Highlights of The Consumer Credit Directive (the “Directive”) Some Important Issues - Update 2
Posted: Thursday 7 August 2008
A general note on the Consumer Credit Directive is available on our website. This note seeks to highlight some current key discussion points. We will circulate other such notes on a regular basis as the picture moves forward – as it will do rapidly.
This note’s focus is on:-
- timing
- what’s in the scope of the Directive
- the new APR calculation
- the new PCI and forms of agreement
- your new duty to explain your products
- overdrafts
- the universal cancellation right, and
- the new early settlement regime.
BERR is consulting on how to implement the Directive. They intend to engage in fourteen consultations. After that, they will produce draft regulations and hope to produce the final regulations in December 2009. As the implementation date is May 2010, that may not be enough time to get IT systems ready. Most finance companies’ IT projects have been already stretched by the CCA Information Regulations coming into force in 2008. There is probably more here to do than there was in CCA 2006. The BBA and the FLA will be lobbying BERR to delay the transposition of the Directive so that there is more time for implementation.
If we were to highlight one key point, it would be that it is our view that voluntary termination risk, as we know it, in hire purchase and conditional sale agreements is about to undergo a sea change. This is probably unintentional but it seems an unavoidable conclusion – see the section below on early repayment.
Scope
This is the crucial question. What limits BERR’s options here is that the Directive is a maximum harmonisation directive. That is to say, where the Directive applies, member states cannot go beyond the terms of the Directive and be more prescriptive. So, if a particular type of agreement falls within the scope of the Directive, then the UK regulations must follow the Directive. If an agreement is not within the scope of the Directive, the UK regulations can say what they like. There is one further qualification, namely, BERR want, if possible, to avoid primary legislation because of the difficulty in getting parliamentary time. It is very doubtful that they will be able to achieve what they want without primary legislation.
So, what is in scope:-
- only consumers
- only consumer credit (not hire) less than or equal to €75K
- overdrafts (and unintended overdrafts) to a limited extent
- not lending secured on land and buildings
- not lending to acquire land and buildings
- not hire purchase (but, curiously and probably unintentionally, conditional sale is within scope, as is credit sale)
- not pawnbroking.
The conditional sale/hire purchase issue is very interesting for asset finance companies and gives BERR a lot to think about.
APR
As the Directive stands, APR’s have to be shown in facility letters for overdrafts. However, member states can have a derogation here and it is to be assumed that the UK will use that derogation.
The assumptions to be used in calculating the APR are less complete than those provided for under CCA regulations. Where an agreement is within the scope of the Directive only those assumptions in the Directive can be used. We could, therefore, end up with different APR assumptions and, therefore, calculations depending on whether an agreement is in or out of scope. Also bear in mind that the existing CCA APR rules and the UK’s MCOB rules are very similar and, of course, MCOB rules are unaffected by the Directive.
So, BERR has a problem. Does it bring out of scope agreements closer to the Directive and, thus, further away from MCOB, or does it leave them where they are so that we have two regimes for consumer credit agreements, depending on whether they are in or out of scope?
Pre-contract information and forms of agreement
Banks and finance companies have just got used to PCI, which were introduced with the change in forms of agreement in 2005. Under the current CCA, the PCI and the front pages of the agreement are identical and can be subject to a single computerised population of data. The format of agreements is very strictly regulated with imperatives as to what has to appear under Key Financial Information, Other Financial Information and Key Information.
All this is going to change (but only needs to change in relation to agreements within scope).
PCI will now consist of a standard form which is an EU-wide standard. That form is annexed to the Directive. It is not user-friendly so far as the consumer is concerned. It applies to all agreements and so everyone must use it. Because of its non-user-friendly state, it is possible that the OFT will issue guidance requiring more information to be given in a different format.
However, while the PCI must now be given in this fixed form, there is going to be freedom in the way in which the agreements are themselves drafted. This will allow agreements to be drafted in a much more sensible way and in a way which is easier to read. But, the agreements will not then be the same as the PCI so there will be systems’ issues here.
