The Coalition Government is determined to weaken the protections for borrowers. Not only does it plan to remove responsible lending obligations from most loans, the Senate Economics Committee also rejected changes to Small Amount Credit Contracts (SACCS – commonly referred to as payday loans) legislation. The three non-Coalition members argued to approve the changes.
For some background on SACCS, more than five years ago, then Assistant Treasurer Josh Frydenberg announced there would be a review of the SACC laws. The report by an independent panel was largely accepted by the government and a draft of the legislation was released on 23 October 2017. However, the Bill was never introduced to Parliament by the Government. Rather, an independent member introduced it, later abandoned it (pending the outcome of the Royal Commission) and it was not reintroduced.
On 22 February 2019 the Senate Standing Committee on Economics released its Report on its Inquiry into “Credit and financial services targeted at Australians at risk of financial hardship” recommending reintroduction of the Bill and on 18 February 2019 the Labor opposition introduced a Bill replicating the original draft legislation, which was not successful.
The Bill was reintroduced into the Senate in December 2019 and referred to the Senate Economics Legislation Committee to report back by September 2020. As noted above, that Report recommended that the Bill not be passed, with a dissenting report by the three non-Coalition committee members.
Rather than this ad hoc, ideological approach, the regulation of credit/lending transactions needs a thorough review to ensure appropriate consumer protection for individuals and small businesses. A major deficiency lies in the definition of what constitutes the provision of credit to potentially vulnerable borrowers, and thus whether certain transactions should be covered by existing regulations.
Financiers can avoid regulation by structuring the arrangement to enable fees, rather than interest, to be charged. Yet the effective interest rate can be exorbitant once the cost of the fees is taken into account.
Two examples can illustrate the problem.
Merchant cash advances
Merchant cash advances involve a financier providing finance to a (generally small) business in return for repayment by way of a specified share of sales revenue plus a margin (or fee). Consider, for example, a merchant with typical sales of $10,000 per month. The financier provides $3,000 and the agreement is that 5 per cent of the monthly sales revenue will accrue to the financier until the $3,000 plus a 10 per cent fee (ie $300) is paid off. The expected repayment is $500 per month and the expected completion time would be 6.6 months, depending on sales revenue.
What is the annual percentage interest rate? The fee of $300 is equivalent to an interest rate of 20 per cent for the 6.6 months – an annual rate of around 40 per cent p.a.
That 40 per cent p.a. equivalent interest rate may be appropriate given the various risks the lender faces. These include the uncertainty of the time over which repayment is made, the risk of default if the merchant goes out of business, and the administrative costs involved in small-value transactions.
But it may be usurious. And there is no requirement for the financier to provide information on what the fee equates to in terms of an (expected) annual interest rate. Poorly informed merchants may be paying well over the odds for this form of credit.
Another example arises in the payday lending arena. At least one financier offers individuals the ability to receive funds in advance of receiving their weekly wage, for a fee of 5 per cent. Thus, for example, a person with a regular salary of $1,000 a week may be able to obtain $500. The 5 per cent fee is $25. Therefore, the person would agree to repay $525 via debits from their bank account on the next payday or, say, over the next four paydays.
Again, what is the effective annual interest rate? If payment is over four weeks the average amount outstanding over the month is $250, and a fee of $25 equates to an interest rate of 10 per cent per month or more than 100 per cent p.a.
Again, such an interest rate may be appropriate given the administration costs in small scale lending and possible default risk. Or it may be usurious.
The critical point is not that the effective interest rate is so high. The financier might not be making abnormal profits given the risks and costs involved.
The critical point is that poorly informed borrowers may not fully understand the high cost of the credit they are using, and this can be easily resolved by a simple regulatory requirement. Even in the case of merchant credit, where the term of repayments is uncertain, an “expected” effective annual interest rate is easily calculated.
In the case of residential mortgage loans, there is a requirement to include both fees and explicit interest charges in a published “annual comparison rate”. While that calculation is far from perfect, it is better than nothing – which is what is provided in the examples considered above!
Why is there not such a requirement for the types of examples discussed? In the case of merchants (often individual sole traders) the arrangements fall outside the National Credit Code – which applies only to consumer lending. In the case of payday lending, credit that is sufficiently small in amount and duration and where fees rather than explicit interest is charged is also excluded from the Code.
Some straightforward legislative/regulatory changes could resolve some of these deficiencies, but a full-scale review would seem to be warranted.