What Is Predatory Lending?

What Is Predatory Lending?

Predatory lending refers to unfair, deceptive, or fraudulent practices by lenders when offering loans to borrowers. It often targets vulnerable populations who may struggle to understand loan terms or risks. Predatory loans frequently have outrageously high interest rates and fees, and terms that make the loans difficult or impossible to repay.

Common Types of Predatory Loans

  • Payday loans – These are short-term, high-interest loans that must be paid back quickly, often on the borrower’s next payday. Payday lenders typically do not consider the borrower’s ability to repay the loan.
  • Car title loans – The borrower uses their paid-off car as collateral for a short-term loan. Failure to repay can result in the lender seizing the car even if the loan was for a small fraction of the car’s value.
  • Mortgages – Predatory mortgages often have adjustable rates that balloon to unaffordable levels, excessive fees, and terms that make it likely the borrower will default. Subprime mortgages played a major role in the 2008 housing crisis.
  • Student loans – Some for-profit colleges and private lenders engage in predatory lending by failing to properly disclose loan terms to students. They may also extend credit to students unlikely to repay, knowing the loans cannot be discharged in bankruptcy.
  • Paycheck advances – Some employers offer paycheck advances with exorbitant fees and interest rates that end up trapping employees in cycles of debt.
  • Tax refund advances – Tax preparers sometimes offer refund advances with hidden fees that eat away at the amount received by the filer when their refund arrives.
  • Overdraft fees – Banks will sometimes re-order transactions to maximize overdraft fees charged to those struggling financially.

Common Predatory Lending Practices

Predatory lenders use a variety of unethical tactics to take advantage of borrowers, including:

  • Fraudulently altering loan terms at closing
  • Knowingly lending more than a borrower can afford to repay
  • Charging excessive fees and interest rates
  • Requiring lump-sum payments that borrowers cannot make
  • Charging extra fees for paying off loans early
  • Requiring collateral worth much more than the loan amount
  • Engaging in aggressive, deceptive marketing towards vulnerable groups
  • Taking advantage of borrowers’ lack of financial literacy
  • Lending to borrowers who already have excessive debt
  • Obscuring risky loan terms in complex fine print

Targets of Predatory Lending

While anyone can fall victim to predatory lending, some populations are more frequently targeted. This includes:

  • Low income and minority neighborhoods
  • Elderly homeowners
  • Members of the military
  • Recent immigrants with limited English
  • College students
  • Those with lower education levels
  • People with credit problems or histories of bankruptcy
  • Homeowners struggling with payments

Predatory lenders deliberately seek out these vulnerable groups. They market aggressively in the media channels these demographics frequent most. This includes foreign language television/radio/newspapers in immigrant communities.

Consequences of Predatory Loans

Borrowers victimized by predatory lending face dire financial consequences. The unaffordable debt traps strip them of income and assets. It may impact their credit scores for years. Specific consequences include:

  • Defaulting on the predatory loan
  • Foreclosure/repossession of assets & collateral
  • Bankruptcy & long-term credit damage
  • Loss of the family home or car
  • Garnished wages
  • Utility shutoffs
  • Lack of funds for food, medicine, childcare
  • Crippling interest charges & fees
  • Tax refund confiscation

The stress of unpayable debts also takes a psychological toll. Borrowers report depression, anxiety, sleeplessness and other health impacts. Predatory loans can destroy families, marriages and drive borrowers out of their homes.

Legality of Predatory Lending

While some practices are outright illegal, predatory lenders often operate just inside the law. Critics argue more regulation is needed to protect consumers. Laws related to predatory lending include:

  • Truth in Lending Act (TILA) – Requires clear disclosure of loan terms like APR and total costs. Provides consumer protections for mortgages and credit cards.
  • Home Ownership and Equity Protection Act (HOEPA) – Part of TILA, HOEPA protects home equity loan borrowers by banning certain excess fees, balloon payments, and other abusive terms. It applies to very high-cost mortgages.
  • Military Lending Act (MLA) – Passed in 2006 after revelations of rampant predatory lending targeting military members. The MLA caps interest rates and fees on loans to active duty military, spouses and dependents. It bans certain aggressive collection tactics against these borrowers.

In many cases though, predatory lenders manage to avoid legal consequences by exploiting loopholes or operating in legal gray areas. Critics argue better consumer protections and enforcement are needed to curb abusive lending nationwide.

How to Avoid Predatory Loans

The most effective way to avoid predatory lending is being an informed, cautious borrower. Consumers should watch for red flags like excessively high interest rates or fees. Never take out a loan you don’t fully understand. Those struggling financially should explore alternatives like nonprofit credit counseling before resorting to risky private loans. Specific tips include:

  • Review loan terms carefully before signing anything
  • Calculate the APR and total loan costs yourself
  • Don’t take out loans requiring lump-sum balloon payments
  • Avoid borrowing more than you can realistically repay
  • Don’t use high-cost loans for unnecessary purchases
  • Build emergency savings to use instead of payday loans
  • Seek help first from nonprofits and family/friends
  • Consult a financial advisor or housing counselor

Being an informed borrower is the best defense against predatory lending. Consumers should fully understand loan terms, risks and alternatives before signing anything. Predatory lenders rely on exploiting those who feel powerless, desperate or lack financial literacy.