Fringe Lending in Australia An Overview

Transcription

1 Fringe Lending in Australia An Overview February 2008

2 Introduction NAB has commenced a program to shed some light on the fringe lending industry with an industry participant The aim is to prove the viability of what it costs to deliver a break-even small loan by having a breakeven product in the market as a commercial proposition. Loans will be offered in the range of $1000 to $5000 at the lowest possible interest rate to recover costs The loans form part of NAB s leadership and product innovation for providing fair and affordable credit to disadvantaged & financially excluded groups This report provides a summary of publicly available information on Fringe Lending in Australia 2

3 Scope Regulations in each State Main players & their economics Typical terms for Fringe Lenders Academic or Policy research Benefits" of Fringe lending Comparison of Lending rates across Industry Contents Executive Summary.4 Snapshot..5 What is Fringe Lending? 7 Market Size Benefits/Criticism Profile of Borrowers/Lenders Typical Terms Examples Regulations.16 Major Players..20 Cash Converters Amazing Loans Cash Stop Bibliography 26 Appendix 1: Community Development Finance.. 27 NAB Step-up Loans ANZ Progress Loans Appendix 2 State Regulations

4 Executive Summary The providers of credit in the credit industry can be divided into mainstream credit providers and fringe credit providers. The former are made up of banks, building societies, credit unions and national finance companies. The latter refers to all those credit providers on the fringe of the credit industry, such as payday lenders, providing small personal loans, usually for amounts up to $5000, often to people excluded from access to mainstream personal credit. Fringe lending is a fast growing part of Australia's financial services landscape. Fringe lending is typically accessed by low income customers who are excluded from borrowing from mainstream lenders due to income level, urgent need of funds or failure to meet credit standards of banks. Interest rates are regulated in some states to an annualised percentage rate of 48% which may or may not include fees. Interest rates in the hundreds of % are not uncommon where rates are unregulated. This has lead to criticisms about the predatory nature of the fringe lending market and its ability to add to the financial difficulties of people on low income. The industry itself however points to the essential service that is being offered in the absence of any other alternative. Either way there is a lack of transparency around the costs and interest rates charged by fringe lenders in Australia. A key area of contention that remains is what is a commercially viable interest rate for small loans in the fringe lending market. 4

5 Snapshot What Is Fringe Lending? Profile Benefits/Criticisms Credit providers on the fringe of the credit industry such as payday lenders. It includes: Pay Day Loans Small amounts of money; <$1000 Loans for <62days, generally until next payday or welfare payment Very high interest rates (e.g. 48% to 1000%) High fees Small Personal/Other Loans Generally loans between $1000 to $5000 Interest rates around 48% plus High fees Around 1 year terms Thriving business, with Market Size of approx. $800 million Services borrowers with poor credit history and no access to mainstream lending Caters for those with an urgent need for funds for consumption purpose, or to manage day to day expenses Majority of players are small operators Benefits: Important, legitimate source of finance for financially excluded community Faster and more accessible loans Criticisms: Exploitative interest rates Fuels a debt spiral 5

6 Snapshot Typical Terms Regulation Other Trends Loans can be secured or unsecured; secured by car, jewelry, electrical goods. Loans can range between $100 to $5,000 with a fixed fee and term ranging between one week to one year. Rollover facilities are also provided at a cost of 15%-25% of amount advanced. Most of the payment is made through direct debit. Account keeping charges range from $2-$25. Loan default charges range from $20-$55. Termination Fees are also a common feature. Establishment Fees are charged as a percentage of loan. Most fringe lending is now covered by the Uniform Consumer Credit Code (UCCC), however, in the past this industry was not very highly regulated, and some lenders still continue to use loop holes to avoid the UCCC. Interest rate caps imposed only in NSW, Victoria, and the ACT. Consumer advocates are pushing for federal regulation and the introduction of a national interest rate cap. Challenge for regulators lies in creating commercially viable, non exploitative, short term cash options for vulnerable consumers. Prices of small loans are likely to come down once sophisticated lenders enter the market and become more efficient and competitive. 6

