Damian Hinds is Member of Parliament for East Hampshire and chairs the all-party parliamentary group on credit unions. Damian welcomes government support to modernise credit unions – to extend affordable, responsible credit and promote a savings culture. Follow Damian on Twitter.
We may have record low interest rates but not for everyone. In the sub-prime, high cost credit market, APR percentages generally stretch to three digits, and sometimes four.
This is bigger business than you might think. The leader in home credit claims to be making its weekly calls on 1 in 20 UK households. Payday lending now totals around £2bn a year.
With big revenues come big budgets: witness the network of over 10,000 home credit agents, and the omnipresence of loan ads (and debt ‘solutions’) on daytime TV – generally stressing how much you want rather than what you can afford.
Though saving up is generally a better idea than borrowing, credit is also a fact of modern life that helps smooth over the financial bumps – childbirth, Christmas, back-to-school. But mainstream credit is unavailable to many, and the sky-high interest rates so many end up paying mean wages or benefits go less far, and relationships come under strain. Once in the debt trap, it can be very hard to get out – bad news for social mobility and tackling poverty.
The simplistic answer politicians on the left frequently espouse (though don’t actually do when in government) is just to cap the interest lenders can charge. This would be a mistake for three reasons: first, clever lenders would find other non-interest ways to make their money; secondly, some customers – especially the poorest and those needing the shortest-term finance – would be excluded from the (legal) market altogether; and thirdly, as a result, we would seem a renewed boom for unlicensed illegal loan sharks – the sort of lender whose idea of a late payment penalty is a cigarette burn to the forearm.
Instead, what we need are realistic alternatives.
Credit unions are owned by their members – local savers and borrowers. They charge a fair rate of interest and at the heart of their ethos is the encouragement of saving and responsibility.
Over the last decade credit union membership in Britain increased by 225%. This is huge growth but credit unions here still only have market penetration of under 2.5% compared to over 40% in the US and Canada (in Northern Ireland it should be noted the penetration is much higher than mainland Britain).
There is potential for much more growth, and this is potential that the government clearly recognises. But to reach it, credit unions need to modernise and follow a tightly-disciplined plan towards self-sustainability.
A long-awaited Legislative Reform Order was finally carried through Parliament in the autumn. Among other things it allows strong credit unions to grow beyond their originally-defined territory; opens up membership to organisations as well as individuals; and permits a pre-set interest rate on savings rather than just a ‘divi’ from the year-end surplus.
The DWP have also held out the prospect of a cash investment of tens of millions of pounds, tied to modernisation of the sector. The kind of modernisation needed is laid out in a report last week. It emphasises the need for a more balanced customer base, more co-operation between credit unions, and a sector wide ‘professionalisation’ with better use of automated processes and IT systems.
Also under consideration is a move to increase the current cap on the amount of interest credit unions can charge on a loan. Ironically, credit unions are the one part of the consumer credit that do have an interest rate cap. At the moment it is set at 2% a month on the declining balance of the loan, equivalent to an APR of 27%. That could be raised to 3% a month, or 43% a month in APR terms, for certain types of loan. It may seem like a big jump but of course there is still a big gap between 43% and the 300%, 400% or much more that high-cost lenders charge.
Moreover, if credit unions are to offer a real alternative in a sustainable way, they need to be able to cover their costs. At 2% a month it just isn’t mathematically possible to operate in certain parts of the market – the smallest amounts and the shortest terms.
The UK subprime credit market is worth in the region of £10bn, and it is there partly because there are many people who have nowhere else to turn. The best way to reform the industry is with competition – realistic alternatives – and the Government want to set credit unions free to do just that.
Credit unions can be a great agent of change for those locked out of High Street banks and mainstream credit cards. They can provide a path back to financial health for those who want to change their circumstances, not just offering access to credit but working with organisations like Citizens’ Advice to help people make better-informed decisions and form lasting good habits. As many credit unions require people to build up a small savings account while paying back their loan, they can help re-build a British savings culture, too.
Why not open a savings account with your local credit union? Your savings are fully protected, as in a high street bank, and will be used to make affordable, responsible loans to others in the local community.