More banks may offer payday loans

More states have capped the interest on payday loans, making that business less viable in some locations. But another business is willing to provide the desperate with a high-priced cash advance -- big banks.

Several major banks offer a product that's very similar to a payday loan, and apparently more banks (and credit unions) are looking into it.

And why not? If they can loan $100 for a $7.50 fee, that's an annualized interest rate of 261% -- less than the 400-plus% charged by many payday lenders, bankers like to point out. (It can also be much cheaper than the "overdraft protection" some bank customers opt to get, which can ding you with a $35 fee for an overdraft of mere cents.)

"In reality, direct deposit advance programs enable customers to live within their means by permitting them to manage the timing of the receipt of those means," the American Bankers Association says (.pdf file).

This is an unwelcome development in some corners. Eileen Ambrose of The Baltimore Sun says Wells Fargo may bring its direct deposit advance product to Maryland. She notes that the state's 33% interest rate cap on small loans doesn't apply to the major banks. She adds:

But this is one product that Marylanders can do without.

These loans are likely to appeal most to vulnerable consumers who live paycheck to paycheck but have run short of cash. And once consumers borrow, they often take out back-to-back loans, paying a fee each time.

But we're likely to see more of these, Ambrose adds.

"There are bank consultants out promoting these products," says Lauren Saunders, managing attorney for the National Consumer Law Center. "I fear this is going to be the next big bank abuse."

Here's how these loans work:

• You must have direct deposit with the bank, which mean you either have a job or you get Social Security or, perhaps, a disability check. About one in four of these borrowers is on Social Security, says the Center for Responsible Lending, which is alarmed about this type of lending.
• You get an advance against your next deposited check. When it arrives, the bank takes out the loan amount plus a fee for lending you the money. 
• There are limits on how much you can borrow. At Wells Fargo, it's the smaller of $500 or half the amount directly deposited into your account.
• If you do this month after month, which many of these customers do, the bank may cut you off -- for a while.

These types of direct-deposit loans are available at Wells Fargo, U.S. Bank, Regions Financial, and Fifth Third Bank. We'll keep you posted as more jump on the gravy train. Post continues after video.

What's the government doing about this? The Office of the Comptroller of the Currency has issued guidelines that aren't very specific about how the banks should regulate this activity. The OCC was concerned about "the steering of customers who rely on Social Security and other federal benefits toward the loans and a failure to monitor accounts for excessive use," reports Candice Choi of The Associated Press.

The Center for Responsible Lending, which has studied this, said, "The FDIC has advised the banks it oversees not to keep customers in this high-cost debt for more than 90 days of the year. But on average, bank payday loan borrowers are caught in this cycle for 175 days."

Even a blogger at the Payday Loan Industry Blog thinks some regulation is needed. He wrote:

HOWEVER, FULL DISCLOSURE MUST BE EMPHASIZED! Complete disclosure of all terms, fees and charges in an EASILY understood format must be enforced. Insist on disclosure and let the marketplace decide what products and services offer the best solution for an individual consumer.

Should you get one of these loans? There are alternatives, including these pointed out by MSN Money's Liz Weston:

• Take another job or volunteer for extra hours at work.

• Have a yard sale or sell unneeded items on eBay or Craigslist.

• Ask your employer for an advance.

Better yet, start now to save an emergency fund you can tap rather than borrow money at usurious rates.

More on MSN Money:

• Credit unions offer payday loans
• How payday loans lead to long-term debt
• How to recover from financial ruin
• Do I have too much debt?
• How to beat annoying bank fees
• Should I consolidate my debt?