FCA Consumer Lending Letter

The Financial Conduct Authority (FCA) recently published a letter to CEO’s of firms in its consumer lending portfolios. This effectively sets the strategy that Roma Pearson, the FCA Director of Consumer Finance has set herself for the next two years. The letter combines, for the first time, three portfolios: High-Cost Lending, Mainstream Consumer Credit Lending and Credit Union. This is a vast spectrum of firms and has raised concerns about credit unions being placed in the same category as High Cost and Mainstream Lenders, something that ABCUL have raised with the FCA and will also be part of the Roundtable discussions due to take place with the Regulators (FCA and PRA) next month, alongside the other trade association representatives, who also support ABCUL’s view on the recent letter. ABCUL strongly oppose the inclusion of credit unions in this letter and are very concerned at failing listed in the letter and lack of examples of these being present in the sector.

The FCA’s letter makes clear that the FCA sees sufficient similarity in products, consumer base and potential harms posed to set out a market strategy.

The context of the letter is prominently the cost-of-living crisis for the consumers in this market, many of whom are already struggling with debt. An area which the credit union sector has been supporting for many years and will continue to do so for years to come.

The Consumer Lending landscape is changing, with a significant reduction in high-cost lending since 2019, but there is still an increased demand for consumer credit overall. Credit unions have seen an increase in membership and lending, which highlights their importance in providing accessible, affordable, and responsible credit for their members and new members.

The main failings the FCA has stated they are seeing amongst the three categories detailed in the letter are:

• Inadequate creditworthiness assessment
• Firms relying on relending to sustain business models (budget loans/revolving credit)
• Firms providing products that are designed to promote persistent use
• Inadequate support and forbearance options offered for customers in financial difficulty
• Ineffective complaints management process
• Firms failing to meet redress liabilities as they fall due

The FCA state in the letter that they want to support a sustainable and effective Consumer Lending market in which consumers who can afford to borrow, have access to credit that meets their needs, and firms must do so responsibly. The FCA’s market-wide strategic objective under the Financial Services and Markets Act (FSMA) is to ensure that the relevant markets function well. The FCA have three key focus areas:

• Reducing and preventing serious harm
• Setting and testing higher standards
• Promoting competition and positive change

Promoting competition and positive change – Access to Affordable Credit

Access to affordable credit allows consumers to manage their money and deal with short-term or unexpected cash flow issues.  The FCA stress that a well-functioning market provides healthy competition, products and services that meet consumers’ needs, offers fair value and supports consumers to achieve their financial goals. Within that market, firms need to treat consumers fairly, lend affordably and support consumers in difficulty.

As the credit union sector already knows and has embedded in their lending processes for some consumers, credit will not be the right answer. On these occasions the FCA is looking for credit unions to consider the ways they can support declined consumers e.g. signposting to a third party that provides reliable and relevant information and/or to Money Helper. The FCA’s letter highlights the good practise of credit unions who have integrated a ‘benefits calculator’ link on their websites, which aim to assist consumers in securing the financial support to which they are entitled.

This area of focus has been increased given the results from the FCA’s 2022 Financial Lives Survey growing evidence of an increase in illegal money lending, with at least 200,000 households stating they have borrowed from illegal money lenders.

The FCA are also encouraging firms to think about what they can do to innovate and provide greater access to affordable credit. Some examples given are:

• No Interest Loan Scheme
• Providing financial education and tools to borrowers
• Implementing flexible repayment options
• Leveraging technology to improve the consumer journeys.
• Streamline processes and reduce costs

Reducing and preventing serious harm

Firms must lend responsibly and sustainably

Due to the continued cost of living pressures, consumers vulnerability is increasing and financial resilience decreasing. The FCA anticipates more consumers in the mainstream credit market will be facing these challenges for the first time, and others may seek to access alternative forms of lending, including higher cost credit.

The FCA emphasis in the letter the importance of firms making sound affordability and credit worthiness assessments. The FCA have stated they are previously taken supervisory action where firms did not have adequate creditworthiness assessments in place. This is an area where some credit unions have previously faced criticism on social media and other discussion platforms. However, ABCUL strongly support that our member credit unions have the best interest of their members at heart, and if they have not already implemented robust affordability assessment that they are in the process of reviewing and implementing an assessment process that meets the FCA’s expectations. On review of this section of the FCA’s letter ABCUL feels this is predominately aimed at the High-Cost Lenders and Mainstream Condumer Credit Lenders, especially in the line of buy now pay later credit and the management of revolving credit facilities.

