Payday lenders: the need for urgent action

Damon Gibbons is the chief executive of the Centre for Responsible Credit; here he writes in support of the a backbench motion in the House of Commons to introduce more thorough legislation of payday and home credit lending

Scales-of-justice On February 3rd, the House of Commons will vote on whether to support the introduction of a series of caps on the amount that payday and home credit lenders can charge for credit. The vote comes at a time when the UK has accumulated one of the highest levels of personal debt in the world.

In April last year, British people owed more than £1,460 billion in private debt. Borrowing money is sometimes essential, whether to enable a person to pay for training courses, start a business or buy a house. However, there is a point at which borrowing can become unmanageable for individuals, especially if the terms of any loan are high cost or if the interest rates charged start to rise.

Four in ten people are worried about their current level of debt, with three million fearing redundancy and two million having taken on more debt in recent months. According to the Association of Business Recovery Professionals, one in ten people frequently struggle to make it to payday, with money tending to run out on the 20th day of the month.

Since the start of the recession, mainstream lenders such as high-street banks have been much less willing to lend money. More people must turn to unsecured lending such as payday, doorstep and hire purchase lenders; furthermore, rising unemployment, housing costs and VAT prices could leave many families struggling to make ends meet.

This market is now used by around three million people in Britain. In 2009, the payday lending industry was worth over £1.2bn, more than three-and-a-half times larger than in 2006, a Consumer Focus report has shown.

One in ten UK payday customers have incomes of less than £11,100 per year according to research carried out for the Friends Provident Foundation. One in eight people who contacted the Consumer Credit Counselling Service charity during the first half of 2010 for help with their unsecured debts were claiming Jobseeker’s Allowance, and 11% of lone parent households use “non-mainstream” (i.e. payday, home credit or pawnbroking) loans, compared to 3% of households overall, a December 2010 YouGov poll revealed.

Because six lenders account for 90% of home credit, there is little competition to drive interest rates down. Given this lack of competition, interest rates are artificially high. The APR for payday lenders often begins at 600% and can escalate to 2,500% or more. And home credit lenders, who make home visits in order to collect repayments for their short-term loans, can charge £82 in interest and collection charges for every £100 lent.

Backbench MPs have tabled the Consumer Credit Regulation and Advice Bill which includes measures to tackle the uncompetitive nature of this market and increase access to affordable credit for the poorest consumers. It has not yet received government support. However, on February 3rd parliamentarians have a key opportunity to impress upon ministers the need for action.

They will vote on the introduction of caps on the amount that can be charged for supplying credit by a regulator in areas of the market which are uncompetitive or where there is evidence of irresponsible lending. The caps, which would be set at different levels for different types of loan, would ensure that payday and home credit lenders would no longer be able to take advantage of the lack of competition in the market and the vulnerability of their customers.

Crucially, this measure is not the same thing as capping interest rates or APR. It allows for multiple caps to be set depending on the different types of products and the nature of the market for them which can be reviewed on a regular basis as the market responds to this intervention.

This is preferable to APR as this can be distorted by the length of time a loan is taken out as a way of measuring the actual cost of a loan. Using the total cost of credit provided rather than APR means the regulator can set different caps for short-term loans and longer-term loans and take account of where there is evidence of any irresponsible activity by lenders in determining what caps to set for each product.

Secondly, because it is calculated on the total cost of credit rather than the interest rate charged alone, it takes into account any additional default, late payment or administrative charges that the lender may seek to include as part of the credit deal to compensate for the impact of the cap on the rates they charge. This would help avoid surprises for the consumer being hidden in the small print of any loan agreement.

Capping the total costs of credit is not an idea plucked out of thin air. Evidence from around the world demonstrates that it is perfectly possible to regulate the payday and home credit markets without adverse effects - all it takes is political will.

