Online lender Western Sky Financial will stop funding loans on Sept. 3 amid rising legal battles with authorities in several states.

The decision comes as state and federal regulators are clamping down on payday lending, an industry that operates under a patchwork of laws. These loans carry high interest rates and balloon payments, critics say.

Industry groups argue that payday lenders are being persecuted and that they serve a need not being met by traditional banks.

Western Sky has been the subject of several lawsuits challenging its lending in states with strict usury laws that cap interest rates on loans. Many states have accused Western Sky of issuing online loans with interest rates as high as 340%. Just in the last month New York, Michigan and Georgia sued the company. The Federal Trade Commission filed a lawsuit against Western Sky in 2011, alleging illegal collection practices.

The company is owned by a Cheyenne River Sioux tribal member and operates on the tribe’s South Dakota reservation. It claims that the tribe’s sovereign immunity makes the company exempt from following state law.

Benjamin M. Lawsky, head of the agency that regulates banks in New York state, recently ordered 35 online and Native American lenders to stop providing online payday loans in the state. In response, two Native American groups filed lawsuits against the state last week, saying its actions violated their federal status.

Earlier this week, the company cited "unprecedented government interference" as the reason for a decision to lay off most of its employees in Timber Lake, S.D., as well as its decision to close its office in Eagle Butte, S.D.

As states increase efforts to police payday lenders, consumer and industry groups are waiting to see what steps the Consumer Financial Protection Bureau will take to enhance federal oversight. The CFPB has supervisory and enforcement authority over storefront, online and bank payday lenders. In April, it took a step closer to imposing rules to govern the industry with a report on the payday-lending landscape. In one key finding, the report said the average borrower took out 10 payday loans in a year and paid $458 in fees.

Peter Barden, a spokesman for the Online Lenders Alliance trade group, has said the backlash against payday lenders could deprive millions of Americans of access to small-dollar loans.

Subscribe Now

Authoritative analysis and perspective for every segment of the payments industry

14-Day Free Trial

Authoritative analysis and perspective for every segment of the industry