Coalition for Economic Opportunities | Alternative Loans and Bank On
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Why is it important to create alternatives to payday and car title loans?
Community members who experience an immediate cash crisis—an all too common event these days—typically have very few options. In the absence of a family member or friend who can provide a cash gift or loan or a community organization that can do the same, someone experiencing a cash crisis theoretically might consider a number of possibilities. Among these are payment plans with creditors, advances from employers, consumer credit
counseling, cash advances on credit cards, and military loans.
counseling, cash advances on credit cards, and military loans. Of course, for many people, these possibilities may not be known or may not be truly available to them. As a consequence, people often turn to commercial lenders. Banks, however, have traditionally shied away from offering small-dollar loans because they viewed such products as unprofitable.
Payday and car title lenders seized upon the void and cultivated and claimed this loan market as their own. They make their loan products easy to access, enticing unwary borrowers with effective marketing, convenient locations, and quick turnaround times. This ease of access comes with a price: high interest rates, exorbitant fees, a cycle of debt, and wealth stripped from the community.
When CEO came into existence, we surveyed the small-dollar loan options available in Charlottesville. True to form, local banks did not offer small-dollar loans. Some credit unions offered alternative loan products, but access was restricted. Meanwhile, as in so many other communities across the Commonwealth, payday and car title lending storefronts were plentiful and conspicuous.
One conclusion was obvious: a big part of the reason that folks take out loans from payday and car title lenders on such unfavorable terms is that they don’t have anywhere else to go to meet their immediate needs. Folks are less likely to appreciate the risks of predatory loans when they don’t have any meaningful alternatives to compare them to. In short, the payday and car title lenders have the small-dollar loan market cornered.
How does Bank On work?
Participating financial institutions agree to modify specific practices—such as the use of banking history scores to bar certain classes of customers, limitations on the use of foreign documents to prove identity, and minimum balance requirements and penalties—that sometimes prevent low- and moderate-income people from opening traditional banking accounts in the first place or cause them to sink deeper into debt once an account is opened.
Through these modifications, local financial institutions create specialized Bank On accounts that feature fewer barriers to entry and more favorable terms. Equally important, local financial institutions also introduce a new alternative small-dollar loan product—offered on fair and reasonable terms to eligible Bank On customers—to compete directly with payday and car title lenders. Local public relations firms and media outlets donate time and services to help with marketing and outreach.
In turn, through collaborations with nonprofit and social service organizations, financial education programs are expanded so more people receive the information and tools they need to make informed financial decisions. These same organizations both make referrals to, and receive referrals from, financial institutions participating in Bank On.
Local government serves as a bully pulpit and a facilitator to help bring together all of these stakeholders—each of whom has something to gain from Bank On. The end result is that at-risk community members less often resort to high-cost check cashing outlets and payday and car title lenders and take critical steps towards financial stability and asset accumulation.
Why do we think Bank On can work in Charlottesville?
Because it already has. Over 60 communities across the country—from San Francisco, CA, to Savannah, GA, to Seattle, WA, to Gaithersburg, MD—have already successfully launched Bank On programs. And research shows that these Bank On initiatives are producing results. In San Francisco, during the first two years of the initiative, over 30,000 Bank On accounts were opened. The program saved low- and moderate-income San Franciscans $19.7 million that would have otherwise been deposited into the pockets of check cashing outlets and other wealth stripping enterprises.
In Savannah during the first year of the program, more than 1,000 Bank On accounts were opened, 3,000 people participated in Bank On financial education programs, and 155 people received an alternative rapid refund loan 
with an affordable interest rate in lieu of a high-cost loan from a tax preparation company.
with an affordable interest rate in lieu of a high-cost loan from a tax preparation company. To date, however, despite the fact that dozens of cities across the country have successful Bank On programs, no city in Virginia has yet launched Bank On.
Charlottesville would be the first and a model for the rest of the Commonwealth.
If financial institutions have chosen in the past not to offer small-dollar loans, why would they do so through a Bank On program?
For decades, banks have steered clear of small-dollar loans because they have assumed such loan products would be unprofitable based on the administrative costs and default rates. A recent small-dollar loan pilot project, launched by the FDIC in 2008, challenges these assumptions. Twenty eight banks volunteered to participate in the pilot project by offering small-dollar loans at no more than 36% APR with repayment at 90 days or longer. The participating banks made 18,000 small-dollar loans.
The charge-off rate for the loans in default was lower than the rates for credit cards and comparable to industry averages for other types of unsecured personal loans. Many participating banks also found that offering these types of loans helped to bring in the door and then solidify relationships with new customers. The FDIC is currently exploring ways to expand the number of banks offering small-dollar loans and creating templates to make it easy for banks to do so.
Moreover, credit unions in many communities already offer small-dollar loans. By working closely with credit unions, as Bank On projects in several other cities have done, alternative loan products can be introduced or expanded.
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