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Shortchanged

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Drive through just about any low-income neighborhood and you're sure to see streets lined with pawnshops, check cashers, rent-to-own stores, payday and tax refund lenders, auto title pawns, and buy-here-pay-here used car lots. We're awash in "alternative financial services" directed at the poor and those with credit problems. Howard Karger describes this world as an economic Wild West, where just about any financial scheme that's not patently illegal is tolerated.
Taking a hard look at this fringe economy, Karger shows that what seem to be small, independent storefront operations are actually part of a fully-formed parallel economy dominated by a handful of well-financed corporations, subject to little or no oversight, with increasingly strong ties to mainstream financial institutions. "It is a hidden world," Karger writes, "where a customer's economic fate is sealed with a handshake, a smile, and a stack of fine print documents that would befuddle many attorneys."
Filled with heartbreaking stories of real people trapped in perpetual debt, Shortchanged exposes the deceptive practices that allow these businesses to prey on people when they are most vulnerable. Karger reveals the many ways this industry has run amok, ruining countless people's lives, and shows that it's not just the poor but, more and more, maxed-out middle class consumers who fall prey to these devious schemes.
Balancing compassion with a realistic awareness of the risks any business faces in working with an economically distressed clientele, Karger details hard headed, practical recommendations for reforming this predatory industry.

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America’s Changing Fringe Economy

ePub

He That Goes a-Borrowing Goes a-Sorrowing. –Benjamin Franklin

Driving through low-income neighborhoods, you can’t help but notice the large number of pawnshops, check cashers, rent-to-own stores, payday and tax refund lenders, auto title pawns and buy-here, pay-here used-car lots. We are awash in “alternative financial services” directed at the poor and those with credit problems. These fringe economy services are equivalent to an economic Wild West where just about any financial scheme that’s not patently illegal is tolerated.4

Elise and Bernardo Rodriguez are typical fringe economy customers. The Rodriguezes emigrated from Honduras to San Antonio, Texas, in the middle 1990s. Elise works for a company that cleans office buildings, and Bernardo owns a small landscaping company. They have two school-age children. Although the Rodriguezes are paid by check, they don’t have a checking or savings account. Instead, they use ACE Cash Express to cash their checks and to electronically pay bills. When electronic bill paying is not available, the Rodriguezes use money orders. They also wire money back to their family in Honduras through ACE. In fact, ACE is an important part of the Rodriguezes’ banking system. Occasional trips to pawnshops and check cashers round out their informal banking system.

 

Why the Fringe Economy Is Growing

ePub

Our customer base is very large, diverse, and rapidly growing–it’s really mainstream America. –ACE Cash Express, 2004 Annual Report

The almost exponential growth of the fringe economy during the mid-1990s was baffling, especially since real incomes were rising and the numbers of people in poverty were dropping. Nonetheless, many factors came together to foster the phenomenal growth of the fringe economy, including the rise in numbers of America’s working poor, welfare reform, high levels of immigration, the growth of the Internet, the increased financial stress that slow wage growth and the rising cost of necessities placed on the middle class; and liberal federal banking laws. In simple terms, a major reason for the growth in the fringe economy is that 43% of Americans annually spend more than they earn. A full appreciation of the growth of the fringe economy begins with an understanding of its customer base.18

The fringe economy primarily targets those who make less than the median family income of $50,000 and live from paycheck to paycheck. A second target is immigrants who have little experience with banking institutions in their home countries, or who come from countries where banks cater primarily to the wealthy. Each month the amount of money they earn is equivalent to, or less than, their living expenses for rent, utilities, food, clothing, and other necessities.

 

Debt and the Functionally Poor Middle Class

ePub

Debt – the frozen form of stored-up hierarchy. –Rabbi Arthur Waskow, Take Back Your Time

Although the concept of “the middle class” is central to American life, there’s no agreed-upon definition of the term. For example, the U.S. Census Bureau has no official income classification for the middle class.1 Consequently, the middle class has come to represent a large portion of the population ranging from those with incomes at 200% of the federal poverty level to those in the nation’s top 5% of income earners.30

Some policy analysts classify households with a total annual income between $40,000 and $140,000 as middle class, while others categorize the middle class as having an annual income between $25,000 and $75,000. Still others use an annual income of $50,000 as a benchmark.2 To complicate matters, middle-class incomes are not adjusted geographically or by an urban/rural designation. In short, the term “middle class” is virtually meaningless given the enormous income spread. For the purposes of this chapter, the middle class is defined as households with a yearly pretax income of between $25,000 and $75,000—a group that occupies about the middle half of the Census income-distribution tables.3

 

The Credit Card Industry

ePub

Money can’t buy you love, but a credit card can get you started.
–Robert D. Manning, Credit Card Nation

