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UPDATE 1-U.S. releases rule to end 'debt trap' of payday loans

(Adds banking rule change, background, byline)

WASHINGTON, Oct 5 (Reuters) - The U.S. consumer financial watchdog on Thursday released its final rule restricting payday lenders' ability to profit from high-interest loans, but the Republican-led U.S. Congress is widely expected to try to kill the regulation aimed at keeping borrowers from falling into "debt traps."

The Consumer Financial Protection Bureau rule would make lenders more responsible for checking borrowers' ability to repay the cash advances with their future paychecks. The small short-term loans, which are not collateralized, are popular with low income earners and are frequently used to cover emergency expenses.

Many borrowers are trapped in a cycle of taking out more debt to pay off outstanding loans and fees that could add up to the equivalent of 300 percent interest over the lives of the loans, the bureau found in a comprehensive study it conducted during the five years of writing the rule.

Republicans, including President Donald Trump, say the regulator's rules are excessive and stifle consumer access to credit. Activists and Democrats expect lawmakers to introduce a resolution under the Congressional Review Act that would nullify the rule if it passes both chambers.

The increased restrictions on payday lenders, which operate out of store fronts and are regulated by states, would make it harder to get small loans, the industry has said.

But the rule also opens the door for community banks and credit unions to offer small personal loans for their customers and members. Banks, which typically make less risky loans, can forego making sure that borrowers can repay loans without needing to re-borrow, the bureau said in a statement.

Less than an hour after the rule was released, the Office of the Comptroller of the Currency followed suit by lifting 2013 regulatory guidance that had effectively blocked banks from offering such small loans. (Reporting by Lisa Lambert; Editing by Richard Chang)