Consumer Credit

The Consumer Financial Protection Bureau (CFPB) enforces most federal laws that protect consumers when they apply for and obtain credit. These include:

  • the Equal Credit Opportunity Act, which protects consumers from discriminatory credit practices, including age discrimination;
  • the Fair Credit Billing Act, which protects consumers in billing disputes;
  • the Fair Credit Reporting Act, which grants consumers access to, and input into, their credit files;
  • the Truth in Lending Act, which requires accurate disclosure of a loan’s annual percentage rate (APR) and the total dollar amount of the finance charge; and
  • the Fair Debt Collection Practices Act (FDCPA), which protects consumers from unscrupulous and unreasonable tactics of debt collection agencies, including law firms and lawyers that regularly engage in the collection of debts. FDCPA does not, however, safeguard against the in-house collection activities of the original creditor.

Credit scores: Credit scores are increasingly used to evaluate consumer credit risk. They are also a significant factor in determining whether a consumer obtains credit, how much credit is made available, and under what terms. Industry sources estimate that credit scores are a determining factor in 90 percent of all consumer credit decisions in the U.S.

The Fair and Accurate Credit Transactions Act of 2003 allows consumers to obtain one free copy of their credit report every year from each of the three national credit bureaus. Most recently, the Economic Growth, Regulatory Reform, and Consumer Protection Act of 2018 allows consumers to freeze or unfreeze their credit reports for free at any time to block lenders’ access in cases of inaccuracy or identity theft. This can also be a means of protecting against identity theft and the opening of accounts in their name.

Consumers are generally knowledgeable about how credit scores are used. But not all are aware the scores are used to measure the risk of loan repayment. Despite the importance of credit scores, many credit reports are inaccurate. In 2016, 91 million items on credit reports were disputed by consumers, according to an investigation by the Senate Commerce Committee.

Informational credit scores are often available for free on credit card statements, on banking apps, and through various online financial management tools. While these scores give a general sense of a customer’s creditworthiness, they do not reflect the actual score that is obtained when a borrower applies for a loan. Therefore, they cannot be used to negotiate a better rate. Actual scores will vary based on the particular credit bureau whose data was used to compute the score, the specific scoring algorithm, and different weighting factors based on the type of loan that is sought. For example, a score generated for a credit card application will differ from the score for an auto loan or a mortgage.

Not all creditors report data to credit reporting agencies. Additionally, in some cases, only negative information is reported in a credit file—such as an unpaid phone bill—while positive information is not included. As a result, not all relevant credit information may be included in the reports.

During declared emergencies, such as natural disasters or pandemics, consumers may be unable to make payments to creditors through no fault of their own. They may also seek accommodations with creditors. However, credit reporting agencies do not always take these external factors into account. As a result, consumers may find that an emergency harmed their credit, making it more difficult for them to recover financially. Providing them with access to more frequent free credit reports could help them improve their credit, for example, by allowing them to challenge a negative item.

Alternative financial services: The alternative financial services industry includes check cashers, payday lenders, pawnbrokers, car-title lenders, high-cost installment lenders, rent-to-own stores, and tax preparation companies that make loans on the basis of anticipated tax refunds. It is a major source of transactional and credit services for:

  • consumers with low and moderate incomes;
  • residents of neighborhoods with high concentrations of historically disadvantaged racial and ethnic groups; and
  • people with heavy debt burdens or less favorable credit histories.

The use of the alternative financial services (AFS) transactional and loan products is increasing among U.S. households. The 2019 Federal Deposit Insurance Corporation (FDIC) How America Banks survey found that millions of households headed by someone age 50 and older used some form of AFS in the prior year. Most frequently, they used transactional AFS products for money orders, check cashing, and international remittances. This includes 3.1 million unbanked households headed by people age 50 and older (4.4 percent) who did not have a checking or savings account at all. Generally, the industry lies outside the system of federally insured traditional financial lenders. Its fees are usually many times higher than those of traditional lenders. The deceptive and unfair lending practices often associated with the industry include charging exceedingly high annual percentage rates and prepayment penalties, packing expensive credit insurance onto loans, and allowing multiple rollovers.

Some companies have begun offering pension advances. A pensioner receives a lump-sum loan in exchange for the pensioner’s future pension payments. The payments also include fees related to the loan. A related product, the pension investment, bundles advance pension payments in exchange for an up-front lump-sum investment. Federal law does not explicitly regulate either pension advances or pension investments. General protections against unfair, deceptive, or abusive acts and practices may apply to these financial products (see also Private Employer-Provided Retirement Plans).

