Payday: Some banks backing lenders that charge 780 percent rates

Edward Robinson

Wednesday, Nov. 24, 2004 | 9:57 a.m.

Jason Withrow, a petty officer second class in the U.S. Navy, had long ignored the stores with signs in their windows offering "$500 Instant Cash!" that were clustered around his base in Kings Bay, Ga. Then, on July 4, 2003, he suffered a back injury, had to quit his part-time job and decided to borrow $300 from one of the stores, which are called payday lenders. Finally, after paying annual interest rates that reached 780 percent and spiraling in debt, Withrow, 25, got bailed out with an interest-free loan from a charity connected with the Navy.

Payday lending has expanded beyond the fringes of the consumer finance industry. In 2003, the industry generated $6 billion in fee revenue from $40 billion in loans, according to Stephens Inc., a Little Rock, Ark.-based investment bank.

As many as 14 million of the 105 million U.S. households used payday lenders in 2003, according to Stephens analyst Dennis Telzrow. In May, he projected the industry's revenue would increase 12 percent to 18 percent in 2004.

Four of the top 10 U.S. banks measured by assets have helped fund the rise of payday lending by extending credit lines.

Many of the consumers who have turned to payday lenders for a financial rescue have sunk deeper into debt, says Jean Ann Fox, director of consumer protection at the Consumer Federation of America, a Washington-based organization.

Payday lenders' fees typically run at an annual percentage rate of 390 percent or higher compared with about 18 percent for cash advances drawn on a credit card.

Such high rates trap borrowers in a cycle that few can break without defaulting and facing legal judgments, Fox says. To skirt usury laws, the payday loan industry has persuaded 36 states to legalize its lending practices.

Payday lenders target the working poor who have bank accounts and jobs yet live payday to payday with pennies to spare, Fox says. The lenders' customers earn an average annual income of $25,000, according to a 2002 study by John Caskey, a professor of economics at Swarthmore College in Swarthmore, Pa.

Typically, these payday lending outlets advance $100 to $500 to borrowers from their next paychecks for a $15 to $90 fee. "These lenders exploit people who are just trying to cope financially," Fox says. "This used to be called loan sharking."

The Community Financial Services Association of America, the payday lending industry's Alexandria, Va.-based lobbying group, defends the practices of its 100 members. Steven Schlein, the association's spokesman, says payday lenders offer a valuable stopgap for consumers who find themselves in need of quick cash.

He says the $15 charged for a $100 "deferred presentment," as the association calls a payday loan, is half of the typical $30 penalty a bank imposes for bouncing a check. "We're offering a good alternative," Schlein says. "This product isn't a debt trap."

It turned out to be just that for Withrow, who says he had viewed the payday lenders outside his base as just another unsavory fixture in a military town, like pawnshops and strip clubs -- until that July day when he was struck by a car while on sentry duty and had to give up his job unloading beer kegs at the base's liquor store.

Withrow, who earned $900 in net pay every two weeks, needed the $600 in extra income to send his wife, Kristy, to nursing school and to support their daughter, now 3. Unable to pay his bills, the sailor turned to a store run by Advance America Cash Advance Centers Inc., a payday lender based in Spartanburg, South Carolina. He agreed to pay a $90 fee for a $300 loan.

When he couldn't pay it all back two weeks later, he rolled the loan over for another $90, an annual percentage rate of 780 percent. Withrow got deeper in debt as he struggled every two weeks to pay the fee -- let alone the loan itself.

He borrowed more cash to service the first fee, and by February 2004, he'd paid about $5,000 in interest on $1,800 in payday loans at four different lenders. "I just couldn't make it, and I saw no solution," Withrow says.

Finally, he informed his commanding officer, and the Navy-Marine Corps Relief Society, an Arlington, Va.-based charity that assists service personnel in financial difficulty, loaned him the money to settle his accounts.

Payday lending outlets have grown to 22,000 nationwide -- from 200 in 1993.

In California, there are 5,626 payday lending outlets, five times the number of McDonald's restaurants in the state.

"It's booming all over the country," says W. Allan Jones, chief executive of Check Into Cash Inc., a closely held payday lender based in Cleveland, Tenn. His chain, with more than a thousand stores in 30 states, was one of the first payday lenders to expand nationwide.

Wells Fargo & Co., the No. 4 U.S. bank, and JPMorgan Chase & Co.'s Bank One unit in Chicago have extended a $90 million credit line to Cash America International Inc., a Fort Worth, Texas- based company that offers payday loans from 544 pawn shops and other outlets, according to U.S. Securities and Exchange Commission filings.

