Nebraska voters have chosen to cap payday loan interest rates.  Ballot box Initiative 428 limits the annual percentage rate on payday loans at 36%.

Nebraska Department of Banking report indicates that the average annual percentage rate on payday loans in Nebraska is 405%.

However, according to Thomas Aiello of the National Taxpayer Union, the cap on interest rates would actually hurt low-income Nebraskans by denying them access to credit.

This is an onerous rule that is more likely to decimate credit markets for Nebraskans in desperate need of a small, quick loan.” Thomas Aiello

Indeed, capping payday interest rates at 36% would devastate the industry.  Although loan rates average 405%, the default rate on those loans is also significant and the effective interest rate earned by payday lenders is much lower when those defaults are factored in.

Support for capping the interest rate is receiving support from many sources, including the Catholic Church.

“Payday lending too often exploits the poor and vulnerable by charging exorbitant interest rates and trapping them in endless debt cycles,” said Archbishop Lucas. “It’s time for Nebraska to implement reasonable payday lending interest rates. The Catholic bishops of Nebraska urge Nebraskans to vote ‘for’ Initiative 428.”

The amazing fact of payday lending  is that it is not restricted to low-income neighborhoods. You can find payday lenders in almost every neighborhood, regardless of income level.

Can payday lenders survive with a 36% cap on interest?

My guess is that the business model of payday lenders will have to change. Lending standards will be tightened and the least qualified borrowers will be denied credit. Is that a bad thing as Thomas Aiello suggests? Probably not. Other lending sources still exist, like pawn shops or family loans or selling unnecessary items.

Some commentators have told me that such interest rate caps are ineffective since lenders simply set up shop on the internet and use the National Bank act to argue that interest rates are controlled by the state of incorporation.  In other words, the evade the cap by incorporating in a different state and argue that our Nebraska laws do not apply to lenders that cross state lines.  Time will tell if this approach is followed.

Other attorneys have suggested that lenders will evade the cap by originating more Title Loans secured by vehicle titles.

It will be interesting to watch the payday lending industry going forward. Something tells me that neither the demand for these high-rate loans nor the lenders willing to make them are going away. The rules of the game will change, but somehow lenders will find a way to evade the cap.


Image courtesy of Flickr and HelenCobain