When you're desperate for cash and have run out of options, you might be willing to risk your car to buy yourself some time.
That's what happens with an auto title loan. You keep your car, but sign over the title to the lender who uses the vehicle as collateral. If you don't pay on time, the lender can repossess your wheels.
But the auto title loan market is "plagued by problems," including unaffordable payments and excessive prices, according to a new report from the Pew Charitable Trusts.
"We found that auto title loans share the same harmful characteristics as payday loans," said Nick Bourke, director of Pew's small-dollar loans project. "They require balloon payments that borrowers can't afford and most customers end up having to re-borrow the loans repeatedly."
Fewer people use title loans than take out payday loans, but they are usually for larger amounts. And they typically carry higher costs than payday loans, the Pew study found. Plus, there's the additional risk of losing a major asset - your car - if the debt cannot be repaid.
One of the most significant findings in this report: The average customer pays more in fees than the amount borrowed.
The average auto title loan is for $1,000 and the monthly fee is $250 (equivalent to a 300 percent APR). That $1,250 payment is typically due in 30 days and is more than most borrowers can handle. Pew estimates that it's about 50 percent of most borrowers' monthly income, so they renew the loan - again and again. Add up all those fees and the average customer pays $1,200 to borrow a thousand dollars.
Auto title loans are advertised as a way to handle a temporary cash-flow problem or an emergency, but few people use them that way. Half the people surveyed by Pew researchers said they took out the loan to pay their regular bills.
The companies that offer title loans pride themselves on filling a need for those not served by the banking system and other credit companies.
NBC News made several attempts to contact the American Association of Responsible Auto Lenders for a comment, but did not hear back. We were also unable to reach anyone at TMX Finance, one of the key players in this market, which operates more than 1,350 TitleMax stores in 17 states.
On its website, TitleMax says it was built on the idea of "offering an alternative way for customers who, for whatever reason, could not qualify for traditional loans or did not have the time to wait for weeks of approval deliberation." The company says its focus is on "getting you the most cash possible while keeping your payments manageable."
A business model based on risky loans
Auto title loans are currently legal in 25 states.* Pew estimates that more than two million Americans use them each year, generating approximately $3 billion in revenue.
The Pew study also found that six to 11 percent of the people who take out an auto title loan have their vehicle repossessed each year.
"They loan to people who cannot repay," said James Speer, executive director of the Virginia Poverty Law Center. "These loans are really, really bad."
Speer told NBC News he's seen the damage that can result. Several clients of the law center wound up on the street because they couldn't afford to pay their rent and car title loan, so they paid off the car loan. Others lost their jobs because their vehicles were repossessed and they couldn't get to work.
"This really isn't lending. It's loan sharking," Speer said.
That's how William Sherod sees it. He borrowed $1,000 from an auto title lender in Falls Church, Virginia last year. Everything was going fine until he came up $26 short on one month's payment. The lender repossessed his car and wouldn't give it back until he paid off the loan in full, plus the repo charges. Sherod had to borrow the $833 from his family.
"They were really nice when I took out the loan, but when I fell behind, I was treated like dirt," he told NBC News. "They prey on you because they know you're desperate. It was a terrible experience. I would never do anything like this again."
Should something be done?
Pew wants state and federal regulators, specifically the Consumer Financial Protection Bureau, to either prohibit these high-interest, small-dollar loans or develop regulations to "alleviate the harms" identified by this new research.
The report suggests a number of ways to make these loans more transparent, affordable and safe:
- Ensure the borrower has the ability to repay the loan as structured
- Set maximum allowable charges
- Spread costs evenly throughout the life of the loan
- Require concise disclosures
- Guard against harmful repayment and collection practices
*Alabama, Arizona, California, Delaware, Florida, Georgia, Idaho, Illinois, Kansas, Louisiana, Minnesota, Mississippi, Missouri, Nevada, New Hampshire, New Mexico, Ohio, Oregon, South Carolina, South Dakota, Tennessee, Texas, Utah, Virginia, and Wisconsin.