New York-based JPMorgan, the No. 2 U.S. bank, provides credit to ACE Cash Express Inc. of Irving, Texas; Mr. Payday of Kentucky Inc.; and Illinois Payday Loans Inc., among others, according to Uniform Commercial Code records, which show lending relationships.

Wells Fargo, based in San Francisco, has extended credit to Payday Inc. in Albuquerque, N.M.; Payday Plus Inc. in North Dakota; and Payday Express Inc. in Omaha, Neb., among others, according to UCC filings. In 2000, Wells Fargo provided $140 million in revolving credit and a term loan to Advance America.

Wells Fargo was willing to lend the money at 3.5 percentage points above the London interbank offered rate, a benchmark interest rate for loans between banks, according to an SEC filing.

Payday lenders draw on those credit lines to make loans to borrowers. In an SEC filing for its initial public offering, Advance America says that losing its credit line would have a "material adverse effect" on its financial condition.

"The big banks are profiting from a predatory financial industry," says Matthew Lee, executive director of Inner City Press/Fair Finance Watch, a New York-based organization that lobbies against predatory lending. "By partnering with payday lenders, they have enabled them to sprout like mushrooms all over the country."

JPMorgan Chase spokeswoman Calmetta Coleman says the bank will continue extending credit to payday lenders. In June, JPMorgan donated $400,000 to the National Federation of Community Development Credit Unions to research alternative ways to make short-term loans to the poor. "We have heard the concerns of consumer groups," Coleman says.

Wells Fargo sees no problem in lending to payday lenders who obey the law, spokeswoman Susan Stanley-Jones says.

"Free and equal access to credit for any legitimate business that complies with all laws is a cornerstone of the free enterprise system," Stanley-Jones says.

Advance America is the No. 1 U.S. payday lender, with 2,290 stores in 34 states. Unlike many payday lending stores, which have dirty linoleum floors and use bulletproof plexiglass to separate clerks from customers, Advance America's stores are clean and carpeted.

Posters depicting happy customers hang on the walls. In one, a group of laughing children blows out candles on a birthday cake. "Money that gets me back to what matters" is the slogan printed on the poster. The company has filed for trademarks of other sayings, including "For Life's Little Emergencies" and "Because You Just Never Know."

Advance America CEO William Webster, who served as chief of staff to U.S. Secretary of Education Richard Riley from 1993 to 1994, didn't return telephone calls seeking comment. In the first three quarters of 2004, the company earned $69 million on $350 million in net revenue. Its net income has soared 12-fold since 1999.

In July 2004, Wachovia Corp., the No. 5 U.S. bank, and Bank of America Corp., the No. 3 U.S. bank, co-arranged a $265 million syndicated credit line for Advance America, according to SEC documents. Two months later, Advance America announced an IPO to raise $183 million.

The lead underwriter for the unscheduled offering is Morgan Stanley, the world's second-largest securities firm. Allen & Co., a New York-based investment bank that ranked 52nd in U.S. merger advice during the first 10 months of 2004, and the securities units of Bank of America, Wachovia and Wells Fargo are among the offering's co-underwriters.

"Wachovia is committed to fair lending practices and has strict credit policies regarding payday lending," spokeswoman Alison Rice says. Allen & Co. spokeswoman Kim Wieland and Bank of America spokeswoman Eloise Hale didn't return calls for comment about payday lending. Morgan Stanley spokeswoman Melissa Stonberg declined to comment about payday lending.

Other banks and some mutual fund companies have also benefited from their investments in the few payday lenders that are publicly traded.

Boston-based Fidelity Investments' Low-Priced Stock Fund is the biggest investor in ACE Cash Express, with a 7.3 percent stake, according to data compiled by Bloomberg.

ACE offers payday loans from 920 of its check cashing stores. Its stock climbed 33 percent between December 31, 2003, and November 22, 2004, compared to a 12 percent rise in the Russell 2000 Index of small companies.

Goldman Sachs Group Inc. -- the world's third-largest securities firm -- JPMorgan and Bank of America each hold stakes greater than 1 percent in Cash America International. Its stock rose 29 percent in 2004 as of Nov. 22.

Fidelity spokesman Vincent Loporchio says his firm doesn't comment on individual holdings. Goldman Sachs spokesman Lucas van Praag didn't return calls inquiring about payday lending.

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