The Financial Conduct Authority published its response to Consultation Paper CP18/42 with its High-cost Credit Review: Overdrafts Policy Statement in June 2019. The policy statement confirms the final reforms the FCA are looking to implement to fix what it describes as a “dysfunctional” overdrafts market.
An overdraft facility permits an account holder to pay for items or get access to cash when there are no funds in their account. Where you have an arranged overdraft, you have agreed this in advance with your firm and are permitted to access these funds up to an agreed limit.
The concept of an unarranged overdraft comes in where a customer exceeds the agreed overdraft limit and the firm has permitted the customer to access further funds or where the customer has no agreed overdraft but the firm permits the account to go overdrawn. An unarranged overdraft is completely at the discretion of the firm – it can decide whether to allow the further access to funds or not.
This current policy statement is published against a backdrop of regulatory interest into the overdrafts market. Following a number of initiatives by the Office of Fair Trading, the FCA first commissioned research into credit cards and overdrafts in 2014 which showed that the costs associated with overdrafts was complex and that customers didn't generally see overdrafts as debt – this introduced the "my money" mentality highlighted by arranged overdrafts being included in the funds available to customers.
The Competitions and Markets Authority then picked up the reins in the overdrafts race and included a review as part of their retail banking market investigation where a number of measures were brought in as part of the order to try to address the competition imbalance. In 2016, the FCA then looked at the market again and focused on the consumer protection elements of overdrafts. The High-cost credit (including review of the high-cost short-term credit price cap) (FS17/2) was published in 2017 and again set out a number of measures and an undertaking to continue to review the market.
The current policy statement is the next chapter of the overdrafts review and it is clear to see why it is still a focus of the FCA's work. The policy statement opens by noting that in 2016, more than 50% of firms' unarranged overdraft fees came from just 1.5% of customers. It further added that in 2017, firms made £2.4 billion from overdrafts with 30% of that figure being attributed to unarranged overdrafts.
Through the next stage of reforms, the FCA expects that the typical cost of borrowing £100 on an unarranged overdraft will drop from £5 to around 20p per day. This reduction is a welcome change from customers but it creates a huge gap in projected income for the banking industry.
Aside from the cost saving, the FCA are seeking the following outcomes from the reforms:
- Charges will not only be reduced but will be directly linked to the amounts borrowed and length of time;
- The single charge application will allow customers to better understand the cost of different overdraft products and be able to compare them to other credit products; and
- Increased engagement between firms and customers to target repeat use of overdrafts.
Following the introduction of persistent debt measures by credit card providers in September last year, the FCA has now introduced similar measures for overdraft repeat use users. Through these measures, they expect firms to engage with customers who repeatedly use their overdraft facilities and have set out a framework that must be followed.
From 18 December 2019, the new CONC 5D.2 will require firms to monitor and periodically review their repeat use customers. Whilst there is no definition provided as to what constitutes a repeat use customer, the FCA has noted that if a customer remains overdrawn in every month over a 12 month period, it is likely that that customer will have established a repeat use pattern.
Firms must therefore create their own definition of repeat use and include policies and procedures to monitor accounts. Upon identification as being a repeat use customer (and where it is likely that pattern will continue even though there are no signs that the customer is in actual or potential financial difficulties), the firm must follow a process of interventions:
- Stage 1 includes communicating to the customer to highlight the pattern of repeat use and asking the customer to assess whether it is or might result in high avoidable costs.
- Where the customer continues the pattern after a reasonable period of time (there is no prescribed period) then stage 2 requires the firm must send a reminder to the customer.
- Stage 3 requires the firm to continue to monitor the pattern of use and remind the customer at least annually until the pattern of use ceases.
Where the Firm suspects that the relevant customer has potential or actual financial difficulties, the firm must communicate with the customer in stages (similar to the stages above) but each stage has some additional steps:
- During stage 1, the notification should also encourage the customer to get in touch with the Firm to discuss the situation and include details of not-for-profit debt advice bodies.
- If after a month following stage 1 the customer has not contacted the firm, the firm must take reasonable steps to contact the customer to discuss their situation. If it appropriate to do so following this discussion the firm must (i) identify and set out options designed to help the customer reduce their overdraft use and address their actual or potential financial difficulties and (ii) explain that if the customer fails to engage, that there will be consequences such as the suspension, removal or limitation of the overdraft facility.
If the customer does not engage with the firm, the next step is for the firm to implement its process to consider whether they should actively suspend, remove or limit the overdraft facility. However, firms are not permitted to do this where the action would cause financial hardship to the customer.
This concept puts a lot of responsibility on firms to fully assess the circumstances of each customer and the possible consequences of any action on them too. This type of process looks set to be a manual assessment rather than something that can be mass processed/automated.
Refused payment fees
An important element of the policy statement is the guidance that the FCA are appending to the Finalised Guidance: Payment Services and Electronic Money – Our Approach document. This guidance will ensure that refused payment fees are more fairly calculated.
The revised guidance (which has immediate effect) is intended to provide a framework of principles which dictates which costs are legitimate and can be used in the cost calculation. The guidance also reiterates that Payment Service Providers should not profit from refused payments as any incurred fees should corresponded to the actual cost of refusing payments. This guidance has immediate effect and must be adhered to by all payment services providers.
Other key changes
In addition to the prevention measures introduced by the repeat use processes and the refused payment fees guidance, a number of other changes will be implemented from 6 April 2020:
- a ban on higher charges for unarranged overdrafts (than for arranged ones);
- a ban on fixed fees for borrowing through an overdraft and fees for having an overdraft facility, so the charges to customers are directly related to the amounts borrowed and the length of time they borrow for;
- requiring pricing of overdrafts to be done by a simple annual interest rate, without fixed daily or monthly charges; and
- requiring arranged overdraft prices to be advertised in a standard way with an APR.
Whilst the reforms will significantly shake up the overdrafts market, the FCA does not expect the changes to greatly reduce access to unarranged overdrafts, as it believes firms’ margins will remain positive creating a continued incentive to lend.
This remains to be seen but the removal of core income from firms could lead to firms trying to clawback the fees elsewhere. Possible unintended consequences could see higher current account charges or tighter lending criteria. The good news is that the FCA plans on reviewing the impact of their amendments but the bad news is that they do not intend starting this until at least April 2021. For now, therefore, it’s a case of wait, see, watch and learn.
This article originally appeared in Compliance Monitor