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Affordable Small-Dollar Loan Guidelines
The purpose of these guidelines is to encourage financial institutions to offer small-dollar credit products that are affordable, yet safe and sound. Because such products are in great demand, the FDIC would like to raise awareness that some institutions have found ways to offer them in a cost-effective, safe and sound manner that is responsive to customer needs. Furthermore, such products offered in a responsible, safe and sound manner will warrant favorable Community Reinvestment Act (CRA) consideration.
These guidelines explore several aspects of product development, including affordability and underwriting. They also discuss tools, such as financial education and savings, that may address long-term financial issues that concern borrowers.
Demand for Affordable, Reasonably Priced Small-Dollar Loans – An Opportunity for Financial institutions
The widespread repeat use of fee-based overdraft programs and the growth of payday lending1 confirm that loans in small-dollar amounts are in strong demand. Consumers who make use of these products are bank customers because both products typically require consumers to have a checking account. 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 addition, affordable short-term loan programs, particularly those offered to low- and moderate-income individuals and in low- and moderate-income areas, may be used as a marketing vehicle to tap into the underbanked market. This strategy has been pursued by some financial institutions as one important part of a profitable, long-term, multiple account relationship for these individuals that may also include financial education, workplace financial services, individual development savings accounts, foreign remittances, and other services.
Applicability of Subprime Lending Guidance to Affordable Small-Dollar Loan Programs
The FDIC recognizes that an affordable small-dollar loan program may target customers who have poor or limited credit histories, or who would otherwise be characterized as subprime borrowers. However, the interagency Expanded Guidance for Subprime Lending Programs2 limits the definition of subprime lending as a program with an aggregate credit exposure greater than or equal to 25 percent of Tier 1 capital. Accordingly, affordable small-dollar loan programs that fall under the 25 percent of Tier 1 capital threshold would not be expected to provide the additional capital or robust monitoring and portfolio analysis called for in the Subprime Guidance. Given the nature of affordable small-dollar loan programs, the FDIC expects that such programs typically would fall under this threshold.
Features of Responsible, Affordable Small-Dollar Credit Programs
Some small-dollar loan programs are designed for the broad base of customers. Others are targeted to certain markets, such as low- and moderate-income customers, the under-banked, or customers with a limited or non-existent credit history. Still other programs are developed to address the regulatory expectation articulated in prior guidance that financial institutions monitor customer use of products such as fee-based overdraft programs and, when usage becomes excessive, offer or refer a customer to a more suitable product.3 The goal of all of these programs is to enable insured institutions to tap into an underserved and potentially profitable market while helping consumers avoid, or transition away from, reliance on high-cost debt.
The goal of safe and sound small-dollar credit programs is to provide customers with credit that is both reasonably priced and profitable for the institution. Fundamentally, credit should be provided in a manner that offers borrowers a meaningful opportunity to repay debt based on their circumstances and other outstanding obligations. Where closed-end credit is offered, it should also be structured to be repaid in affordable installments within a specified period. Where open-end credit is offered, products should be structured to require minimum payments of interest and principal that provide for the reduction of the outstanding loan over a reasonable timeframe. New products should be appropriate for the group of customers targeted, as well as compliant with all applicable laws.4
Over time, borrowers should be able to improve their credit histories and graduate to other more significant asset-building loans, such as home mortgages and small business loans. Some standard products, such as lines of credit and closed-end installment loans, can be offered with features that make them particularly responsive to borrower needs.
Community Reinvestment Act Consideration for Small-Dollar Loan Programs
Establishing a loan program in a bank’s assessment area that provides small, unsecured consumer loans that are consistent with these guidelines would warrant favorable consideration under the CRA as an activity responsive to the credit needs of the community.6
Affordable small-dollar loans are in demand. Many consumers turn to payday or other lenders because they are accessible and can quickly provide loans. Yet, the inability to repay these short-term, high-cost credit products often exacerbates a customer’s ability to meet cash flow needs. Financial institutions can provide the same service with more appropriate loan terms and at a lower cost, and some institutions have found creative ways to do so. The FDIC encourages institutions to consider opportunities for offering innovative, reasonably priced products that meet this need.
1 Payday loans are short-term loans, generally less than $500, for which a borrower has given a check postdated to the borrower’s next payday, when the full balance of the loan is due.
2 See Subprime Lending: Expanded Guidance for Subprime Lending Programs, FIL-9-2001 (January 31, 2001), http://www.fdic.gov/news/news/press/2001/pr0901a.html.
3 The federal financial institution regulatory agencies have recommended that when overdraft protection is used excessively, customers should be informed of other credit products that may be better suited to their needs. See Joint Guidance on Overdraft Protection Programs, FIL-11-2005 (Feb. 18, 2005), http://www.fdic.gov/news/news/financial/2005/fil1105.html#body.
4 Products offered to covered military service members and their dependents must comply with the limitations found in the Talent-Nelson Amendment, enacted as section 670 of the John Warner National Defense Authorization Act for Fiscal Year 2007. The Talent Amendment establishes a number of limitations on extensions of credit to covered service members and their dependents, including restrictions on interest, types of security, prepayment penalties and other terms and conditions. The Talent Amendment becomes effective on October 1, 2007.
5 Pursuant to Federal Reserve Board Regulation E, which addresses Electronic Fund Transfers, borrowers cannot be required to make payments in this manner unless credit has been extended under an overdraft credit plan. See 12 C.F.R. 205.10(e).
6 See Interagency Questions and Answers on the Community Reinvestment Act, 66 Fed. Reg. 36619, 36631, Sec.345.22(a)-1 (July 12, 2001), http://www.fdic.gov/news/news/inactivefinancial/2001/fil0164.html. The federal banking agencies confirmed that establishing loan programs that provide small, unsecured consumer loans in a safe and sound manner (i.e., based on the borrower’s ability to repay) and with reasonable terms may warrant favorable consideration as activities that are responsive to the needs of the institution’s assessment area(s). While this clarification refers to the CRA lending test for large institutions (institutions with assets over $1 billion), the FDIC takes a similar view for all other institutions.
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