Today's Trends in Credit Regulation

Payday Lending Settlement Offers Guidance on Practices that Protect Consumer Interests
By Catherine M. Brennan

A recent settlement of a Missouri class action lawsuit against payday lender Advance America provides insight into the types of practices lenders could adopt as a way to cut against claims that their lending practices run afoul of the new “abusive” standard found in the major financial overhaul adopted last year. The lawsuit – Hooper v. Advance America – stems from payday loans Patricia Hooper and Josephine Vaughan obtained in Missouri. After they obtained the loans, Hooper and Vaughan filed a class action lawsuit against Advance, claiming violations of the state’s unfair and deceptive acts and practices statute, and the Missouri payday lending statute.

The consumers claimed that Advance engaged in several actions that violated state law. First, the consumers alleged that Advance failed to obtain “sufficient financial information” to allow the lender to evaluate the consumers’ ability to repay the payday loans. In addition, instead of requiring reduction of principal upon each renewal of the payday loan, Advance allowed the principal balance to increase. For example, both Hooper and Vaughan obtained several $500 loans with APRs between 200.74 and 277.4% that they repaid only after many months.

The consumers claimed that rather than renewing the original payday loan up to six times as required by the Missouri payday lending statute, Advance limited them to four renewals. By limiting the renewals, the consumers claimed, Advance accelerated the time in which full payment became due, thereby creating a higher likelihood of defaults and causing the final payment to be illegally high. The consumers also alleged that Advance failed to renew their loans and reduce the principal of those loans by 5%, which is also required by the payday lending statute. Instead, Advance styled the renewals as entirely new loans. When Hooper and Vaughan could not pay the amount due, Advance flipped the loans instead of allowing reduction of the principal. Specifically, Advance required the borrowers to pay the entire amount of principal plus interest at an Advance location, which Advance described as paying off the loan in full. Then, within minutes of that payment, Advance granted a new loan for at least the same amount as the previous loan. When consumers did not bring in the entire amount owed on a loan, Advance would accept an interest only payment and falsify documentation to indicate full payment. In making the new loans, Advance often returned the exact same currency that consumers used to pay off the prior loans minutes earlier. The consumers alleged that without the flipped loan, they could not have afforded to pay off their prior loans. They asserted that Advance did this to avoid the legislative mandate to reduce principal and avoid long-term loans. Finally, Hooper and Vaughan claimed that Advance set illegally high interest rates by charging more than 75% of the original loan amount in interest in fees.

Advance moved to dismiss the lawsuit, but the U.S. District Court for the Western District of Missouri denied the motion in large part. After losing a battle over its assertion that an arbitrator – not a court – should have decided the case, Advance settled with the class. As part of the settlement, Advance agreed to several items that could serve as a road map for other similar lenders about the types of practices that might help them avoid similar claims. Advance agreed to grant all future customers the right to renew a payday loan up to the maximum number allowed by law – in Missouri, six times – provided each customer pays all accrued interest and fees and a minimum of $25 toward principal. Advance further pledged that interest and fees actually charged in any given renewal chain would never exceed 75% of the original principal amount or such other amount as allowed by law.

Advance also agreed to provide each consumer who applies for a payday loan a notice regarding the consumer’s ability to repay and renewal rights. The notice that Advance agreed to give provides as follows.

  • Ability to repay: We are required by law to consider your ability to repay the loan, including the renewals you can take out to pay the loan off over time. As such, we will never loan you more than 55% of your gross monthly income. Further, we will not and cannot make a loan to you that we do not reasonably believe could be paid by you over the course of the loan and renewals. We will consider the data we have available about you to make our decision and reserve the right to ask for more information if necessary.
  • Renewals: You are allowed the maximum number of renewals allowed by law. That number is currently six renewals. If you renew a loan, you are allowed to pay the interest on the loan plus as little as 5% of the amount you borrowed. In other words, if you borrow $100, and the interest on the loan is $20, you can pay the $20 in interest plus $5 ($5 is 5% of $100). If you pay the $25, your loan will be renewed and you will owe $95 plus interest the next time your loan is due. You can also pay the interest plus more of the principal if you want to pay off the loan sooner. We cannot charge you more than 75% of the amount you borrowed in interest over the life of the loan. In other words, if you borrow $100, we cannot charge you more than $75 in interest during all renewals of the loan.

For lenders facing supervisory and enforcement authority from the Bureau of Consumer Financial Protection, the Advance settlement provides guidance on one area that payday and installment lenders are virtually certain to experience some regulation – the “abusive” standard. The Dodd-Frank Wall Street Reform and Consumer Protection Act allows the Bureau to declare an act or practice “abusive” in connection with the provision of a loan if the act or practice materially interferes with the ability of a consumer to understand a term or condition of a loan, or takes unreasonable advantage of a lack of understanding on the part of the consumer of the material risks, costs, or conditions of the loan, the inability of the consumer to protect the interests of the consumer in selecting or using a loan, or the reasonable reliance by the consumer on a lender to act in the interests of the consumer. The Advance settlement provides both substantive practices and disclosure guidance to ensure both that consumers understand the bargain they will get if they sign up for a payday loan and that the lender will take steps to ensure that the loan obtained does not run afoul of what might be considered abusive under the Act.

Catherine M. Brennan is a partner in the Maryland office of Hudson Cook, LLP. Cathy can be reached at 410-865-5405 or by email at

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