7 What is fringe lending? Fringe lending is defined as any lending from credit providers on the fringe of the credit industry, such as payday lenders, providing small personal loans, usually for amounts up to $5000, often to people excluded from access to mainstream personal credit. Essential features include: Loans concern themselves with amounts or people not considered "bankable". Products and services are offered by commercial entities, on a for profit basis. Typically high interest rates - to cover the suggested costs and to justify the risk of the loan. The products in this market can also be more specialised and flexible, and include small, short-term loans, payday loans, rent-to-own arrangements, and other products. Requires less paperwork, and less hassle than a typical bank loan. Fringe Loan Market Payday loans Chattel loans Personal loans Short-term loans Small Consumer loans Title loans 7

8 What is fringe lending? Pay Day Loans Payday loans are tailored to immediate personal needs. Loans below $1,000, normally <$300 Short term (1-2 weeks or <62 days) advances until the next payday or welfare payment. Typically based on a fixed price (fees) rather than an interest rate that builds over time. Fees when converted to effective interest rates are typically very high and can go up to 1000% or more. Typically, borrowers confer direct debit authorisation to lenders, substantially reducing default risk which ranges between 2-3%. Small Personal/Other Loans Typically small loans to cope with immediate problems or purchases Loan Amount : $1,000-$5,000 + Medium Term Loans (1 to 2 yrs) Can be secured or unsecured Interest rates are between 24% to 48% p.a. Establishment Fee: $15 - $450 Weekly Account Keeping Charges : $2-$25 Typical transaction Consumer borrows $200 to be repaid within 14 days for a fee of $50 (i.e. 650% p.a.). 8

9 Market Size The fringe lending market is a thriving business in Australia, and growing rapidly. Market Size: Currently, annual turnover estimates for the industry range from between $500m and $800m*, however, due to the undefined nature of the industry, there is no concrete evidence on the market size. It was estimated that in 2000, there were 150 outlets with a total of approx. $200 m in outstandings. Emergence of new players: Anecdotally more and more players are surfacing to compete in the market. Prices of small loans are likely to come down once sophisticated lenders enter the market and become more efficient and competitive. *Jane Searle, Cash in Demand BRW August 23-29, 2007, p

10 Benefits of fringe lending as stated by the industry Meeting low-income consumer needs: Consumers with poor credit history and have short-term, urgent financing needs and no access to mainstream lending. A legitimate, easily inspected and regulated source of credit, as opposed to an underground, black market or criminal supplier, who would be the only alternative. Fringe lenders are faster, more accessible and provide very personalised and professional services. Fringe lenders provide friendlier services: Clients speak of being treated with dignity and respect regardless of their financial situation. Supporting consumers who are wary of credit cards: Some of the consumers prefer the financial security of borrowing a fixed amount, for a fixed term, with fixed repayment arrangements. Clear and concise paper work detailing all repayment information in an easy to read format, in accordance with the Uniform Consumer Credit Code. 10

11 Criticisms of fringe lending as put by consumer advocates Very few consumers utilise fringe credit for a lifestyle or asset building purposes; fringe loans are used to buffer shocks created by large bills and to meet ordinary household expenses. Fringe lenders do not always, fully and frankly disclose the terms and conditions of the loan. Fringe lenders use direct debit for recovering payments and if these are not honored, banks charge fees for it ($35 generally) aggravating problems for short term borrowers. Consumers are paying up to 63 times more for credit than mainstream borrowers. This is despite negligible default rates and lenders propensity to extend loan commitments. Consumer advocates argue that high loan costs exploit low income groups and further create a debt trap. The inability to repay due to financial difficulties, worsened by the high cost of credit, means that debtors are forced to rollover their loans or borrow back-to-back, and incur further fees and charges. One study has shown, 65% of consumers surveyed had taken out more than 1 payday loan and the avg. no. of repeat loans taken out by consumers was 6 over 12 months.* *Dean Wilson, Payday Lending in Victoria A research report, Consumer Law Centre Victoria, July, 2002, p