Debt-trap lending: Millions of Americans take out payday loans each year, spending billions of dollars on loan fees alone. Payday loans usually require borrowers to pay off the loan at their next paycheck. These high-cost loan products churn consumers through a cycle of debt, collecting high fees for extended periods. This can result in long-term harms such as increased difficulty paying bills, delayed medical spending, involuntary bank account closure, and increased likelihood of filing for bankruptcy. As a result, payday loans are one example of debt-trap lending.

A 2014 CFPB study found that four out of five payday loans are rolled over or renewed within 14 days. Further, the majority of payday loans are made to borrowers who renew their loans so many times that they end up paying more in fees than the amount of money they originally borrowed. Roughly half of all loans are made to borrowers in the course of loan sequences lasting ten or more loans in a row. The study also looked at payday borrowers who are paid on a monthly basis and found one out of five remained in debt for the entire year of the study. Payday borrowers who fall into this category include many older Americans or disability recipients receiving Supplemental Security Income and Social Security Disability.

Debt-trap lending also includes car-title loans and high-cost installment loans. In car-title lending, struggling borrowers pledge their car’s title as collateral. Many borrowers are unwilling to default on these loans because the loss of their car means they cannot commute to and from work. They prioritize repaying their high-cost car-title loan, run out of money, and take out another loan. This cycle of lending creates a similar debt trap to payday lending. The CFPB found that approximately one in five car-title loan borrowers loses the car to repossession. Other high-cost payday and installment loans are made by expensive online lenders. One in four online payday loan borrowers ultimately ends up with closed bank accounts.

Nearly all states have usury and small-loan laws that limit the interest rates lenders can charge, but most exempt payday lenders from these limits. Typically, states have capped small-loan rates at 24 percent to 48 percent APR and have required installment repayment schedules.

Seventeen states and the District of Columbia have enacted laws to reduce the high costs and long-term adverse effects of payday loans by effectively enforcing rate limits of about 36 percent APR or less. Other states have enacted more limited reforms that limit the payday loan cycle of debt.

The Defense Authorization Act of 2007 includes a provision capping the interest rate on payday loans to military personnel at 36 percent. As a result, active military personnel and their families generally cannot receive payday or car-title loans. Support for the law was based on a Department of Defense finding that payday loans were hurting military preparedness. In 2015, the Department closed loopholes under this law to better protect military borrowers.

In 2017, the CFPB issued a final rule governing many types of high-cost loans, but the rule was delayed. In 2020, the CFPB reversed course, finalizing a rule that removed the proposed ability-to-repay requirements for these loans. The final rule only established payment protection, that is, limits on the ability of lenders to repeatedly attempt to gain access to a borrower’s bank account without a new authorization.

As policymakers have sought to restrict high-cost loans such as payday and auto title loans, lending practices have evolved in an attempt to evade these restrictions. This includes making high-cost installment loans with costs similar to payday loans, but with payments over a longer duration of time. This also includes the use of “rent-a-bank” or “rent-a-charter” practices in which a bank, not subject to state prohibitions, makes a loan and then sells or transfers it to a nonbank entity. Some state banking regulators and attorneys general have attempted to crack down on these lending practices that violate state law. Meanwhile, in 2020 the FDIC and the Office of the Comptroller of the Currency finalized rulemaking that would potentially codify some of these practices and preempt state laws, citing the desire for a consistent national marketplace.

Early wage access: A number of third parties now offer early access to a worker’s wages before their regular payday. For example, some offer immediate pay for the hours already worked during a pay period. In some cases, this may help address financial shortfalls and emergencies. It can also help workers avoid riskier or more expensive alternatives, including overdraft and payday loans. However, some of these products impose fees, interest, or other charges on workers. This leads to payment of effective interest rates similar to payday loans. Products may also contribute to chronic financial instability if borrowers become too reliant on them to meet expenses.

Platform lenders: Peer-to-peer and other lending platforms connect individual borrowers with lenders and investors. Borrowers seek out alternatives to traditional loans while maintaining low interest rates. Healthy returns attract investors. These platforms appeal to investors by advertising attractive returns in a low-interest-rate environment. Peer-to-peer platforms attract borrowers interested in obtaining loans they may not be able to obtain otherwise. They may seek these loans for purposes as varied as consolidating debt, paying off medical bills, and covering small business expenses by advertising an alternative to traditional loans from banks or other depository institutions with low fixed rates.

