(This article originally appeared in Morning Consult on August 16, 2018)
In life, unexpected expenses inevitably happen — and for many people, they always seem to occur when they can least afford to deal with them. Sometimes it is a health insurance deductible or co-pay stemming from an unforeseen medical emergency. Other times, it is a sudden car breakdown or broken washing machine. While some people are fortunate to have rainy day funds to deal with situations like these, 40 percent of Americans today cannot afford an unexpected $400 expense. When emergencies arise, they have no choice but to borrow money.
However, for the 160 million Americans with no credit history or credit scores below 700, the traditional banking system offers few choices, often leaving them to seek risky loans from predatory payday lenders. The “non-prime” population of hard-working Americans both need and deserve better options and improved access to credit. Policymakers should focus on encouraging banks to get back in the business of lending to these Americans. In fact, research shows that 82 percent of this “non-prime” population attended college, 45 percent owns a home, and earns an average income of $59,000 — but their lack of credit keeps them from making financial progress.
Fortunately, America’s innovation economy is developing solutions to real life challenges like these. Partnerships between financial technology companies and federally regulated banks have found creative ways to responsibly expand credit options for many. By leveraging advanced analytics, data, and machine learning, these partnerships are helping lenders develop more accurate and complete credit histories that tell the full financial story of someone seeking assistance. This, in turn, helps eliminate financial blind spots and gives banks greater confidence when making loans.
People from across the political spectrum are noticing the impact financial innovation is having on the small-dollar lending market. Richard Cordray, the former director of the Consumer Financial Protection Bureau, noted how “alternative data from unconventional sources may help consumers who are stuck outside the system build a credit history to access mainstream credit sources.” And in recent congressional testimony, Comptroller of the Currency Joseph Otting highlighted how these partnerships help “assess a consumer’s credit worthiness and effectively manage credit risk.”
As is often the case with innovative solutions, these fintech partnerships are well ahead of the regulatory environment. Many policies have not yet been adapted to accommodate emerging technologies, leaving it to the courts to sort out. In other cases, a rush to make policy on innovations that are still developing and not fully understood has resulted in premature and counterproductive regulation. Both approaches threaten to leave millions of people with even fewer credit options, pushing them to the fringes of the economy to make ends meet.
Policymakers have an opportunity to strike the right balance between enabling financial sector innovation that empowers consumers with more choices while protecting them with important consumer guardrails. In the case of banking-fintech partnerships, one such opportunity stems from the fact that existing law remains unclear regarding whether the bank is defined as the true lender or originator of the loan. The result is an increasingly unworkable patchwork of state laws and federal regulations that can stifle long-term progress. As the U.S. Treasury Department recently noted in its report on promoting innovation in the financial sector, “Recent court decisions have exposed bank partnership models to uncertainty regarding whether the bank or nonbank partner is the ‘true lender’ in providing credit … The result of these decisions is a variety of standards for determining which entity is the true lender, leading to market uncertainties that harm the viability of the bank partnership model.”
Bipartisan federal legislation has been introduced in the House by Rep. Trey Hollingsworth (R-In.) to take an important first step toward closing this regulatory gap left by the courts. The Modernizing Credit Opportunities Act clarifies that banks, as the loan originators, are the “true lenders,” and provides federal rate preemption — regardless of whether they work with a fintech company in the origination or servicing of the loan. In practice, this bipartisan bill will enable these partnerships to continue helping credit-constrained consumers around the country with responsible credit alternatives.
The reality is that Americans will always face unexpected financial challenges at some stage in their lives, but there are innovative and safe market solutions that help consumers left behind by the traditional banking system.
Linda Moore is the CEO and President of TechNet, a national, bipartisan network of technology CEOs and senior executives that promotes the growth of the innovation economy.