12 Profile of Borrowers/Lenders Borrowers Working poor/low and fixed income groups: Consumers are typically from low socio-economic groups or financially excluded, with an urgent need for funds, and do not meet the credit standards of banks. Major Reasons for borrowing could be: Insufficient income to cope with living expenses and/or negative shocks to their budget e.g. funds to cover emergencies, or day-to-day expenses and bills or to manage other debts and repayments Prefer Fringe Lending to other forms of credit (fringe lenders are faster and more accessible) Engaging in addictive behavior Debt trap created by rollovers and multiple loans - Most borrowers roll over their loans a number of times, each roll over adds more exorbitant charges. Pawn-broking customer base: Another view among consumer advocacy groups and financial counselors is that fringe loan consumers come from the pawn-broking customer base. The fact that Cash Converters, who were initially pawnbrokers, now offer fringe loan services, lends strong support to this claim. Lenders Majority of players are small operators: While companies like Amazing Loans and Cash Converters are publicly listed, the bulk of players operate as small, privately owned businesses. Regional concentration: Located in poor neighborhoods, and target low-income earners. The bulk of the industry, and the most exploitative lenders, are said to reside in Queensland, where there is no interest rate cap. 12

13 Typical terms of fringe lending Loan and condition terms might include interest rates, fees, charges and repayment schedules. Typical Features of Products Loans range from as little as $50 to $5,000+ Either secured or unsecured. Can be secured by anything of value, including jewelry, cars, furniture and electrical goods. Fixed fees applies to most loans. E.g., $30 for every $100 advanced. Charging interest is common, but not universal. Loan terms range from one week up to a year. Storage fees may apply for larger items held as security. Loan default charges include forfeiting goods, or charges ranging from of $20 to $55. Some include daily charges of $1.57 per day, or even a fixed default rate of 48% p.a.. This fixed rate does not include bank fees. Some lenders offer discounts on fees if loans were repaid early. A minority of lenders offer rollover facilities costing between a fixed $15 rate and 25% of the amount advanced. Direct Debit is often used to repay loans. Annual membership fees often apply, ranging from $5 to $50. Loan establishment fees range from $15 to $450, or even a percentage of the loan value, for each loan. Termination fees include charges of up to $2,000, depending on loan amount, or 90 days interest on the original amount. Weekly account keeping charges range from $2 to $25. 13

14 Example of a fringe lending personal loan Lender Location South-East Queensland Date of Contract January 2005 Amount of Credit $ Annual Percentage Rate Total amount of interest charges payable 240% p.a. Note: The rate is applicable if amount of credit is borrowed for a period of 12 months $15, for the agreed term of loan Repayments The agreed repayment installments are 52 fortnightly payments of $ For a total of $19, Repayments to be made by direct debit Term of Loan From 07/01/2005 to 03/01/07 Membership Fees Loan Approval Fee Lodgement Fee $90.80 Production Fee Other settlement Service fee $25 paid one annually and renewable each year Not ascertainable Not ascertainable Not ascertainable Dishonor Fee For cheques up to $10 Bank Cheque Fee Up to $10 Duplicate Statement Fee Up to $5 Default Rate 18.41% until the loan is paid in full Source: Griffith University - High Cost Loans: A Case for Setting Maximum Rates? 14

15 Why fringe lending can be more expensive than mainstream lending Fixed Cost of Providing Loans The fixed labour and operating costs associated with providing a small loan are the same as those for providing a large loan. With a larger loan principal, the lender can recover costs and earn a profit by charging a lower Annual Percentage Rate over a longer period of time. Short-term loans must however charge higher rates of interest over short payback periods in order to cover the cost of the given loan and be profitable. Smaller loans cost more per dollar borrowed than larger loans even when the efficiencies of an online-only organisation are considered. The Short Term of the Loan - Convenience and Bulk Discounts A demand curve is negatively sloping meaning that as demand increases, the price of a given product falls and suppliers enjoy economies of scale. The demand for credit is no exception. High income households demanding larger quantities of credit enjoy a quantity discount while lower income households will pay a premium. The Inherent Risk Associated With Providing Unsecured Loans The fringe lending industry is riskier than most other financial ventures and entrepreneurs must recover their investments and earn a positive return. According to Ian Day, General Manager, Cash Converters, Most customers find it a very valuable service and if rates are capped, it will cease to exist. Hence prices are necessary to cover costs. * *Jane Searle, Cash in Demand BRW August 23-29,

