Guest Comment: It's time to review all high-cost loans

Former_MSE_Faye

Andrew Bailey, chief executive of the FCA, explains why the regulator is widening its focus on lending...

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'Guest Comment: It's time to review all high-cost loans'

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sourcrates

I think it's good in some respects, but I too would be concerned about the waterbed effect.

People on low or irregular wages will always need access to some kind of credit, it's the nature of the beast unfortunately, until zero hours contracts, and poor wages are abolished.

If you make it too difficult to borrow, then loan sharks will be the only beneficiaries to this move.

jamesd

High risk means high cost to cover the defaults and debt collection work so it's no surprise that charges to those who have poor credit histories are high.

If there's a not for profit organisation that nationally will provide these types of financing and pay me 1% a month after bad debt I'll lend the organisation at least £1,000 to help them do the work or reducing the cost. Quite likely more once they have demonstrated good underwriting and actually delivered sensible bad debt levels. Perhaps £10,000 to £100,000.

It's simply reality that government schemes do not meet the market demand for such credit and that's why there is a market opportunity for high cost lenders, beyond just the high cost it takes to cover bad debt and direct business costs related to doing the business.

With pension money I'd do more but the FCA has acted against that by causing the only substantial P2P SIPP firm - Greyfriars - to stop doing new P2P business (as well as the undesirable! unregulated business it was doing) and has discouraged me from making pension contributions by ruling that money put into a pension will forever more not count towards the high net worth qualifying amount, including money I put into pensions in the past knowing that it would count - PS16/12. FCA discouraging pension contributions, particularly with retroactive changes - is uninspiring. P2P already funds some alternative providers in the high cost market and could increase competition in it. If it was actually possible to use pension money.

Why 1%? That's about my gross already from lending as investment but this is a higher risk activity overall. I'd so some for no payment but I'm assuming that an objective is to provide a high amount of credit and that takes more than charity to attract the money.

jamesd

An aside for those who don't know much about the risks of high cost lending. Consider the P2P platform that quotes a loss to bad debt of 7% per loan and offers 30 day loans as part of its product mixture. Just to cover the bad debt takes interest 84% a year before compounding and it doesn't take much variation from the estimated bad debt to eliminate all potential profit at rates of 1% a month. The place allows investors to offer daily rates between 0.3% and 0.6%. Over 30 days the 0.3% amounts to 9%. Bad debt loss just 28% above estimated would cause losses instead of profits. For simplicity I've ignored compounding and tax effects.

9% a month seems like a lot until you look more carefully at the risks involved. The unfortunate reality of the poor credit history lending world. Yet the customers can genuinely obtain benefits greater than that, if they can get the credit and the purpose is appropriate.

jamesd

The FCA announcement is at FCA launches call for input on high-cost credit and overdrafts and includes a link to the Call for input page which contains a link to a video where Andrew Bailey discusses their work on high cost credit and an unhelpful to misleading infographic.

Feedback on the press release and infographic is that they fail to be clear and potentially are misleading because:

1. "800,000 fewer people took out a payday loan over an 8-month period": is that 1% of all loans in the preceding period or 99% of them? Without the comparator the number has minimal value except to demonstrate that something that may or may not have been due to the FCA's involvement had happened.

2. "20% drop in approving applications for loans": does that mean that potential borrowers mostly just had to apply at more places to get the loan, that they just couldn't get one or something else or some combination? For those who couldn't get the loan, what were the outcomes, better o worse than if they had obtained the loan?

3. "40 drop in average loan charges": is that £40 from £500 or £40 from £50? Without the context the number has minimal value. Fortunately the PDF does say more: "Loans originating at the start of 2014 typically resulted in the customer being charged around £100 in interest and fees. This declined over 2014 to around £80. Once the price cap was introduced, there was a further sharp drop to around £60". However it's unclear whether this is an actual benefit or just the result of the price cap excluding the higher cost required borrowers from the market, so naturally reducing the average, with the detriment falling on those excluded from the market. To have useful meaning it needs to be for a constant credit grade, not the whole market including then excluding the higher risk customers.

In essence the infographic points I've highlighted tell me nothing other than that the FCA wants to say that something has been done and feels obliged to provide some numbers with no context to understand what the numbers mean.

Surely the FCA can do a decent evaluation that compares the outcomes for those who did not get credit vs the outcomes they would have had if they had obtained it? For example:

1. how many lost their jobs because they were unable to get to work having been declined borrowing for car repairs? How long until they could find alternative employment and what were the pay effects?
2. how many were worse off due to inability to replace a failed clothes washer and the higher costs of alternatives?
3. how many had higher heating costs and/or adverse health effects due to inability to fund heating repairs or replacements?

Many other questions, of course. The key point being that lower levels of payday or other high cost lending are not inherently beneficial. It's only better results for consumers that are beneficial, if those have been delivered without an excessive loss to potential borrowers. And the infographic said essentially nothing about the change in outcomes for those declined credit.

What the infographic does do is report welcome outcomes in the area of redress, authorisation and warnings.

