New York state Atty. Gen. Eliot Spitzer, who gained major media attention and the admiration of small investors for going after Wall Street investment firms, is targeting another industry — payday lenders.

“This is an issue that has been on our radar screen for a long time,” Spitzer said.

Payday loans are small loans (usually $100 to $500) that a borrower promises to repay (typically in two weeks) out of his or her next paycheck.

Fees charged for payday loans are usually a percentage of the face value of the check. For example, if someone wanted to borrow $500, the fee might be 15 percent ($75).

Consumer groups complain that payday loans are an extremely bad deal because they carry high fees that, when annualized, amount to triple-digit interest rates. In many cases if borrowers cannot repay the loans, they are allowed extensions — for additional fees. Then they are charged even higher rates of interest.

Lawsuit filed

Spitzer recently announced he was suing County Bank of Rehoboth Beach, Del., and Cashnet Inc. and TC Services Corp., both based in Pennsylvania.

Spitzer said Cashnet and TC Services, which operates as Telecash, were involved in a scheme through County Bank to circumvent a New York state law that limits the interest a lender can charge on such loans to 16 percent.

Spitzer said he believes County Bank is just the lender in name only.

A state-chartered bank such as County Bank can charge interest throughout the United States at any rate permitted in its home state. Delaware’s law does not limit the amount of interest its banks can charge. The lawsuit accuses Cashnet and Telecash of hiding behind the County Bank name and charges that the two Pennsylvania companies are in fact providing the loans — marketing, advertising, originating and serving them.

“This is a case of rent-a-bank,” Spitzer said.

Spitzer said the payday loans offered by the companies are tantamount to “loan sharking” and “exploit vulnerable consumers with offers of quick cash, when in reality, the exorbitant, illegal interest rates trap people in a cycle of long-term debt.”

Firms disagree

I was unable to get a comment from either County Bank or Cashnet, but the attorney representing TC Services said the company denied Spitzer’s allegations and would fight the lawsuit.

“The fact that the New York attorney general brought this lawsuit either represents a misunderstanding of the office of what my client does or a mischaracterization,” said Claudia Callaway of the Washington office of Paul, Hastings, Janofsky & Walker.

Callaway said her client markets and services the loans for County Bank in much the same way that H&R Block markets rapid tax refund loans for lender Household International.

“We are understandably disappointed that the office of the attorney general did not take more time to learn about this industry before it filed the action,” Callaway said.

A need

Honestly, I’m conflicted about the payday loan industry. Clearly, there is a need. There are many people who run out of money before payday.

There are households that don’t pay utility bills, don’t pay mortgage or rent, need to see the doctor or dentist but don’t go, have telephone or utility service shut off, are evicted, don’t get enough to eat, or otherwise don’t meet essential expenses.

“The payday advance product serves as a dignified and cost-efficient ‘financial taxi’ to get from one payday to another when faced with an unexpected cash need,” according to a report by the Community Financial Services Association of America (CFSA), the payday advance industry’s national trade association. “Consumers use the product … for the purpose for which it was intended, namely, to solve temporary cash-flow problems by bridging the gap between paydays.”

CFSA points out that without payday loans some consumers might bounce checks or be forced to pay late fees for bills they can’t pay because they fall short of cash.

The unfortunate truth is payday lenders are servicing a segment of the population that traditional banks have turned their backs on. For lower-income and, increasingly, middle-income people, there are very few ways to obtain small, low-cost loans.

In fact, Spitzer’s office points out that payday loans are the fastest-growing segment of the fringe banking economy, generating nearly $45 billion in revenue last year.

The payday loan industry argues that it is offering a valuable and economically sound financial product for consumers.

True, the industry is offering a needed service. But it’s neither economical nor financially sound when you have to borrow money against your future paycheck.

There is no doubt in my mind that payday loans are exploitative. I believe lenders servicing cash-strapped consumers could still make a profit without charging interest rates that border on usury.