A few weeks ago, the New York Times ran a story (reg. req’d) about GoodMoney, a not-for-profit, joint venture between Goodwill North Central Wisconsin and Prospera Credit Union. Through GoodMoney, Prospera is trying to provide alternatives to the payday lending industry in the Appleton, Wisconsin, area.

How is Prospera doing it? Somewhat nonintuitively, they provide payday loans as an alternative to payday loans. As a not-for-profit venture of a not-for-profit credit union, Prospera is doing the best it can to provide a low-cost, nonpredatory alternative to traditional payday lending products. Still, it has to charge $9.90 per $100 it loans. Over a two-week period, the annual percentage rate (APR) on such a loan is an eye-popping 252%. Still, consumers will find Prospera’s prices and credit terms a vast improvement over those offered by for-profit payday lenders. For example, Prospera’s customers roll over their payday loans an average of only four times as compared to the industry average of seven. Also, Prospera works with its customers to consolidate their payday loans with lower-interest term loans.

From time-to-time, Credit Slips contributors and readers have wondered
about market-based alternatives to the payday lending industry. In
fact, as Prospera demonstrates, market solutions are popping up here
and there. Because Prospera could be a model for other credit unions,
the NYT article caught my attention. Also, we lack good information
about the payday lending industry, and as a nonprofit itself that is
trying to find solutions to a troubling social issue, Prospera’s
openness offered the possibility of lifting the veil a little bit on
how payday lenders operate.

Prospera president Ken Eiden and its director of marketing, Kristi Van
Schyndel, kindly agreed to talk with me over the telephone about
Prospera. They were very open about GoodMoney and Prospera’s
involvement in the joint venture. Candidly, I’ll admit that I’m
attracted to (but not yet persuaded by) stricter regulation and
possibly price controls on short-term, high-interest consumer loans.
Still, history tells us that the demand for this sort of credit will
not go away. Strict regulation could just drive the activity
underground with worse consequences. Yes, I am basically talking about
organized crime but also about other socially undesirable activities.
Eiden’s and Van Schyndel’s comments give us some insights into how the
payday lending industry operates, and how we might craft reasonable
social policies to address that industry’s worst abuses.

Right up front, I asked about the delinquency rates in Prospera’s
GoodMoney program. Immediately after the NYT story on GoodMoney, the
blogosphere seized on the 252% APR as evidence of what must be
extremely high delinquency rates for payday lenders. Of course, the
real reason the APR is so high is that the interest is incurred over a
very short time period. In response to my inquiry, Eiden frankly
responded that "delinquency is a major factor" in managing GoodMoney.
He said that their delinquency rate (the percentage of money loaned for
which the loan payments are behind) and their charge-off rate (the
percentage of money loaned for which the loans have been written off) are
basically the same for GoodMoney’s payday loans. Both the delinquency
and charge-off rates for GoodMoney’s loans are about 5.0%. Thus, of the
$9.90 GoodMoney collects for each $100 loaned, half of it goes toward
covering bad debts.

As a point of comparison, the U.S. Federal Reserve reports that for
credit cards current delinquency rates are 4.1% and current chargeoff
rates are 3.8%. Another way to think about this is that for every
twenty dollars GoodMoney loans, it will have to write off one dollar as
uncollectible. For credit cards, banks write off one dollar for every
twenty-six dollars loaned. These differences are not dramatic in
absolute terms, but they are meaningful in relative terms. The
charge-off rates in the GoodMoney program are about 20% higher than for
credit cards.

Eiden said that GoodMoney does not do a traditional credit check as
customers seeking a GoodMoney loan would not qualify for traditional
consumer credit products. Instead, GoodMoney "clears" the customer with
a widely used database in the payday lending industry–CL Verify. What
this means is that GoodMoney checks to see if the customer is
delinquent with other payday lenders. The same piece of software that
checks the database then uses a proprietary algorithm to determine
whether a customer qualifies for a GoodMoney loan. Eiden emphasized
that, as a not-for-profit, Prospera’s mission is to get its product used.
They purposely keep the approval rate at approximately 95% so that the
community will see GoodMoney as an available alternative.

I also wondered why Prospera chose to market a payday lending product.
Why not offer a longer-term consumer loan that would have a lower APR?
Eiden’s answer struck me as the response of someone working with the
daily realities of consumers seeking these loans–"You have to meet
people where they are today. We want to meet them where they’re at." My
interpretation was that they use a payday loan product because their
customer audience expects something that looks like a payday loan. Van
Schyndel added the observation that the other credit unions working on
similar projects generally have just altered current lending products.
Such an approach, although the intentions may be laudable, does not tap
into the market that expects to find something similar to a payday
loan. As opposed to our academic models of rational consumer behavior
weighing costs and benefits, Prospera’s model struck me as one that
embraces the way consumers actually make borrowing decisions.

Finally, the conversation turned to regulation. I asked Eiden what he
thought of regulation as a solution to help fix the payday lending
mess. "Regulation is not a good long-term solution," Eiden replied. For
example, Eiden noted that there have been proposals that Wisconsin
should look to Illinois for examples of payday lending regulation.
Eiden wondered "Where do folks go without payday lending?" He seemed to
share my skepticism that consumer demand for short-term credit would go
away. In Eiden’s words, his model is to "Make payday lending less
profitable through competition." Both Van Schyndel and Eiden expressed
hope that other credit unions throughout the United States would use
Prospera’s program to help provide alternatives in their communities.

For those who want to help fix the worst forms of predatory, short-term
credit, the Prospera experiment is certainly worth watching. Prospera
may not have all the answers, but it deserves recognition for trying to
address predatory lending with realistic solutions. I asked Eiden to
keep me posted on the program’s progress, and I hope he takes me up on
that invitation. I’ll try to post updates here as I hear about them.