In Kentucky, Being Poor is Costly

June 24, 2007

What do western Louisville and the Appalachian region have in common besides being two of the poorest areas in Kentucky? Not much one would think. And, yet, they each are also among the most expensive places to live in the state.

In fact, prices in the Bluegrass state for everything from a tube of toothpaste to a home mortgage are often the steepest where neighborhood incomes are the lowest.

That’s not news to folks who live in these areas. Poor Louisvillians derisively call these higher prices the “ghetto tax” or the “black tax.” Residents of the Cumberland Plateau scornfully call it the “hillbilly tax.” Same tax—just a different name.

Yet neither community has ever been able to muster the evidence that policymakers and business leaders need to act. Until now.

Working with Kentucky Youth Advocates, the Brookings Institution recently released a report entitled “The High Cost of Being Poor in Kentucky.” That report documents the extent to which lower-income families pay higher prices for basic necessities through-out the state. Turns out these higher prices can add from a few hundred to a few thousand dollars in annual extra costs for lower-income, working families in the state.

Take basic financial services like cashing a check. Of the Kentuckians who use a checking account to cash a check, the majority of who pay nothing to do so. In contrast, one out of every five low-income Kentuckians uses a high-cost check cashing establishment instead, which charges anywhere from 1 to 10 percent of the face value of each check.

That may not sound like a lot of money until you do the math. Someone earning the minimum wage in Kentucky would be sacrificing about half of their annual income within 10 years—just to cash checks!

Steepest mortgages

Even more worrisome, tens of thousands of hard-working Kentuckians who have done the Herculean work of squeezing savings out of a low income and investing in a house are now paying the steepest mortgage prices in Kentucky. According to Federal Reserve data, over 40 percent of Kentucky’s low-income homebuyers in 2005 bought what they define as a “high cost” mortgage, compared to just 16 percent of high-income homebuyers.

For someone who bought a median-valued house in Kentucky, that difference would add up to an average of over $70,000 in extra interest costs over the loan’s lifetime for these low-income homebuyers that a high-income homebuyer in the state does not have to pay.

That’s serious money, adding up to a serious obstacle for low-income families trying to climb up the economic ladder in the commonwealth.

What to do?

Unfortunately, there’s not one silver bullet solution to bring down these higher prices.

First, public and private leaders need to work together to lower business costs so that they can responsibly and, yes, profitably sell goods and services in low-income markets at lower, more competitive prices.

Pennsylvania, for instance, has opened up nearly two dozen mid- to large-sized grocery stores over the last two years in mostly low-income neighborhoods by subsidizing their startup costs. These bigger stores offer lower prices, and a wider selection, than the convenience stores currently serving these neighborhoods.

New York has also used subsidies to help banks better meet demand in lower-income markets. By strategically depositing state revenue into branches that open up in low-income neighborhoods, and working with banks to develop and market appropriate products to low-income consumers, New York has helped thousands of these consumers lower prices they pay for basic financial services.

High-cost products

Secondly, there are clearly unnecessarily high-cost products being sold to low-income consumers, driving up the prices they pay for necessities. Economists at Freddie Mac, for instance, estimate that about one out of every five buyers of a high-cost mortgage actually qualified for a normal priced mortgage.

Similarly, Kentucky is one of the few states in the country that does not cap rates that check cashers can charge for this basic service, adding hundreds of dollars onto the annual costs of living for low-income workers.

Those kinds of practices must be stopped.

Finally, there’s clear evidence that low-income consumers in Kentucky need more information to make savvy decisions with their scarce resources. Fewer than one-half of those surveyed for our report had a good understanding of credit reports, and most homebuyers did not shop around and compare prices before buying a mortgage.

There are good reasons to explain these choices. For instance, over 60 percent of Kentucky’s lower-income population does not have Internet access, limiting their ability to gather key price-lowering information. Historically low interest rates and new technology have also opened up access to homeownership among low-income families, often without a corresponding increase in home-buying skills most higher-income families now take for granted.

In response, some states are building financial literacy for the future through incorporating financial education into K-12 curriculum, which is a distinct gap in the current state system. Other states have created new state Offices of Financial Education, dedicated to promoting financial management information and skills.

Kentucky has set the stage to do even more by announcing a broad-based High Cost Commission to develop policy recommendations to the state’s business and political leaders in response to the report’s findings. The commission is the first of its kind in the nation and is a model that other states will be watching carefully.

It’s clear that those with the least in Kentucky are too often spending the most to simply get by. That’s a major, overlooked problem for leaders in the state, but a major opportunity, too. The poor do not need to pay more.