Peer-to-peer lending platforms are loosely regulated. They are not generally required to evaluate a borrower’s ability to repay a loan. Some lending platforms equate the ability to deduct payments directly from a borrower’s bank accounts with the ability of a borrower to repay a loan. However, this practice does not necessarily indicate a borrower’s ability to repay a loan, as borrowers may be required to take on additional loans to cover any shortfalls generated by such withdrawals.

A meaningful evaluation of the ability to repay a loan requires platform companies to consider the ability of borrowers to repay a loan while meeting other expenses, without refinancing or reborrowing. Peer-to-peer lending platforms use so-called black box or secret sauce algorithms to underwrite loans and obtain leads. These can circumvent traditional underwriting best practices. Because peer-to-peer platforms rely on data brokers for referrals, borrowers may be directed to loans that generate the highest referral yield for a data broker rather than the most favorable terms for repayment of a loan.

Despite the apparent novelty of peer-to-peer lending platforms, they are essentially a rebranding of debt securitization. Rather than marketing debt instruments primarily to institutional investors, these platforms create an online marketplace in which any individual, not just professional investors, may buy debt instruments. It is unlikely that the majority of individual investors have the financial sophistication required to understand the risk inherent in peer-to-peer lending agreements.

The peer-to-peer lending platforms’ use of debt securitization means that they transfer risk to borrowers and lenders. In other words, such platforms do not have “skin in the game” if a loan does not perform. Additionally, because the lending platforms contract with borrowers, investors cannot directly oversee or monitor the underlying loans that make up their investment. That means investors are essentially relying on the lending platform’s word for what constitutes different categories of risk.

Debt collection: Debt collection cases increasingly dominate state civil court caseloads. Currently, debt collection is the most common type of civil case in states where comprehensive data are available. This increase corresponds to rapidly rising debt loads, high credit card fees, and the economic downturn. Studies show that consumers who have an attorney are more likely to win their case or reach a mutually agreeable settlement. Yet fewer than 10 percent of consumers have such representation, compared with nearly all plaintiffs. Debt collection lawsuits exact a heavy toll on consumers. This includes accrued interest and court fees, garnishment of wages, a ban on accounts, seizure of personal property, and even incarceration (see also Legal Services).

Although not all debt collection practices are abusive, complaints about abusive debt collection practices to state attorneys general, the Federal Trade Commission, and the CFPB are longstanding and substantial. Roughly half of all debt collection complaints to the CFPB in 2019 dealt with attempts to collect on a debt that the consumer did not owe.

As debt collection activities have increased, so have complaints about debt collection practices. This can be tied to the growth of the debt-buying industry. Debt buyers are companies that buy large portfolios of defaulted debt for pennies on the dollar. They can attempt to collect on questionable, stale, or discharged debt. They generally receive little or no supporting documentation to prove a debt is owed.

Debt buyers use practices and procedures that can lead to abusive debt collection. These include filing false and fraudulent affidavits in court, knowingly suing the wrong consumer (or for the wrong amount), filing lawsuits despite the expiration of the statute of limitations, and selling or reselling disputed or discharged debt. Debt buyers also pursue debts that were discharged in bankruptcy, that resulted from identity theft, or that belonged to a decedent.

Unfortunately, most alleged debtors do not appear in court to defend themselves. They may not receive proper notice, do not understand their legal rights, are in ill health, do not have transportation, cannot skip work, or fear going to court because they do not understand the process. The vast majority of debt collection actions end in default judgments entered by the court. Often this occurs without any evidence that the alleged debtor owes the debt or that the amount claimed is valid. Typically, a debt buyer does not even have access to the information needed to support a claim in litigation, including the contract obligating the debtor to pay, documents showing ownership of the debt, or an itemization of the amounts claimed.

In 2020, the CFPB finalized several new debt collection rules with an effective date of November 2021. Among the provisions:

  • The rules enable up to seven attempted phone calls per outstanding debt per week. For consumers with more than one outstanding debt that could lead to dozens of calls a week.
  • Debt collectors are allowed to reach and correspond with consumers by text or email. The rules also permit the use of private messages on social media platforms to try to locate a consumer who may owe a debt. They do not, however, allow debt collectors to collect the debt itself using social media platforms. Although legitimate debt collectors may seek to use newer communications channels, these same channels could also be used to commit debt collection scams and fraud.
  • Debt collectors are prohibited from reporting information about a debt to credit bureaus without first notifying the consumer. Debt collectors also may not sell or transfer a debt that has already been resolved. Once a debt is beyond the statute of limitations for collections lawsuits, the debt collector is not permitted to sue or threaten to sue over that debt. However, it may still attempt to collect it voluntarily.