One study, two vastly different visions for CFPB payday rules

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When Columbia University law professor Ronald Mann undertook a survey of 1,000 payday loan customers to determine if they could estimate how long it would take to repay a loan, little did he know that the resulting study would become a lightning rod in the drafting of the first federal regulation for small-dollar lenders.

The Consumer Financial Protection Bureau’s prior leadership cited Mann’s research over 30 times in an existing rule meant to impose strict underwriting requirements for payday loans.

But signs now point to Trump-appointed CFPB Director Kathy Kraninger employing the very same study in a highly anticipated revamp of that rule, which is expected to scrap the ability-to-repay requirement in what would be a huge win for the industry.

“The point of the study was to ask a borrower at a time when they made the crucial decision to start a cycle of debt how long they expected the cycle to be,” said Columbia University professor Ronald Mann.

“Mann’s study will probably be a centerpiece of whatever new rule comes out revoking the old rule,” said Casey Jennings, an attorney at Seward & Kissel and a former attorney at the CFPB’s Office of Regulations, who worked on the original 2017 regulation.

Mann’s study — funded by a payday loan trade group — focused on whether borrowers could accurately predict when they could repay a loan. The research, conducted in 2012, has sparked contentious debate because it appeared to provide evidence both that underwriting standards were often not necessary, and that in certain cases they were.

“The relevant policy question is whether borrowers, deciding to start borrowing from a payday lender, understand what will happen to them,” said Mann in an interview.

Mann, co-director of the Charles Evans Gerber Program in Transactional Studies at Columbia Law School, noted that agency officials contacted him earlier this month to discuss the study. “They’re planning to issue a new rule and my guess is that it will be more favorable to payday lenders than the previous proposal,” he said.

The Columbia professor has refuted how the CFPB under former Obama-appointed Director Richard Cordray interpreted his research, suggesting that the current rule overemphasized cases where consumers borrowed beyond their means.

The study found that 60% of first-time payday loan borrowers accurately predicted within two weeks when they could repay a small-dollar loan. But it also indicated that in many cases the flip side was true — that 40% of borrowers had no idea when they were going to pay back a loan.

Understanding the risks before taking out a payday loan goes to the heart of the CFPB’s rule, and how the bureau under Kraninger plans to unwind it.

“The point of the study was to ask a borrower at a time when they made the crucial decision to start a cycle of debt how long they expected the cycle to be,” Mann said.

With the survey having determined that repayment ability was predictable in a majority of cases, CFPB leaders appointed under the Trump administration have pointed to the study as supporting the idea that stringent rules requiring the ability-to-repay standard are unnecessary.

In court documents, the CFPB under former acting Director Mick Mulvaney cited Mann’s study as a key piece of evidence in support of “revisiting” the underwriting requirements in the payday rule. Last year, Mulvaney sided with two payday trade groups that had sued the CFPB to invalidate the rule, which relies on federal law banning “unfair” and “abusive” practices.

The court filings lay out a possible blueprint for how the agency could retract the ability-to-repay standard and allege that payday loans are neither unfair nor abusive. Citing Mann’s study, the CFPB claimed the payday indusry had presented “a substantial case” to show that most borrowers know what they’re getting into when they take out a payday loan.

“The Bureau interpreted this study (the ‘Mann study’) as showing that few if any borrowers who experienced long sequences predicted that outcome ex ante and that those who had borrowed the most in the past did not do a better job than other borrowers of predicting their future use of the product,” the CFPB said in a court filing in support of the payday groups. “At the same time, the Bureau acknowledged not only that the results of the Mann study were open to multiple interpretations, but that the study’s author himself ‘draws different interpretations from his analysis than does the Bureau.'”

Almost immediately after he took over from Cordray, Mulvaney sought to make changes to the payday rule. (Kraninger took the reins of the agency in December after getting Senate confirmation.)

