Employer-Sponsored Small-Dollar Loans: Credit Lifeline or Quick Path to Debt?

Background. Employer-sponsored small-dollar loans (ESSDLs) and similar workplace credit products may offer an affordable alternative to payday and other expensive and risky loans for low- and moderate-income (LMI) workers, particularly when faced with cash flow crises during major events like the COVID-19 pandemic. ESSDLs are an important source of credit for workers who have poor credit scores or are "credit invisible" (Birkenmaier & Tyuse, 2005) while automatic, payroll-deducted payments are reported to credit agencies which can help establish or improve credit scores. The purpose of this study is to describe needs and characteristics of ESSDL borrowers, and ESSDL product features and implementation experiences. Findings can inform the development of prudential regulatory guidance on small-dollar loans, such as ability to repay standards (Pew Charitable Trusts, 2018).

Method. A mixed-methods descriptive design was used to examine an ESSDL which offered 12-month installment loans of $1,000 to $3,000 with 24.99% APR through a digital platform and underwritten by a Community Development Financial Institution. Loan approval was based on monthly payments not exceeding 8% of gross pay. Data were analyzed from a borrower satisfaction survey (N=781 in 55 companies), a more detailed survey of borrowers from a social service agency (N=45), and in-depth interviews with borrowers and managers from this same agency. In addition, observations from additional studies in process are offered concerning other ESSDL and credit products in relation to unresolved policy and regulatory issues.

Results. Borrower satisfaction ratings were M=9.25 (SD=1.46) based on a 10-point scale. Among borrowers who had previously used a high-cost product such as a payday loan (54%), satisfaction was higher (p < .01). Among social service agency employees, the primary use of loans was to pay for ordinary household expenses and/or overdue rent or utility payments. Employees and managers appreciated the ease of applying for loans, though managers expressed concerns about the interest rate and that employees lived paycheck-to-paycheck. Other workplace credit products being studied include financing for medical bills with a negotiation service to reduce amounts owed, an ESSDL that uses paid time off (PTO) as collateral, and ESSDLs with opportunities for borrowers to transition from loan repayment to savings deposits.

Implications. Our findings suggest that ESSDLs and similar credit products offer an alternative to high-cost credit products like payday loans, especially for workers with no or damaged credit who cannot access loans through a bank or credit union. Payroll systems are leveraged to streamline loan approvals, automate installment payments which are reported to credit agencies and can improve credit scores, and offer opportunities to save after paying off loans. However, at this social service agency where many employees work part-time and are paid low wages, loans appear to be used primarily to finance usual household consumption and thus may mask persistent economic constraint. Application ease may also encourage overborrowing. Additional research to inform small loan regulations is needed to examine downstream ability to handle payments and effects on credit scores.