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Repeating History: How Regulated Rate Caps Would Hurt the Very People They’re Meant to Help

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It was three years ago, on July 1, 2016, when Vermont and Indiana began regulating the business of advancing cash to plaintiffs in personal injury litigation, joining six other states that also had, since 2008, enacted laws intended to shield consumers from “predatory” litigation funders. Contrary to what many may have initially assumed, Reuters appropriately described the mood of the industry at the time, “As states regulate cash advances to plaintiffs, litigation funders cheer.”

Similarly, as Senator Bernie Sanders and Representative Alexandria Ocasio-Cortez express their interest to cap consumer interest rates in an effort to curb “sky high” credit card charges and other forms of “predatory” lending, as reported on by Newsweek last month, those of us in related industries are not opposed to regulation – but the proposed rate caps would likely end up hurting the very people they’re intended to help.

That’s because regulation like what’s being proposed would again be attempting to proactively kill off an industry vital to struggling households: short-term, easy access lending. The Sanders/Ocasio-Cortez plan relies on an oversimplified history of the rules that limit usury, and the recourse lenders can take to collect on funds owed. Namely, they’re missing the fact that original state usury laws, like the ones they’re hoping to reenact, applied to all types of loans. As a result, before states began making exceptions to their usury laws in the early 20th century, small-dollar lending was effectively outlawed because lenders could not profitably operate their businesses at the legal rates that had been set.

Here’s the example Newsweek outlined in their article, which appropriately captures the impossible business scenario this old-new plan creates:

Usury laws fixed maximum charges as a percentage of the amount borrowed on an annual basis, which yielded a tiny dollar fee for small, short-term loans. For example, in a state with a 6 percent cap, a lender offering a $200.00 three-month loan would only be able to charge $3.00 in interest – the monthly rate being just 0.5 percent. At such low rates, small-sum lenders could not cover the costs of running their business.

In the 2016 Reuters article, Eric Schuller, president of the Alliance for Responsible Consumer Legal Funding (ARC) — a trade group representing about half of the established businesses in the pre-settlement funding industry, including Cherokee Funding – was quoted saying, “Responsible pre-settlement funders welcome the licensing, registration and reporting requirements states have imposed on the industry.” Continuing with, “As long as the industry has a chance to inform the process.”

Preceding the article, in an ARC press release, Rob Johnson, executive director of ARC, said “Consumer legal funding can be a lifeline for people after an accident. Your body can take time to heal, legal cases take time to settle, but life goes on. The mortgage has to be paid, you have to provide for your family. With so many families in our country living on the financial edge, an event like an accident can be devastating. Even missing a week at work can really put people behind.”

The same, of course, applies to the situations and people impacted should the Sanders/Ocasio-Cortez plan pass. The fact remains, working-class households still need access to credit as well as short-term, easy access lending. Eliminating access to these critical lifelines altogether does not change the need for them, just who would be fulfilling the calling. Millions of consumers nationwide depend on access to small loans or cash advances, as Newsweek rightfully pointed out. Limiting the rates charged so that only a charity or government-subsidized finance company could provide them will not make them any cheaper, it will simply make the law-abiding industry, like those represented by ARC, disappear. Regulation is important, but not at the cost of consumers, their needs and best interests.

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