New York prosecutors filed charges against former race car driver Scott Tucker and his partner Timothy Muir for allegedly defrauding millions of Americans by charging interest rates as high as 700% on Internet payday loans.

The indictment unsealed in New York on Wednesday also alleges Tucker and Muir sought to avoid criminal liability by claiming their $2 billion online racket was owned by Native American tribes. Tucker and Muir were arrested in Kansas City on Wednesday and are awaiting a hearing in court where they will be formally charged with violating the Racketeer Influenced and Corrupt Organizations Act and the Truth in Lending Act.

While federal laws protect borrowers from deceptive lending practices and the Consumer Financial Protection Bureau has the authority to regulate all payday lenders, the industry still operates under a hodgepodge of state laws. 14 states and the District of Colombia have already banned payday lending. In many states where payday loans are still legal, the rate of interest that lenders can charge borrowers is capped at a reasonable amount.

Under a framework proposed by the CFPB last year, payday loans would be capped at 5% of a borrower's monthly income with terms limited to 6 months. Despite filing charges against several payday lenders for fraudulent practices, the CFPB has not made any progress toward implementing standard regulations that would apply to all payday lenders nationwide.

In the absence of national regulations, payday lenders are using Indian lands and the anonymity of the Internet to shield their operations from legal scrutiny. Rather than try to control the industry and deal with abuses on a case-by-case basis, the CFPB and other regulators should opt for a nationwide ban on payday lending. States that have banned payday lending report fewer bankruptcies and greater access to financing from credit unions and banks. Until then, payday lenders will continue to find ways to evade regulations and exploit borrowers with limited access to traditional sources of credit.

Tucker's $2 Billion Payday Lending Scheme

Starting in 1997, Tucker began issuing payday loans over the Internet. His business operated out of an office in Overland Park, Kansas, and employed about 600 people. Tucker's companies operated under a number of names such as Ameriloan, Cash Advance, One Click Cash, Preferred Cash Loans, United Cash Loans, US FastCash, 500 FastCash, Advantage Cash Services and Star Cash Processing.

According to Wednesday's indictment, Tucker and his partner and lawyer Muir charged borrowers interest rates of between 400% and 500%, and sometimes more than 700%, using deceptive disclosures to conceal the true cost of the loans. Between 1997 and 2013, Tucker's payday lending companies issued loans to more than 5 million Americans, many of whom were simply trying to pay for basic living expenses. Many of the loans were issued in states like New York which have explicit bans on ultra-high interest rates.

Tucker and Muir allegedly structured the repayment schedule so that only the interest would be withdrawn on the borrower's payday, leaving the principal unpaid so it could accrue more interest. On the borrower's next payday, the same thing would happen again. Only until after the borrower's 5th payday would Tucker's companies start reducing the principal, but only by $50 at a time, leaving a chunk of the principal behind to accrue even more interest.

None of those added costs were included in the disclosure forms required by the Truth in Lending Act. A borrower who took out a $500 loan, for example, would read that the "finance charge," or the interest on the loan, would be $150 for a 30% interest rate and would cost a total of $650. The automatic "rollover" of the loan was not included in the TILA forms that Tucker's companies sent to borrowers, concealing that the true cost of a $500 loan would be $1,925.

In response to complaints from borrowers and state authorities, Tucker began brokering deals with Native American tribes starting in 2003. Under the agreements, tribes such as Miami Tribe of Oklahoma falsely claimed that they owned and operated parts of Tucker's payday lending companies, thus protecting them from state laws under sovereign immunity. In exchange for protecting Tucker's operations from state laws, the tribes received 1% of the revenues from payday lending companies they claimed to own.

Payday Lending On The Reservation

As a result of increasing restrictions, many payday lenders have made agreements with sovereign Native American tribes in order to evade state and federal regulations. In the same way that casinos can operate on tribal lands in states that outlaw gambling, payday lenders can evade state laws against exorbitant interest rates if they have a valid agreement with a tribal corporation.

As part of Wednesday's indictment, however, two tribal corporations run by the Miami Tribe of Oklahoma will have to forfeit $48 million which they received as kickbacks for protecting Tucker and Muir's operations.

New York's prosecutor Preet Bharara entered into a non-prosecution agreement with the tribal corporations, but the agreement acknowledges that at least one tribal representative filed false declarations in state courts which Tucker and Muir use to overrule efforts to shut down their payday lending operations by claiming they had tribal immunity.

In 2014, a US District Judge found that the government can pursue payday lenders for deceptive practices even if they are affiliated with Native American tribes, although they remain exempt from state and federal limits on interest rates.

Payday Lending Goes Online

Today, more than 20,000 payday lenders operate out of storefronts in 32 states. As more states restrict or ban payday loans, however, payday lending operators are following Tucker's example and moving online to evade regulations. The volume of Internet-based payday loans is increasing rapidly as the CFPB, the FTC, and state regulators pursue lenders for deceptive practices and exorbitant interest rates. In 2013, Internet-issued payday loans accounted for 38% of all payday lending, compared to just 13% in 2007, according to a report by the Milken Institute.

However, as Wednesday's indictments show, regulators are going after lenders who use the Internet and tribal immunity to protect their criminal operations. In January, the Federal Trade Commission (FTC) reached a $2.2 million settlement with two of Tucker's online payday lenders, Red Cedar Services and SFS Inc., which operated under the names 500 Fast Cash and One Click Cash, respectively. As part of the settlement, the two companies will waive $68 million in fees and another $343 million in debt, making it the largest recovery by the FTC in a payday lending case.

Instead of pursuing deceptive payday lenders on a case-by-case basis, Americans would be better served by an outright ban on the industry. But in a market-driven economy, where there is a customer there will always be a service provider. Perhaps consumers will someday get smart to the fact that most payday loans are not a good product. In the meantime, borrowers who are being exploited by payday lenders should file a complaint with the CFPB, the FTC and state authorities.