Congressional Consumer Protection Or, What's In a Name?

By Mark Toffoli 

According to recent Federal Reserve Bank data, household debt outstanding – everything from mortgages to credit cards to car loans – reached $12.7 trillion in the first quarter of this year. To provide some perspective, such borrowing is more than the size of China’s economy or almost four times that of Germany’s. This consumer borrowing has not gone unnoticed by the commercial world. Bundles of debt are often-times “packaged” and sold by the original holders of the debt, typically at a discount, to buyers who hope to make a profit based on the difference between the purchase price and what is ultimately collected. This may help explain why that 70-inch big-screen you bought and financed through Best Buy now has you making payments to the “All American Recovery Company”. As with many things such matters find themselves subject to government regulation. And as with many government regulations, whether the same are effective, or even necessary, depends on whose ox is being gored.

There is currently pending in Congress the fairly benign-entitled “Protecting Consumers Access to Credit Act of 2017” (“PCACA”). The bill seeks to preempt state usury laws (laws which govern the amount of interest that can be charged on a loan, usually by setting caps on the maximum amount of interest that may be levied) for non-bank finance companies like payday lenders in the name of ensuring access to credit. So Joe Consumer can access more credit with the trade-off being a loss of usury-law protection? A brief history of recent usury law is required in order to enable an answer.

Every state has some sort of usury statute. The statutes have limited bite these days because of a 1978 Supreme Court decision that held that the usury rate applicable to a national bank is that of its home state, not that of the state in which it is conducting business. In other words, national banks can export usury limits from one state to another. As a result, national banks that have major credit card operations have congregated in states with no or high limits, such as Delaware, Nevada, and South Dakota. States then followed with parity laws to protect their own state-chartered banks’ competitiveness, ending in a race to the bottom in which usury laws seldom matter for banks. But they still have plenty of bite regarding non-bank finance companies, such as payday lenders, vehicle title lenders, etc.

The current turmoil started in 2015 when, in a class action lawsuit on usury claims, the Second Circuit Court of Appeals in Madden v. Midland Funding held that the National Bank Act preempts state usury laws only in regard to the national bank itself; the preemption is personal to the bank and not a feature of the loan. So if a national bank sells a loan to a non-national bank entity, then the state usury law will spring into force regarding the loan. This ruling did not sit particularly well with the financial services industry and although it pressed hard the get the Supreme Court to hear the case it was unsuccessful, leading to the attempted “fix” via PCACA.

The supporters of PCACA argue it is necessary for several reasons: Madden is disturbing the credit markets; it is restricting credit; and it interferes with the power of national banks. But where’s the consumer protection you ask. PCACA does have the effect of protecting consumers’ access to credit by reducing credit availability for risky borrowers. However its true effect is that it enshrines the legal doctrine known as “valid when made” which says that if a loan wasn’t usurious when made, it cannot later become usurious. Such “protection” would seem to have little to do with the consumer -- in order for PCACA to apply a debt must already be in existence by virtue of the consumer having accessed credit to incur the debt, and so a lack of credit risk has presumably previously been established. Instead PCACA’s protection primarily favors the original credit lender, its subsequent assigns and the preservation of high interest rates. Protection, perhaps; but for whom?

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