We come to you today with a special edition of the newsletter, covering how consumers are using financial products to manage short-term cash flow challenges. This is an evolving space, where boundaries and product definitions are not set in stone. However, we try to compare and contrast products that solve a similar problem for the consumer; we dive into earned wage access, small-dollar cash advances, and emerging payroll-linked lending.
We cover revenue models, legal structures, the evolving regulatory landscape, future viability and potential impact on the broader subprime market.
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Bridging the Gap: How Consumers are Using Financial Products to Manage Cash Flow
The Earned Wage Access Market
A competitive labor market and surging inflation accelerated the rise of earned wage access (EWA), a financial product that enables employees to access a portion of their paycheck prior to their typical pay date. Depending on the EWA service used, there is either no fee or a small one-time fee to access the money. EWA providers make clear that their product is not a loan, rather, early access to wages due. A growing number of employers have begun to offer EWA as a benefit to employees, who are often employed hourly, as gig workers, or work in the service industry.
With 58% of Americans living paycheck-to-paycheck, a majority of Americans could benefit from EWA, which may alleviate financial stress. By using EWA, many can avoid taking out expensive payday loans or overdrafting on bank accounts.
Amidst historically low unemployment rates, companies can offer EWA as an incentive to help recruit and retain talent. Younger generations value the greater flexibility of EWA, with 59% of millennials saying they would give priority to a job offer with an employer that offers earned wage access, and 75% saying that availability of EWA would influence their acceptance of a job offer.
A study from FTI showed that consumers who used EWA and were asked what their alternative would be answered: not paying certain bills on time (44%); going into overdraft (38%); using a payday loan (35%); or taking a second job or working overtime (30%).
Types of Earned Wage Access
Most EWA providers fall into two broad categories: employer-linked and consumer-targeted.
Employer-linked EWA options directly integrate with employers’ payroll and/or time and attendance systems. By linking directly to these systems, EWA companies reduce default risk, as the repayment of the advance comes directly from the employer. Employer-linked EWA options generally offer employees access to a portion of their “earned wages” (typically between 50-80%, but some offer up to 100%).
Consumer-targeted EWA options attempt to “monitor” or estimate hours worked by requiring employees to upload timesheets, share GPS data, and/or provide some verification of employment. Repayment is debited from the consumer’s bank account. Earnin is the predominant player in the consumer-targeted EWA space.
Small-Dollar Advance Products
Small-dollar advance products provide consumers with cash advances, using direct deposit and/or bank account cash flow data. The end product serves a similar function to consumers as EWA, as consumers can access smaller amounts of cash, backed by their cash flows.
In contrast to EWA products, cash advances provide access to a set dollar amount, rather than a percent of earned wages. Cash advances limits can range from $100-$1,000 depending on the provider.
The vast majority of small-dollar cash advance products have consumers link their bank account data (e.g. MoneyLion, Brigit) and/or deposit their direct deposits into an account held by the cash advance company (e.g. Chime, Dave). In doing so, the company can limit the risk of default, by utilizing underwriting data based on bank account transaction history and repayment. Users can opt into an auto pay feature, where the repayment amount is taken from their account on a specific date (often aligning with the expected direct deposit date). Some companies go one step further, allowing consumers to allocate some or all of their direct deposit through their service. By doing so, consumers can seamlessly enable paycheck withholdings. By “jumping to the front of the line” with a paycheck withholding, the company ensures that its repayment is paid before other debts or bills.
Likewise, we have been seeing additional financial products embrace the automatic paycheck deduction or re-allocation of direct deposit to increase the likelihood of repayment.
Payroll-linked lenders provide credit to those who cannot gain access or cannot gain affordable access to a loan. By ensuring loans are repaid through preset withholdings from one’s paycheck, these companies aim to reduce missed payments and default rates. The real value from payroll-linked lenders lies in the untapped demographic that lenders would or could not previously lend to, but now are able to. Notable examples of payroll-linked lenders include Argyle, Kashable, OneBlinc and Pinwheel.