The FCA also expect firms to apply judgement and be able to distinguish between positive frictions or nudges in the customer journey when applying for lending that support good outcomes and harmful frictions that create unreasonable barriers.

Artificial intelligence and open banking are being used more for lending decisions within the financial service sector, and there is an expectation that this will only increase as technology evolves. The FCA are urging firms to test the effectiveness of these models, including benefits and risks, and ensure responsible lending practices remain at the forefront of any drives for improved consumer journeys an efficiency savings.

The FCA have reinforced that firms have an obligation to ensure lending and re-lending is done affordably, responsibly and is sustainable over time to support good consumer outcomes. Therefore, they are expected to act in good faith to prevent harm in the foreseeable future, and support members with their financial objectives.

Firms must ensure that the price paid for products of services is reasonable to the overall benefits

Once again, the explanation of pricing products and services directly does not seem to target credit unions due to the interest rate cap placed on credit unions. However, it is important that credit unions conduct regular reviews to assess their pricing for services and can demonstrate that the price the consumer pays for a product or service and the ongoing interest or charges over the products lifetime are reasonable compared to the overall benefits the consumer receives.

The FCA has also stated that although the credit risk of lending to certain cohorts of consumers is greater, and this may be reflected in higher product prices, they do not expect firms to capitalise by increasing process unfairly and offering products that do not provide fair value.

All credit unions should have already completed a review of their existing open products in line with the consumer duty guidance.

An area that credit unions may wish to review is the revolving credit facilities and instant loans.

Revolving credit facilities are widely used across a number of financial service providers and allow members to have a pre-approved limit they can access with, in most cases, a fixed repayment. These accounts have previously been on the FCA’s radar with concerns raised over the lack of continued assessment/review of the affordability of the line of credit, at least on an annual basis to ensure the consumer can still afford the repayments. Where it is found the line of credit is no longer affordable then firms must support the consumer to help repay the lending in affordable repayments.

Firms must support consumers in financial difficulty

Borrowers are facing higher expenses, which means more members may need tailored support to manage their debts. The FCA’s work on Borrowers in Financial Difficulty found that firms were not properly considering consumers’ individual needs or providing appropriate forbearance. Improvements could also be made in directing consumers to debt support services. The FCA’s Key Findings Report has led to interventions across the Consumer Lending market and up to £54.4m of redress for over 228k consumers. Credit unions need to ensure effective member support, even when under financial ‘pressure. Proper training, appropriate forbearance options, and clear communication are essential.

This is an area that the credit union sector excels in, supporting their members, and we will be reiterating the great work that the sector is already doing to support their members at the roundtable next month.

Firms must support consumers in financial difficulty

The FCA state that mishandling of complaints is mostly seen in the high-cost market and therefore more consumers may require tailored support to manage their debts. Nonetheless, the FCA encourage firms to monitor outcomes regularly, and notify them if systemic issues are identified. The requirement to support firms provides to consumers is also set within the Consumer Duty guidance, chapter 9.

The FCA are currently completing a multi-firm review involving a small number of high-cost lenders, with the preliminary findings have identified areas where improvements can be made, and these will be shared with the firms involved in due time.

Firms must have appropriate systems and controls in place to mitigate risks of Financial Crime

The FCA have also stated that in the current market conditions illegal money lending and domestic financial abuse are likely to be growing risks in the market.

Illegal Money Lending – evidence shows this is a growing issue, with 0.5% of all UK adults having borrowed from an unlicensed or informal money lender in the 12 months previous to 2022. The FCA is urging firms across the consumer lending market to be vigilant to spotting the signs of financial crime, to help make early interventions to help prevent foreseeable harm. One example of this is if a member indicates that they own money to someone they know for firms to delicately question, where appropriate to refer the information to the UK Illegal Money Lending Teams and to utilise the free resources and/or training available to equip staff and volunteers with the knowledge and confidence to spot illegal money lending and to have those sensitive conversations with members.