There is, however, a danger that the OFT may try to give guidance demanding that agreements continue to be done in the way in which, hitherto, we have done them. That will be of questionable validity and will leave us with the same non-user friendly straitjacket as we have at the moment.
There will be some new types of information which have to be included in agreements, mainly to do with information about how the loan is amortised.
BERR will not be able to insist on fixed form statements of protection and remedies as is currently the case, though similar information will still have to be given.
It is still to be resolved as to whether there will be differences in what copy documents have to be supplied when.
From all of the foregoing it is obvious that one of the most crucial questions which must be answered as soon as possible by BERR is the determination of what they are going to do by way of requirements for agreements which are not within the scope of the Directive.
Duty to explain
This is one of the new requirements causing the most anxiety to banks and finance companies. Creditors will have to explain (as will credit intermediaries) what a credit agreement is all about so that the consumer is in a position to assess whether it is adapted to his needs or not.
In some circumstances, the explanation will have to be personalised to the circumstances of the debtor. Creditors are anxious that giving personalised explanations becomes very close to giving advice. It is tempting to lobby BERR to suggest to them that this advice should be given by money-advice centres whose presence they are fostering and whose business is self-proclaimed to be the giving of advice.
Possibly, what will be most key in relation to this duty to explain is what the sanctions will be for not explaining properly. The Directive will become unworkable if the sanction is an invalidly executed agreement. So, what is to be done? It is not difficult to think of awkward situations with a motor dealer salesman trying to explain the pre-contract information or the credit agreement’s features to the prospective car purchaser. Nor is it hard to see mutual incomprehension when the explanation is given by a part-time sales assistant in a furniture shop on a Saturday.
At the moment, most discussions about this duty focus on the possibility of providing a leaflet for every credit agreement and every pre-contract information disclosure notice, giving simple explanations of keypoints and drawing attention to the most important features.
Perhaps, after that, there could be a helpline which the customer is directed to phone if he has any particular queries.
There will be the usual problems of proof if you were trying to prove what explanation has been given and, again, what the sanctions are for failing to do it are going to be crucial here.
On the one hand, it is tempting to suggest that UK guidance should seek to be quite prescriptive in what is to be said so that you can test if you have said it or not. On the other hand, that just makes it easier to get it wrong.
Overdrafts
There is no BERR consultation paper on this yet and we will circulate more comments once there is.
For the moment, though, all that we need to do is point out that there is intended to be a form of pre-contract information for overdrafts.
This information includes the APR but member states have a discretion not to require that, and it is assumed that the UK will take advantage of that derogation.
The rest, we have no option about. What you have to say before the overdraft facility becomes binding is:-
- the type of credit
- the details of the creditor
- the total amount of credit
- the duration of the credit
- the borrowing rate and the charges
- how the agreement is terminated
- explanation that it is repayable on demand
- what has to be paid if payment is late and default charges
- information about credit reference agency consultation
- circumstances in which charges may be changed.
Over-running
This is the term used in the Directive for an unarranged overdraft, ie, one where the bank honours a payment which puts a current account into debit where there is no arranged overdraft or the overdraft limit is thereby exceeded.
Even here, some information has to be given before the over-run occurs, namely, the borrowing rate, the charges applicable and the conditions under which the charges may be changed.
These provisions will therefore need to be in the current account terms and conditions. Generally, they already are in the UK.
Cancellation/ withdrawal
As has been well telegraphed, there is to be a 14 day right of withdrawal for all agreements (so, again, the question of what is happening to agreements which are not within the scope of the Directive is going to be crucial). The 14 days runs from the making of the agreement or, if later, when the customer gets his terms and conditions and the information about this agreement.
There are some benefits from the proposals
- If the agreement is debtor/creditor/supplier (what the Directive calls a linked credit agreement) the contract for the acquisition of the goods is not cancelled, which may make it less likely that the credit will be cancelled. (However, as conditional sale and credit sale are within scope, it is very hard to work out what sort of contract for the acquisition of the goods is not being cancelled where the credit is being cancelled and where there is only the one agreement and not a separate agreement with the supplier.)
- While the customer still has 30 days to repay, unlike the CCA, he has to pay interest during the time pending repayment.
