304: A 15% Guaranteed Return? Lending on the Fringes of Finance

Welcome to Money for the Rest of Us. This is a personal finance show on money, how it works, how to invest it, and how to live without worrying about it. I’m your host, David Stein. Today is episode 304. It’s titled, “A 15% Guaranteed Return? Lending on the Fringes of Finance.” 

DriverLoan Investors Club

Last month I got an email from Victoria. She wrote that she is a recruiter at DriverLoan USA. They are a cash advance company that has been in operation since 2018. She wrote, “We have helped a lot of people and now we want to help more. That’s why we recently launched our new financial product service named DriverLoan Investors Club where we offer a 15% APY guaranteed, with a minimum of $50 to open an account. The platform is designed to protect us by anticipating the inflation that we are going to experience in the United States. 

“Looking at your savvy financial profile, I think you could fit perfectly to review our product. We invite you to go to our website. Look forward to hearing from you. All the best, Victoria.” 

I looked at the email. They had a very well designed logo. Their email marketing software was HubSpot, which means they’re paying at least several hundred dollars a month, instead of a free Mailchimp account. But I filed it away and I forgot about it. 

Then last week I got another email with the heading: “We are Officially BBB Accredited.” My initial response was, that’s not very high. I thought that was their bond rating. But no, as I read the email later it said, “We’re pleased to announce that DriverLoan USA is nationally accredited by the Better Business Bureau with an A ranking. Our BBB rating gives our clients assurance that we are accredited by an established non-profit and non-biased standard. It means that clients can rest assured that we are following responsible, honest practices.” 

Fifteen percent guaranteed returns. I decided to take a look at it because when I went on their website, it actually was a very polished site. In my book where I outline a 10 question investing decision framework, one of the questions is “who is on the other side of the trade?” Who is the counterparty and what does it take to be successful with a particular investment. So I want to understand the model and who these firms are. How can they guarantee 15%? 

Comparison to U-Haul Investors Club

Another reason I wanted to take a look at it is it reminded me of the U-Haul Investors Club, which I had also never heard of and discussed back in episode 133 in November 2016. I thought that was kind of a strange name. You don’t think of investing with U-Haul. They offer secured notes. the parent of U-Haul, Americo, which owns U-Haul, they own a real estate company, Republican Western Insurance Company, and Oxford Life Insurance Company. 

And they have over $150 million of U-notes that they issued. The current one that expires today is a 2.5%, 2-year note, secured by furniture pads and furniture dollies. It’s full recourse, which means if they default on the note and the furniture pads aren’t enough to pay back the lenders, then you have access to the company’s other assets. There’s a big difference between 2.5% secured and 15% guaranteed. 

On the DriverLoan Investors Club website, it says there’s no annual fee, “no annual maintenance or commission fees… Start investing with as little as $50. We stay away from stocks and risky portfolios. You can cash out at any time.” And you obtain a certificate of investment after signing up. Also on the home page, they showed the performance of their 15% guaranteed plan relative to other peer-to-peer lending options, Prosper, LendingClub, as well as a couple banks such as Bank of America. 

LendingClub Returns

We looked at peer-to-peer lending last time back in episode 216, about 2 years ago. And I said I was done participating. And I had been investing in peer-to-peer lending since 2006 with Prosper. And started with Lending Club back in 2014. My returns on my LendingClub portfolio were over 7%. My Upstart period peer lending portfolio did worse, less than 4%. 

But I was concerned 2 years ago about the returns for these portfolios were dropping. LendingClub and Upstart were not increasing the interest rates as defaults increased because they had found that they could securitize these loans, package them up, over-collateralize them. Which means they might put $12 million of loans backing a $10 million security. So the institutional investors invested in these securities would have some protection. 

LendingClub’s 2015 vintage year returns, so all the loans they issued in 2015, had a return of 4.74%. And the average interest rate was 12.94%. Defaults cost about 8 percentage points. They have since actually raised their loan rates. So in 2016, C-rated loans, the interest rate was 13.84%. If you borrow it on LendingClub Today, the 2020 loans, C-rated, 16.04%. 

Returns have been 4–5%, which kind of gives you an idea. We can get 2.5% with U-Haul, 4.5% with Lending Club. How is it we could get 15% with the DriverLoan Investors Club? 

