Posted by: Jeff Brownlee
By Jessica Silver-Greenberg and Ben Protess
The New York Times
Government authorities are homing in on a lucrative loophole that allows online lenders to offer short-term loans at interest rates that often exceed 500 percent annually, the latest front in a crackdown on the payday lending industry.
New York State’s financial regulator joined the effort on Monday as he sent letters to 35 of the online lenders, instructing them to “cease and desist” from offering loans that violate local usury laws, according to documents reviewed by The New York Times. The regulator, Benjamin M. Lawsky, ordered the lenders to halt the “illegal” loans within two weeks.
Mr. Lawsky’s investigation is playing out as state and federal officials escalate a broader effort to rein in payday lenders and their practice of offering quick money, backed by borrowers’ paychecks, to people desperate for cash.
It is an evolving battle. As New York and 14 other states have imposed caps on interest rates in recent years — New York outlaws any loans at rates above 25 percent — the lenders have migrated from storefronts to Web sites. From their online perch, where they reach consumers across the country, the lenders can skirt individual state laws.
“Illegal payday lenders swoop in and prey on struggling families when they’re at their most vulnerable — hitting them with sky-high interest rates and hidden fees,” Gov. Andrew M. Cuomo said.
If the lenders are seen as violating the law, officials briefed on the matter said, the state has authority to either sue the companies or refer their actions to prosecutors.
New York is also widening its scrutiny to include the banks that enable the lenders to operate. The banks, including JPMorgan Chase and Bank of America, are a critical link between consumers and payday lenders, state officials say. They allow the lenders to automatically withdraw monthly loan payments from borrowers’ checking accounts through an electronic transfer system known as A.C.H., or Automated Clearing House.
On Monday, Mr. Lawsky enlisted 117 banks to block online lenders from tapping into checking accounts of New York residents. In a letter to the banks, he questioned why the A.C.H. network had allowed online payday lenders the “foot in the door” they needed to ensnare consumers.
“Banks have proven to be — even if unintentionally — an essential cog in the vicious machinery that these purveyors of predatory loans use to do an end-run around New York law,” he said in the letter. Mr. Lawsky urged the banks to “work with us to create a new set of model safeguards and procedures” that will detect illegal loans.
While federal and state regulators have sued online lenders before, New York’s scrutiny of the banks represents a new avenue.
Some banks, however, have started to tweak their practices. JPMorgan, for example, is now reporting lenders that try to make unauthorized withdrawals to the group that oversees the A.C.H. system.
Mr. Lawsky has also pressured that group, Nacha, to take action. Nacha, formerly known as the National Automated Clearing House Association, is a nonprofit group that has previously said that banks have “no basis or information to make an independent judgment” about whether a withdrawal from a checking account is a “bona fide, legal transaction.”
A Nacha representative declined to comment.
Other federal and state authorities, including the Manhattan district attorney’s office, are investigating the banks for permitting illicit withdrawals from customer accounts, officials briefed on the matter said. State authorities in Maryland, according to the officials, have also referred potential instances of wrongdoing by the banks to the Federal Deposit Insurance Corporation.
In his separate cease-and-desist letters, Mr. Lawsky took aim at lenders like Western Sky Financial and Advance Me Today, which currently advertises a loan carrying interest and fees amounting to 782 percent annually. Another company, Peak 3 Loans, once charged a 1,095 percent rate on loans, the officials said.
Advance Me Today and Peak 3 did not return requests for comment. A spokesman for Western Sky declined to comment on the investigation, but said that the company “complies with all applicable laws in its business practices.”
The payday loan industry has long noted that it provides credit to consumers who may otherwise lack access to the financial system. The high interest rates, the industry argues, reflect the riskiness of the client and the short-term duration of the loan.
“Like many consumers nationwide, New York residents are looking for more affordable credit options than those currently offered in their state and are increasingly looking to the convenience of Internet for them,” Peter Barden, spokesman for the Online Lenders Alliance, said in a statement. “Rather than restricting consumer choice, state officials should be focused on finding a federal solution to ensure consumers have access to the credit options they need and are demanding.”
In addition to New York, other state regulators have also moved against online lenders for violating state usury laws.
Arkansas’s attorney general sued the operator of a number of online lenders, claiming that the firms were breaking state law that caps annual interest rates at 17 percent. Authorities in Maryland have also announced a series of cases, including as recently as last week, when it took action against MyCashNow.com, one of the 35 lenders that Mr. Lawsky singled out on Monday. MyCashNow could not be reached for comment.
In at least nine states, from Colorado to Missouri, regulators have penalized lenders with connections to Native American tribes. The lenders use these ties to claim that they are part of a “sovereign nation” immune from federal and state law.
The Federal Trade Commission in April 2012 sued AMG Services, a company with tribal affiliations that was started by a racecar driver, accusing the company of tacking on inflated and undisclosed fees. In its defense, court records show, the company claimed that it was not under the regulator’s jurisdiction, citing its affiliation with the tribes. Last month, the agency scored a victory in the lawsuit, which is still pending, when a district court judge ruled that the tribal affiliation did not shield the lender from the regulator’s case.
Western Sky, which says on its Web site that it operates “within the exterior boundaries of the Cheyenne River Sioux Reservation,” is among the other targets.
In April, it tangled with Oregon’s department of Consumer and Business Services, which fined the lender over accusations that it trumpeted loans that came with interest rates of up to 342 percent “through an aggressive TV and radio advertising campaign.” That action came on the heels of another lawsuit against the lender in 2011 from the Colorado attorney general, which claimed that Western Sky flouted state law through roughly 200 loans that exceeded the state’s interest rate cap.
A spokesman for the company said, “Western Sky Financial is the largest private employer on the impoverished Cheyenne River Indian Reservation.”
Western Sky also landed on Mr. Lawsky’s radar after New York consumers complained about the company.
Although Western Sky says its loans “are not available to consumers” in New York and other states with similar rate caps, it nonetheless lent $2,600 to Anne Diaz, a 44-year-old single mother who lives in Syracuse. Despite New York’s 25 percent interest cap, she said Western Sky charged her a 135 percent annual interest rate in January.
“I feel really desperate and pretty ashamed that I was duped into this,” Ms. Diaz said.