Q&A: How new regulation of payday lenders affects you
From 1 April 2014, the Financial Conduct Authority (FCA) will attempt to tame some of the country's most controversial financial services companies.
The FCA is now the regulator of the £200 billion 'consumer credit industry' - which most notably includes payday lenders that charge customers interest rates that can exceed 5,000%. It also covers much more well-regarded companies such as pawnbrokers, store card issuers and peer-to-peer lenders.
Today, nine million Brits are in serious debt, according to the Money Advice Service, and the FCA is going to do more to protect them.
How were payday lenders governed before 1 April?
Until now, the activities of payday lenders were overseen by the Office of Fair Trading, which issued compulsory licenses to most businesses providing goods and services on credit or for hire. These included those that lend money or provide debt collecting, debt counselling or debt adjusting services to consumers.
While trading without a licence was a criminal offence and the OFT was able to issue penalties and revoke the licences of firms treating customers badly, it was criticised for not being tough enough and failing to protecting consumers.
What exactly happens on 1 April?
Some 50,000 consumer credit companies will have to abide by much more stringent rules set by the FCA. The regulator says "this means every person that uses a credit card, has an overdraft, seeks help from a debt management firm, or takes out a loan will be better protected than before".
Why was change required?
The consumer credit market has become big business. On average, each UK household owes £6,000 in consumer credit debt - whether that's made up of furniture or car loans, overdrafts, payday loans or credit cards.
As much as £200 billion was lent in 2013 and, according to the Bank of England, collectively we still owe £158 billion. Overdraft debt stands at £8 billion and credit card debt at £150 billion, according to the British Bankers' Association.
So now so much money is at stake, more regulation is required to protect consumers.
And regarding payday lenders in particular, the need for FCA regulation came about because under the OFT's watch, some payday lenders exploited customers by charging astronomic levels of interest and hefty fees and allowing loans to roll over – often exacerbating their debt problems.
What will payday lenders and the rest have to do differently?
They have a new requirement to ensure "they give customers the right information to make informed choices, that their services meet consumer needs, and that people in difficulty are treated fairly," says the FCA.
Payday lenders and debt management companies, in particular, will also have to adhere to the following rules:
- limit the number of loan roll-overs to two.
- restrict (to two) the number of times they can seek repayment using a continuous payment authority - which allows a business to withdraw money from a customer's account without having to seek repeat authorisation for each new transaction.
- provide information to customers on how to get free debt advice.
- debt management firms must pass on more money to creditors from day one of a debt management plan and to protect client money.
What does the FCA have to say about the challenges?
Its chief executive, Martin Wheatley, said: "We have a big task ahead; it's our job to make sure firms put their customers at the heart of their business and don't just see them as an easy target or a profit line.
"We won't shy away from taking tough, decisive action to make sure that the people who rely on these products are treated fairly. There will be some firms that don't get the message, or won't play ball, those firms should know that we won't let them carry on."
Short-term cash loans designed to be borrowed mid-way through the month to tide the borrower over until they next get paid, whereupon the loan is settled. Generally used by people with bad credit ratings and/or no access to short-term credit such as an overdraft or credit card. Like logbook loans, this type of borrowing is hugely expensive: the average APR on payday loans is well over 1,000% and in some instances can be considerably more.
An overdraft is an agreement with your bank that authorises you to withdraw more funds from your account than you have deposited in it. Many banks charge for this privilege either as a fixed fee or charge interest on the money overdrawn at a special high rate. Some banks charge a fee and interest. And other banks offer a free overdraft but impose very high charges for exceeding the agreed limit of your overdraft.
Debt management plan
Not to be confused with a consolidation loan or bankruptcy, a DMP is a service offered by a specialist debt management company that will negotiate with your creditors to change the terms of how they get their money back. The debt company will renegotiate your debt repayment terms and then deal directly with your creditors on your behalf, and you then pay the debt management company, which passes the money to your creditors minus its initial and subsequent monthly fee. This can be as high as 20%, which means you’ll pay down your debts slower than you thought.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.