Prospera's Experiment

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.