Red Flags for DriverLoans Investors Club

Here’s what the DriverLoan Investors Club website says. The funds deposited through their platform are FDIC insured because they’re placed into member financial institutions. They’re going to hold the funds at a bank where they get FDIC insurance and try to keep somehow each individual’s account under the $250,000 limit. Then they say investor funds are distributed as cash advances to rideshare drivers. Where the company guarantees the collection of payments that allows them to offer the 15% annual percentage yield. 

They write, “The capital will never be at risk or lost. DriverLoan Investors Club guarantees the payment of interest by our certificate of investment.” They have a link to their certificate of investment. It looks like something that you would get if you won a spelling bee. It has “Certificate of Investment” on top with your name, the amount you invested. You get a membership number, there’s a gold seal, a signature. And it says “the certificate of investment assures the receiver of guaranteed return on investment and guarantees the investor of added safety of invested principal and is hereby issued to:” the person. I don’t know if that is what the official certificate looks like. I would rather have a signed guarantee contractual document. Maybe that’s what they’re offering. 

In their frequently asked questions, one of the questions is “is there any risk associated with this investment model? They write, “Investments are 100% secured and guaranteed by DriverLoan USA. A certificate of investment will be provided to every investor as proof of having an investment account. The funds deposited by investors into our platform are used to provide short-term cash advances to independent contractors who work with thriving rideshare platforms such as Uber and Lyft. All cash advance applications serviced through DriverLoan USA are filtered by a unique state of the art loan processing system that uses artificial intelligence to generate a behavioral model that evaluates the applicant’s financial capacity, ultimately reducing default by 98%. Our technology and experience allows us to guarantee a 15% annual percentage yield to all investors.”

Now I was hesitant to do this episode because I did an episode where I was unsure whether it was a fraud or not, I got some feedback that I spent too much time highlighting a particular entity. If you look at their website, it looks legitimate and may be legitimate. 

I found the lending side of their platform, it’s a different URL. They make 2-week loans. The lending rate, if you want to borrow, you’re a Uber driver, is a 5% verification fee and APR, the annual percentage rate is 440%. When they make a loan, you link your bank account and they start taking daily payments out of it to pay back the loan. These are what are known as short-term small-dollar credits. Sometimes they’re called payday loans. They’re called cash advances. And that rate might seem incredibly high, but that is fairly typical. 

Payday Loan Industry Overview

Payday lending emerged back in the early 1990s. There are over 20,000 payday loan storefronts around the US. And a number of online websites. $38 billion is lent annually to 19 million payday loan customers. Who paid $9 billion in payday loan fees. 

This is from a research paper, 2017 paper, by Todd Baker who is now a senior fellow at the Richman Center for Business Law and Public Policy at Columbia University. In that paper he pointed out a typical 2-week payday loan with $15 per $100 fee equates to an annual percentage rate of almost 400%. So the fees are high and if you equate that an interest rate, then it gets very, very high. 

I tried to apply for a loan with DriverLoan USA and I went through the process without giving away much personal information and they immediately said they weren’t making loans. So then I called them up just to see who, if anyone, would answer. It was a Sunday so it was all automated messages. I didn’t leave a message, but Monday, the next day, Eduardo Silva called me back having seen that I called in and was more than willing to answer all my questions. My biggest question was “how is it you can pay 15% guaranteed if you’re lending money to Uber drivers and so the capital is at risk? And why is the interest rate so high to those drivers if your default rate is less than 2%.” The average default rate for payday loans is 60%. 

He said they did market research and many of the cash advance companies are charging over 700% and they’re only at 400%. And because the returns are so high that only a little bit of club members’ capital is at risk at any one time. Just a few percentage points. And we get the guarantee of the company. He said, “It’s not a loan to these drivers, it’s a cash advance.” That they need the money so they can buy some gas and maybe buy some food, and then they go out and they do their gig and make 4–5 times the amount that they borrowed. Again, these are small deposits. 

Many of those that drive for Uber in the gig economy, they suffer huge volatility in income and expenses. A JP Morgan Institute study from 2015 showed that the bottom 2 income quintiles experienced expense increases of about 27% over a decrease of 25% in 6 out of 12 months of the year. So big changes in expenses. And that their income varied between 11% and 14% on the upside or could fall between 9% and 11% in half the months of the year. The leading cause was an irregular work schedule. So unexpected expenses. 

