Garnet Capital Advisors Blog

Banks have traditionally not been able to offer small, short-term loans with higher interest rates than personal loans or credit cards of the type often dubbed “payday” loans. However, the market is underserved currently. U.S. Bank has recently rolled out a product for this market.

Last year, a U.S. Federal Reserve study indicated that approximately 40% of Americans couldn’t raise $400 for an emergency if they needed to, say, repair a car or schedule an emergency visit to a doctor.

A market exists for small, short-term loans to meet emergencies, which often carry high interest rates.

A Market for Small, Short-Term Loans

That could indicate a market for small, short-term consumer loans. Several banks, including U.S. Bank, Wells Fargo, and Regions Bank, have attempted to fill that need in the past. All marketed a product called a deposit advance loans, with relatively high interest rates and a one-time, lump sum repayment plan. 

Regulators moved against the products in 2013. Historically, they have been in disfavor with banks because of their resemblance to so-called “payday” loans. Payday loans are small and short-term — they received their name from the fact that payment in full is often due the next payday — and charge exorbitant amounts of interest, up to 400% if the short term interest and fees are annualized.  If the borrowing issue extends beyond one pay period, consumers can fall behind. A large segment of the payday loan market has credit scores too low to qualify for credit cards or personal bank loans.

The market for small and short-term consumer loans is underserved. As many as 12 million Americans participate in the payday loan market every year through finance companies, not banks. Loan recipients frequently pay a fee to extend the loan’s term. As a result, a Pew Charitable Trust study found that a borrowed amount of $375 can cost borrowers fees of $520 if they cannot repay the loan quickly.

Banks can offer alternatives to "payday" loans, which frequently have to be paid out of the next paycheck.

New Products to Meet the Market

Recently, regulators opened the door to products that would replicate the convenience of payday loans, but carry lower fees. As a result, U.S. Bank has developed a product designed to serve the market.

Interest rates and fees on the small loans, which can range from $100 to $1,000, are still much higher than traditional loan or credit card interest and fees, up to and potentially over 70% if annualized. However, other terms of the loan are, according to the bank, designed to make sure consumers aren’t overtaxed in repayments. Loan amounts, for example, are payable over three months.

Despite the high interest rates, Pew — a long-time advocate of offering low-risk consumer loans — sees the development as positive, largely because loan payments are capped at 5% of monthly income, which should allow stable repayment

In addition, the rates are less than consumers would be spending on payday loans. 

Other options exist at other financial institutions. Credit unions, for example, sometimes offer programs in which loan payments are coupled with deposits into a savings account. The rationale, that emergencies are better met with a savings account providing a cushion than with high-risk borrowing, is likely to lead to more financial stability. 

When a Loan Sale Advisor Can Help

Small, short-term loans can be a useful addition to a bank’s product line, with a proven market need. To maximize your financial institution’s results, call the experienced loan sale advisors at Garnet Capital today. Garnet is on the front lines of helping borrowers, lenders and investors find mutually beneficial relationships. Sign up for our newsletter today.