Legal Perspective

Legal perspectives In this feature payday loans guarantor loans FSMA Balancing the needs of consumers and lenders Short-term, low-value loans have become an established part of the modern financial landscape, so regulators should be wary of unduly restricting access to them, writes Michael Coley O n 1 April 2014, regulation of consumer credit agreements passed from the Ofce of Fair Trading to the Financial Conduct Authority (FCA). In addition, a number of changes were made to the regulatory regime, with the aim of providing enhanced consumer protection in the high-risk sector. The regulatory regime was also transferred from the Consumer Credit Act 1974 (as amended) to the Financial Services and Markets Act 2000 (FSMA). In relation to the high-risk sector which includes payday loans and products targeted at consumers with poor credit histories or other difculties in accessing mainstream lenders some of the key consumerprotection aims of the new regime are: G More stringent affordability checks on credit agreements G Regulation of advertising to ensure that it is fair, clear, and not misleading G Limits on loan rollovers and continuous payment authorities (CPAs) G Better provision of information on where to get free debt advice G Provision of clear risk warnings on adverts and promotions However, a report by the Consumer Finance Association (CFA), which represents the interests of loan providers, has warned that the way in which modern consumers access credit is changing, prioritising quick applications and decisions. Its report, Credit 2.0: A Commentary on Spending and Borrowing in the 21st Century, argues that short-term credit, such as payday loans, has become an established part of the modern nancial landscape, and that regulators should be wary of unduly restricting access to these products. The need for short-term, low-value loans and the growth of accessible technology, such as smartphones have led to a marketplace in which consumers want quick and convenient solutions to their borrowing needs, the report argues. This type of borrowing, it adds, is a exible way of lling a short-term hole in a borrowers nances and needs to be regulated with commensurate exibility. Restricting access to these products may force more consumers into the embrace of loan sharks. Payday loans are not the only form of borrowing in this sector, however. One product that has increased in popularity in recent times is the guarantor loan. This form of borrowing presents arguably greater challenges from a consumer-protection perspective. First, while payday loans are ostensibly aimed at consumers experiencing an interruption or shortfall in what may otherwise be a reasonable cash ow, guarantor loans seek to service a potentially more vulnerable clientele. The basic premise of such products is that the borrower can nominate somebody for example, a family member or friend to pay back the loan if he is unable to do so himself. This type of lending is typically the preserve of those unable to secure a loan from a mainstream lender, which makes them a target market with much deeper nancial issues than mere short-term cash ow. Second, concerns have been raised about the ability of borrowers and guarantors to fully appreciate the signicance of the obligations they are taking on. Citizens Advice has reported that a quarter of issues with guarantor loans concern misunderstandings about the nature and extent of a guarantors responsibilities. Concerns have also been raised about borrowers putting pressure on people to act as guarantors and then defaulting, or the relationship breaking down. Finally, guarantor loans tend to be for much higher amounts, and longer periods, than payday loans. This arguably magnies the risk associated with them compared to lower-value, shorter-term products. Clearly, a stringent regulatory regime is required for guarantor loans and other high-risk products. It is easy to imagine a scenario in which a borrower with existing debt problems is unable to secure funding from a mainstream lender, but cannot see past further borrowing as a solution. Often, such circumstances stem from deeper vulnerabilities addiction to gambling is a notable example. In such situations, the rst question to ask is whether further borrowing is necessary or advisable at all and, to that end, the FCAs requirement for clearer information on debt advice and risk warnings is to be welcomed. If further borrowing is to be undertaken, merely making it easier for the borrower to get a loan just because nobody else will give them one is no solution at all, for obvious reasons. Affordability checks and ensuring that borrowers and guarantors fully understand their obligations are essential, as is an appropriate cooling-off period. The new regime also focuses on who should be allowed to engage in the provision of guarantor loans. This is now a regulated activity under the FSMA and requires an authorisation under Part IV of that act. This is a more stringent process than under the old regime, and involves setting out a regulatory business plan demonstrating how the risks identied in the new regime are to be managed. In addition, before a Part IV authorisation can be granted, the threshold conditions set out in Schedule 6 to the FSMA must be met. It is hoped that this will limit entry to the marketplace to those entities best placed to advance the consumer-protection priorities of the regulatory framework. Carrying on a regulated activity without authorisation is an offence. The overall aim of the new regulatory regime is to provide enhanced consumer protection and greater oversight of entities offering high-risk products, while preserving access to credit for those who need it and avoiding undue interference in the market. The renewed focus on consumer protection in the high-risk sector is a laudable and necessary one in light of the prevalence of vulnerable consumers in that sector, and the increased uptake of those products. It is hoped that the new regime will successfully balance the needs of consumers and lenders to ensure condence in the market and the regulatory landscape. The contents of this column do not necessarily reect the views of CTSI, nor do they always take account of the law in Scotland Credits Published You might also like Michael Coley is a barrister at 36 Bedford Tuesday 25 August, 2015 Finding order in chaos August 2015 Row Images: T-Kot / 0beron / Shutterstock To share this page, click on in the toolbar