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Shine a light on predatory online lenders

It’s rare that small-business data collection captures attention on Capitol Hill. But, over the past few weeks that’s exactly what has happened. It affords a unique opportunity to shine a light on the shady underbelly of online lending, and lawmakers should seize it.

Earlier this month a group of Democratic lawmakers in the Senate and House sent letters to Richard Cordray, the Director of the Consumer Financial Protection Bureau, urging the agency to begin collecting data from creditors on small-business lending and fulfill part of its duties under the Dodd-Frank Wall Street Reform and Consumer Protection Act. At issue is a provision known as Section 1071. This little-known rule empowers CFPB to collect data from lenders on loans to small businesses, including rejections, type and purpose of credit sought, and demographic and geographic breakdowns of loans made. Most importantly, CFPB is authorized to collect “any additional data” necessary to fulfill 1071’s intent. This week marks five years since the passage of Dodd-Frank. Collection has yet to begin.

{mosads}In fairness, CFPB is a startup agency with limited resources balancing recalcitrant lawmakers, many of whom threaten to cut funding at every turn. It also has over 140 outstanding rules to finalize, many with mandated timelines. More to the point, Congress required no set timeline for implementation of 1071. Getting an efficient data system off the ground is also hardly a simple task. Data collection entails costs in collection, organization, and utilization for CFPB, reporting market participants, and others. It’s not as if the agency is passing the buck. Lawmakers ought to remember that before publicly castigating the agency.

The broader debate sparked in the wake of these letters is nonetheless worthwhile. To date concerns raised have focused on the importance of data collection to measure credit access for small, and particularly minority-owned, businesses. It’s hardly a surprise that this has been the focus. Surveys, anecdotal information, and Small Business Administration data can be illustrative, but we lack market-wide, real-time data on small-business lending trends. The dearth of data confounds regulators’ ability to identify problems or assess their depth. It also makes it difficult to evaluate attempted policy solutions. The result is that during the last financial crisis policymakers and regulators were often flying blind, relying on guesswork and intuition to decipher how small-business credit access was faring amidst broader credit market turmoil. Implementing 1071 would add much-needed clarity.

Missing from the debate so far, however, is the critical role that 1071 could play in publicly differentiating good players from bad in the fast emerging sector of online small-business lending.

It is an all-but-foregone conclusion in Silicon Valley these days that technology’s next big disruption is small-business lending. Morgan Stanley estimates that online lending to small businesses will grow about 50 percent annually until 2020. Ultimately, $300 billion of loans on the balance sheets of brick and mortar banks could be at risk of disruption. Much of this activity is emerging with little oversight by states and virtually none by federal regulators. Shady practices are common as a result, including triple-digit interest rates, inadequate or nonexistent disclosure of loan costs to borrowers, many of whom lack the financial savvy to read between the lines, and shady brokers masquerading as impartial while taking incentives from particular lenders to market their products over competitors. These practices parallel the “four D’s” of predation — deception, debt traps, debt spirals and discrimination — that Director Cordray has sought to end in other sectors.

Borrowers and responsible lenders would be better served if standard rules of the road were promulgated and enforced. That may nevertheless be a high hurdle for CFPB to meet given competing priorities. But, oversight need not always be heavy-handed. Rather, CFPB could use authority under 1071 to shine a light on predatory practices by mandating that online lenders publicly disclose product outcomes. As a first step, CFPB ought to require online lenders disclose, by loan product, average Annual Percentage Rates (APRs), default rates, as well as demographic and geographic characteristics.

Requiring public disclosure of such data would help name and shame worst offenders. In so doing, it would empower watchdogs, reporters and state regulators to evaluate and police bad apples. Including narratives of abuse alongside data, as CFPB has done in other sectors, would incentivize creditors to improve product quality and more vigorously compete on customer service, while also helping borrowers make empowered decisions.

Mandating data disclosure for online lenders would also be an unlikely two-fer. Consumer protection advocates, many of whom decry predatory practices in online lending routinely, are certain to applaud the effort. Ironically, community bankers, many of whom oppose 1071 implementation for the time being, are also likely to be supportive as it would expose shady online actors which pose threats to lending operations of community banks. And, if you believe in the power and potential of online lending, what do you have to lose by being transparent on how loan products and lenders stack up?

To paraphrase Arthur Nielsen, founder of the market research firm that puts out some of the most used data on the planet, the price of light is still less than the cost of darkness. The same is true in online lending. Let’s not forget that when advocating for 1071 implementation.

McCarthy is head of Policy and Advocacy at Fundera, an online marketplace that connects small businesses with financing, and is a former senior policy adviser in the White House National Economic Council and Small Business Administration.


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