The New Financial Conduct Authority – Will it have the Guts to Cap Pay Day Loans – and Should It?

The Financial Services Act which received royal assent at the end of last year looks to deliver a fundamental shake-up of financial regulation in the UK.  The new system will give the Bank of England macro-prudential responsibility for oversight of the financial system and, through a new, operationally independent subsidiary, for day-to-day prudential supervision of financial services firms managing significant balance-sheet risk.  The Financial Services Authority (FSA) will cease to exist in its current form.  A proactive new conduct of business regulator called the Financial Conduct Authority (FCA) will be created to protect consumers, promote competition and ensure integrity in markets.
 
With consumer protection high on the agenda, one aspect of the Act that has attracted media attention is the restrictions it places on pay day lenders.  Payday lending is a booming industry - high-profile lender Wonga approved about 2.4 million loans last year, up 300% on 2010.  There have been a number of complaints from consumer watchdog groups about these lenders’ interest rates.  Labour MP Stella Creasy had been campaigning, at times somewhat hysterically, on this issue, highlighting the impact of 4,000% annual interest rates when loans are left to run on and it seemed a number of Lords shared her concerns.  There was a lot of rhetoric condemning pay day lenders including from the Archbishop of Canterbury elect Justin Welby labelling the rates on these loans “clearly usurious”.  Wherever you look, there is a large queue, including regulators and MPs, forming to bash the sector.
 
When the Act reached the House of Lords for review, the government was facing possible defeat over an amendment proposed by Labour peer Lord Mitchell with cross party support which would have given the FCA the power to impose an automatic cap on interest rates charged.   Lord Mitchell introduced his amendments with some vitriol: ‘legalised loan-sharking, or payday lending - call it what you will - has gone viral.  It is out of control, dangerous and is causing great distress to many vulnerable people.”  He believes the massive growth of these loans to be symptomatic of the current economy coupled with the rise of online banking, which he argued makes the lending process too simple and “slick”, requiring only cursory information from the borrower.  He continued: “We have an industry flying by the seat of its pants, observing at best the flimsiest requirements of the law and its own pathetic codes of conduct. It needs to be much more closely controlled.”
 
The original amendment proposed the "FCA may make rules or apply a sanction to authorised persons who offer credit on terms that the FCA judge to cause consumer detriment.  This may include rules that determine a maximum total cost for consumers of a product and determine the maximum duration of a supply of a product or service to an individual consumer."  The amendment was later withdrawn after Lord Sassoon, commercial secretary and government spokesperson for HM Treasury said: “the government believe that there is scope to go further than this amendment and to put in place stronger, automatic consumer protections and make the deterrent effect more robust by providing that a breach of these rules would make the agreement unenforceable by the lender.”  This was a major climbdown by the government, who may have recognised that they were facing a defeat and that further resistance was pointless.  Treasury sources played down the significance of Sassoon's move on the grounds that the bill already contained a cap.
 
Ultimately, Sassoon tabled the government’s amendment which was agreed with Lord Mitchell’s backing.  The amendment  sets out the rules “the FCA may make to prevent lenders from imposing excessive interest rates or associated charges on borrowers, and clarifies that the FCA would be able to specify the level of the cap in rules and also to define which charges, in addition to interest, should be captured.  The amendment also allows the FCA to impose limits on the duration of the agreement, and to specify the detail of the cap and other restrictions in its rules.”
 
Pay day lenders credibility took a further hit from the Office of Fair Trading (OFT) last month who accused lenders of relying on indefinite access to borrowers’ bank accounts rather than paying for affordability checks.  Some payday lenders collect repayments using continuous payment authorities (CPAs), agreements which give the lender an indefinite mandate to take money from a borrower's credit or debit card and to alter the amount deducted.  CPAs are said to give consumers far less control over their payments and the OFT consider that they have given lenders confidence that they will be able to get their money back without checking the borrower will be able to afford to repay.
 
The new Act seems to be fundamentally based on a premise that pay day lenders are the black sheep of the financial services industry.  However an official study in 2010 stated that payday loans provide a legitimate, useful, service that helps cover a gap in the market.  It remains to be seen how this industry will operate under the new restrictions and while most campaigners would see this industry buried alive under the weight of oppressive regulation, how the financial needs of those who have nowhere else to turn will be met seems outside their interest.  Ultimately, it looks like the next couple of years ahead will be a highly interesting period for observers of the sector.
 

Elliot Shear is the Managing Director at W Legal and Lucy Nash is an Associate.  W Legal is a law firm that delivers the complete range of outsourced, flexible legal services that commercially-minded businesses demand - with legal professionals drawn from leading City firms and industry, bringing with them years of experience in specialist sectors that enhance the exceptional value of the offering.
 
Elliot Shear can be contacted by phone on +44 (0) 20 7355 7893 or alternativelyby email at elliot.shear@wlegal.co.uk