The Center Financial Services Innovation survey 1,200 small-dollar credit users and found that they take out the loans to pay for unexpected expenses or to handle misaligned cash flow. They just run into a shortage. They haven’t got their money yet, they have to meet an expense. Or because their expenses regularly exceed their income. Sometimes they borrow for a planned purchase. 

Another survey showed that small-dollar credit users, that most have typically had 2–3 payday loans in the past year. And one fourth reported rolling over a loan 6 times or more in the previous year. 71% had more than one payday loan open at the same time. Individuals use these cash advances just to get by. 

The Pew Charitable Trust wrote “Most small-dollar loan borrowers can afford to put no more than 5% of their paycheck toward a loan payment and still be able to cover basic expenses. In the 35 states that allow lump-sum payday loans, repayment of these loans requires approximately ⅓ of an average borrower’s paycheck.” And that’s what DriverLoans is doing, they’re just, you borrow money and because they have a connection to the borrower’s bank account they just start taking any money that shows up to repay the loan.

The paper by Todd Baker pointed out that, “payday borrowers typically spend over $520 in fees to repeatedly borrow $375 over several months.” So it’s plausible that DriverLoan Investors Club can pay 15%. Now I have no idea what percentage is in a bank with FDIC approval. I don’t even, that just doesn’t sit right. I believe this is unsecured debt with DiverLoan. Yes, they give you a certificate, but if they default, you will not get your money. 

Then there’s the moral debate, whether one should be investing in something who’s returns come from lending cash advances at 440%. I looked at the website closer though, and there were some additional red flags. I couldn’t find the principles on LinkedIn, so I went to Better Business Bureau, I saw what some of the principles were. Then I started Googling them. And I couldn’t find any information. Now that doesn’t mean they don’t exist, it’s just that in today’s world if you’re going to invest on a fintech platform you want to know who’s behind it and are they credible. 

More disconcerting is there were fake reviews on the cash advance site. They showed a bunch of 5-star reviews from Google. I went to their Google page and looked up some of the 5-star reviews, such as this one from Ara Gates who wrote, “From start to finish it received excellent service. All my questions were answered. I would recommend them.” She also left a review for a church in San Francisco, a kitchen and bathroom model in Maryland. She bought an engagement for her girlfriend in La Jolla, California, pool service review in Upland, California, truck repair in Tuscon, 2 carpet cleaning companies in Texas, and Love Spells and psychic readings in Florida. 

James Smith also left a 5-star review. “I’m using Investors Club and I’m very happy. I recommend it 100%.” He also left favorable reviews in just the last 3 months for a garage store company in Chicago, a home remodel in Atlanta, a roofing company in New York, and a chimney sweep company in Colorado.

I pointed out the fake reviews to Eduardo from DriverLoan Investors Club that called me back. And he was concerned about that because trust is an important part of their business, he said. And we can’t be having fake reviews. 

The kicker though that was sort of like no way would I invest in this, even if I get over the moral quandary of investing in something with a default rate that continues to charge 400% interest is the question and answer in their frequently asked questions: Is DriverLoan Investors Club regulated by the SCC. Their answer, “DriverLoan Investors Club is not subject to SCC regulations. We do not sell securities. Our business is carried out using a stable currency backed by the US dollar. Stable currencies are not currently regulated by the SCC.” 

I assume they mean Stablecoin, which is something we discussed back in episode 297. Which is a cryptocurrency that is backed by the US dollar. USDC is an example of that. And I’m going to talk about an opportunity with USDC in a minute. But they’re saying then, they’re regulated by the SCC, they’re not selling securities because somehow they have a Stablecoin involved in the process. And I didn’t see this until after I talked with Eduardo, so I have no idea. I wouldn’t invest in this. This does not pass the test for who is on the other side of the trade. To have confidence in the investment and to really understand the investment vehicle. 

Cryptocurrency Lending

There’s another lending opportunity that I’ve been aware of. I’ve mentioned it on Money for the Rest of Us, Plus a couple of times. But it recently came up again in the member forums. But it’s with BlockFi and there’s others where you deposit cryptocurrencies and you earn interest. BlockFi pays 6% interest on the first 5 Bitcoins that you deposit with them and store. They pay 4.5% on Ether, which is the cryptocurrency on the Ethereum platform. Even more compelling is they pay 8.6% interest on USDC, which is a Stablecoin. It was the coin I mentioned back in episode 297.

