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Advance America's Keystone Kops

Pennsylvania yesterday launched a legal volley at Advance America (NYSE: AEA  ) , the nation's largest payday lender, suing it for operating without a Banking Department license and charging usurious interest rates.

In his press release announcing the lawsuit against Advance America, Pennsylvania Governor Rendell admits, "These families have few options when faced with an unexpected emergency like a car breakdown or a child's illness." Yet his solution is to drive the businesses out of the state altogether, leaving the working-class families he purports to want to protect with simply no alternatives.

Last year the FDIC issued new, tougher regulations for banks engaging in payday lending. Up until then, Advance America operated as the front man for the banks, marketing, processing, and servicing the loans the banks made. After the regulations were promulgated, all the banks ceased to provide payday loans, and Advance America had to change its business model to comply with the state's laws.

Advance America's revenues from Pennsylvania took a hit after the regulations passed, dropping 82% year over year, to $1.8 million. However, it expected revenues to return to their historical levels following implementation of its "Choice Line of Credit" program that was specifically designed to comply with Pennsylvania's banking laws.

With the new program, consumers pay a "monthly participation fee," which entitles them to a revolving $500 line of credit. For whatever amount they borrow, they're charged a 5.98% APR, which is within the state's maximum 6% APR guideline, plus a minimum $20 monthly payment. It's the monthly fee which sticks in the critics' craw, and Pennsylvania's banking regulators immediately began investigating the program as soon as it was announced in June.

As readers of The Motley Fool know, the best preparation for unforeseen financial calamities is to have money set aside in an emergency fund. That way, you don't dig into your savings or investments and your day-to-day living expenses are not disrupted.

Yet not everyone has the foresight or fortitude to set money aside, or they have a string of financial mishaps that stresses their checkbook. Sometimes people just need a couple of hundred dollars to tide them over till their next paycheck. Fortunately, loan sharking is illegal (and a dangerous pursuit anyway), but unfortunately for those in need, traditional banks choose not to serve this market.

Into this void have stepped payday lenders like Advance America, First Cash Financial (Nasdaq: FCFS  ) , EZ Corp (Nasdaq: EZPW  ) , and Dollar Financial (Nasdaq: DLLR  ) . These companies are willing to loan small amounts of money for short periods of time -- typically two weeks, usually timed to the borrower's next paycheck, hence the industry name -- and charge a fee for the service. Because the fees in relation to the size of the loan can seem large, critics of the industry charge that the companies impose exorbitant interest rates. For example, Cash America's (NYSE: CSH  ) $25 fee per $100 borrowed would be equivalent to a 651% APR.

The assault on payday lending has even migrated to the industry's lending practices to military personnel. Advance America announced the other day it was temporarily halting loaning money to soldiers following a Congressional hearing that lambasted the industry for, yep, you guessed it, "preying" on our soldiers while they were engaged in war. North Carolina's Sen. Elizabeth Dole essentially said the nation's military were financial morons because they "lack financial savvy." Or, perhaps the situation says more about how much our senators pay those who defend our freedom.

Whether it's on foreign shores or in the Keystone State, those in need of the service most are being protected from themselves. Having to resort to using a payday lender is truly the last thing you should want to do, which is why Fools stress getting your financial house in order so strongly. Yet banning a service that two parties voluntarily enter into -- some 700 people signed up for the Choice Line of Credit on the first day it was offered -- is not doing anyone any favors.

Take an advance with these related Foolish articles:

Advance America is a recommendation ofMotley Fool Inside Value.

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Fool contributor Rich Duprey does not own any of the stocks mentioned in this article. You can see his holdings here. The Motley Fool has a disclosure policy.


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Rich Duprey
TMFCop

Rich has been a Fool since 1998 and writing for the site since 2004. After 20 years of patrolling the mean streets of suburbia, he hung up his badge and gun to take up a pen full time. Having made the streets safe for Truth, Justice and Krispy Kreme donuts, he now patrols the markets looking for companies he can lock up as long-term holdings in a portfolio. So follow me on Twitter for the most important industry news in retail and consumer products, industrial and mining stocks, and precious metals.

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