WASHINGTON — The banner ad atop the website features a wide-eyed baby cradled in an adult's hands with the words, "Did that special vacation for two end up producing a third? Castle Payday has life's unexpected expenses covered."
On a growing number of sites like this one, short-term loans are just a click away for Web-surfing borrowers, regardless of any history of bankruptcy, bounced checks or other credit problems.
The catch is that these so-called payday loans often come with sky-high interest rates of 400 percent or more. The Castle Payday website advertises an effective 888 annual percentage rate, meaning a 14-day loan of $500 will end up costing the borrower $675.
Those who can't scrape together the cash to pay off the loans along with their other bills may be tempted to take out another short-term loan to cover the first, potentially ensnaring them in a cycle of debt.
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Consumer advocates complain that companies like Castle Payday are setting up shop on the Internet to avoid laws in some states that restrict or ban traditional storefront payday lending.
"More and more states are cracking down on payday lending, and it's a lot easier to hide online than it is to hide in a storefront," said Ed Mierzwinski, consumer program director for U.S. PIRG, an advocacy group.
But industry groups contend that online payday loans are legal and provide a vital service for millions of struggling Americans with few credit options.
"Most consumers don't have the ability to get $500 or $600 in an emergency through their banks or credit unions," said Peter Barden, spokesman for the Online Lenders Alliance, a trade organization. "Credit card limits have been reduced, equity loans have been reduced, so people are increasingly looking to alternative financial services companies for short-term credit. And like with any other industry right now, they're looking online."
Payday loans are illegal in 15 states, including North Carolina, Georgia and Pennsylvania. Nine others — among them Kentucky, Washington and Florida — do allow payday loans but enforce strict rules that limit fees, require longer repayment periods or restrict the number of loans per customer, according to a Pew Charitable Trust study. For more information on Kentucky's law, visit http://bit.ly/K3Mjog.
In recent months, state and federal regulators have intensified pressure on banks to stop working with online lenders. But the industry is fighting back in court.
The legal situation is complicated by the fact that many online lending websites are run by Native American tribes, which say their sovereign status means they aren't subject to state laws. Castle Payday, for example, is operated by the Lac Vieux Desert Band of Lake Superior Chippewa Indians in Michigan.
The Lac Vieux joined with another tribe this month to seek an injunction against a New York regulator, arguing that states have no authority over them.
Benjamin Lawsky, the New York superintendent of financial services, had sent cease-and-desist orders to Castle Payday and 34 other online lenders to stop them from making payday loans to consumers in New York, where payday loans are illegal. Lawsky also asked more than 100 banks to deny the lenders access to the automated system used to process electronic payments, so that they can't debit borrowers' accounts.
In a lawsuit filed in U.S. District Court, the Lac Vieux and the Otoe-Missouria tribe of Oklahoma condemn what they describe as regulators' "bare-knuckle attack" on tribal sovereignty. If not stopped, the suit warns, New York's "campaign of misrepresentations, threats and coercion" will destroy tribal businesses and devastate tribal economies.
Tribes located in impoverished and isolated areas need the proceeds from online lending to fund their governments and essential services — everything from education programs to new fire trucks, said Barry Brandon, executive director of the Native American Financial Services Association, an advocacy group for tribes involved in the online lending business.
"We have had reports from some of our member tribes that the revenues they are producing from their online lending operations are now making up between 25 and 50 percent of the tribal budget," he said.