A newly launched product from Nirvana Money will offer a credit card to those who cannot get one elsewhere, but are willing to deposit their paychecks at the company. This represents a revolving line of credit that allows those to bypass a required security deposit on a secured credit card while still demonstrating an ability to repay the revolver through steady cash flow.
Critics of linking credit to one’s paycheck worry over the lack of credit checks, as lenders may not have visibility into whether taking on additional debt may make current obligations unaffordable. By inserting themselves into the front of repayment priority (at least while paychecks are linked), the lenders may better protect themselves, but the consumer may be taking on unmanageable levels of debt. The risk borne by other lenders, from mortgages to auto and personal loans, may be impacted as they are superseded in repayment priority.
So, how do these business models generate revenue? There are two main revenue streams utilized: interchange fees from paycard offerings (prepaid debit card) and fees for cash advances. Additionally, offering EWA or cash advances as a product can increase cross-sell opportunities.
Interchange and Paycards
EWA and cash advance providers will offer fee-free access to cash to those that hold their paycards and collect revenue through interchange fees. Consumer-targeted EWA providers, employer-linked EWA providers, and small-dollar cash advance providers have begun to offer paycards. Notable examples of paycards include: Friday by DailyPay, the Payactiv card, the Branch debit card, the Earnin debit card, the Wisely card by ADP, the Dayforce card by Ceridian, the Instant card, the Grit card, and the Clair card.
Paycards are beneficial because nearly 40% of those making under $25k a year and roughly 20% of those making $25-50k per year are unbanked or underbanked. The paycards allow both workers that are banked and unbanked to access the same services. The Durbin Amendment limits the amount non-exempt card issuers can charge, setting a maximum of 0.05% + 21 cents. However, non-exempt issuers only apply to banks with over $10Bn in assets. As such, most providers partner with Durbin-exempt banks for their card offerings (e.g. DailyPay partners with The Bancorp Bank NA, Payactiv partners with CBKC and Chime partners with both The Bancorp Bank and Stride Bank NA).
Paycards also serve as a cross-selling opportunity, to generate additional revenue from other banking, payroll, and/or financial services offered.
User “Tips”, Expedited Funding Fees, Fee per Advance
The other predominant way that providers produce revenue is fee-based. Providers charge a transaction fee, monthly fee, and/or a voluntary tip. Often customers are charged these fees, but for employer-integrated EWA models, employers can elect to cover the cost of fees, as a workplace benefit.
Companies will often require consumers to link bank account data or hold an account with them, as a way to ensure that you have cash flow coming in, and to auto-deduct payments to repay cash advances. For example, in addition to interchange earned on its debit card, Varo charges a set fee for cash advances up to $100, ranging from $0-$5. At the same time, Varo requires you to link direct deposits and open a debit card with them.
Brigit takes a different approach, requiring linking of direct deposits and charging customers a $9.99 monthly fee that includes cash advances up to $250 fee-free and provides budgeting tools. Similarly, Cleo offers a Cleo Plus account for $5.99/mo and Cleo Builder account for $14.99/mo that offer free cash advances of up to $100 (with a $4 fee for express transfers). B9 also offers monthly plans (B9 Advance – $9.99/mo for advances up to $300, and B9 Premium – $19.99/month for 100% of earnings). B9 is a cash advance product in which users have to deposit direct deposits into a B9 account and hold a linked debit card.
MoneyLion requires you to link your direct deposits and offers 0% APR advances on its Instacash product (up to $250-$1k), but does charge $3.99 for same-day funding and prompts for optional tips.
Similarly, Dave’s ExtraCash product allows direct deposits to get advances up to $500, but charges fees $0.99-$11.99 depending on where the money is transferred and if you want the money immediately. Dave is another fee plus optional tip option in the cash advance space.
DailyPay offers a standalone product that charges $2.99 for an on-demand advance, waiving the fee for those using its Friday reloadable card. DailyPay integrates with payroll systems and even powers the ADP Wisely’s EWA product. Rain is an EWA provider that also integrates with most payroll systems, charging a $3.99 per withdrawal fee for employees.
