Vulnerability can take many different guises. Emotionally or mentally vulnerable consumers may need assistance with understanding the commitments involved with credit. Those leading vulnerable lifestyles may find their ability to earn curbed by other commitments such as dependents, for example. Then there is financial vulnerability itself which can see borrowers with low credit scores and low income below £18k become dependent on credit.
Due to unpredictable incomes and expenditure, these vulnerable users tend to be deemed a higher risk which can see them excluded from mainstream credit and pushed towards high-cost credit. This in turn makes the cost of borrowing higher and increases their overall financial burden. Loan ‘layering’ can be a problem with multiple forms of credit taken out as they are precluded from refinancing which then puts them at risk of defaulting on other payments, lead to a spiralling circle of debt.
For the financial industry the problem is how to serve these vulnerable users while loaning responsibly.
The FCA requires lenders to take into account any form of vulnerability but precisely how they should do this remains a grey area. Debt charity, StepChange, criticises the current guidance saying “the lender is not expected to proactively establish whether such vulnerabilities exist as this would be ‘disproportionate’” in other words the lender would be deemed to be singling out this cohort. StepChange disagrees. It calls for more onus on lenders to establish whether customers are vulnerable and to take appropriate action “in relation to creditworthiness assessments based on this information”.
Yet credit worthiness is also difficult to determine, particularly with vulnerable borrowers. Credit Reference Agency (CRA) data is often limited and “may not give lenders a clear picture of high-risk applicants, particularly those with little credit history or where there are gaps in CRA reporting such as rental data and non-bank income” admits the FCA. With such patchy information, establishing credit worthiness becomes harder to ascertain and vulnerable borrowers automatically become labelled high-risk.
Thinking inside the box
So how can lenders do more to accommodate the vulnerable cohort? One approach is for ‘mid-cost credit’ to be made more widely available. According to the FCA’s ‘High Cost Credit Review’ (May 2018) there are a number of initiatives in this area being undertaken by local authorities and registered social landlords, credit unions and Community Development Finance Institutions but they are also encouraging the wider market to develop innovative approaches through use of the FCA’s regulatory Sandbox and experiments aimed at developing new business models.
The regulator is keen to work with “potential providers beyond the credit union sector, including banks and building societies” to discuss what solutions could be developed for “responsible lending options for consumers”. The idea is to come up with more flexible methods of providing assured finance options to this group that doesn’t involve high-risk credit, potentially providing responsible lenders with access to a market that goes beyond the realms of high-cost finance.
The message is clear: vulnerable users don’t have to be marginalised. However, several issues need to be addressed before the financial sector can truly begin to serve this sector:
- Credit worthiness has to be established using a wider set of criteria: The way for this is already being paved by changes brought in under the FCA’s ‘Assessing Credit Worthiness in Consumer Credit’ PS 18/19 (July 2018) which will see the catchment of information on income and expenditure widened. In concert with this, information sharing between CRAs needs to become more widespread to ensure financial organisations have the access to all of the data they need.
- Mid-cost lending needs to become widespread: The commercial sector needs to become part of the conversation when it comes to developing new products and services for the mid-cost lending band. It should also be able to assist with initiatives such as the Financial Inclusion Programme to help publicise and market these efforts and expand uptake.
- Communication with vulnerable customers: This needs to be addressed to help lenders manage their debt more proactively. This may see the rollout of pay day and savings mobile applications, for instance, that aim to assist these customers with meeting repayments.
Vulnerable borrowers also need to understand the credit terms and product choices available to them. This is being addressed by the FCA in its ‘High Cost Review’ which will see the introduction of clearer explanations introduced for Buy it now, pay later agreements and a compulsion for Home Collected Credit providers to show borrowers comparative costs associated with other loans and refinance options.
If these issues are dealt with, vulnerable customers can then be given a much wider and more informed choice when it comes to credit while the credit risk associated with this group can be diminished through more effective data sharing for lenders.
Going forward, vulnerable users can and should be empowered by products and services that are flexible and sensitive to customer need. Developing these presents a real opportunity for the financial sector which will soon be in a position to explore the potential of a largely financially disenfranchised cohort.
For the responsible lender, this represents the ideal opportunity to demonstrate how to effectively perform creditworthiness assessment, develop innovative products and services, and to wrap that with the customer service skills necessary to serve a specific market: all attributes that can be used differentiate the business.