Direct Action for Housing
Beyond the Fringe
How to check the growth of predatory financial services
By Becky Sherblom
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|When the Maryland Center for Community Development (MCCD) began to examine the financial services available to low-income people statewide in 1999, its goal was to learn more about why individuals choose limited-option, high-priced services, and to explore alternatives that can be implemented or directed by nonprofit, community-based organizations. Ultimately, we wanted to find ways to return traditional banking services to these neighborhoods and to reduce the usury fees and practices of what has come to be known as fringe financial services. We understood that there would be no single answer, but that a measure of success could be achieved by leveraging resources and assets with creativity and partnerships. Otherwise, fringe financial services will continue to drain much-needed resources from low-income communities.
The need is clear. More than 10 million Americans have no formal relationship with a mainstream financial institution. Of the 15 percent of households who did not have checking accounts in 1995, 85 percent had annual household incomes of less than $25,000. These households represent people who may have previously had traditional bank accounts and those who never have. Both groups instead rely on check-cashing outlets, payday lenders (see accompanying article), pawn brokers, and retail outlets, including grocery and liquor stores.
By now, the high price that the fringe exacts from its patrons is well known. Paychecks and benefit checks are cashed for a premium, bills are paid in cash or with money orders, and savings if they exist at all are kept at home. Check-cashing fees, when calculated annually, are more than enough to cover the fees associated with maintaining a traditional bank account. According to a 2002 Brookings Institution study, low-income households without bank accounts spend at least $4 billion on check-cashing and bill-payment services annually, and households with annual incomes of less than $25,000 are estimated to have $175 billion in financial assets. If check-cashing fees were deposited into a savings account, they could provide the foundation for asset development and goals, such as home ownership, small businesses, and education. By providing a cushion for the unexpected, a savings account can also eliminate the necessity of relying on payday lenders in an emergency.
MCCD researched how many local banks offered basic banking accounts the low-fee, low-balance, no-frills checking that most people start their banking relationship with and monitored the growth of the fringe market, including check-cashing operations and payday lenders. From our experience of advocating Community Reinvestment Act (CRA) agreements and watching banks make money through those CRA agreements in mortgages, housing development lending, and community development lending, we believed there had to be a market-based solution. Several consumer focus groups helped us identify why low-income residents choose fringe services. We found that high on their list was the need for immediate cash and convenient location and hours of operation. Others described bad experiences with traditional banks, including hassles about numerous forms of identification and fingerprinting.
Based on our research and focus group responses, we have come up with a number of strategic interventions that community organizations can enlist. A few are summarized here.
Regulation of Cashing Operations and Payday Lending
Fringe services need to be monitored and regulated to protect consumers. MCCD and partners succeeded in the 2000 state legislative session in passing the Check Cashing Act; for the first time all providers of check-cashing services require licensing by the commissioner of financial regulation. The law set maximum fees that a licensee may charge for cashing government (2 percent or $3), payroll (4 percent or $5), and personal checks (10 percent or $5), and requires the posting of such fees in the establishment. A large loophole in the law is that any business that charges a fee of up to 1.5 percent of the payment instrument, and for whom check cashing is incidental to their other business, is exempt from the licensing requirement.
Financial Literacy Programs
Focus group participants were enthusiastic about the opportunity to learn more in order to make smarter decisions about their money. Some expressed interest in receiving training at their place of employment; others were interested in receiving help at the community center where they receive job training. Linking financial literacy training to community organizations and the services they provide would be optimal.
In 2000 MCCD began to work with partners to develop a statewide Individual Development Account (IDA) initiative, which resulted in the passage of a state demonstration in 2001 to support up to 800 IDA accounts. Because this matched-savings program requires both basic financial literacy training and asset-specific training, it is already beginning to have ripple effects in our neighborhoods. At the same time, several housing counseling agencies began to see a need for more basic financial management classes, because people were arriving for pre-purchase counseling and homebuyer education workshops with significant debt and credit problems that would take years to rectify. As a result of this finding, MCCD began to facilitate Financial Literacy Train-the-Trainer workshops, designed to help our member organizations think through a program structure and the critical elements that help adults learn. The National Community Reinvestment Coalition developed an extensive financial literacy curriculum and a train-the-trainer workshop outline that MCCD has used several times. The Federal Deposit Insurance Corporation developed its Money Smart Financial Literacy Curriculum, which is also used extensively by community organizations, and is available in English and Spanish.
Eden Jobs, a nonprofit organization in Baltimores Sandtown-Winchester community, began an IDA program early in 2001. After assessing the community, Eden Jobs offered financial literacy workshops to all community residents, and afterward selected who among them would participate in the IDA matched-savings program. Training in budget management has already helped 16 community residents save for the purchase of a car to commute to work. The first five IDA program participants opened their accounts in July 2001, working through a partnership Eden Jobs had with a local bank, although there were no branches in the neighborhood.
Revolving Loan Funds
Even those traditional banks that have developed small loan products in-house cannot compete with the smaller and speedier payday loans. Another option is revolving loan funds, building on the experience that banks have with loan pools managed by an outside entity to reduce risk and administrative costs for the individual bank. One model in Harford County, MD was established by a former investment broker as a bank-funded revolving loan fund to address emergency work-related needs of low-income people, such as car repair, car insurance, uniforms, and child care. Nine banks and thrifts pooled $1,000 each to set up the fund; a maximum loan of $300 is available through two community centers one in Harford County and one in eastern Baltimore City. Borrowers repay the loan at a rate of $25 per month without interest during a 12- to 18-month period; no one has defaulted on a loan in more than two years of operation. Participating in loan pools is a common practice among banks for housing development lending, first-time homebuyer programs, and small business lending. A nonprofit or other entity would need to be the convener and administrator, with the ability to provide access to the constituency to be served and make timely decisions. This approach would also qualify participating banks for CRA credit.
Partnerships with Mainstream Banks
Community-based organizations can bring several advantages to a partnership with a banking entity; among them, space, foot traffic, credibility, working capital through organizational deposits, outreach and marketing, financial literacy training, first-time homebuyer counseling, and IDA program management. A community-based organization can also do the focused research and marketing development that can sell a neighborhood as a place to do business.
MCCD has been in discussions since last fall with a newly forming community development bank. Currently in the capitalization phase, the bank would partner with local community-based organizations in MCCDs network to offer convenient, affordable banking, small branches, integrated technology, and financial education. By providing legitimate, affordable banking products, the bank will enable customers to save for the future, improve their credit rating , and attain financial stability.
Alternative Check-Cashing Outlets
By all accounts, check cashing is a highly profitable industry with limited overhead and high profit margins. The challenge is to ask whether check cashing can be provided as a transitional service that ultimately links consumers to traditional banking products and access to savings and credit. Models are being tested across the country, including in Maryland.
Becky Sherblom is executive director of the Maryland Center for Community Development. Deborah Povich, former public policy director, wrote an early draft of this article, which is based on the report, Plugging the Monday Drain. The report can be purchased for $15 from MCCD by calling (410) 752-6223, or mailing payment to MCCD, 1118 Light Street, Baltimore, MD 21230.
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