16 The role of the Uniform Consumer Credit Code Introduction Applicability Provisions The Uniform Consumer Credit Code (UCCC) has been implemented as a Schedule to the Consumer Credit (Queensland) Act 1994 adopted by all Australian States and Territories by passing the legislation implementing the same in their jurisdiction.* As per the Explanatory Memorandum to the UCCC,the main focus of legislation is truth in lending i.e. focus on disclosure, documentation and communication with borrowers. In the past, the UCCC was not applicable on loans for less than 62 days, however, following the enactment of the Consumer Credit (Queensland) Amendment Act 2001 and similar legislation passed in the other States and territories, loans for less than 62 days are now covered under UCCC - If fees and charges exceed 5% of loan amount - Interest rate exceeds 24% p.a. Until recently the fringe sector had utilised the "bill facility" exemption under section 7 of the UCCC, and therefore any interest rate caps, did not apply. This exemption is no longer available following the enactment of the Consumer Credit (Bill Facilities) Amendment Regulation (No 1) 2007 (Qld) and similar regulations adopted in other States. The exemption for bill facilities now only applies to credit for business purposes - the UCCC applies whenever a bill facility is extended for personal, domestic or household purposes. Provisions of UCCC require the credit provider to disclose all relevant terms and conditions including annual interest rates before entering into a contract and ensure that borrowers receive adequate copies of loan documentation. There is also a requirement of disclosure of annual interest rates in advertisements. * Griffith University; High Cost Loans: A Case for Setting Maximum Rates? A Centre for Credit and Consumer Law Background Paper Nicola Howell, page 7 16

17 Summary of State Regulations in Australia The UCCC operates at a Federal level accepted by all the states and territories in Australia. It focuses on truth in lending leaving the non-uniform matters including the cap on the interest rates to be regulated by specific State laws. Courts are given power to re-open the cases of unconscionable interest rates and charges. The individual state laws are as follows: State/Territory Maximum APR* prescribed by regulation Inclusion of other fees and charges in calculation of APR for the purpose of determining whether the maximum APR has been exceeded Inclusion of other fees and charges in calculation of APR for the purpose of disclosure of APR under section 15 of the Code Queensland 48% Yes Yes New South Wales 48% Yes Yes Australian Capital Territory 48% Yes Yes Victoria 30% for mortgages,48% for all other credit contracts covered by the UCCC South Australia No NA NA No No Western Australia No NA NA Northern Territory No NA NA Tasmania No NA NA *APR= Annualised percentage rate 17

18 Critical analysis of legal framework No Impact of Interest Rate and Other Disclosures It has been recognised that those who are attracted to fringe lending are vulnerable consumers with no access to mainstream credit due to factors like unemployment or poor credit ratings. This leaves consumers with no choice to borrow, and disclosure of interest rates has limited impact on their decision to proceed with loan. This low income group is ready to borrow money from any source that is willing to lend to them. Availability of Funding for Civil Action is Limited Research shows that low income consumers are unlikely to take legal action in relation to loan disputes, on the basis of factors such as cost, a sense of powerlessness and a fear of acrimonious disputes. The ability of borrowers to bring applications to the court under the UCCC is limited. The UCCC is a form of private law regulation, relying on consumers to act to protect their own interest. Avoidance of Regulation The regulatory framework is not uniform in all the states as the only federal regulations regulating the pay day lending is the UCCC, which does not provide for non uniform matters which include capping of interest rates and charges. There are also state specific provisions, which include Victoria where there is a cap on interest rates, but not charges. A loophole that might still be used by unscrupulous lenders - obtaining a business purpose declaration from a borrower stating that the loan is for business purposes, so that under section 11 of the UCCC, the UCCC does not apply. 18

19 Implications of a national interest rate cap (48%)? There are proposals for a national interest rate cap. The implications of this would be: Industry players see it as a threa to their growing position in the fringe lending market. If rates were capped, the industry believes it would make many businesses unviable. As a consequence, lenders may look for alternate ways of providing the service. One way of doing this is through broking arrangements, and use of negotiable instruments such as promissory notes. Presently, legislators do not know what interest rate is commercially viable due to the lack of empirical data on the industry s cost structure. Payday lenders assert that a $200 loan for one month would take 45 minutes to approve, with a 48% per annum cap, would generate a maximum return of $8, which would be unviable. The same cannot be ascertained for loans of higher amounts such as $1,000 etc. 19