Domestic Financial Abuse – The FCA continue to work with HM Treasury and industry to understand how firms are identifying and managing harm in this area. They encourage firms to consider how credit unions can support victim-survivors to start rebuilding their financial wellbeing and whether credit unions need to do more to educate their staff and/or update processes. There is also a growing concern for consumer who have been coerced into taking out credit by an abusive partner and for firms to be alert to the possibility of coercion to reduce foreseeable harm and to treat the victim-survivor appropriately so the do not experience further avoidable harm.

A small change that can be made within the sector is ensuring you have procedures and process in place to ensure that communications are only issued by post if agreed by the victim-survivor or for those who do not wish their current partner to have any knowledge of their credit union account for fear of abuse to make sure their wishes are followed for the safety and wellbeing of the consumer, including annual statements. An example a credit union who created a specific status code for members in these circumstances so the can be identified easily and also excluded from large member mailings.

Firms must have robust governance practices, ensuring effective oversight and risk management

Firms must have strong governance practices to identify, monitor and manage operational risks. We have identified poor governance as a root cause behind several drivers of harm. The Senior Managers and Certification Regime holds senior individuals accountable for reducing harm to consumers and strengthening market integrity.

The FCA have found that poor governance and inadequate senior manager oversight as the root cause behind several of the drivers of harm.

The FCA have stated in the letter that through regular firm engagement, including on-site visits to firms, they have observed instances of deficient oversight, ineffective governance structures and vulnerabilities in systems and controls. In some cases, this has led to the failure of the firm. The FCA confirmed that these issues are prevalent across the Consumer Lending market but have highlighted the issue being scute in parts of the credit union portfolio as well as high-cost lenders.

All Boards should now have in place a Consumer Duty champion to ensure the Duty is being discussed regularly, outcomes are tested and challenged appropriately, and that the credit union is monitoring how you are delivering on the Duty.

The letter goes on to ask credit union boards to proactively plan ahead, including succession planning, as this supports effective governance which is fundamental to the viability of the business and delivering good consumer outcomes. ABCUL understand the difficulty many credit unions are facing in attracting and retaining new Board members, which has resulted in some credit unions undertaking a Transfer of Engagement. This is something ABCUL will continue to help support our member credit unions with if required.

The FCA have asked all firms to ensure effective monitoring and oversight of third-party providers to mitigate the risk of consumer harm.

The letter also emphasises firms prioritising strong cyber resilience and to create a healthy firm culture with consumer outcomes at the heart of their business. The FCA’s recent D&I consultation paper proposes new rules and guidance to help firms take decisive and appropriate action against discrimination, bullying and sexual harassment.

Policy Changes

New regulations (FSMA) implemented in August 2023 now allow credit unions in Great Britain to offer hire purchase agreements, conditional sale agreements, and insurance distribution services. In December 2023, the FCA published a quarterly consultation on amendments to the Credit Unions Sourcebook (CREDS) to clarify how these changes will affect credit unions who wish to offer the new products. The new rules are expected to come into force in Spring 2024, and their goal is to increase financial inclusion and access to affordable credit while protecting consumers. When introducing new products, credit unions must be accountable through the Senior Manager Regime and ensure they meet regulatory obligations.

The FCA have also confirmed they will begin the review of the price cap for High-cost short-term credit (HCSTC). This will be the first review of HCSTC rules since 2017.

Guidance on potential actions credit unions may take:

• CEO’s to discuss the FCA letter with their Board and be able to demonstrate the steps you have taken to address the risks covered in this letter.
• Signpost declined members to a third party that provides reliable and relevant information and/or to Money Helper.
• Consider how/if you can innovate and provide greater access to affordable credit.
• Make use of free bespoke training materials and support from the IMLTs.
• Ensure procedures and processes are in place for victim-survivors of domestic abuse and consider staff/volunteer training on how to manage these difficult conversations.
• For Boards to proactively plan ahead including succession planning. Some member credit unions have been utilising member surveys to collect details of potential new Board members with good success rates.
• For credit unions to submit accurate and timely data submissions is crucial, but the FCA will try to make the response time proportionate as they understand that collection of data is sometimes a lengthy process.
• Credit union should keep their Financial Services Register details updated for consumer benefit.