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Fair loans for vulnerable borrowers: It’s time to call in the accountants

The Times reported on Monday that the Financial Conduct Authority is looking at ways of encouraging firms to lend to the most vulnerable borrowers. The regulator wants to know how it could reduce any barriers to the future affordable and sustainable supply of credit to customers who have few borrowing options.


There are no simple solutions, of course, but progress could be made based on insights from accounting data. Here are four accounting questions the FCA could ask.


1) What percentage of loan costs goes to pay intermediaries?


A small number of websites now account for a high proportion of leads to non-prime lenders, including leading search engines, comparison websites and credit agency sites.


A click on Google Ads for ‘bad credit loans’ is likely to cost a lender several pounds, and only a small minority of clicks can be expected to convert to new business. A lead from a comparison website run by a credit agency might cost £30.


Confirming these numbers is important. When the Competition and Markets Authority (CMA) reviewed the payday loans market in 2014 and 2015 (details here) it found that a key issue at that time was the role of the intermediaries, and it called for better ways of helping consumers to find information on different lenders.


There's nothing to suggest that any intermediary is doing anything wrong, but having obtained the costing details, the FCA could review whether the market cost of intermediation has become a barrier to the affordable and sustainable supply of credit to non-prime customers. It might then explore possible ways of reducing the cost. Reviewing the CMA’s 2015 report and the remedies it proposed, and others suggested, might provide some useful pointers.


2) What percentage of loan costs for non-prime customers goes to pay FOS fees?


Some lenders argue that they pay far too much to the Financial Ombudsman Service (FOS). They complain about slow and inconsistent decision making, and the FOS basing its decisions on its own interpretation of FCA rules that some consider to be unjustified. There are concerns that the proposed new 'Consumer Duty' regime will exacerbate the issues.


Regardless of the rights and wrongs of these claims, it seems important to understand the total cost impact of the FOS on the cost of new lending. Perhaps the most relevant question is: What is the cost for a relatively new lender with no legacy issues and considered to be fully compliant with the FCA handbook rules?


Accurate data on these costs would help to determine whether the handling of complaints by FOS (including the knock-on administration costs across lenders) might - ironically - be acting as a barrier to future affordable and sustainable supply of credit. No-one would suggest removing the complaints arbiter, but having obtained the costing details, but the FCA and other policy makers might then decide to consider ways of reducing the cost impact for new borrowers.


3) What percentage of loan costs are interest as compared to service charges?


The interest rate on a consumer loan combines the cost of the money with the cost of a wide range of supporting activities that are needed to allow the loan to be issued, many of which are influenced or determined by regulation. They activities include underwriting, affordability checks, identity verification, administration connected to the customer, administration connected to a guarantor (if appropriate), provision of documentation, and so on.


Accurate data on each of the different costs of lending, reviewed individually, would help to determine whether changes to specific regulatory requirements, or improvements to the market for support services to lenders, could reduce barriers to future affordable and sustainable supply of credit to vulnerable customers.


Just one example is affordability checks. Methods used vary considerably, but the cost is often considerable. A cost of £30 per non-prime customer wouldn't be unusual. Some very promising fintech solutions are available and if adopted widely could greatly lower this cost and probably improve quality, but uncertainty over the regulatory requirements seems to be contributing to slower than necessary take-up.


4) What’s different in Europe?


Most of Europe has tight price caps in place on non-prime lending, typically in the range 15% to 30% maximum APR, with only a few exceptions (that are likely to disappear under the latest European Commission proposals).


It’s easy to say that this just stops non-prime lending, but that would be an over-simplification, as many consumers who would be classified as financially vulnerable in the UK are able to obtain some loans. A key question, therefore, is whether the cost structure facing lenders offering such loans is very different to the UK.


Benchmarking the accounting data collected for questions 1 to 3 to lenders in Europe may help to provide further important insights as to how to reduce barriers to the future affordable and sustainable supply of credit to customers who currently have few borrowing options.

 

For more information on the UK and Europe non-prime lending markets, please see my consumer credit resources page: https://www.assetfinancepolicy.co.uk/consumer-lending-market-analysis

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