The Credit Services Organization (CSO) Model
The Credit Services Organization (CSO) model was the foundation for payday loan operations in Texas before the implementation of stricter regulations that went into place in January of 2012, Defined by the Texas Credit Services Organization Act and Section 393 of the Texas Finance Code, a CSO is described as an entity that:
- Provides services to improve a consumer’s credit rating.
- Facilitates extensions of credit for consumers.
- Assists consumers with credit-related matters.
How the CSO Model Operated pre 2012
In practice, payday and auto title lenders in Texas functioned as CSOs, not traditional payday lenders as seen in other states. Instead of directly issuing loans, they acted as brokers arranging loans between consumers and third-party lenders. Here’s how the model worked:
- The Role of the CSO:
CSOs arranged loans for consumers through third-party lenders. For their services, CSOs charged fees, typically around $15-$25 $100 loaned for 2-4 weeks, though there was no legal cap on these fees. - The Role of Third-Party Lenders:
Third-party lenders provided the actual loan and charged interest, usually just under 10% APR, a rate much lower than the fees charged by the CSO. - Why It Worked:
The model gained legal validation in the landmark Lovick v. Rite Money case, heard in the U.S. Fifth Circuit Court of Appeals. The court ruled that fees paid to the CSO were not considered interest. This decision made the CSO model legally viable, leading to its widespread adoption and rapid growth in Texas.
Challenges and Changes to the CSO Model
For years, the CSO model allowed payday loan businesses to operate with minimal barriers to entry. All they needed was:
- A registration certificate from the state.
- A third-party lender willing to provide loans.
This simplicity facilitated rapid expansion across the state. However, the passage of House Bills 2592 and 2594 in 2011 marked a turning point for the industry.
The Shift to the Credit Access Business (CAB) Model
Effective January 1, 2012, the new laws required payday and auto title loan lenders operating under the CSO model to transition to the Credit Access Business (CAB) model. This transition brought about significant changes, including:
- Licensing Requirements: CSOs had to obtain a CAB license to continue operating.
- Increased Costs: The new laws imposed additional fees for licensing and compliance.
- Consumer Protections: Businesses were required to provide new consumer notices and disclosures, ensuring transparency and clarity in loan arrangements.
The introduction of the CAB model added a layer of oversight through the Office of Consumer Credit Commissioner (OCCC), which became the regulatory body for payday loan businesses in Texas. The intent was to create a more structured and consumer-focused industry, addressing concerns about the lack of transparency and high fees under the CSO model.
The Legacy of the CSO Model
While the CSO model was an innovative solution that enabled the payday loan industry to flourish in Texas, its simplicity and lack of consumer protections eventually led to calls for reform. The CAB model, with its stricter regulations and emphasis on compliance, replaced the CSO model as the framework for payday lending in the state.
