19th-century salary lenders In the late 19th-century US, low legal interest rates made small loans unprofitable, and small-time lending was viewed as irresponsible by society. Banks and other major financial institutions thus stayed away from small-time lending. There were, however, plenty of small lenders offering loans at profitable but illegally high interest rates. They presented themselves as legitimate and operated openly out of offices. They only sought customers who had a steady and respectable job, a regular income and a reputation to protect. This made them less likely to leave the area before they paid their debt and more likely to have a legitimate reason for borrowing money. Gamblers, criminals, and others who were disreputable or likely to be unreliable were avoided. They made the borrower fill out and sign seemingly legitimate contracts. Though these contracts were not legally enforceable, they at least were proof of the loan, which the lender could use to blackmail a
defaulter. To force a defaulter into paying, the lender might threaten legal action. This was a bluff, since the loan was illegal. The lender preyed on the borrower's ignorance of the law. Alternatively, the lender resorted to
public shaming, exploiting the social stigma of being in debt to a loan shark. They were able to complain to the defaulter's employer, because many employers would fire employees who were mired in debt, because of the risk of them stealing from the employer to repay debts. They were able to send agents to stand outside the defaulter's home, loudly denouncing him, perhaps vandalizing his home with graffiti or notices. Whether out of gullibility or embarrassment, the borrower usually succumbed and paid. The size of the loan and the repayment plan were often tailored to suit the borrower's means. The smaller the loan, the higher the interest rate was, as the
overhead (costs) of tracking and pursuing a defaulter did not depend on the size of the loan. The attitudes of lenders to defaulters also varied: some were lenient and reasonable, readily granting extensions and slow to harass, while others unscrupulously tried to milk all they could from the borrower (e.g. imposing late fees). The model statute mandated consumer protections and capped the interest rate on loans of $300 or less at 3.5% a month (51% a year), still a profitable level for small loans. Lenders had to give the customer copies of all signed documents. Additional charges such as late fees were banned. The lender could no longer receive
power of attorney or
confession of judgment over a customer. These licensing laws made it impossible for usurious lenders to pass themselves off as legal. Small loans also started becoming more socially acceptable, and banks and other larger institutions started offering them as well.
20th-century gangsters In the 1920s and 1930s, American prosecutors began to notice the emergence of a new breed of illegal lender that used violence to enforce debts. The new small lender laws had made it almost impossible to intimidate customers with a veneer of legality, and many customers were less vulnerable to shaming because they were either self-employed or already disreputable. Thus, violence was an important tool, though not their only one. These loan sharks operated more informally than salary lenders, which meant more discretion for the lender and less paperwork and bureaucracy for the customer. They were also willing to serve high-risk borrowers that legal lenders would not touch. Threats of violence were rarely followed through, however. One possible reason is that injuring a borrower could have meant he could not work and thus could never pay off his debt. Many regular borrowers realized the threats were mostly bluffs and that they could get away with delinquent payments. A more certain consequence was that the delinquent borrower would be cut off from future loans, which was serious for those who regularly relied on loan sharks. One important market for violent loan sharks was illegal gambling operators, who could not expose themselves to the law to collect debts legally. They cooperated with loan sharks to supply credit and collect payments from their punters. Thieves and other criminals, whose fortunes were frequently in flux, were also served, and these connections also allowed the loan sharks to operate as fences. Another type of high-risk customer was the small businessman in dire financial straits who could not qualify for a legal loan. Violent loan sharking was typically run by criminal syndicates, such as the
Mafia and
Irish Mob. Many of these were former
bootleggers who needed a new line of work after the end of
alcohol prohibition. Towards the 1960s, loan sharks grew ever more coordinated, and could pool information on borrowers to better size up risks and ensure a borrower did not try to pay off one loan by borrowing from another loan shark. The fearsome reputation of a criminal organization made the loan shark's threat of violence more credible.
Mafia links Origins in "salary buying", 1920s criminalization Although the reform law was intended to starve the loan sharks into extinction, this species of predatory lender thrived and evolved. After high-rate salary lending was outlawed, some bootleg vendors recast the product as "salary buying". They claimed they were not making loans but were purchasing future wages at a discount. This form of loan sharking proliferated through the 1920s and into the 1930s until a new draft of the
Uniform Small Loan Law closed the loophole through which the salary buyers had slipped. Salary-buying loan sharks continued to operate in some Southern states after World War II because the
usury rate was set so low that licensed personal finance companies could not do business there.
