Wealth Stripping: Why It Costs So Much to Be Poor

Within the public policy arena, the contemporary use of the term wealth stripping has generally referred to financial products and services like payday lenders, rent-to-own stores, and the like that exploit the lack of financial sophistication among economically disadvantaged populations. Awareness of the problem among policy-makers and advocates arguably originated with Michael Sherraden’s 1991 book, Assets and the Poor. Sherraden’s landmark work spawned a virtual avalanche of research, proposals, and innovative initiatives on asset building. Out of that body of research grew significant attention toward wealth stripping. John Caskey’s seminal 1996 book, Fringe Banking: Check-Cashing Outlets, Pawnshops, and the Poor, was the subject’s foundational text, highlighting how the high cost of alternative or fringe lenders strips away the financial resources of the poor. Many other scholars have since followed with different perspectives on both saving opportunities and the wealth-stripping challenges confronting the poor.

Even today, writings on the subject of wealth stripping tend to focus principally on the high cost of alternative financial services. But the Great Recession—driven by the foreclosures that hit minority communities especially hard—demands a broader examination of the issue to include ways in which the failure to impose or enforce consumer protection and anti-discrimination laws can lead to even greater harms. This broader perspective is essential if we are to understand and address the unique hurdles faced by low- and moderate-income households and people of color, who are disproportionately affected by these problems.

Wealth stripping has only increased during the economic crisis. Since the onset of the Great Recession, Americans have lost $7 trillion in equity in their homes. The Federal Reserve estimates the median American family has lost nearly two decades of wealth, or almost 40 percent of their assets. In a separate report, the Pew Research Center estimates that Latinos, Asians, and African Americans have experienced wealth losses of 66 percent, 54 percent, and 53 percent respectively, compared to 13 percent for whites. These losses are largely due to home foreclosures and lost equity.

In the wake of the crisis, it is imperative that we understand wealth stripping to include both predatory financial services and the huge loss in wealth that resulted from foreclosures that stemmed from subprime lending. Millions of households that neither accessed a predatory loan product nor were foreclosed upon have nevertheless experienced exceptional wealth loss due to the concentration of foreclosures in their neighborhoods. Millions of borrowers also now hold mortgages that are valued at more than the price of their homes. While the recently established Consumer Financial Protection Bureau (CFPB) should help in eradicating much of the predatory lending that occurred prior to the Great Recession, the CFPB is not empowered to address the fallout from the financial crisis. Dealing with that aftermath is essential to avoid further substantial wealth stripping as we climb out of the recession’s rubble.

According to the Federal Deposit Insurance Corporation, roughly nine million households are unbanked. Adults in these homes do not have a savings or checking account from a mainstream bank or credit union. An additional 21 million households are underbanked, meaning they have a checking or savings account but rely instead on alternative financial services provided by check cashers, payday lenders, pawn shops, and automobile-title lenders. This translates into roughly 60 million adults who operate outside of the financial-services mainstream. More than half of all African Americans and nearly 45 percent of Latinos and American Indian/Alaskans fall into this category.

The alternative financial-services industry is big business, with an estimated 340 million transactions each year costing customers $13 billion annually. Janneke Ratcliffe, executive director of the Center for Community Capital, points out that check-cashing and payday-lending storefronts outnumber all McDonald’s, Burger King, Target, Sears, J.C. Penney, and Wal-Mart stores and branches combined (33,000 versus 29,000 respectively). The fees these alternative (also known as fringe) lenders charge are steep. Nonbank check-cashing costs on average $40 per payroll check. Although expensive, relatively speaking, that’s a bargain compared, say, to rent-to-own stores, where a computer that retails for $851 can end up costing $4,459 ($49 per week for 21 months or 91 payments). Ratcliffe further finds that a subprime credit card with a $300 limit can come with fees totaling $250.

Initial high-cost fees are not the only or even greatest financial harm that can result from using an alternative financial-services provider. Relying on an auto-title lender, for example, can result in the loss of one’s automobile since the borrower’s car title is pledged as collateral for the loan. The typical auto-title loan is generally only 30 to 50 percent of the value of the vehicle used as collateral, but if the borrower fails to make the full repayment on time, he or she stands to lose the entire value of car, not just the outstanding loan amount. (And if that car is needed for work, then the loss of it can mean the loss of a job.)

Payday loans are widely known for being financially ruinous to their customers. Such loans are generally 14-day cash advances that cost between $15 and $30 per $100 borrowed, and range in size from $100 to $1,000 with the median loan size about $350. In addition to interest rates that typically exceed 400 percent annually, payday loans can trap consumers into rolling over the same debt multiple times, incurring excessive expenses on relatively small initial loan amounts. The Center for Responsible Lending estimates that more than 75 percent of all payday loans are the rollovers of previous unaffordable debt.

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