The new payday loans? California moves to regulate cash advance apps

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In May, a video featuring a young woman named Brooklyn in heart-shaped glasses implored viewers to tell the California Department of Financial Protection and Innovation how important a company named EarnIn was to their day-to-day life.

EarnIn is part of a relatively new app-based industry that provides cash advances to people based on their wages or income, often calling itself “earned wage access.” The company wanted its users to send stories and comments to the department because it is poised to impose new first-in-the-nation rules on the industry.

EarnIn got its wish: More than 50,000 customers wrote in, said David Durant, general counsel at EarnIn, before the company decided to “slow down the encouragement.”

How earned wage access works

Software or apps from companies like EarnIn provide cash to workers based on how much they’ve earned, in advance of their payday. So, for example, you could get some of your pay daily rather than all of it every two weeks, minus fees or other charges. People turn to the apps when they need money for some groceries, a bill that’s due, or an emergency car repair before their wages land in their bank account.

The industry has two main business models. Some companies, such as FlexWage and DailyPay, plug into a company’s payroll system and are more like an employer-provided benefit. Other companies, including EarnIn and Brigit, offer smartphone apps that connect to your bank account, detect past wages, provide some amount of cash, and then directly deduct that amount from your bank account on the repayment date.

These apps make money in a variety of ways, including subscription fees, fees to speed the arrival of your money and tips.

“They’re basically just making payday loans,” said Andrew Kushner, policy counsel at the Center for Responsible Lending, of the direct-to-consumer companies. “This is what payday lenders do.”

One difference is that California regulates payday loans, but app-based cash advances have been operating in a legal gray area. Consumer groups say these products are risky for workers because they can lead to a cycle of borrowing and they have confusing pricing models, which can make it difficult to understand how small fees add up.

“Their business model was basically structured around trying to establish this legal fiction that they are not actually lenders under California law,” Kushner said. “And one of the things they did to try to maintain that fiction is they would say the product is completely free.”

The majority of users earn less than $50,000 per year, federal government researchers found when four earned wage access companies gave them data. About half of users are non-white and more than 60% are women, a consulting company found when it conducted research on behalf of three companies.

The industry has grown rapidly in recent years. Walmart rolled out pay advances to its workers in partnership with two financial tech companies in 2017, referring to it as a ‘financial wellness service.’

When California’s financial regulation department gathered data from several companies in 2021, it found that the fees and tips users paid accumulated to costs not far from payday loans. That data “did really pierce this fiction that the companies are pushing that [the advances] are a healthier alternative to payday loans,” said Kushner.

The California department calculated annual percentage rates for the advances, which is a measure used to compare loans based on what they cost; it takes into account the fees and interest associated with a loan, the value of the loan, how long you have to pay it back, and annualizes that rate.

So if you paid a bit over $9 in fees for a 10-day loan of $100, that would amount to an APR of just over 330% — here’s a calculator if you’re curious — which is what California’s regulator found that people using earned wage access advances were generally paying. The department also found that the advances were generally short term, repaid within 10 days, and for small sums, typically $40-$100.

There are some upsides. For one thing, the federal government researchers found that advances generally cost less than payday loans, which are known for their exorbitant interest rates. A survey commissioned by companies found that without their products, customers said they would consider not paying some of their bills on time, or overdrafting their bank accounts, which can incur steep fees.

But sometimes customers encounter frustrating issues.

EarnIn customers, for example, filed complaints with the Better Business Bureau about the app withdrawing money from their bank accounts before their paychecks had actually landed, sending their balances below zero and triggering overdraft fees.

In March, one customer wrote to the Better Business Bureau: “I have contacted EarnIn on no less than 6 occasions about their AI over-adjusting and taking money from my bank account prior to my payday.” Another customer complained that the app “decided to deduct their balance owed an entire day early causing my account to go into the negative,” leaving them “without the ability to feed my service animal today.” The company responded on the Better Business Bureau website that when EarnIn’s debits are the cause of overdraft fees, they reimburse the customer, and said they did so in this case.

Customers of DailyPay wrote in to the Better Business Bureau with complaints about incorrect pay dates, the app sending their bank account into the negative, and frustrating hour-long calls with customer service that don’t resolve their issues. The company replied to each customer, explaining why debits can send customers’ bank accounts into the negative, and in another case, saying that a “support specialist” had reached out and resolved the issue.

What the proposed earned wage access rules would do

The rules proposed by California regulators would apply to companies that market a service that involves — more or less — providing small advances against an employee’s wages, said Suzanne Martindale, a senior deputy commissioner at the department.

The proposed regulations explain that the department considers these products to be loans and would require companies to register with the department or obtain a license. They would also cap any charges — which include tips, fees to speed up payments, and other charges — at 5% per transaction. So on that 10-day loan of $100, an earned wage access company could charge you at most $5, instead of $9.

Individual companies and industry trade groups have pushed back. Angelena Bradfield, head of policy for the Financial Technology Association, said the association doesn’t believe these products are loans: they’re based on earned wages, companies can’t take legal action to collect payments, and providers don’t charge interest. Bradfield also said that tips and optional fees shouldn’t be considered charges.

Durant, at EarnIn, said that the rules would put pressure on the company to change its business model in ways that reduce customers’ options. Right now, a small portion of users leave $0 tips and pay no transaction fees. Other users pay fees and tip; if a customer wants to pay EarnIn a 7% tip, they can, Durant said. If all tips and fees are capped at 5%, then customers are “deprived of the opportunity” to tip more, and “we’re then deprived of the ability to receive more,” he said.

Kushner, with the Center for Responsible Lending, said the number one benefit of the rules would be lower costs for consumers. The Center and other consumer groups are pushing the department to tighten the rules further.

The rules will be finalized no later than March 2024, according to the department.