Your Responsibility in Lending and Your Responsibility in Borrowing
- 4th October 2018
- Posted by: Loanable
- Category: Resources
To some it is a big deal, to others it is just a matter of course, business as usual, and for some it is a once in a lifetime event!
What is it…..taking out a loan.
You may ask yourself, how is getting a loan a “big deal”? Then you may be in the category of business as usual, you may borrow money regularly either for your company or personal use.
And there are those that accessing credit, taking out loans is a part of their day-to-day work. Many companies have lines of credit, similar to overdrafts that they access/use each week, month, or even daily.
Companies rely on sales and invoicing clients, and then being paid on those invoices. Payment on invoices does not always come in when you, as a company, may have bills to pay, wages to pay, or stock to purchase.
So you have a line of credit you use. And when the invoices are paid and the money comes into your account, you pay down or off the line of credit.
These lines of credit are loans, albeit loans you may access and pay back on a very regular basis, but loans just the same.
Then there are those that may need a loan, their first loan ever, and they are unsure of what to do, or how the process goes. They fall into the “big deal” category.
That is why there are guides available to help those that are not as experienced in borrowing money, and getting loans.
Guides on the terms and words/verbiage that are used in lending and borrowing money. These may be terms we don’t use each day, so we are caught unaware about what they mean, which again only makes getting a loan a big deal.
Guides on credit reports and credit scoring. Not everyone knows what a credit score is, let alone their credit score.
Then there are the types of loans available, so many of them! How to know which one is right for you?
If there were only a “recipe” to know it all when it comes to loans:)
But there are guides, tips to be shared, all to aid in bringing up our knowledge of loans, and to try and make the big deal, not so big.
However, even with all this, there can still be two (2) big deal loan moments in our lives, getting our first credit card, and buying a property, our first home and needing a mortgage.
There is something about these two milestones of borrowing history, and lending history for that matter, that are big deals!
When you buy a property and need a mortgage, you as a borrower are seriously reviewed by the lender. The bank or mortgage company does a through vetting or due diligence process to establish you can afford to repay the loan/mortgage, and also that the property is worthy of the loan.
Credit cards are similar, not that they are as large a loan, but they are unsecured, no collateral on the loan. A lender is in essence saying to you, here is a piece of plastic you can use as cash almost anywhere, we’re giving you a (insert amount here) credit limit, use it to buy what you want.
Of course as a higher risk type of loan, the lender is going to try and limit their risks. Things such as higher interest rates than many other forms of loans, and having to pay monthly payments based on a minimum amount related to the balance on the account, all help in moving forward to a responsible lending decision.
And that is what we are here to discuss, responsible lending, and responsible borrowing.
However, before we look at responsible borrowing and lending, let’s look at how in America, credit cards sort of got started on a large scale, and it was not through responsible lending.
It may be hard for some of you to think back and remember, and it may also before many of your time, but credit cards were not always as accessible, or used as they are today. In fact, credit cards had a slow start.
Back in the 50’s in America, and even here in England and the UK, many corner shops gave “credit” to its patrons, in the form of ledgers, and buyers getting what they need, and then settling the account up at the end of the month.
There were even stores and shops that offered tokens customers could use, or charge plates, to buy a product, and then pay for it at a later date.
Then Bank of America came along and said, how about a plastic card used as credit to buy goods and services at numerous shops and stores.
It bombed, no one took one out or used them. Why would they? They had their corner shops, and credit cards for the specific stores they shopped in.
If someone needed to buy a large item, they took out a loan, they did not use a credit card.
So BOA (Bank of America) got this bright idea, let’s give 60,000 people credit cards in the post, each with a credit limit of $500.
And $500 in 1958, was a lot of money, it is over $4,000 in today’s dollars or £3,200 today.
Imagine opening your post one day and there is a credit card, with a £3,000 credit limit.
Bank of America had done the math and worked out how many defaults they may have, and what losses they may face. But the fact is, the Fresno Drop was a success.
OK, this is not responsible lending, and there are now laws against unsolicited credit such as this, just giving someone a credit card, with no applying or asking for credit, no underwriting or verifying income and affordability, no knowledge of who you are giving credit to except a name and an address!
Yes, it was a more innocent time, and one not to be repeated, and also one of a prime example of irresponsible lending.
So we have an example of irresponsible lending, let’s look at how as borrowers, we need to be responsible and how we can be irresponsible.
Now I know the first question that will be asked is this, “how can I be irresponsible as a borrower, if I apply for a loan, or credit card, and get approved by a bank or lender?”
“If I was not credit worthy and qualified for the loan, they would not give it to me.”
The fact is that applying for, being approved for, and receiving a loan is a two (2) way street, both parties are responsible, no one party welds the power over the other….well…maybe the lenders do to some extent.
As a borrower we are expected to not over-extend ourselves financially, which means not apply for too much credit or too many loans, we may not be able to repay.
As to how this can occur, using the misconception about not being approved if we could not afford a loan, there are some cracks in the system.
If a borrower takes out a few loans in a quick period of time or rapid succession, they may not be reported to the credit bureaus as quickly as the borrower takes out the loans.
While lenders can view and see the inquiries or “footprints” on the borrower’s credit history, it does not always mean a loan was approved or indeed accepted by the lender or borrower. And not all lenders may follow-up with questions as to if the borrower has recently been “shopping around” for a loan, or if they have recently taken out other loans.
In addition, not all lenders report to the credit bureaus, so some loans may not show up.
So we have a responsibility to not over-extend ourselves financially.