A profound revolution is taking place in the way we are meeting our financial needs. Although it is occurring largely off the radar screen, this change represents a fundamental shift in how a growing number of us access financial services and manage our day-to-day money matters. The basis of this revolution is the widespread expansion of credit.42

Credit is the cornerstone of the modern U.S. economy. We can use it as a cushion for unexpected medical expenses, car repairs, the replacement of an appliance, an emergency family loan, or a trip to visit ailing or dying relatives. It is also a bridge between real household earnings and consumption decisions.1 Credit allows us to purchase products or services immediately, some of which we would otherwise be unable to afford. Payment options are flexible for those of us with good credit, and collateral isn’t required. Middle-class people can purchase goods or borrow cash while they retain their possessions, since loans are secured by the borrower’s creditworthiness. Neither trust nor the presumption of goodwill exists in the fringe economy, however. A low-income or credit-challenged consumer who applies for a loan typically must provide collateral such as a secured bank account, a postdated check, household goods, or a car title.

 

Storefront Loans: Pawnshops, Payday Loans, and Tax Refund Lenders

ePub

Anyone who has ever struggled with poverty knows how extremely expensive it is to be poor.
–James A. Baldwin

All of us need cash at one time or another, and the cost of raising it depends on who’s asking for it. For creditworthy consumers, cash is secured through bank lines of credit, overdraft protection, signature or home equity loans, or credit card cash withdrawals. For those with compromised credit, the essential condition for raising cash is a “no-credit-check” transaction, which translates into a high-interest predatory loan.66

Collateral-based cash loans serve the same purpose for the poor as bank overdrafts or credit card cash advances do for the middle class. Namely, they provide cash for an emergency or when income is temporarily insufficient to make ends meet. Cash loans fall into two categories: (1) unsecured or promissory loans and (2) secured collateral-based loans. With an unsecured loan (such as a credit card, a signature loan, or a bank overdraft), the borrower promises to repay the lender, and no collateral is required. With secured loans, the borrower provides the lender with collateral (either property or a check) worth at least as much as the loan. The poor and severely credit-challenged are generally eligible only for collateral-based or secured loans requiring the temporary loss of property or guarantees such as postdated checks. Interest rates (sometimes called “fees”) on these loans are extremely high.

 

Alternative Services: Check Cashers, the Rent-to-Own Industry, and Telecommunications

ePub

The millions who are poor in the United States tend to become increasingly invisible. Here is a great mass of people, yet it takes an effort of the intellect and will even to see them.
–Michael Harrington, The Other America

A robust and growing industry has emerged in America for those with bad or no credit. Most services, such as telecommunications, apartment rentals, and store credit cards, require a credit check. Those who score low on this check are forced into the alternative services sector. This chapter examines how America’s down-and-out are shortchanged through expensive alternative services, such as furniture and appliance rentals and telecommunications.88

ACE Cash Express, Check ‘n Go, Mr. Payroll (Cash America International), Dollar, and Money Mart are familiar sights in inner-city neighborhoods and strip malls. Behind these 14,000-plus storefronts lies an industry that cashed upwards of 180 million checks in 2001 with a face value of $55 billion. These check-cashing outlets (CCOs) generate nearly $1.5 billion a year in revenues, coming largely from the 20%–40% of the unbanked who regularly use these services to cash their paychecks.2

 

Fringe Housing

ePub

Although market specialization, competition, and innovation have vastly expanded credit to virtually all income classes, under certain circumstances this expanded access may not be entirely beneficial. … Of concern are abusive lending practices that target specific neighborhoods or vulnerable segments of the population and can result in unaffordable payments, equity stripping, and foreclosure.
–Alan Greenspan, “Economic Challenges in the New Century,” Annual Conference of the National Community Reinvestment Coalition, Washington, DC, March 22, 2000

Congress knows predatory lending is a problem. The Clinton administration knows this is a problem. Now the chairman of the Federal Reserve himself is saying this is a problem. So, when are we going to see laws, regulation, and enforcement to put a stop to it?
–Frank Torres, legislative counsel, Consumers Union, March 22, 2000

Housing represents the biggest chunk of a family budget and is the single largest asset for the majority of American homeowners. Home mortgages and refinancing is a multibillion-dollar business in the United States, and in 2002 home equity hit a record high of $7.6 trillion.1 Housing is also a sector highly susceptible to the predations of the fringe economy. For example, Eric Stein estimates that U.S. borrowers lose $9.1 billion annually to predatory mortgage practices.2 The robust and dangerous fringe housing economy encompasses everything from subprime to predatory lending, and from legal, to quasi-legal, to outright illegal speculation and lender-initiated scams. This chapter examines the differences between subprime and predatory lending; various kinds of home, refinancing, and home equity loans; housing speculation; and the foreclosure process.110

