Paycheck Advances Are Consumer Loans, CFPB Says in Proposed Rule

Many paycheck-advance products, such as earned-wage access, are consumer loans, the Consumer Financial Protection Bureau (CFPB) recently stated.

Under a recently released proposed interpretive rule, the CFPB also announced the Truth in Lending Act and Regulation Z would apply to these consumer loans.

If finalized, the rule would replace a 2020 CFPB advisory opinion.

That advisory opinion addressed one specific earned-wage product, saying it wasn’t credit if it met a list of conditions. However, the 2020 opinion was silent regarding whether earned-wage products that didn’t meet all the conditions were credit. Plus, it didn’t address what counts as a finance charge. The advisory opinion resulted in “significant regulatory uncertainty,” the CFPB said.

Can’t Wait for a Paycheck

According to the proposed interpretive rule, paycheck-advance products would be considered credit. That’d be the case for both:

• employer-partnered products (where providers partner with employers, and funds are recovered through payroll deductions, among other options), and
• direct-to-consumer products (where funds are provided directly to individuals, and funds are recovered via automated withdrawal from the consumer’s bank account).

With either set up, employees whose finances are tight don’t have to wait until paychecks are prepared to access their earnings. Hence, the feature is sometimes called on-demand pay.

The proposed interpretive rule also covers finance charges, stating that the following items are considered finance charges:

• certain tips, and
• expedited delivery fees.

The proposed rule includes several factors that indicate when a tip has been imposed as part of the finance charge – e.g., when the creditor has set up a default tip amount.

As for expedited-delivery fees, some providers of earned-wage products offer slower and faster loans, the rule pointed out. Individuals who choose the faster option – which they often do – must pay expedited-delivery fees, sometimes called instant-funds fees. They’ll be seen as finance charges if the rule is finalized.

Are Rainy Day Funds Available?

With so many employees living paycheck to paycheck, there are other benefits your company may want to consider offering — in addition to on-demand pay — to encourage financial health among employees.

One example is emergency savings accounts. With this benefit, employees can build up funds to cover unexpected expenses. When employees opt to have money deducted from their paychecks each pay period, they can increase their rainy day fund slowly and surely.

Thanks to the Secure 2.0 Act, employers have been given the green light to offer a special kind of emergency savings account. This is called a pension-linked emergency savings account (PLESA).

PLESAs are linked to defined contribution (DC) plans, such as 401(k) plans.

Employers can make matching contributions, and such contributions should be made at the same rate as contributions to the connected DC plan.

PLESAs are treated as designated Roth accounts. As such, you’ll withhold taxes from the contributions. However, the employee won’t be taxed on withdrawals from these emergency savings accounts.

Setting up Emergency Savings Accounts

You’ll be relieved to know that plan sponsors can put controls in place to ensure that employees use this benefit as intended.

For example, you can set a limit for account balances. According to the Secure 2.0 Act, that limit is $2,500 or less.

The law also states that you can establish an order of matching contributions (i.e., matches must first go to the underlying DC plan).

But certain conditions must be avoided, and the IRS laid them out in Notice 2024-22.

Plan sponsors can’t:

• require the forfeiture of matching contributions due to a participant’s withdrawal from a PLESA
• suspend the participant’s contributions to the PLESA on account of a withdrawal, or
• suspend matching contributions to the underlying DC plan.

Also, bear in mind that highly compensated employees can’t participate in this type of emergency savings account.