A breathing space scheme for individuals with problem debt will be implemented by 2021, the Treasury has confirmed. Draft regulations are expected later this year.

Lenders, loan servicers, debt purchasers and other acquiring funds can now begin taking steps to ensure that they are prepared for this change.

What is breathing space?

The breathing space scheme will introduce a new 60 day statutory pause on the accrual of interest, fees and charges on personal debts and some business debts of small sole traders incurred up to the date the individual enters the scheme. Almost all creditor collections, recovery and enforcement action will also be paused. However, breathing space will not take effect as a payment holiday. Individuals will still be responsible for meeting ongoing liabilities (including mortgage and hire purchase payments) throughout the breathing space period.

The policy intention is to encourage individuals with problem debt to access formal debt advice, and allow them the time and space to identify a sustainable solution to their debt problems. The scheme was originally a 2017 Conservative party manifesto commitment. A consultation on the terms of the scheme concluded in January 2019 and the Treasury published its response at the end of June 2019.

What is problem debt?

An individual will have problem debt when they are experiencing difficulty repaying their debts, and are in sufficient financial difficulty that there is a realistic chance they may be able to enter a formal debt solution such as insolvency or a debt management plan.

How will the breathing space scheme be triggered?

The breathing space scheme will be triggered when:

  1. The individual accesses FCA regulated debt advice;
  2. The debt advisor considers that there is a realistic chance of the individual entering a formal debt solution and that the individual needs time to do this; and
  3. The individual has not been in breathing space in the previous 12 months.

Creditors will not be able to formally object. The Treasury has proposed an alternative access mechanism for debtors receiving NHS mental health crisis treatment.

How will creditors be informed?

Creditors will be notified electronically of an individual's entrance to or exit from breathing space. These notifications will come from a portal to be operated by the Insolvency Service. There will also be a private register. Creditors will be able to access details of individuals that owe them money, but not details of other creditors of those individuals or of other debtors in the scheme.

Creditor details will be gathered by the debt advice agency through interviews with the debtor and credit checks. The Government has stated that, where the debt has been passed to a debt collection or enforcement agency, the original creditor will be responsible for notifying such third parties when an individual enters or leaves breathing space. Debt acquirers and their loan servicers will also need to ensure they receive relevant notices post acquisition.

In practice, it is expected that the individual will provide the debt advice agency with the most recent correspondence received regarding the loan, which is likely in many cases to be from the current loan servicer.

There will not be a publicly searchable register of individuals in breathing space.

What debts will be included in the scheme?

The intention is that as many debts as possible will be included in the scheme. These will extend to financial services debt, household bill arrears and arrears owed to central and local government. The business debts of sole traders operating below the VAT threshold will also be included.

All contractual and default interest, fees and charges will be prevented from accruing on arrears owed on these debts while the individual is in breathing space. Creditors will not be able to retrospectively charge interest, fees or charges on these arrears even if the individual leaves breathing space without entering a debt solution. Almost all creditor collections, recovery and enforcement action will also be paused during breathing space, as will all contact with the debtor regarding repayment during this period.

However, the Government proposals distinguish between arrears on debts included in the scheme and "ongoing liabilities" such as mortgage payments, hire purchase debts and rent. Breathing space is not intended to be a payment holiday. If an individual falls into arrears in relation to an ongoing liability during breathing space they will not be protected from the charging of interest, fees and charges on those arrears, and will not be protected from enforcement action. The debt advice agency will also have the discretion to remove any such individual from breathing space.

What steps can be taken now to prepare for this scheme?

The financial impact for a lender of an individual entering breathing space may be relatively modest, but the practical implications of ensuring compliance in the administration of the loan are likely to be more onerous. There may also be systems implications where interest, charges and fees are to be frozen in relation to only part of a debt. Much depends on the terms of the draft regulations, which are expected to be published later in 2019.

It is not yet clear what the consequences will be for a lender or third party who continues to charge interest, fees and charges or take enforcement action in relation to an individual in breathing space. It is also remains to be seen whether any such consequences may be ameliorated if the lender or third party did not have actual notice of the individual's entry into the scheme. The draft regulations and any related changes to the FCA handbook should clarify the position. The Government has confirmed that it will continue to work with stakeholders in designing an oversight role for creditor compliance.

Debt acquirers will be reliant upon the debtor giving the debt advice agency correct and up to date information regarding the new creditor and/or loan servicer. Where up to date information has not been provided by the debtor (or where the debtor is already in breathing space at the point of acquisition) the acquirer will need to rely upon the original creditor to inform them of any relevant debtors entering or exiting the breathing space scheme. Clearly, breathing space will need to be considered by acquirers in the due diligence process and information-sharing provisions in the transaction documentation should also be checked with the scheme in mind

Lenders, acquirers and loan servicers should also take this opportunity to consider whether or not their current systems will be capable of differentiating between those parts of a single debt where interest, charges and fees have been frozen and those parts that constitute ongoing liabilities and where these costs may continue to accrue. This may well prove to be a significant challenge.

Lenders may also want to review their current terms of business and policies surrounding enforcement to identify any areas where changes may need to be made once the scheme is in place. While further technical detail will be available before the end of 2019, lenders can now familiarise themselves with the latest response from the Treasury which sets out more detail about both the breathing space scheme and the proposed statutory debt repayment plan (which is intended to be implemented over a longer period). Read the response.