Author Bio: Carrie Wilson is a financial journalist and freelance writer who produces financial and consumer affairs articles for some of the UK’s most authoritative websites.
The Financial Conduct Authority, the regulator responsible for keeping the payday loans industry in check, has unveiled new proposals to cap the cost of loans. The proposed changes, which if accepted will come into force in January 2015, will cost the payday loans industry an estimated two-fifths of its total revenue, driving many smaller operators out of business. While a typical borrower can expect to save £193 on charges over the course of a year, the short-term credit industry, currently valued at £1bn, can expect to lose £420m in revenue every year.
Here is everything you need to know about the new cap on costs.
Why has a cost cap been proposed?
Since the economic crisis hit in 2008, there has been a demand for a source of short-term credit from those struggling to make ends meet and pay essential expenses such as living costs and utility bills. That void was filled by the payday lender. Until now, the FCA has been reluctant to impose a cap to limit charges due to the possible detriment to customers this would create. However, it was ordered to do so by the treasury in November of this year.
The cap aims to curb the way costs can escalate, producing debt levels that quickly spiral beyond the borrower’s control.
How is the cap intended to work?
The cap has three separate elements that will reduce the amount payday lenders like Wonga can charge on their loans. The first cap is a limit on interest fees of just 0.8 percent per day. The second element of the proposal is a cap on the total cost of a loan to ensure total charges and fees do not exceed the original loan amount. This means that no matter how many times a borrower defaults, an original loan of £100 would never cost more than £200 to repay. The final proposal is to limit the amount a lender can charge a defaulting customer to just £15.
How much do people currently pay?
In most cases, significantly more. The FCA says that payday lenders currently make anywhere from 0.4 percent to more than 4 percent a day from borrowers. The proposed daily cost cap will limit this to 0.8 percent.
As an example from one of the UK’s largest payday lenders, The Money Shop currently charges £29.99 on a £100 loan if it’s repaid within the agreed repayment period. The default fee on this loan is £29, plus interest of 1 percent a day. It is clear how debts can quickly spiral out of control.
As a result of the price cap, the FCA estimates the average borrower will save a total of £32 on the cost of every loan they take out.
What about the additional charges for debt collection?
Payday lenders will still be able to apply a charge relating to the collection of debts. However, this will be covered by the proposed cap which limits the cost of a loan to no more than 100 percent of its original value. Therefore, if a customer takes out a £150 loan which they are unable to repay, the loan will never cost them more than £300.
When will the cap be introduced?
The caps have only recently been proposed. The next stage is a consultation period which will take place over the summer. The cap will then come into force on 2 January 2015 and will apply to any loans that are arranged or roll over after that date.
Does the cap go far enough?
Opinions are split on this issue. The FCA was reluctant to impose any price caps at all in case the inevitable reduction in competition pushed prospective borrowers into the arms of criminal loan sharks. On the other side of fence, the shadow consumer minister, Stella Creaser, said: “Without further revision, this total cost cap of 100 percent of the borrowed amount will leave British consumers less well protected than their counterparts in Japan and most of Canada and the United States”.
What are your views on the price cap proposals? We’d love to hear from you, so please leave your thoughts in the comments section below.
