Chancery Court judge strikes down payday loan

Consumer advocates in Delaware have been fighting to regulate the state’s payday loan industry, which for years has been known for charging triple-digit interest rates.

But a March 14 Court of Chancery ruling against payday loan company National Financial LLC has advocates saying a change could be coming.

“In this case, there are obvious indications of unfairness,” writes Vice Chancellor J. Travis Laster in his decision in favor of plaintiff Gloria James. In a 72-page opinion noting James payed $1,620 in interest on a $200 loan, an 838.45 percent interest rate, Laster wrote, "That level of pricing shocks the conscience.”

Rashmi Rangan, Delaware Community Reinvestment Action Council executive director, said Laster's decision is going to be a big boost for opponents of payday-style loans.

“These loans are predatory,” she said. “Once somebody gets in one, it’s a trap that they simply can’t get out of.”

The list of legislation signed into law on behalf of Delaware’s consumers regarding payday loans is short and has provided little in the way of protection.

In 2012, Gov. Jack Markell signed House Bill 289 limiting the number of payday loans an individual could receive to five in one year.

“We recognize some people need immediate access to an immediate loan. This bill maintains that choice,” Markell said in a press release immediately following the signing of the bill. “Instead of a financial hand up, though, repeated use of these loans can become a set of financial handcuffs. This law helps limit those worst-case scenarios.”

The law went into effect Jan. 1, 2013. In response, the payday loan industry restructured its loans. Instead of short-term 60-day contracts, payday lenders issued non-amortizing installment loans.

Rangan has been with the council, a group established in the late 1980s to provide mostly low-income individuals with credit, tax and foreclosure counseling, since 1994. The Wilmington-based group, with a Georgetown office off Route 113, was a key player in passing the 2012 legislation.

Three years later and noticeably frustrated, Rangan, who has been with the group established to provide mostly low-income individuals with credit, tax and foreclosure information since 1994, said she knows the payday loan industry changed its definitions to skirt the law.

“Our consumers have not greatly benefited,” he said.

Pricing that shocks the conscience

The chancellor wastes little time getting into his legal argument as to why James won her case. He begins his analysis on page 17, and in his first sentence he states the loan and its terms are unconscionable and rescinds the loan.

He then spends the next 55 pages detailing how he came to his conclusion, in part, because, as he states, Delaware law emphasizes respect for contracts between two parties. As a matter of course, Laster writes, parties who sign a contract are bound by those obligations.

“When parties have ordered their affairs voluntarily through a binding contract, Delaware law is strongly inclined to respect their agreement, and will only interfere upon a strong showing that dishonoring the contract is required to vindicate a public policy interest even stronger than freedom of contract,” Laster wrote.

In May 2013, James received her sixth loan from National in 20 months, in the amount of $200. By the time it was all said and done, James owed National $1,820 – $1,620 in interest – or 838 percent interest on the original loan.

Laster states James thought she entered into a block-rate contract that would see her pay $30 on $100, which meant she would pay $60 to borrow $200. Instead, she entered into a contract that saw her making interest-only payments of $60 every two weeks for 26 weeks, with a balloon payment of $60 plus the repayment of the original $200 on week 27.

A finding of unconscionability, writes Laster, generally requires the taking of an unfair advantage by one party over the other, and in this case there are obvious indications of unfairness.

“That level of pricing shocks the conscience,” he writes. “Even defenders of fringe credit have recognized that at first glance, it would seem irrational for any consumer to borrow money at an interest rate exceeding 400 percent under any circumstance.”

The five loans given to James prior to the loan in question, were all done under the law as it stood before HB 289 was passed. Laster writes that James is unsophisticated and undereducated, and that while it was true that she could recite the payment plan, she did not understand the implications of a nonamortizing loan.

According to testimony given at trial, Laster said, National employees denigrated the importance of the annual percentage rate, while describing the interest rate in simplistic ways that are designed to mislead customers.

“On balance, the loan agreement is unconscionable. No one would borrow rationally on the terms it contemplated unless that person was delusional, mistaken about its terms or a material fact, or under economic duress,” he writes.

Laster said James repaid National a total of $197 and still owes the lender the final $3, but that obligation can be met by taking it off against the $3,237 awarded to James.

Laster notes James' attorneys sought to make this class a class action, but he denied class-action status.

No new legislation

Is new legislation on the horizon? The short answer is probably not anytime soon.

Local businessman, banker and attorney Alex Pires was one of the attorneys who represented James. He said she is a hard working woman, who took out the loan and thought she was going to be able to repay it. But when she got injured and missed work, she was unable to pay back the loan.

When she got injured, James asked National to restructure the loan, but the only option she was given was to pay more than the amount National knew she already could not pay.

This is the sixth suit Pires has been a part of against payday loan companies, but he said this is the first time in a long time anyone has won in Delaware. He said the difference between James and other clients is that she was relatable.

According to Pires, Delaware is one of only eight states with no interest rate cap on payday loans. He said in 2014, a study by the Pew Charitable Trust found the average APR for a payday loan in Delaware was 515 percent, one of the highest in the country.

Pires, a founding member of Community Bank, said he would like to see legislation introduced placing an interest rate cap of 120 percent on payday loans. “It would be a real simple change,” he said. “How could they argue money still wouldn’t be made?”

Rangan said when the group originally approached legislators they included a tax cap as part of the legislation, but nobody would touch it.

“The moment rate caps are mentioned, doors are shut,” she said. “There’s very little political will to make this happen.”

She completely supports Pires' idea of a cap, but she said 120 percent is too high. Rangan said loans should be capped at 36 percent, like the federal interest rate cap on loans to military households, which took effect in 2006.

Speaker of the House Rep. Pete Schwartzkopf, D-Rehoboth, said he’s been contacted by one of James’ attorneys, and he hopes to sit down with them in the next week or so.

Schwartzkopf said the ruling in this specific case appears to be correct. “I was a little upset by how they took advantage of this woman,” he said. “I’m hoping that’s not common practice, and if it is, maybe something does need to be done.”

One piece of legislation Schwartzkopf said there’s no appetite for in Dover is the elimination of payday loans. There should be a way for people to access short-term loans when they’re in need, he said.

Schwartzkopf said a problem with a cap is figuring out where to put it. Is it 100 percent or 200 percent?, he asked. It’s something that needs to be discussed and floated around to see if there’s support, he said.

Sen. Ernie Lopez, R-Lewes, said it’s a matter of fiscal fairness. Payday loans affect people who are in very dire circumstances, and these loans are taking advantage of those circumstances with predatory practices, he said.

Lopez said he wasn’t familiar with the details of the James case, but he said discussion in Delaware reflects a discussion taking place on a national level.

“These are people looking for hope, and these loans are providing false hope,” he said.

Lopez said he would strongly consider legislation regulating payday loans in Delaware, but was hesitant to straight-up support a cap.

“I’m not a big fan of caps,” he said. “The last thing we want as a state is to be seen as not being business friendly." But, he continued, it doesn’t take an MBA in finance to see a loan of this nature is unfair.

“We’re all very much aware of the fiscal unfairness these loans present," Lopez said.

Tom Collins, lobbyist for the Delaware Bankers Association, also wasn’t familiar with the ruling but after hearing about an interest rate higher than 800 percent, he said, he could see how the judge might come to his conclusion.

Still, Delaware is a pro-bank state, he said, so any legislation would have to be carefully examined.