A judge recently agreed to delay the compliance deadline for when much of the Cordray rule will take effect to give the bureau time to propose and finalize a revamp.

For any rule of this magnitude, citing research as the basis for policy decisions is crucial to ward off legal claims under the Administrative Procedure Act that regulatory decisions are “arbitrary and capricious.”

But Jennings said if the CFPB under Kraninger cites Mann’s study in a revamped rule, it would also have to show why the agency’s economists, staff and prior leadership came to an incorrect conclusion in analyzing Mann’s research. Challenging the prior analysis could prove difficult since nearly 90% of the existing rule, which totals 1,690 pages, is made up of research and the rationale for issuing the regulation.

“Basically the only thing that has changed the Bureau’s analysis is the people doing the analyzing,” said Jennings.

The CFPB’s court filing argues that if the majority of borrowers understand how long it will take to repay a loan, then they can reasonably avoid being harmed — one of the statutory elements of unfairness — by not taking out a loan.

In addition, the CFPB said, if borrowers understand the product, then it cannot be abusive, since the statutory elements of abusive include “a lack of understanding on the part of the consumer of the material risks, costs, or conditions” of the loans as well as “the inability of the consumer to protect the interests of the consumer in selecting or using” the loans.

“In order for the bureau to find that something is unfair or abusive, they have to show that the consumer lacks an understanding of the product,” said Jennings. “If the consumer understands [the product], then the identified practice is not unfair or abusive. That’s why Mann is very important.”

Still, the bureau under Cordray looked at the same data in Mann’s study and came to far different conclusions.

While Cordray’s CFPB acknowledged that many borrowers predicted they would not remain in debt for longer than one or two loans, it found that Mann’s study did not address the problems experienced by the other 40% of borrowers, particularly those who ended up re-borrowing over and over again.

Indeed, the CFPB found that 12% of borrowers surveyed by Mann still remained in debt after 200 days — far longer than they expected — and ended up taking out 14 two-week payday loans. Ultimately, the CFPB under Cordray relied on Mann’s study to conclude that it was both abusive and unfair to make a loan without assessing a borrower’s ability to repay it.

The rule imposed verification requirements that lenders make “a reasonable determination” that a borrower could repay a loan while still being able to afford basic living expenses. The rule also sought to prevent direct rollovers of payday loans and imposed “cooling off” periods between loans.

But Mann continues to suggest that that approach was too heavy-handed.

“The premise of the rule was that so few people understand that they are going to roll the loans over a lot that the product is unfair and abusive,” said Mann. “That’s the real difficulty. It’s difficult to regulate out of existence a consumer finance product because some percentage of people don’t understand how the product works.”

In addition to receiving funding for the study from a payday lending trade group, Mann said the study was conducted in cooperation with “a large national payday lender,” which was not named. Employees of the payday lender handed out the surveys to potential borrowers and the results were then mailed to Mann.

“The funding came from an industry trade association, which hoped that the study would produce favorable findings, but the arrangement, as always, was that I could publish whatever I wanted whether the results struck them as good or bad,” Mann said. “There was not really any relationship with the payday lender.”

Consumer advocates contend Mann’s study is skewed because it excluded any borrower who had taken out a payday loan within the previous 30 days, essentially eliminating six out of seven borrowers.

“It’s hard to see what the basis would be for using that research to weaken the rule,” said Alex Horwitz, a senior officer at Pew Charitable Trusts. “The bureau thoroughly accounted for Ronald Mann’s research in 2017.”

Mann said that while many borrowers are desperate for cash, they understand the cost of the loans, which typically charge an upfront fee of roughly $15 for every $100 borrowed.

“The problem isn’t that payday loans are expensive, it’s that we live in a capitalistic society and don’t have a safety net, and lots of people make less than other people and can’t make ends meet,” he said.

Kate Berry

Kate Berry

Kate Berry covers the Consumer Financial Protection Bureau for American Banker.

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