Is early wage access a benefit or just another loan?
It’s Monday and your employee’s rent is due, but they don’t get paid until Friday. As the employer you could easily solve this dilemma if you allow your employees to access their wages sooner then the next pay day.
Welcome to the booming and regulatory-challenged product known as early wage access. Companies across the country, including Noodles & Company and Walmart, are giving their employees access to these services, allowing them to control their cash flow on a personal level. Conceptually, employees will be able to better navigate the volatility of their incoming funds versus outgoing expenses and avoid the pitfalls of cash shortfalls.
So is this a loan or a service? Currently there are at least 10 states that are trying to answer that question. The industry argument is that we are just paying employees the wages they have already earned. Therefore this is not a loan, but merely a service to give them early access to their funds.
The contrarian view is that service providers are charging employees a fee, in exchange for the employee transferring future wage payments to the provider of the service. They argue that employees are paying a fee to access money that will be paid back to the provider of the service. Access to funds in exchange for value plus a fee to be paid back later is similar to the definition of a loan.
But why does it matter if the average transactional cost is only $5? A $5 fee to access $200 of earned wages seven days prior to payday would equate to a 130% APR, if it was determined to be a credit transaction. Not only would a credit transaction require providers to go through various disclosures, licensing and regulatory oversight, it would be illegal to conduct such a transaction in some states. Here’s a sample calculation of an APR for a typical wage advance service:
That’s a pretty scary APR. Given the short-term nature of the transaction and the nominal cost of the transaction, it’s understandable why many are arguing that this should not be measured as an annual percentage rate. It is unclear what liabilities and/or risks will be absorbed by the providers, employers or distribution partners, if in fact these services are ultimately classified as loans.
An equally challenging discussion surrounds the health of these early wage access programs relative to the employees. Like all tough questions, there is a very simple answer: it depends. I recently sat with the HR leadership of a large, publicly traded car sharing company and listened as they talked about how their drivers can receive their pay up to five times a day for a nominal cost, or free depending on how they choose to receive the funds. Can you imagine having to run payroll for your company up to five times a day? As a point of reference, these drivers are considered independent contractors, not employees, so different rules apply. But it’s the same concept and dilemma.
To tackle this issue, let’s first understand the history of the payroll process and why this early wage access product is both possible and desirable from a technology perspective. Back when the dinosaurs still roamed our beautiful planet and I was getting my first job as a lifeguard at a local water park, payroll was substantially different.
Pay had to be calculated based on hours, taxes, benefits and other pre- and post-tax deductions. Checks then had to be filled out and tied into the payroll ledger days ahead of payday, which meant payday was usually at least five to seven days after the end of a pay period. Those checks would be cashed or deposited into the bank, and then the second half of the payroll process would begin: reconciliation. All the cleared checks would once again be tied against the payroll register to ensure no false or fraudulent checks were issued and any outstanding checks that had not been cashed or deposited were tracked for future clearance. Seem like a lot of work? It was. Payroll processing at larger companies was a laborious, people-powered process.At smaller operations it was an incredibly technical process that was often beyond the capabilities of the operators .
Today, all of the above can be eliminated by technical systems, digital money transmission and automated reconciliation processes. At my organization, outside of timeclock validation, payroll is literally the push of a button. This is why early access to wages is a possibility today. This service exists because paying wages daily is not only possible, but most likely the future of employers and payroll companies alike.
Which brings us back to the health of early wage access programs. Is this a healthy application for employers to sponsor on behalf of employees, leading to improved well-being? The short answer is yes, so long as early wage access is used for its intended purpose. If used correctly the service can provide stability to the cash flow of the user and helps them better align incoming funds with outgoing budgeted expenses. Early wage access can not only assist in avoiding unnecessary expenses, it will provide greater financial stability to the user.
However, as human tendency indicates, we could find ourselves abusing this service as a crutch to handle bigger challenges and the eventual fall will be substantial. If employees rely on this program to live paycheck to paycheck or day to day, they will still be ill-prepared for a financial crisis. Not every day is predictable and not every expense is known. I know that from my personal experiences. Unplanned income is not a common event, however, unforeseen expenses are plentiful. If someone uses this program to merely match up daily income with daily expenses, without taking the necessary steps to establish proper savings and plan for the future, we have not provided a true financial wellness service. We have merely condensed the timeline of the stress to daily versus weekly.
If early wage access services can escape their 130% APR critics of the loan status designation will still need supportive tools behind them to ensure that their use and established behaviors are healthy. If early wage access services are supported by education and credit alternatives when financial challenges arise that cannot be handled by current wages, the early wage access services will not succumb to misuse.
I believe early wage access programs can be a healthy part of a robust financial wellness platform that ensure their proper use. The continued educational development of the employee and establishing healthy habits will lead to productivity in both the workplace and at home.