspx.

[26 ] Nadler, supra note 17, at 213.

[27] Ctr. For Responsible Lending, supra note 1, at 2.

[28] 73 Pa. Cons. Stat. § 2138 (2018).

[29] Cash Am. Net of Nev., LLC v. Dep’t of Banking, 8 A.3d 282, 286 (Pa. 2010).

[30] Id.

[31] See Williams v. Walker-Thomas Furniture Co., 350 F.2d 447, 449 (D.C. Cir. 1965).

[32] See, e.g., Marbury v. Madison 5 U.S. 137 (1803) (holding that the Supreme Court may not draft legislation, but it may interpret it).