But, there are disadvantages (and these are real issues so, again, what is done with agreements outside the scope will be crucial)
- What happens with agreements concluded at the point of sale? There will have to be, presumably, a delay in the delivery of the goods until the 14 day period has expired. What happens with marine and aviation finance transactions where there may be substantial valuation fees?
- There will be difficulties with point of sale arrangements with cheaper goods and a particular problem with store cards. Suppose a customer walks into a store, signs up for a store card, gets his store card and buys some small value items. He then cancels his store card. He will be due to repay but if he doesn’t do so, is it practicable to sue him for the repayment? Probably not, and we can assume that consumer websites will be encouraging this behaviour. He may also say, “If you sue me, I’ll go to the Ombudsman Service and then you’ll have to pay a £400 fee for the £35 I owe you”.
Effect
It seems likely that retailers, whether stores or motor dealers, or whatever, will try to demand that everyone pays by credit card where cancellation will not be an issue, assuming the customer has an existing card – so we can expect credit card use to increase materially.
Early repayment
Under the CCA, a customer can repay his agreement early, in full, at any time, by giving notice. Under the Directive, he can repay in full or in part at any time and does not need to give notice. The amount of compensation which can be claimed is fixed, subject to an exception.
A number of problems arise:-
- Supposing a small, partial repayment is made. As the customer does not have to give notice, how to you know if this is supposedly a repayment or is simply an advance payment of future sums due?
- There is no limit on the number of partial repayments which can be made. If he makes a small number of partial repayments, what do you do about the level of the future payments?
- It is not clear whether the existing Rebate on Early Settlement Regulations will continue to apply. They will be inappropriate, certainly, on partial repayment and no-one is very clear what the situation is going to be on partial repayment.
- Creditors can claim compensation for early repayment but only in respect of fixed rate borrowings. The compensation is 1% of the amount repaid early if one year is left in the agreement or 0.5% of the amount repaid early if less than one year is left in the agreement. The Directive adds that “exceptionally” more can be claimed if the creditor can show a greater loss, but it’s not clear how widespread a claim can be under this provision and still be ‘exceptional’.
- It is not clear, but will be crucial, whether or not upfront costs can be excluded from any rebate which is allowed. There is an opportunity for these to be excluded and it is to be hoped that BERR takes advantage of this, particularly given that their supposed philosophy is that customers whose agreements go to full time should not pay part of the costs of those whose agreements do not.
But, in this section we have left the best till last – voluntary terminations.
Conditional sale agreements are clearly within the scope of the Directive, though it is believed that BERR are unhappy about this. Hire purchase agreements are not. It seems to be the case that the early repayment provisions in the Directive are a complete code in respect of early repayment and that, therefore, the voluntary termination right currently causing so much anguish under section 99 of the CCA will not apply to agreements which are within the scope of the Directive. Again, therefore, it is crucial to know what BERR is going to do with agreements which are out of scope but otherwise very similar – in this context, hire purchase agreements and conditional sale agreements over €75,000 or with small businesses.
Supposedly, BERR is still waiting to have time available to decide what to do with voluntary termination as it didn’t have time to deal with it in its consultations on the CCA. Well, it now looks as if the voluntary termination right under section 99 is going to be abolished for conditional sale agreements within scope. Asset finance companies will want to change from hire purchase agreements to conditional sale agreements despite their other disadvantages.
Conclusion
There will be a lot to do here, both for the banks and asset finance companies and their lawyers but, particularly, for the IT systems’ providers. BERR has only issued the first few of its 14 consultation papers. We can expect a fast changing scene over the next few months. It will also be interesting to see if BERR wants to ask Brussels for amendments to the Directive, given the things they are unhappiest about.
Contact Details:
Name: Bruce Wood
DDI: 0131 247 1026
Email: bruce.wood@morton-fraser.com
The contents of this article are for information only and are not intended to be construed as legal advice and should not be treated as a substitute for specific advice. Morton Fraser accepts no responsibility for the content of any third party website to which this article refers.
Morton Fraser LLP is authorised and regulated by the Financial Services Authority.