While extending access to alternative sources of affordable credit is important, this will take many years to do across the UK.

http://twitter.com/davecampbell_/status/31648802456731648 Dave Campbell

"@leftfootfwd: Payday lenders: the need for urgent action: http://bit.ly/gDxeid writes @Damon Gibbons" @jakeberrymp your support required
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Payday lenders: the need for urgent action http://bit.ly/ekQ8sR
John77

You need to distinguish between the different categories of loan which have very different characteristics. Home Credit has fairly low default rates but very high administrative expenses while PayDay loans have quite high default rates but relatively low administrative expense. The fate of London Scottish and Cattle’s demonstrates that the business is not necessarily a licence to print money.
That said, yes there is a case to set maximum rates. If H&T and Albemarle & Bond (the two largest pawnbrokers) who have modest PayDay Advance businesses as an add-on to their core lending operations (and so no great economies of scale to undercut rivals) can make modest profits on APRs of 444% and 527%, then there is no need for anyone to charge more than 1000% APR (that sounds vast but it’s £20 more than H&T on a £300 loan).
The bigger problem is not with the licensed lenders, which this proposal will control but with the unlicensed ones that charge astronomical rates are will just laugh at the law. If you set a limit of 400% APR (£40 of interest plus expenses on a £300 loan) then all the legitimate businesses will become uneconomic and shut down, leaving the poor with no choice but the unlicensed loan sharks.
Home Credit is less price-sensitive than person-sensitive – the good collector builds up a relationship with her repeat customers – which is why the market is dominated by a handful of companies who know how to handle their “agents” and to run a good back office. In a way it’s a bit like a co-operative or insurance – the good customers have to pay for the losses from the bad or unlucky ones (if the husband loses his job, or dies, the wife may not be able to repay the loan) so there has to be frighteningly high gross margins to cover the admin costs plus loan losses and leave the lender with enough to encourage them to keep lending. So set the cap at a level that does not deter the good companies while limiting the ability of others to “rip off” ignorant consumers.
“Evidence from around the world demonstrates that it is perfectly possible to regulate the payday and home credit markets without adverse effects – all it takes is political will.”
Er, NO – it also requires an understanding of the market, including alternative sources of credit and their cost and the impact on the poor of removing legitimate lenders. If you limit the total charge without allowing for the extra cost suffered by the lender when it has to reschedule a late payment or, in extreme cases, seek a court order to recover money from a deliberate defaulter (they don’t bother if someone is genuinely broke as the cost of the court order would exceed any money they could collect) then credit for unsecured loans to those with poor credit records will just dry up either because the lenders fear they may go bust or, if they don’t fear that, they actually do.
Look at the FSCS website and count the number of credit unions that have gone bust and whose depositors have been bailed out by the horrible capitalist banks.
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[...] are well placed to get people creditworthy, thus disincentivising use of illegal loansharks, or payday loan shops that charge astonishingly high APR rates, while simultaneously offering the kind of advice which [...]
http://www.creditjungle.co.uk Fraser Mitchell

Payday lending in particular gets a bad press due to the interest rates charged, but this is the biggest area of growth in the industry, suggesting a need. If the major payday lenders are forced to reduce costs too far bearing in mind as has been mentioned the high default rates, then they will either shut up shop or go out of business, creating a bigger social problem for lower income people and families.
Dan Filson

Wonga.oom advertises an APR of over 4,000% – never mind being allowed to trade or it all being good competition, in my opinion these are kind of people who should be jailed along with the boards of almost all top banks.
http://www.wsoxfactor.com Neil Kazmi

When you first join the Forum, you are limited in what you are able to do until you’ve proved you are an active participant which is very easy.
http://britainloans.co.uk/ payday loans

Further to the above article I would like to reassure our customers, potential customers and stakeholders that we are providing a solution for many people who can’t otherwise access instant cash at particular times. Our company, both in the UK and internationally has witnessed growth for many years despite economic climates. I would like to take this opportunity to advise our customers that we do not see our stores as benefiting from their personal situations, but instead we offer an honest and responsible product that millions of people across the UK rely, depend and benefit on.
http://www.leftfootforward.org/2011/12/government-needs-to-find-a-way-to-tackle-high-cost-lending/ Government needs to find a way to tackle high-cost lending | Left Foot Forward

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