Earnin’s CashOut product and Chime’s SpotMe product both offer free advances for those that link direct deposit and hold a linked debit card. Both companies generate additional revenue through optional tips, which are prompted to customers during the process of receiving the cash advance.
Most small-dollar cash advance products are not structured as loans, do not need to comply with TILA and operate as non-recourse products.
For example, MoneyLion’s Instacash cash advance service is a non-recourse product, and MoneyLion does not let consumers request a new advance if they hold an outstanding balance.
Dave’s ExtraCash is structured as a DDA (demand deposit account) with overdraft utility. Essentially, the “advance” one receives functions like a typical overdraft, but with the limitation that consumers must repay the full balance before receiving another advance.
Similarly, Chime’s SpotMe is both advertised and structured as an optional, fee-free overdraft service that can allow consumers to receive up to $200.
A few offerings are structured as actual loans. Block’s Cash App Borrow offers users up to $600 for four-week loans, charging 5% interest with a 1.25% per week late fee. Cash App Borrow is comparable to cash advances offered by other fintechs in that it requires some proof of cash flow (in the form of regular deposits), but uses credit bureau data and has recourse due to the fact that it is a loan. Cash App has had success with its short-term loan product, with over 1Mn Cash App customers using the feature to borrow money in June 2022.
Varo Advance’s product is legally structured as a small dollar line of credit. The company makes clear that the “advance” is a loan deposited to one’s Varo account that must be repaid.
Despite consumer advocates and certain state lawmakers pushing for increased regulation on earned wage access products, the CFPB has yet to pursue further regulation of the product. The CFPB’s 2020 advisory opinion stated that if there are no attached fees, EWA products could not be considered loans or credit products. While this opinion did not address the large portion of the industry that charges fees, it could influence future industry decisions. Former Director Cordray (an Obama appointee) exempted EWA products from a 2017 rule on payday loans, and Former Director Kraninger (a Trump appointee) issued the 2020 advisory opinion, indicating that bipartisan regulators have been cautious to not stifle innovation in the EWA space.
EWA products have faced scrutiny from organizations, like the NCLC and CRL, who have argued that the products should be considered loans. Lauren Saunders, associate director of the National Consumer Law Center, argued, “Earned wage access products are loans – advances on pay, usually for a fee – and carving a loophole for them will just lead workers to get caught in debt traps and cycles where they are paying to be paid.” EWA companies argue that EWA products differ in that they do not charge interest, and involve taking out money that was already earned. Thus, they say consumers do not face the adverse impacts of compounding interest and do not overextend themselves by advancing more money than has already been earned.
Just this past summer, the CFPB rescinded Payactiv’s sandbox approval order, based on a request from Payactiv, which had given the EWA company temporary exemption from liability under TILA and Reg Z. The decision to rescind came after allegations by the CFPB that Payactiv made statements “wrongly suggesting a CFPB endorsement” of its product. Included in the announcement was a warning that “The CFPB has received requests for clarification regarding its advisory opinion on ‘earned wage access’ products. The CFPB plans to issue further guidance soon to provide greater clarity concerning the application of the definition of ‘credit’ under the Truth in Lending Act and Regulation Z.” While the CFPB did issue this warning, it was ultimately Payactiv’s business model change that prompted termination of the order. In June, Payactiv notified the CFPB it was going to modify its EWA product fee model. As the original 2020 approval order only applied to existing products, Payactiv requested termination of the order so it could make fee model changes “quickly and flexibly.”
Regulatory scrutiny is increasing in the space, especially for companies that charge “membership” style fees.MoneyLion was sued by the CFPB in September over allegations that the company violated the Military Lending Act (MLA) by overcharging and deceiving servicemembers and military dependents by imposing membership fees. The fees, when paired with loan-interest-rate charges, exceeded the MLA’s 36% rate cap. The CFPB also alleged that MoneyLion did not allow members to cancel their memberships until their loans were paid off, and that the memberships offered little benefits to customers.
