Why Debt Rate Caps May Not Help Consumers Save

Rising lending rates have made it even more expensive to carry debt.

But a proposal in Congress that would limit consumer lending rates to 36% may not be an effective way to curb those higher borrowing costs, according to a new study from the Urban Institute’s Financial Well-Being Data Hub.

The report examines the impact of a previous policy, the 2015 amendment to the Military Loan Act, which also capped the 36% APR on revolving loans such as credit cards and overdraft lines.

However, the changes did not effectively result in improved consumer protection, according to the Urban Institute’s research.

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A key reason for this: The average APR on revolving loans was 17%, based on credit bureaus of residents of military communities with subprime credit ratings.

The research focused on individuals with subprime credit ratings because they are more likely to have higher APRs when borrowing and are therefore subject to caps on those interest rates.

Because lenders were already charging interest rates of 36% or below, the Directive had no impact on their interest rates.

“It was well intentioned,” said Thea Garon, associate director of the Financial Well-Being Data Hub at the Urban Institute.

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“Based on research, we found that it did not have a major impact at all on credit and debt outcomes among residents of military communities, particularly those with subprime credit scores,” Garon said.

The study found that residents of military communities with subprime credit ratings did not experience significant changes in credit card ownership.

Borrowers with subprime credit ratings also saw no decrease in arrears or collection rates on revolving loans.

Even service members with subprime credit ratings saw no changes in their credit ratings.

“Harmful Effects on the Most Vulnerable”

Importantly, those with the lowest subprime credit scores of less than 500 may have had limited access to credit.

“The policy may have had an adverse impact on the most vulnerable consumers,” Garon said.

A bill in Congress called the Veterans and Consumers Fair Credit Act aims to introduce a 36% debt ceiling for veterans and other consumers. The directive would apply to both closed and open credit products.

The Democrats’ proposal is backed by a coalition of 188 organizations.

“Extending this 36% APR cap to all forms of revolving credit would likely not improve debt and credit outcomes for all borrowers, not just those in military communities,” Garon said.

Based on the research, policymakers could consider other changes to improve consumer protections rather than the 36% cap, according to the Urban Institute.

For example, fee disclosures can help borrowers better understand the cost of loans over time, which research suggests may help discourage them from taking out payday loans.

Additionally, according to the report, borrowers can spend 42% less to pay off that debt if payday loan terms allow for installments over six months rather than in one lump sum.

https://www.cnbc.com/2023/01/24/why-caps-on-debt-interest-rates-may-not-help-consumers-save.html Why Debt Rate Caps May Not Help Consumers Save

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