Is This the End for Payday Loans?

By Sam Collin - Communications Manager, CDFA

It can’t have escaped your notice that Wonga has been back in the news. After its meteoric rise, it seems things have taken a turn for the worse for the payday lender.

The company has just posted a 53% drop in profits for 2013, though still a not-too-paltry £40million. Just a few days later, Wonga announced it would be writing off £220m of debts for 330,000 customers after putting in place new affordability checks.

The changes came after discussions with its new regulator, the Financial Conduct Authority (FCA). Wonga’s new stricter lending criteria should mean it will accept far fewer applications from new and existing customers in future, and it has admitted it will be a smaller, less profitable company.

Is the FCA making an example of Wonga? It has certainly been the most high profile payday lender, and the one that has attracted the most criticism from the likes of the Archbishop of Canterbury. It has also demonstrated some of the worst practices. Earlier in the year it was revealed that Wonga had sent letters to customers in arrears from non-existent law firms, threatening legal action.

CRACKDOWN

The FCA’s crackdown on payday lenders comes after a scathing report into the industry from the Office of Fair Trading, which found widespread bad practice and lending to those who could not afford to repay.

An interest rate cap will soon be introduced, and the Competition and Markets Authority has just announced plans to bring greater transparency to payday loan products through price comparison websites. Could this be the end for payday lenders? The FCA is predicting 99% of companies will close down. Many people will be celebrating, but will their customers?

1.6 million people in the UK took out a payday loan last year. They borrowed a staggering £2.5 billion. Some of these people can afford to repay the loans on time. It is those that can’t, however, that roll over loans and see their debts and interest repayments climb out of control, that provide the profits for payday companies and that consumer groups want to protect.

It is the poor treatment of vulnerable customers that has caused so much outrage and distress. Ian Jordan of Southampton took his own life after running up debts of over £20,000 with payday loan companies. He couldn’t cope with the pressure they put him under, and his daughter is now demanding more be done to stop their behaviour.

So if payday lenders leave the market, is the problem solved? There is a fear that this could open the door to even more unscrupulous behaviour. The unregulated, illegal loan sharks could crawl back onto our streets.

There is some hope, however, that the ethical alternatives will take root and grow to fill the gap. Alternatives like credit unions and CDFIs. Credit unions are mutuals that provide savings and loans for members. They are well-placed to deliver services for the ‘safer’ customers who can save as well as borrow and benefit from low interest rates.

POOR CREDIT HISTORIES

The ‘riskier’ customers can turn to a CDFI (community development finance institution) that can provide loans to people with poor credit histories and no savings, as long as they can show they will be able to repay.

Last year, CDFIs helped 42,000 people with fair and affordable credit. They provided financial literacy support to 8,100 people and helped 4,200 people open a bank account – moving them to mainstream finance and away from cycles of debt.

The numbers are good, but they are a long way from meeting the current customer base of payday lenders. If they are to grow in scale and reach, CDFIs need a lot more capital. Last year they received only £2m of new capital funding (compared to £9million the previous year). This represents 5% of the profits made by Wonga. The funding, from public and private sources, is small change compared to the size of the challenge.

Loans are obviously not the only answer, and steering people away from short-term debt, helping with budgets and savings, accessing other support and advice and using longer term, affordable loans to manage finances better are all services on offer from CDFIs.

But to provide these vital services on the scale that is soon to be needed, will only be possible with a lot more support from local and national sources. Without it the loan sharks may be back.


Reproduced with acknowledgements to The Information Daily