We also have a responsibility to tell the truth, and not exaggerate the facts, or mislead the lender.
Things like inflated incomes, or other non-truths or non-disclosure of facts, can be viewed as fraud. Being asked the broad question, “have you ever been bankrupt?”. Is not asking if you have been bankrupt in the past 6 years, or bankrupt in the UK, it is just asking have you EVER been bankrupt.
Not answering this question truthfully if you ever have been bankrupt, could be viewed as a fraudulent answer.
Borrowers who have credit lines and credit cards, have a responsibility in how they use these.
If a borrower continues to use a credit card for purchases and only pays the minimum monthly payments, they will take many, many years to pay off the card.
While this may not be seen as irresponsible, it certainly is a way to get and stay in debt.
There are many qualities and ways to be a responsible borrower, naturally one is to not take out more credit than you can repay, and another is to repay the loans and credit you have in a timely manner, according to the terms and conditions of the loan.
Make your payments on the day they are due. Not a day later or two (2) day later, but on time.
The responsibility of the lender in our loan relationship, is a bit more than as a borrower, as they are the ones with the money and giving it out. So they need to make sure as a borrower we are a good risk, and will repay the loan.
This does not mean there are not mistakes or errors made, or bad loan decisions to be made, however as banking, insurance, and all things credit are heavily regulated to protect the consumer (us), as borrowers, lenders have many compliance issues and concerns they must meet and address, which puts a bit more responsibility on their side of the lending coin.
Firstly from a lender’s responsibility is to make sure a borrower can repay the loan, they can afford to repay the loan. Usually this means an income and expenditure form is completed. However, this may be an informal question and answer session between the borrower and lender.
If the lenders does not ask for wage statements and documentation to prove all bills, it is on a honour system. This is where the borrower’s responsibility to tell the truth comes into play.
Other areas a lender needs to be responsible in and may fall down, and has in the past are some recent concerns that are being expressed and addressed by the regulatory bodies.
Automatic Credit Increases
One area of lending that is being addressed by consumers and consumer watchdog groups is the automatic increase of credit limits on credit cards and other loans.
Many feel this is, in part, why personal debt levels have risen as high as they are in the country. There are those that say we are sitting on a “debt time bomb” just waiting to blow.
According to the Office for Budget Responsibility, they predict that debt levels will reach well over £2 trillion by 2022!
Borrowers an opt out of these automatic increases, but that requires them to tick a box to opt out, and many just accept the increase. The fear of this is two-fold:
* The borrower seeing the increase feels they were worthy of it and begins to reach towards their new credit limit, over-spending.
* Borrowers who are struggling will use the extra credit to live off of, filling the gap between their wages and the costs of living, taking themselves further into debt.
Payday Loans and Roll Overs
Just recently the largest payday loan lender in the UK, Wonga, went into Administration and collapsed. The reasons for this were in part due to poor lending and collection practices, and also recent regulation changes by the FCA/Financial Conduct Authority, who oversee everything credit.
These regulation changes, say payday lenders being limited to how many times a borrower and roll over a loan, (twice), and also capping the fees and interest that can be charged.
As payday loans are a high risk loan, they carry high interest rates, and are targeted to those borrowers with bad credit. So as borrowers, payday loan users were already vulnerable, and many struggled to repay their loans, and as these loans were such a short-term, 30 days or less, borrowers stayed in a perpetual debt spiral they could not break free from.
Wonga, among other payday lenders, did not take care or due diligence to verify and confirm borrowers could indeed repay their loans. On top of this, Wonga was found to have poor collection practices, and was fined many millions of pounds.
This gave borrowers of Wonga a right to claim compensation, which they did in the tens of thousands, and between the two, regulation changes, the fines and claims, Wonga went bust.
The foundation or crack that began this topple of the payday giant, was poor lending practices.
Regulations and Watchdogs
As mentioned, the FCA is the regulatory body for all things credit, and have implemented changes for payday lenders, buy-to-let lenders, and recently new regulations to be put into place for borrowers who appear to be in “persistent” debt.
All to make lending more responsible.
Credit card companies make a lot of money off the use of the cards, and also off of those borrowers who struggle to make the payments, through late fees, and other charges, this in addition to the high interest rates on many credit cards.
The longer a borrower has a balance on a credit card, and stays in debt, the more interest they pay, which equates to more money to the credit card company.
It is felt these borrowers who are in “persistent” debt need help, and the FCA has mandated some changes to credit card companies, which while were previously voluntary, have recently become mandatory to stay in compliance for licensing.
The new rules are essential this:
* Card users who are in persistent debt for more than 12 months will not receive automatic credit increases.
* Those card holders who have held a balance and are not paying down that balance for over 18 months, will be given a notice advising them to change their payment patterns, increase their payments, and if they don’t, their accounts may be suspended.
* If a card holder stays in persistent debt for over three (3) years, the customer is told the same notice as before, and can be given an opportunity to repay the balance with no interest or any additional charges.
The FCA’s Christopher Woolard stated, “Credit cards offer customers flexibility to manage their finances and repayments, but with this there is a risk customers can build up and hold debt over a long period of time, without making much headway on the outstanding balance.”
“Under these new rules firms will have to help customers to break the cycle of persistent debt and ensure customers who cannot afford to repay more quickly, are given help.”
These changes are to help card holders to “break the cycle” that has them in debt, and pay off the balances.
This is the FCA or regulator of credit, causing credit card companies to be more responsible as lenders.
Responsibility in lending and responsibility in borrowing, we all need to do our part.