While the MoneyLion case applies specifically to the MLA, we may see increased probes by regulatory agencies into companies that charge additional fees such as membership fees, tips, and expedited funding fees. The scrutiny will likely come from state regulators, as the CFPB only has authority over the violation of federal consumer financial law. Currently, the California Department of Financial Protection and Innovation (CA DFPI) is conducting an industry-wide investigation into companies (including MoneyLion) that provide EWA products and services. Additionally, state regulators in Colorado, New York, and Virginia are investigating MoneyLion’s provision of consumer financial services.
Although there remains conflict over the level of regulation that EWA products are held to, it is unlikely that we see major enforcement action come soon, given the CFPB’s current focus on other issues, such as the regulation of Big Tech in financial services, the BNPL market and liability for peer-to-peer payments fraud.
A Broader Impact?
With the rise of EWA, small-dollar cash advances, and of lending products that use cash flow information to extend credit, the question arises: what is the broader impact on traditional lending products? These products are a direct challenge to payday loans, could challenge the lower end of the subprime loan market, and may obscure visibility into borrowers’ creditworthiness.
EWA and small-dollar cash advances are directly taking market share from payday lenders and from traditional overdraft products. EWA and small-dollar cash advances represent a significantly cheaper alternative for consumers with short-term cash flow issues and are easily accessible to the same target demographic.
Additionally, both subprime lenders and EWA/small-dollar cash advance providers target those with subprime or thin/no credit history. The average incomes of their primary consumers can have significant overlap too, with an FTI report finding the average EWA user’s household income to be ~$51k. In comparison, subprime lender Oportun’s average borrower’s income was ~$48k and Enova’s average personal income was ~$42k.
While consumer demographics may overlap, the function of EWA and/or small-dollar cash advances compared to personal loans differs. EWA and/or small-dollar cash advances are often capped at a few hundred dollars, and rarely allow access to over $1k. In contrast, the average subprime personal loan is a significantly larger amount. For example, Enova’s average origination amount was $1,638 in Q2, Elevate’s average customer loan balance was $2,087, and Oportun’s was $4,118. The average loan size is large, but you can take out loans as small as $150 from Enova, $300 from Oportun and $500 for Elevate. Thus, there lies some area for overlap. It is important to note that a meaningful share of subprime lenders’ customers’ main income is benefits, such as disability or social security, which represents an audience that lacks access to EWA. A rise in popularity in EWA and small-dollar cash advances could begin to eat into smaller dollar subprime loan origination volumes, as better qualified customers may take advantage of EWA and small-dollar cash advances. However, the core of subprime consumer loan originations should remain unthreatened by the growth of EWA and small-dollar cash advances.
Besides potentially eating into subprime loan volume, the rise of EWA and small-dollar cash advances may cloud subprime lender’s visibility into their borrower’s financial health. As these products often do not report to credit bureaus, higher risk borrowers could be increasing the total debt they are taking on without a subprime lender’s knowledge. As such, there could be a scenario where credit risk is underestimated.
Looking into the future, we are likely to see consolidation in the industry as well as margin pressure on fees as competition heats up. To go along with this, companies will likely need to offer more than just an EWA product. We have already seen companies like DailyPay expand to paycards. We have also seen companies add small-dollar cash advance products to complement existing suites of products and increase cross-sell potential.
We would expect more of the fees on EWA to be covered by employers in the future. For one, it would provide additional incentives to employees during the hiring process and for job retention, and for another, it may help shield EWA providers from regulatory scrutiny. Regulators have been critical of the fees that consumers pay for access to earned wages, but if the costs are taken on by the employer, there would be much less incentive to go after EWA. Finally, it will likely not be economically feasible for employers to build in-house solutions for EWA, as it would involve overhauling their HR processes. As such, we would expect companies to work with EWA providers that can easily be built into payroll systems or are API-integrated. EWA providers can still capitalize on business, but partnering with major payroll providers may be crucial to future growth. We may see more business models like DailyPay’s partnership with ADP, in which they power Wisely by ADP’s EWA product, in the future.