Colorado lawmakers, concerned that many of their constituents were perpetually reliant on short-term loans, overhauled the state's payday lending rules in 2010. Volume, once the loans had to be at least six months long as a result of the new law, quickly fell by more than two-thirds.
As the Consumer Financial Protection Bureau prepares to write nationwide rules for payday lending, the Colorado experiment is instructive. The law, which occupies a middle ground between highly restrictive states like New York and lax states such as Texas, highlights challenges the CFPB will likely face as it seeks to regulate payday lending nationally. At the same time, Colorado's experience suggests a potential path forward for the CFPB.
"Overall, their experience may be pretty useful in foreshadowing what the market's going to look like under CFPB's rule," said Alex Horowitz, a research manager at the Pew Charitable Trusts.
Credit unions, a number of whom have been offering consumer-friendlier alternatives to payday lending, will need to keep an eye on how this shakes out.
Colorado's payday lending law was born out of compromise. Consumer advocates had been pushing for an annual percentage rate cap of 36%, which would have effectively pushed the payday industry out of the state.
But the usury-cap legislation hit a wall in the state Senate in 2010. Soon a deal was struck, and signed into law by Democratic Gov. Bill Ritter.
The impact was dramatic. The number of payday loans made in the state plunged from 1.57 million in 2009 to just 444,000 two years later. More than half of the state's payday stores closed. The big national chains generally were able to adapt, but many smaller operators went out of business.
The new law banned payday loans of less than six months, and it included provisions meant to ensure that those six-month installment loans would not be as expensive as the two-week products they were replacing.
Importantly, the law allows borrowers to pay off their loans at any point within the six-month term without owing a penalty.
In the decade before the law took effect, average APRs on payday loans in Colorado ranged from around 340%-400%, according to data from the state.
Under the new law, a borrower who takes out a $300 loan and pays it off in 30 days owes a total of $21.75, which translates to an 86% APR. If the borrower waits 180 days to pay off the loan, he owes $240, or a 162% APR.
"It's still expensive, but people are able to pay them off," said Rich Jones, director of policy and research at the Bell Policy Center, a Denver-based organization that supports the law.
Last year, the Pew Charitable Trusts released a long and favorable report about Colorado's rules. Pew found that the monthly payments charged in Colorado averaged 4% of the borrower's monthly income. The Pew report recommended that CFPB prohibit payday loans that require payments of more than 5% of the borrower's pretax income.
"Of the 36 states that have payday lending, Colorado's done the best job," Pew's Horowitz said in an interview.
The Colorado rules have not been embraced as warmly by some other consumer advocates. A report last year from the Center for Responsible Lending pointed out that the number of days Colorado borrowers were in debt rose significantly after the 2010 law took effect, though it also noted that consumers were paying substantially less to borrow similar amounts of cash.
Nationally, many consumer advocates would like to see a 36% APR limit. But that is not an option for the CFPB, which is barred by law from setting an interest-rate cap. Today 14 states and the District of Columbia do not have storefront payday lending at all, while 27 states allow APR of 391% or higher, according to Pew. Colorado is one of nine states in between those two extremes.
If the consumer bureau wants to reduce the prevalence of payday lending, while still ensuring that such loans remain an option for cash-strapped consumers, Colorado offers an intriguing model.
No one expects the CFPB to adopt the entire Colorado law. But it is not hard to envision the agency adopting rules meant to ensure that borrowers can afford to repay their loans, which has arguably been the outcome in Colorado.
Inside the CFPB, it's likely that officials already have a good understanding of the Colorado law's impact.
Laura Udis, who formerly administered the state law as an attorney in the Colorado Attorney General's Office, was hired last December as manager of the consumer bureau's payday lending program. A CFPB spokesman denied a request to interview Udis.
One important outcome of the Colorado law has been attrition inside the state's payday industry. At the end of 2009, Colorado had 505 payday stores, according to Pew. That number fell to 238 by mid-2013.
Whether that is a positive or negative development depends on one's opinion about payday loans.
"We didn't need a payday loan store on every corner," argued Colorado House Speaker Mark Ferrandino, D-Denver, who sponsored the law.
State Rep. Bob Gardner, a Republican from Colorado Springs who opposed the legislation, countered: "It would be a loss for those who have limited options if the industry were to disappear completely."
There is one point that the law's supporters and critics agree on: the legislation's impact has been felt much more acutely by small payday lenders than the large national chains.
Chris Rockvam, a co-owner of Money Now stores in Fort Collins, Longmont and Lafayette, Colo., said that his firm had to close two of its locations as a direct result of the 2010 law.
"It basically was about a 40% reduction in our gross income," said Rockvam, who is president of the Colorado Financial Service Centers Association. "We don't have the luxury of economies of scale, like some of the larger companies do."
Two other factors hurt smaller payday lenders after the Colorado law took effect, according to industry observers. First, because the new loans had six-month terms, lenders could not turn over their cash as quickly as they did with two-week loans, so they needed more capital.
And second, the big payday chains offered more a more diverse set of products than their smaller competitors. At larger firms, revenue from check cashing, prepaid cards and other offerings helped cushion the blow when payday revenue shrank.
Check Into Cash, a multistate payday chain, had 33 locations in Colorado prior to the law's enactment. Today the company has 31 stores in the state, according to Lynn DeVault, who is president of the payday chain's parent company.
DeVault acknowledged that her firm has not felt the effects of the four-year-old law like smaller companies have.
But she also said that Colorado law's impact on smaller payday lenders should serve as a warning to the CFPB. That's because during its rulemaking process, the consumer bureau is required to convene panels to assess the potential impact on small businesses.