20 Fringe lending: major players Cash Converters Amazing Loans Fast Access Finance Money Plus Cash Plus Q Loans Cash Doctors Cash Stop City Finance Key Features Mostly unlisted, except for Cash Converters and Amazing Loans General lack of transparency of key economics Lack of published interest rates Located in poor neighborhoods, targeting lowincome earners. The bulk of the industry, and the most exploitative lenders, are said to reside in Queensland, due to a no-interest-cap situation. Big players have presence all over Australia through shop fronts and agents. Most of the players are now offering online solutions for regular customers. 20

21 1. Cash Converters (CC) One of the best known short-term lenders in Australia. Currently has 135 outlets in Australia and is seeking to expand its eight store network in NSW. Key Acquisitions On October 13, 2006, CC acquired MON-E Pty Ltd, which is engaged in back office support for Cash Converters franchisees short term cash advance activities. Provide loans through MON-E. On September 29, 2006, it acquired Safrock Group, which is engaged in the provision of secured and unsecured personal loans. A Safrock contract shows a 6 month loan for $1000, charged an additional $856 including interest and fees. Average Contract: Average Safrock loan is $1500 with a total fee of $926 over 6 14 months. Mostly customers are in the income bracket of $20,000-80,000 p.a. In NSW, where rates are capped at 48%, Safrock operates under a promissory note arrangement (bills of exchange and promissory notes fall outside the interest rate cap). CC also has a cash advance business which offers loans of about $250 for one month. Acc. to CC this business would be unviable if a cap was enforced. CC has stores that offer second-hand goods for sale, where you can request such a loan or you can call them using their 13'CASH' toll-free number. Callers using this service will be referred to a store closest to their postcode.* Future Strategy: As a result of the NSW cap, CC, has indicated that they will only offer small short-term personal loans in Queensland, Victoria and Western Australia, avoiding NSW on the basis of the new cap. Goal: As stated by CC, there is a huge market for short term cash loans, and with its distribution network, it is ideally placed to become the biggest provider of short term cash loans in Australia. *Primary research carried out by Infosys Australia employee, while visiting CC office in Victoria 21 Origin & Reach Originated in Perth, Western Australia, in 1984 founded by Brian Cummins and a group of partners. International expansion includes: UK in 1992 an operation that expanded to 105 stores by New Zealand (1993, now 27 stores), South Africa (1994, 57 stores), France (1994, 23 stores), Canada (1995, 24 stores), Spain (1995, 34 stores) US (1994, 10 stores) Malaysia (4 stores) followed Business Model Cash Converters International Limited is engaged in the franchising of second hand and financial services stores operating under the Cash Converters name. Country franchise licenses are also sold to sub-franchisers to allow the development of the CC brand. The Company has two business segments: Franchising : Involves the sale of franchises for the retail sale of second hand goods and sales of master licenses for the development of businesses outside of Australia. Financing: The financing segment provides loans to franchisees within Australia.

22 MON-E Loans Features and Performance of Product Offered The amount advanced is usually in the range of $50 to under $1,000, with a loan term of not more than four weeks. The loan is essentially unsecured, with the customers regular income as the asset to secure the loan. The paperwork takes about minutes to complete, assuming you have the supporting and mandatory paperwork The average amount loaned is approximately $500-$600, the only way you'll be granted $1,000 is if you earn more than $100,000 annually. Hence the loan does not usually exceed more than 15% of the customers monthly income. The funds can be approved if you provide evidence of income and the usual 100 points of identification. Alternatively, one can offer 'Cash Converters' an asset that is at least thrice the value he intends to borrow or get a cash advance for. The fee charged for providing the advance is 35% (flat) of the principal advanced. The fee is not time based and compensates the lender for the high risk and no security nature of the loan. The money borrowed is directly debited from ones account and this debit is done based upon the frequency of the pay cycle (weekly, fortnightly or monthly) There is annual system retention fee of $11.00 Failure to pay based on the agreed frequency warrants a penalty of $16.50 for each and every late payment.* 2006 (ended 30 June) 2007 (ended 30 June) Total number of loans 439, ,590 Total principal loaned $103,037,193 $124,567,170 Average loan amount $234 $256 Customers 154, ,325 *Primary research carried out by Infosys Australia employee, while visiting CC office in Melbourne 22

23 Safrock Loans Features and Performance of Product Offered Secured and unsecured personal loans in the range of $1,000 to $10,000. The unsecured loans range from $1,000 to $2,000, usually have a term of between four to nine months. The secured loans range from $2,000 to $10,000, usually have a term of between one to two years (ended 30 June) 2007 (ended 30 June) Total number of loans approved 10,317 16,102 Total number of customers 6,115 9,965 Total value of principal advanced $15.0 million $23.5 million Loan book $8.5 million $12.8 million 23

