High cost loans, such as payday loans, logbook loans, and leasing with an option to buy, are very taboo topics and often the ones people don’t like to talk about.
But with 3 million Britons and 12 million Americans using high-cost loans or “micro-loans” to overcome them each month, they represent an important anti-poverty measure and a vital role in society. The US government is currently the subject of a wide debate over whether or not to cap lending rates.
There is huge controversy over the pricing of loans, especially payday loans, with payday loans in the UK costing around 1000% APR and around 500% to 600% APR in the US. There is a percentage of borrowers who find themselves unable to meet repayments and fall into a debt spiral.
We are often reminded that the APR is used for an annualized product and that is not realistic for a product that only lasts a few weeks. Additionally, loans are unsecured and are often made to people with bad credit ratings, so the rates charged reflect the potential risks involved.
In the UK, a price cap was introduced on January 1, 2015 by the regulator, the Financial Conduct Authority, setting a cap of just 0.8% per day. Six and a half years later, we are seeing all the effects.
There was a huge exit from the industry quickly, with companies unable to make their new business model work. With more than 200 lenders in 2015, they are now less than 20.
While over 10,000 people could have been employed in the UK payday lending industry in 2015, today that figure is likely well below 1,000.
“The price cap in the UK was definitely good for consumers,” says David Beard, founder of Lending Expert.
“Products like payday loans and unauthorized overdrafts are very expensive and sometimes used by the most vulnerable. Providing more affordable credit and helping them get back on their feet is certainly a good thing. “
Meanwhile, in the United States, 18 states have already imposed a 36% price cap, which is very low given that micro-lenders need around 140% APR to maintain a profit.
However, there are very recent conversations within government to increase price caps in other states including Texas, California and Nevada which are the most important areas.
Some lenders are able to get around these price caps by implementing “bank lease” programs, which means you can partner with an established bank to bid above this price cap.
“A price cap would be good for society as a whole, but it should probably be rolled out slowly to allow businesses to change their business model and borrowers to find healthy alternatives.”