The payday lending industry is built on making loans its customers can't afford to repay. This comes through clearly in new data from the state.
From May to September, 83 percent of the payday loan industry's revenue in Kentucky was generated by borrowers who took out five or more loans, according to an analysis by Melissa Fry Konty, a sociologist and researcher for the Mountain Association for Community Economic Development in Berea.
Konty looked at information from an electronic database that the legislature authorized to track payday lending. The database went live in late April.
The raw data show that 713,959 of the 862,824 transactions during the first five months went to borrowers with five or more loans. The database also shows the average fees are about $50 per transaction, meaning borrowers with five or more loans produced $35.7 million in fees for payday lenders in Kentucky in five months.
Just 21,405 transactions, producing $1 million in fees, went to borrowers with a single loan during the five-month period.
This sounds less like the short-term credit to get through a pinch, portrayed by the industry, than a perpetual debt machine that grabs borrowers and sucks them in.
Kentucky law prohibits rolling over payday loans. But what frequently happens is that the borrower pays off the short-term loan but then is so short of cash he has no choice but to immediately take out another loan — at what amounts to 400 percent annual interest.
Sixteen states have outlawed or restricted payday lending. But Kentucky's legislature has refused to even consider capping interest on payday loans at 36 percent.
Instead the legislature authorized the database. One of its purposes was to enforce the state law that limits borrowers to two payday loans at a time.
In the first month the database was in operation, 51.5 percent of the loan requests were denied because the borrower already had two loans outstanding. By September, the rejection rate had dropped to 8.8 percent.
The industry and its legislative supporters will point to the decline in would-be borrowers with more than two loans, and say "problem solved."
But that misses the point, says Konty. "Reducing the number of borrowers who have more than two loans out at a time reduces the risk to the lender, but it does not significantly reduce the risk to the borrowers. Borrowers are still often carrying two loans at a time, are unable to pay them off and still meet all of their obligations, and open new loans as soon as they pay off prior loans. The ratio of total loans to number of borrowers clearly reflects this pattern with an average 8.6 loans per customer in 2010."
Payday lenders, with quite a bit of justification, defend what they do as no worse than the exorbitant overdraft fees charged by banks.
Indeed, big banks profit from financing payday lenders. Banks borrow from the Federal Reserve at low interest rates, then extend credit to payday lenders who lend the money at the equivalent of 400 percent interest.
You would have thought the collapse of the subprime mortgage market, and the economic pain it's still causing, would have taught us a thing or two about businesses built on making loans to borrowers who can't afford them.