24 2. Amazing Loans Business Model: The Company is engaged in providing broker facilities to residential mortgages, private equity funding, funds management, financial planning and loans. Reach: The Company operates from 24 branches located in Sydney, Melbourne and Brisbane Acquisitions: As of June 8, 2007, the Company acquired the businesses of Investment Evolution Limited. Amazing Loans was previously engaged in providing consumer finance in the Australian fringe lending market. Subsequent to the acquisition of Investment Evolution Limited and its controlled entities, the Company had expanded in activities to include Broker facilities for Residential Mortgages Private Equity Funding Funds Management Financial Planning Loan Amounts and Repayment Terms During the reporting period 2007, Amazing Loans refined its lending criteria and the parameters are now Loans from $2,000 to $20,000 Loan Repayments over 4 years on a weekly basis There have been cases reported where interest as high as $6,437 has been charged for a $4,000 loan, and $1,192 for a $750 loan. Interest Rates Interest rates in the loans provided by Amazing Loans, in all states and territories, are regulated by various departments in these States and departments. During the reporting period, Amazing Loans, elected to standardise its interest rates across Australia to a maximum of 47.9% including all fees and charges. Cost of Loan Capital Effective from 1 July 2007, Amazing Loans negotiated a reduction in its loan capital borrowing rate from 14.5% to 10% per annum from Ron Medich Properties Pty Limited. Focus area: Due to NSW interest cap, the Company would focus on opening branches in other states, which do not currently have similar restrictions. 24

25 3. Cash Stop Cash Stop claims to be an industry leader in the alternative financial market. Cash Stop has 31 branches located throughout Sydney, Melbourne, Canberra and South Australia. It has also its agents throughout Australia. Products Offered Cheque Cashing Pay Day Lending Term Advance Settlement Loan Bond Advance Personal Loan Terms Advances range from $1,000 to $4,000 Period 3 months, 6 months, 9 months, 12 months for pay day lending Period of 90 days for term lending Requirement: Stable Employment History Photo I.D. Current dated bank history/statement covering 8 weeks Proof of Address Land line telephone or mobile Most recent pay slip Other terms and conditions including interest, fees and other charges are not disclosed Car Loan Business Loan 25

26 Bibliography Joint Consumer Submission, Ministerial Council on Consumer Affairs, Discussion Paper on Long Term Regulation of Fringe Credit Providers, October 2003 Wilson, Therese, The inadequcy of the current reulatory response to payday lending, (2004) 32 ABLR 159 Wilson, Dean, Payday lending in Victoria - A research report, Consumer Law Centre Victoria Limited, July 2002 Queensland Office of Fair Trading 2000, "Payday lending - A report to the Minister of Fair Trading", QOFT, Brisbane Field, Chris, "Pay Day Lending - An Exploitative Market Practice", (2002) 21 (1) Alternative Law Journal 36 at 37 Howell, Nicola, High Cost Loans: A Case for Setting Maximum Rates?, 2005, Centre for Credit and Consumer Law, Griffith University Willis, Frances, "Pay day lending: the case for regulation of the fringe credit market: Parts 1, 2 and 3", (2005) 27(7), (8) & (9), Bulletin (Law Society of SA) Jane Searle, Cash in Demand, BRW, August 23-29, 2007, p Consumer Affairs Victoria website - NSW Fair Trading Office website - Queensland Office of Fair Trading website - The Ramifications of regulating Payday Lending in Victoria Presenter: Roger Ouk MISC Australia Consumer Credit Report June Prepared exclusively for the Department of Justice Consumer Affairs Victoria

27 Thank You The contents of this document are proprietary and confidential to Infosys Technologies Ltd. and may not be disclosed in whole or in part at any time, to any third party without the prior written consent of Infosys Technologies Ltd Infosys Technologies Ltd. All rights reserved. Copyright in the whole and any part of this document belongs to Infosys Technologies Ltd. This work may not be used, sold, transferred, adapted, abridged, copied or reproduced in whole or in part, in any manner or form, or in any media, without the prior written consent of Infosys Technologies Ltd.