emergency money

Banks Finding Ways to Bridge the Payday Gap

U.S. Bancorp and Wells Fargo & Co. offer cash advances for paychecks.

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MINNEAPOLIS - Call it an emergency cash advance. Call it "proactive" overdraft protection. Just don't call it a payday loan.

At least that's how U.S. Bancorp and Wells Fargo & Co. prefer it. The two companies offer direct-deposit checking customers cash advances on future paychecks. The two banks charge a 10 percent fee for loans up to $500, which is automatically repaid when the customer's next paycheck is deposited in the account. Payday lenders, by contrast, have an up-front charge of anywhere from 15 to 25 percent per loan.

Trent Spurgeon, vice president of product and segment management for Minneapolis-based U.S. Bancorp, justified the company's 10 percent fee, noting that it is less than half of what traditional payday lenders charge, which includes "hidden costs" such as late penalties and renewal fees. Moreover, he said, U.S. Bancorp offers the service to all direct-deposit customers, regardless of their credit histories.

Nevertheless, the direct-deposit loans are very lucrative for the banks, experts say. U.S. Bancorp and Wells Fargo earn an annual interest rate of about 120 percent on each loan. Plus there is little risk to the banks because they automatically deduct the money from the consumer's direct-deposit account, said Bart Narter, a banking analyst with Celent, a management and consulting firm in Boston.

"I think they will make a bundle out of it," Narter said.

Neither U.S. Bancorp nor Wells Fargo will disclose specific numbers related to the programs, calling such data proprietary.

Bank officials say the loans, dubbed direct-deposit advances, are strictly meant for emergency needs, such as car repairs or medical expenses.

The service is "a quick and simple solution to people who have no immediate access to other forms of credit," Spurgeon said.

Cash-strapped consumers can also use the loans to prevent overdraft fees from bounced checks, he said.

"Payday loans carry certain (negative) connotations," Spurgeon said. "We serve the same needs, but the products are different."

For one thing, U.S. Bancorp, which rolled out the product about a year ago, is very clear about the terms and conditions of the loans, he said. A consumer can obtain advances for nine consecutive months (or about 18 paychecks) before U.S. Bancorp freezes their access for three months. After that, the consumer can resume taking out loans. Spurgeon, however, said customers who are cut off make up only a small percentage of borrowers.

Wells Fargo reduces the amount of money customers can borrow if they use the service for 12 or more consecutive statement periods.

U.S. Bancorp also sends out letters that remind customers that the service is not a long-term source of funding. The letters also suggest credit counseling and other products such as home equity loans, credit cards and overdraft protection.

But critics of payday loans are not impressed. Even though direct-deposit advances offer lower interest rates than traditional payday lenders, the loans can still trap consumers in a continuing cycle of debt, said Susan Lupton, a senior policy associate with the Center for Responsible Lending, a nonprofit group based in North Carolina.

"I definitely think it's a payday loan," Lupton said. "It's less expensive, but not enough to be a meaningful alternative."

The banks don't offer a way for consumers to repay their loans without tapping their next paycheck, Lupton said, adding that she thinks borrowers should be given more flexibility in their repayment options. She said U.S. Bancorp's three-month "cooling-off" period also means consumers who are cut off from the loans will likely pay overdraft charges on bounced checks.

It's not difficult to see why mainstream banks are squeamish about the term payday loan. Regulators and activists say payday lenders prey upon lower-income Americans, often minority members, by charging exorbitant fees and interest rates. Payday lenders pocket $4.2 billion in fees a year, mostly from repeat users who take out such loans at least five times a year, according to a 2006 study by the Center for Responsible Lending. The average payday borrower pays back $793 for a $325 loan, the report says.

Experts say there is a real need for some consumers to obtain small, affordable loans. The Federal Deposit Insurance Corp., a federal agency that regulates banks, recently issued guidelines encouraging financial institutions to offer alternatives to high-cost payday loans and overdraft programs.

"Loans in small dollar amounts are in strong demand," the FDIC guidelines say. "Providing more reasonably priced small-dollar loans to existing customers can help banks retain these customers and avoid the reputation risk associated with high-cost products."

In 2001, the North Carolina State Employees' Credit Union debuted a payday loan program with a 12 percent annual interest rate. Moreover, the credit union required customers place 5 percent of the loan amount in savings accounts.

Fishback Financial Corp., of South Dakota, which operates First Bank & Trust in Pipestone, Minn., this month introduced Revel Advance. The program allows consumers to borrow small amounts of money on a prepaid card with fees ranging from 8 to 10 percent, plus a monthly maintenance fee of $4.95 to $9.95 if there is a balance on the card. The company charges no interest.

If U.S. Bancorp didn't offer direct-deposit advances, then many of its customers would probably go to payday lenders, Spurgeon said. He said, however, that U.S. Bancorp doesn't consider payday lenders as direct competitors.

"It makes (customers) more comfortable banking with U.S. Bank," he said. "They didn't believe these needs could be met. It makes (mainstream) banks more attractive to people."