Post-criminalization Organized crime began to enter the cash advance business in the 1930s, after high-rate lending was criminalized by the Uniform Small Loan Law. The first reports of mob loan sharking surfaced in New York City in 1935, and for 15 years, underworld money lending apparently did not expand beyond that city. There is no record of syndicate "
juice" operations in Chicago, for instance, until the 1950s. In the beginning, underworld loan sharking was a small loan business, catering to the same populations served by the salary lenders and buyers. Those who turned to the bootleg lenders could not get
credit at licensed companies because their incomes were too low or they were deemed poor risks. Firms operating within the
usury cap turned away roughly half of all applicants and tended to make larger loans to married men with steady jobs and decent incomes. Those who could not get a legal loan at 36% or 42% a year could secure a cash advance from a mobster at the going rate of 10% or 20% a week for small loans. Since the mob loans were not usually secured with legal instruments, debtors pledged their bodies as collateral. In its early phase, a large fraction of mob loan sharking consisted of
payday lending. Many of the customers were office clerks and factory hands. The loan fund for these operations came from the proceeds of the numbers racket and was distributed by the top bosses to the lower echelon loan sharks at the rate of 1% or 2% a week. The 1952
B movie Loan Shark, starring
George Raft, offers a glimpse of mob payday lending. The waterfront in Brooklyn was another site of extensive underworld payday advance operations around mid-century.
1960s heyday–present Over time, mob loan sharks moved away from such
labor-intensive rackets. By the 1960s, the preferred
clientele was small and medium-sized businesses. Business customers had the advantage of possessing assets that could be seized in case of default or used to engage in fraud or to launder money. Gamblers were another lucrative market, as were other criminals who needed financing for their operations. By the 1970s, mob salary lending operations seemed to have withered away in the United States. At its height in the 1960s, underworld loan sharking was estimated to be the second most lucrative franchise of organized crime in the United States after
illegal gambling. Newspapers in the 1960s were filled with sensational stories of debtors beaten, harassed, and sometimes murdered by mob loan sharks. Yet careful studies of the business have raised doubts about the frequency with which violence was employed in practice. Relations between creditor and debtor could be amicable, even when the "
vig" or "juice" was exorbitant, because each needed the other. FBI agents in one city interviewed 115 customers of a mob loan business but turned up only one debtor who had been threatened. None had been beaten.
Non-mafia sharks Organized crime has never had a monopoly on
black market lending. Plenty of vest-pocket lenders operated outside the jurisdiction of organized crime, charging usurious rates of interest for cash advances. These informal networks of credit rarely came to the attention of the authorities but flourished in populations not served by licensed lenders. Even today, after the rise of corporate
payday lending in the United States, unlicensed loan sharks continue to operate in
immigrant enclaves and low-income neighborhoods. They lend money to people who work in the
informal sector or who are deemed to be too risky even by the check-cashing creditors. Some beat delinquents while others seize assets instead. Their rates run from 10% to 20% a week, as was common with the mob in the past.
Non-standard lenders in the United States In the United States, there are lenders licensed to serve borrowers who cannot qualify for standard loans from mainstream sources. These smaller, non-standard lenders often operate in cash, whereas mainstream lenders increasingly operate only electronically and will not serve borrowers who do not have bank accounts. Terms such as
sub-prime lending, "non-standard consumer credit", and
payday loans are often used in connection with this type of
consumer finance. The availability of these services has made illegal, exploitative loan sharks rarer, but these legal lenders have also been accused of behaving in an exploitative manner. For example, payday loan operations have come under fire for charging inflated "service charges" for their services of cashing a "payday advance", effectively a short-term (no more than one or two weeks) loan for which charges may run 3–5% of the principal amount. By claiming to be charging for the "service" of cashing a paycheck, instead of merely charging interest for a short-term loan, laws that strictly regulate moneylending costs can be effectively bypassed.
Payday lending Licensed payday advance businesses, which lend money at high rates of interest on the security of a postdated check, are often described as loan sharks by their critics due to high interest rates that trap debtors, stopping short of illegal lending and violent collection practices. Today's payday loan is a close cousin of the early 20th century salary loan, the product to which the "shark" epithet was originally applied, but they are now legalised in some states. A 2001 comparison of short-term lending rates charged by the
Chicago Outfit organized crime syndicate and payday lenders in California revealed that, depending on when a payday loan was paid back by a borrower (generally 1–14 days), the interest rate charged for a payday loan could be considerably higher than the interest rate of a similar loan made by an organized crime syndicate. However, the violent collection practices of organized crime can ensure a lower rate of unpaid loans. The absence of taxes further reduces the cost of lending in this case. ==See also== •
Debt bondage •
Debt of developing countries •
Financial literacy •
Mortgage discrimination •
Organized crime •
Overdraft protection loans •
Payday loan •
Poverty industry •
Refund anticipation loan •
Securitization •
Settlement (finance) •
Title loan •
Usury ==References==