The FCA’s appetite for change in the high-cost credit market shows little sign of abating with its latest set of proposals. With reports earlier this year that over three million consumers are utilising high cost credit, the FCA acknowledges that the task of regulating consumer credit is one of the largest tasks they have undertaken, with significant change already taking place in areas such as overdrafts, payday loans and home-collected credit.
Given this, it is unsurprising that the FCA has published a consultation paper on Rent to own (‘RTO’) and alternatives to high cost credit (the ‘Consultation’), furthering their work in this area. The paper proposes a number of rules on RTO, introduced from 1 April 2019, as well as finalising rules on extended warranties.
Since the FCA’s original RTO consultation in May 2018, they have carried out further market research, such as in-depth analysis and a survey of RTO consumers. The FCA believe that the survey results provide clear evidence of RTO users’ vulnerability and suggesting that their intervention is required.
The rules being consulted on are designed to control prices in the RTO sector by:
- introducing a requirement for firms to benchmark base prices against retail prices;
setting a total cost of credit cap of 100% of the credit amount; and
preventing firms increasing their prices for insurance premiums or arrears charges to recoup lost revenue from the price cap.
What is an RTO Agreement?
An RTO agreement is defined as a regulated credit agreement which is a hirepurchase or conditional sale agreement that supplies one or more items of household goods, but excluding motor finance or goods acquired principally for business purposes.
Controlling base price
The FCA believes that rules requiring a firm to benchmark retail prices of any product they intend to sell through RTO will be a proportionate way of controlling base prices. This, in the FCA’s view, is necessary to ensure the cost of credit cap is effective. Firms will be required to have their own policies and procedures in place to explain how they achieve this. The FCA proposes that the benchmark base price can be:
- No higher than the median of 3 mainstream retailers’ prices (this cannot include more than 1 catalogue credit retailer); and
- If a catalogue credit retailer does not sell the product, no higher than the highest mainstream retail price of the other 3 retailers
The FCA estimated that typically the cost of an RTO agreement was around 3 times the median mainstream retail price, with prices found to be 4 or 5 times the median retail price in some cases. While the FCA acknowledges that RTO firms would not be offering the cheapest cash prices, the method by which they have sought to set the base price – using the median, rather than the highest price-aims to be a transparent means of anchoring it in order to avoid manipulation. The FCA estimates that benchmarking in this way will, on average, bring RTO base prices to within 10% of median retail prices.
Stressing the importance of firm’s keeping their benchmarking up to date, the FCA states that benchmarking must take place when they first start selling a product, if they change a product’s base price and within 12 months of the previous benchmarking. The FCA thinks that this will avoid firms manipulating the base price cap and that requiring firms to review prices more often would be disproportionate.
The total cost of credit cap
The imposition of a cap is not new to the highcost credit space, with caps introduced on payday lenders in 2015,and the FCA is now also seeking to introduce a cap on RTO agreements. The proposed cap is designed to control prices as follows:
- Imposing a price cap on the total cost of credit, which may not exceed 100% of fixed allowable costs. Fixed allowable costs are the price of the product, and, if chosen by the customer, the delivery and installation. As a result, consumers will not repay more than the price of fixed allowable costs in interest charges. Further, the FCA proposes that if any agreements are in breach of the total cost of credit cap, the obligation to pay all credit charges will be unenforceable.
- Borne out of concerns that firms will raise their arrears charges in response to the total credit cap, the FCA also proposes a rule preventing increases to a firm’s arrears charging structure or imposing higher prices for insurance premiums to offset the effects of the price cap. Charges are permitted to increase if it can be shown to be a justifiable reflection of an increase in the firm’s relevant costs, although the FCA mentions that this will be an area they will monitor and intervene if needed.
Seeking to set the cap at 100%, the FCA believes that this will reduce the price consumers have to pay, while also ensuring RTO agreements remain commercially viable. Using both the cap and benchmarking, the FCA consider that they will mitigate against the potential impact on firms whilst also enabling consumers to benefit from lower prices.
The FCA estimates that the proposed cap would bring about a net consumer benefit of between £19.6m and £22.7m a year. Instead of introducing regulatory reporting requirements for affected firms, the FCA will adopt a ‘targeted approach’ to the firms affected, in order to develop an understanding of the effect the price cap is having.
Wary that the imposition of the price cap will result in firms moving to consumer hire, that have similar features and pricing to RTO agreements, the FCA have stated that they will consider carrying out further work to better understand the risks and costs to consumers and will intervene if necessary.
Alternatives to high cost credit
The FCA acknowledges that a consumer’s perception of lack of options available is a competition issue as consumers fail to properly assess alternatives and switch to bettervalue alternatives. While the FCA accepts that proposals around alternatives will not directly promote competition or encourage innovation, they believe that fostering growth and awareness of alternatives previously served by RTO will allow lower cost credit options toincrease, bringing the aim of improving consumer outcomes to the fore.
This would create a more inclusive credit market, opening up competition in this area, although the viability of the alternatives the FCA put forward credit unions and credit development finance institutions (CDFI) has been questioned.
As well as this, the FCA concedes that there is low public awareness of these alternatives, which may be due to the fact that 400 credit unions and less than a dozen CDFIs currently operate in the UK and is something the FCA may actively involve itself in promoting such entities through various means.
Engagement with government and other organisations
The FCA has collaborated with Government and other organisations on a range of initiatives designed to promote access to alternatives to highcost credit. These include:
- A Government-backed feasibility study around access to fair and affordable credit, with a view to designing a pilot for a nointerest loan scheme. This would include the eligibility for a nointerest loan, the purposes for which the consumer could use it for and how the scheme will be financed on a short and long term basis; and
- An affordable credit challenge fund, designed to assist Fintechs in the development of solutions, making it easier and more attractive for people to borrow from affordable lenders. The FCA has suggested that the fund of £2 million should be used to increase the sustainability of both credit unions and CDFIs.
With the key themes of these proposals being around price, interest charges and the introduction of alternatives,the FCA is seeking to mitigate harm and further their aim of improving outcomes for vulnerable consumers. The introduction of measures to control the base price such as the introduction of a median base price, together with the cap around interest charges, clearly shows that the FCA’s approach is designed to lower the total cost of high cost credit, increasing transparency and reducing consumer cost. A lack of awareness, coupled with the perception that they would be unable to obtain credit by any other means, the FCA are seeking to provide lower cost credit to consumers who currently utilise the RTO market, supporting initiatives promoting alternatives, as well as increasing competition in this area.
Shining further spotlight on the need to protect vulnerable consumers, firms are needing to take careful steps to ensure compliance in a changing regulatory landscape. With further findings and plans to tackle areas of concern earmarked for the end of 2018 in the motor finance sector, the FCA’s work in this area does not appear to be slowing down, increasing the number of firms needing to navigate new rules, with consumer protection and affordability at the heart of every decision.