So far as I could see in a quick scan of the call for input PDF there's little indication of change in outcomes for those whose level of risk would have required a rate above the FCA charge cap to obtain credit because the anticipated cost of defaults plus administration is above the cap level. I don't think that just looking at credit reference agency data captures the real life outcomes, just other tracked credit use. So it doesn't seem possible to evaluate whether the cap has overall been beneficial or harmful at this point. I welcome the suggestion that the FCA is going to do more work and hope that there is sufficient attention paid to outcomes for those declined credit (4.6, 6.3) as well as those who obtained credit and the change in number of applications it took, particularly vs the FCAs number for a decrease in acceptance rates.

With respect to 4.7 it is perhaps of note that high cost short term credit applies up to a year of term and it's not particularly clear whether diversion from payday to other HCSTC of longer term than a month will be considered as substitution (of payday) or ongoing HCSTC. I assume that the likely consumer reaction to a payday loan decline would be to switch to a longer term form of high cost short term credit with perhaps a three or six month term so it is good to see this is going to be investigated.

When I've commented to people considering payday borrowing it's my normal practice to point them to lenderscompared.org.uk so they can consider cheaper forms of HCSTC. That's the Competition Commission-mandated site for doorstep lenders that is also used by other lenders. So at least in part I think that substitution of other HCSTC for payday is a potential consumer benefit that should be encouraged and I think that mandatory payday and other loan-based HCST lender participation at lenderscompared.org.uk would be beneficial to improve consumer awareness of the alternatives to payday.

I'm concerned that the nominal cap may not be sufficiently high for longer terms than payday even though the affordability benefits of switching from three to twelve months could be substantial, in spite of the higher total amount of interest likely to be paid. The observation in 5.28 that firms seem to be trying for 3-4 months implies that this may be the case and that a nominal cap per four or six months pro-rata might improve affordability without an inordinate increase in total cost.

With respect to 6.3, it seems important to me that the survey is not just about financial outcomes. Adverse health effects can also be significant, as can a range of other disruptions to family life. Similarly cost of credit isn't sufficient to evaluate outcomes if it's resulted in job loss and lower ongoing pay.

With respect to 6.4 it would be a shockingly bad outcome if those using HCSTC didn't have better outcomes, since the harms are most likely to fall on those who were declined, not those who were able to use HCSTC.

Declaration of interest: I've been interested in this for many years but more recently have done some peer to peer lending to firms involved in both the pawn and hire purchase car sales to low credit consumers area. So far as I'm aware the only conscious effect has been to increase my understanding of the economics of the businesses. Part of my interest in P2P is to improve competition in various lending markets.

Petalpc

My house buyer had a pay day loan (I don't know what for) that she paid off and has now been refused mortgages because she is deemed not to be able to budget her money before her next payday. This is grossly unfair. Anyone can have an unexpected expense that needs immediate payment, eg a car repair so you can continue to get to work.:( It doesn't mean you are any more likely to default on a mortgage payment than anyone else.

Former_MSE_Will

Hi everyone

Thanks for your comments so far. The FCA will be looking at this thread to learn about any harm that may be caused by this sector, so please keep your thoughts coming.

[Deleted User]

Petalpc wrote: »

My house buyer had a pay day loan (I don't know what for) that she paid off and has now been refused mortgages because she is deemed not to be able to budget her money before her next payday. This is grossly unfair. Anyone can have an unexpected expense that needs immediate payment, eg a car repair so you can continue to get to work.:( It doesn't mean you are any more likely to default on a mortgage payment than anyone else.

I think you'll find it does.

Mobeer

"so that we can build a full picture of how these products are used, who uses them and whether they cause harm to the people who use them"

I'd also suggest trying to get a picture of the non-users - you sort of hint at this later in reference to illegal loans. I would suggest more emphasis on non-users who might benefit from having legal credit available, even if such legal credit were high cost.

jamesd

Petalpc wrote: »

My house buyer had a pay day loan (I don't know what for) that she paid off and has now been refused mortgages because she is deemed not to be able to budget her money before her next payday.

That's one of the potential harms done by the regulatory requirement now to report such borrowing to credit reference agencies. While the harm is still going to be there, the FCA might consider investigating whether the cautions given to prospective borrowers are appropriate and provide sufficient information, particularly with regard to how the credit is likely to be regarded by other future lenders.

Use of an overdraft facility or credit card would have done much less harm to your buyer. Overdraft use might not even have showed up at all if it was taken and repaid between two statement dates.

Different lenders will take a different view on how short term credit should be treated and for all lenders the harm is likely to reduce over time. your buyer might have been able to obtain a mortgage from another source.

jamesd

MSE_William wrote: »

any harm that may be caused by this sector

And of course harm that may be done by regulatory requirements, like the prospective mortgage borrower denied a mortgage because of the new regulatory requirement to report such lending to credit reference agencies. While she was accepted for HCSTC she seems likely to have suffered considerably more harm than benefit from the regulatory environment changes and the property seller almost certainly did so without even having been a HCSTC customer or even applicant.

Hopefully the FCA's examination of adverse effects of regulation will include third parties as well as decisions taken by non-HCSTC providers based on HCSTC showing up in credit reports.