MSE News: Low income consumers pay higher credit costs

Duke203

If someone on a lower income is at a lower risk of default than someone on a higher income then this is certainly unfair.

However, if they are a greater risk then it is both fair and logical

jamesd

The report on which this story is based is available at Credit and low-income consumers: a demand-side perspective on the issues for consumer protection and the full report is here.

One particularly important finding is that "Mainstream credit, however, appears associated with higher levels of indebtedness and a greater incidence of debt that is difficult to pay off" and "The better off among those on low incomes benefit from mainstream credit, achieving a low cost of credit while not incurring unmanageable debt. Those on the lowest incomes tend to incur high behaviour-driven costs on mainstream credit and can struggle to avoid unmanageable debt that they cannot pay off. Some low-income borrowers focus, primarily by choice, on high-cost products, such as catalogue club books and home credit, and manage effectively with these products."

This implies that considerable caution is needed in efforts that may drive poorer consumers to use expensive mainstream credit instead of alternative forms of credit with lower eventual costs but higher declared costs. That is, efforts to regulate out of existence things like payday or doorstep loans may make poorer consumers worse off. This is reflected in its recommendations, which include:

"A policy focus on price as the primary driver of detriment is misconceived. A more nuanced understanding of the interplay of cost and risk is required.

Regulation needs to be sufficiently sensitive and flexible to address risks attached to products right across the market, including behaviour-driven costs and APRs, without stifling individuals’ access to credit, or market innovation.

A market that features a multiplicity of high and low APR products allows low-income consumers to choose the product that best suits their circumstances and the risks that they face.

Interventions that seek to control the price of credit will not necessarily result in either lower-cost credit or more favourable outcomes for low-income consumers. There is the potential also for considerable unintended effects, which may include constraints on access to credit, the potential to increase unmanageable debt and the expansion of illegal lending."

So take care about legislating things out of existence, for you can hurt the people you're trying to help. No surprise, it's part of what the OFT found in its investigation into doorstep lending.

Some other interesting items from the full report:

"Sixty-eight per cent of low-income households have no savings, and seven in ten would find it difficult or impossible to raise £200–£300 in an emergency."

"The actual cost to the consumer of an overdraft is a little over £10 per £100 if no over-limit fees are incurred (a scenario that applies to a little over four in ten, or 42 per cent of, low-income overdraft users), but can rise to £57 per £100 if seven over-limit fees per year are incurred (a scenario that applies to a little over one in five, or 21 per cent of, low-income overdraft users, some 0.9 million individuals)."

"with credit cards, if a borrower makes minimum payments over an 18 month period, a little under the average length of time for those on low incomes claiming to have made minimum payments for an extended period without missing payments (a scenario that applies to 12 per cent of low-income credit card users and 19 per cent of the 65 per cent of low-income card users who only make the minimum or partial payments each month), the cost of credit increases to an average of £44 per £100. If minimum payments are extended for three years, with no payments missed (a scenario applying to 6 per cent of low-income card revolvers, defined as those who do not pay their outstanding credit card balance in full at the end of each month), the actual cost of credit to the consumer rises to £78 per £100. If the average number of missed payments for those making minimum payments is combined with making minimum payments over three years (a scenario also applying to 6 per cent of low-income card revolvers), the cost of credit to the consumer rises to £116 per £100. This compares to a cost of £15 per £100 and £25 per £100 for a store based and online payday loan respectively, for the 71 per cent of payday borrowers who repay their loan to the contract term, and an average cost of £51 per £100 for the 29 per cent of payday borrowers who refinance their loans, an average of 2.1 times."

Notice that the payday loans actually work out cheaper in many cases than mainsteam credit.

anon_ymous

Rafter wrote: »

Which is exactly why current competition policy that says that as long as switching accounts is easy then fees and charges will be competitive is a nonsense.

If banks simply prevented lower income groups from getting into trouble and were only able to charge the costs of administration for failed direct debit or breached overdraft fees - i.e less than £5 a time then the banks would stop seeing £ signs from raking in fees and charges and these customers would have to get better at budgeting and spending control, knowing the bank won't allow them to keep spending and raking in unreasonable charges.

Problem is that bankers, politicians and civil servants are generally not 'low-income' households and therefore don't see the pressing need to make the system fairer.

R.

Surely for low incomer's an Islamic account would be better as it'd mean that they'd incur fines but it'd be a stable and not inflating fine?

I mean I know the link below the DM but the point still stands that people on low incomes could pay far less if using a non traditional bank account

http://www.dailymail.co.uk/news/article-1208204/An-overdraft-Thatll-200-Lloyds-TSB-15-youre-Muslim.html

oldvicar

I am not disputing the results of this research. But isn't it fortunate that the academics have delivered the sort of report that promotes the business of their sponsors (Provident)?

(Yes I am an old cynic)

jamesd

What information do you have to cause you to believe that this foundation or its report are in any way linked to Provident Financial, the unsecured loans provider that operates the Vanquis brand, rather than Friends Provident, the insurance company founded back in 1832? Or do you think that it's in some way promoting the Friends Life insurance products, the name that Friends Provident trades under in the UK?

I asked the Friends Provident Foundation and they said that they funded the study, not any outside party, specifically not Provident Financial.

~Brock~

MSE_Helen wrote: »

Low income consumers pay higher credit costs.

Good grief - is this really classed as news?

Low income consumers are more likely to default. Fact. Why? Maybe because they are on a low income and can't afford to repay as easily therefore making the risk is higher? It really isn't rocket science is it?

...............now sat waiting for a revolutionary headline confirming that "Young drivers pay higher insurance costs".

andy.m_2

anguk wrote: »

Of course that's not what I'm saying. :huh: People on a low income are not stupid at all but many do get credit when they know they can't really afford it

you have to admire the irony in that post.

It is historically proven that those on low income are more likely to default, therefore they are a higher risk and to offset that risk the financial institutions need to charge more.

RobertoMoir

anguk wrote: »

Of course that's not what I'm saying. :huh: People on a low income are not stupid at all but many do get credit when they know they can't really afford it

Which would make them a higher risk, would it not? And higher risks should result in higher costs, should they not?

oldvicar

jamesd wrote: »

What information do you have to cause you to believe that this foundation or its report are in any way linked to Provident Financial, the unsecured loans provider that operates the Vanquis brand, rather than Friends Provident, the insurance company founded back in 1832? Or do you think that it's in some way promoting the Friends Life insurance products, the name that Friends Provident trades under in the UK?

I asked the Friends Provident Foundation and they said that they funded the study, not any outside party, specifically not Provident Financial.

None at all! Sorry. I simply mis-read the MSE article.