 

Real Estate Speculation and Foreclosure

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Who would ever believe that the best way to sell a house fast is to call a caveman? You heard right! Introducing Ug, a caveman that buys houses in any condition. And Ug has experience. He’s been buying caves, I mean houses, for a million years.
–HomeVestors radio commercial, 2005

We are bombarded with television, radio, and print ads telling us that real estate speculation is the easiest way to get rich. Testimonials like “I’ve gone from a negative net worth to $1,500,000—our cash flow is over $300,000 a year” abound. Remarkably, these people were able to get rich with “no money down” and using the creed of the savvy investor: buying with OPM (“other people’s money”).130

As with most entrepreneurial activities, the key to successful real estate speculation is to buy low, and sell high and fast. We’re told that smart investors buy properties at a minimum of 20% below market value and then flip (resell) them at closing or soon after. Real estate speculation is a seductively simple idea: find a desperate seller who has to dispose of a property quickly and then offer a cash price well below market value. Spice up the deal by promising to close right away and pay cash. Then find a desperate buyer who is willing to pay the full market price or above. In the process, find out how much the buyer can pay each month, and then manipulate the terms so that they appear affordable. In the meantime, plan on getting the property back.

 

The Fringe Auto Industry

ePub

Credit, the problem and solution to all of life’s problems.
–Vista Cars & Trucks, Houston, Texas

Owning a car has become a necessity in many American cities. In particular, many of the post-World War II car-based cities of the Midwest, Southwest, South, and West Coast have notoriously poor public transportation—fewer than 5% of U.S. roadways are served by public transportation. Having a reliable vehicle is important for getting to work on time, for picking up children in day care, for shopping at the lowest-priced stores, for visiting friends and family, and for finding employment. Vehicle ownership is also fertile ground for all types of fraud, from used-car purchases to auto title pawns, and even to tire rentals.146

This chapter explores some of the hurdles that the poor encounter when trying to find and keep basic transportation. In particular, it examines how the used-car industry is organized, the difficulties that the poor face when trying to find affordable used cars, the ins and outs of used-car financing, and subprime financing. It also looks at loosely regulated fringe auto insurers and auto title pawns. Finally, the chapter offers some solutions to help rein in the fringe auto economy.

 

The Getting-Out-of-Debt Industry

ePub

Born of people’s misfortunes, credit counseling was a sleepy cottage industry for a long time. Now, larger and troubled, it may be more in need than its clients of being set back on the straight and narrow.
–Christopher H. Schmitt with Heather Timmons and John Cady, “A Debt Trap for the Unwary,” BusinessWeek, October 29, 2001

We are besieged by advertising on two fronts: how to get more and cheaper credit, and how to get out of debt. On the one hand, we are lured into taking on more debt through cheap credit; on the other hand, we’re warned of being in too much debt.174

Federal Reserve chairman Alan Greenspan pointed out in 2004 that because of low interest rates, we could more easily handle high levels of personal debt.1 In 2003 economics journalist Robert Samuelson argued that Americans were already too heavily in debt and the last thing we needed was more “cheap credit.”2 Despite Greenspan’s insouciance, “cheap credit” still mounts up and must be paid off. For instance, since 2001 U.S. households have spent more than 13% of their disposable income on debt, a level not seen since the Fed began collecting this data in 1980.3 The contradictory messages of “borrow more” and “borrow less” reflect the simultaneous growth of the credit and getting-out-of-debt industries. This chapter examines the consumer credit counseling industry, debt settlement, and ways to rein in runaway credit counseling agencies.

 

What Can Be Done to Control the Fringe Economy?

ePub

Qui non improbat, aprobat.
(Who does not blame, approves.)

What was once a loose medley of family-owned pawnshops, used-car lots, neighborhood lenders, and small-time real estate speculators has evolved into an industry dominated by large corporations with revenues in the billions. Despite staking out different sectors of the fringe economy, all fringe businesses share a common goal: to extract the maximum amount of money possible from each customer.198

Fringe businesses are connected to each other by their predatory relationship to consumers and communities. Specifically, in the fringe economy, customers make interest payments but receive no benefit from them. I know of no transaction in which consumers receive any interest compensation from a fringe economy corporation. Capital in the fringe economy flows in only one direction—from the pockets of consumers to industry coffers. Unlike mainstream financial institutions that allow customers to save money or invest, the fringe economy offers no investment services or financial products that lead to asset growth or increased household and community wealth. This feature alone marks the fringe economy as predatory. In the final analysis, the fringe economy preys upon society’s most vulnerable members by charging them more for goods and financial services than it does the middle class, both in absolute dollars and relative to their income.1

 

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