How can BlockFi pay 8.6% on USDC? Or 6% on Bitcoin? They write that they “can generate interest on assets held in interest accounts by lending them to trusted, institutional and corporate borrowers.” To ensure loan performance, BlockFi typically lends crypto on over-collateralized terms. Now, I’m not sure if they’re using that term correctly. Typically if something is over-collateralized, a borrower puts up more collateral than the money they’re borrowing. But these crypto-borrowers don’t appear to be putting up collateral. Maybe they are. Later it mentions that the client funds that are invested, stored with BlockFi, they’re getting interest, that’s at the top of the capital stack, senior to BlockFi Equity and BlockFi Employee Capital. 

Now I’ve not read the documentation to see if these investment accounts are secured, but that’s what they say. They do point out that these are not FDIC insured, or not SIPC insured. I was curious because it’s important to understand who’s on the other side of the trade and what does it take to be successful, what’s the business model. Who’s willing to borrow at a rate greater than 8.6% in Stablecoin? They say it’s traders and investment funds that are seeking arbitraged trading opportunities in a fragmented marketplace. And they’re borrowing cryptocurrencies to close mispricing gaps. That means they’re shorting it, they want to short cryptocurrency. 

But why would you borrow in Stablecoin because there’s no use shorting a Stablecoin like USDC? And it turns out there’s something called a collateralized debt position where you use Stablecoin as collateral, even if it’s borrowed, and then you can borrow in another cryptocurrency and speculate that that cryptocurrency will rise in price. Now again, that’s also over-collateralized, so you might have to get 150% of some Stablecoin to deposit to borrow 100% to speculate in cryptocurrency. 

I titled this episode Lending on the Fringes of Finance, but there appears to be demand for people to borrow cryptocurrency, enough demand that some of these platforms are willing to pay interest of 6%, 8%, or even more for various cryptocurrencies. 

BlockFi mentions that some of the borrowers are market makers that connect buyers to sellers that prefer not to transact over public exchanges, often at a steep markup. These parties need to keep cryptocurrency inventory on hand to meet demand. They write, “Since owning the cryptocurrency is very capital intensive and bears the risk of price volatility, OTC market makers will borrow from lenders such as BlockFi to facilitate their needs.”  Finally, they point out, “Other businesses need an inventory of cryptocurrency to provide their clients with liquidity.”

Different Risk and Return Levels of Savings

When we think about investing our savings, the most secure way is an FDIC insured account at a bank. We mentioned high-yield savings accounts in episode 297. The rates have dropped. I think I said they were 1.4% in that episode just a few weeks ago, now we’re at about 1.05–1.1%. But that’s the most secure. 

The next level would be some type of secure asset-based lending. Where you have a security interest. This can be done privately. I have made loans, where I have acted as the bank and have a security interest in the property. It’s set up through a title company and instead of the borrower going to a bank to take out a mortgage loan, we just carry the note. The U-Haul Investors Club is an example of secured asset-based lending. 2.5% as I mentioned for the 2-year note that’s backed by the company in assets. Now it’s not as secure as having a property, but there’s different ways to go about that secured asset-based lending. 

The next level is unsecured lending. This would include crowdfunding platforms that use contingent payable notes, where the platform might be making loans to house flippers, so the platform has a security interest in the property. But as investors on the platform, we have an unsecured interest in the platform itself. That’s just the way these things are structured. 

There’s other unsecured lending. Peer-to-peer lending. Rates are a little higher, I mention the 4–5% return on LendingClub. I earned about 7.5% on PeerStreet who I’ve used in the past but don’t currently have any loans outstanding. To get a higher yield, and again we’re not talking about investing in stocks or other securities, we’re just talking about platforms where you deposit some money and hopefully get a yield. Crypto-lending with BlockFi, now I’ve not done that because it’s got a lot of hoops to go through. I do have investments in cryptocurrency, but I have not lent that out. 

And then the fifth level which would be lending to cash advance companies. I wouldn’t do that. I have serious concerns about the DriverLoan Investors Club. But it was polished enough to spend some time on it, because I was intrigued by it because it was a well-designed website. I just didn’t know. 

Be careful with your capital. Deposit small balances to test it out. One of the pitfalls that I’ve seen is individuals, they see something, it’s attractive, they’re earning a good yield, and then they put way too much money into it. And then if there’s problems, then their capital is at risk. 

That’s episode 304. Have a great week.

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