Pentagon Declares War on Payday Lenders

Lenny Ignelzi/AP

"Scoundrels" and "scumbags" is what Sen. Jay Rockefeller (D-W.Va.) calls them.

Sen. Dick Durbin (D-Ill.) says they "exploit" military families.

But it's Holly Petraeus -- wife of Gen. David Petraeus and head of the Office of Servicemember Affairs at the Consumer Financial Protection Bureau -- who paints the most colorful picture of the payday lending industry and its relationship to America's military: Across the country, streets leading to military bases are lined with used car dealers, electronics and furniture rental shops and payday lenders. They congregate here "like bears on a trout stream," just waiting for the next fat fish to swim into their clutches.

And the Pentagon says it's got to stop.

Lessons From History

America's generals have known for some time that the payday lending industry abuses its relationship with our soldiers, sailors and airmen. One Department of Defense survey has noted that 9 percent of enlisted servicemen and 12 percent of noncommissioned officers admitted to taking out such loans. A 2005 study by the Center for Responsible Lending estimated that 20 percent of active duty military personnel took out a payday loan in 2004.

And so, in 2006, the generals convinced Congress to pass the Military Lending Act, which forbade payday lenders from charging more than 36 percent annual interest rates on loans to servicemen. But the industry just kept growing.

In 2012, payday lenders of all stripes (not just those focusing on loans to military borrowers) grew their revenues by 10 percent, to $18.6 billion as an industry. But how did a law that ostensibly reduced what money lenders could charge result in these lenders' revenues continuing to rise? The answer is simple: loopholes. The act is full of 'em. Loopholes for...

  • Loans for more than $2,000.

  • Payday loans for more than 91 days.

  • Auto-title loans (where a borrower hands over a car's pink slip as security for a loan) for more than 181 days.

  • Word games that convert what are essentially pawn agreements into ostensible sale-and-repurchase contracts.

According to the nonprofit public interest research organization ProPublica, loopholes like these are how some payday lenders can still get away with annual interest rates for servicemen that exceed 500 percent.

A Problem in Perpetuity?

Last month, the Pentagon urged Congress to close these loopholes, releasing a report urging Enhancement of Protections on Consumer Credit for Members of the Armed Forces and Their Dependents. Citing "evolving predatory lending practices" in the payday loan industry -- the explosion of workarounds to avoid the restrictions codified in the Military Lending Act -- the Pentagon observed that the prevalence of payday loans in today's military is essentially unchanged from levels a decade ago. And it continues to challenge military borrowers' finances.

%VIRTUAL-article-sponsoredlinks%According to Pentagon figures, about 11 percent of servicemen and servicewomen have taken out "payday loans, vehicle title loans, bank deposit advances, [pawned goods at] pawn shops and/or [taken out] installment loans with interest rates over 36 percent APR."

Seeing as 36 percent APR is the interest rate Congress told these lenders not to charge military borrowers, the Pentagon deadpans: "specific definitions of problematic credit no longer appear to function well."

A Growing Consensus

Consumer advocacy groups leaped to the support of the Pentagon report, with the Center for Responsible Lending, the Consumer Federation of America, the National Consumer Law Center and the National Association of Consumer Advocates all urging Congress to tighten restrictions on payday lending to the military. The Pentagon's own polling reveals "unanimous" agreement from 45 consumer advocacy groups who were asked whether it should tighten restrictions on high-interest loans to servicemen -- and backing from "all respondents from state governments and the U.S. Congress" asked the same question.

Payday lenders see no problem. Asked whether their ability to charge 36 percent-plus interest rates to the military should be curtailed, they say, not surprisingly, no.

But if the language chosen by U.S. senators is any indication, it's clear which way the political wind is blowing on this issue. Payday lending to the military will soon face additional restrictions. Maybe this time they'll even work.

Rich Smith is a Motley Fool contributor. Try any Motley Fool newsletter service free for 30 days.