The elephant in the room hasn’t gone away...
Shiona Crichton - Moneyline CEO
16th May 2024
I find it interesting that some individuals and organisations still won’t engage with Moneyline due to our APR (annual percentage rate).
For the last 10 years there has been a growing moral view that an APR above 50% is not acceptable as it is extorting customers. Apple doesn’t allow apps on their store for loan companies whose APR is over 36%, meaning we have had to build our own in-house app to ensure our customers get the experience they deserve. Also, many aggregator sites now cap the APR they allow at 50% reducing customer choice. Some Social Enterprises who offer support services our customers need won’t work with us, again due to our APR.
However, those who are being negatively impacted by this lack of engagement are the customers who want access to the products we offer.
- APR alone doesn’t give the full picture for the cost of a loan, especially for small sum, short-term credit. The reality is, that for our customers we are not expensive and in fact, we may be their last option before a loan shark.
- APR and the total cost of a loan is not the most important thing for the customer; it’s about having a product that matches their needs and being able to afford to make each payment.
In the last 10 years, the high-cost short-term credit (HCSTC) market has reduced from £3.7bn to £0.5bn in value. However, it would be naive to think the need for small cash loans has gone away for these customers.
What has happened is that illegal money lending has risen, the pawnbroking market is booming and many customers are using credit products that don’t match their needs, leading to poorer customer outcomes. The number of people who have borrowed from illegal money lenders in the UK in the last 3 years is thought to be in excess of 3m. But the real amount is unknown!
What is APR?
To simplify what is a complicated formula, it’s an annual calculation in which the cost of the loan is compounded again and again to see what it would cost over a year. In practical terms, this means that while we would charge an annual interest rate of 59% on a short-term loan for many of our customers, this actually works out at an APR of 169%. It’s impossible for most of us to work out the cost of any loan under a year from its APR% and I haven’t met anyone who can do this and explain it in a simple and meaningful way.
Below is an example of just why APR can be a really confusing measure to use to understand the cost of a product:
- Borrow £200 over 48 months Cost of loan £60 = 14% APR
- Borrow £200 over 22 weeks Cost of loan £60 = 239% APR
APR is not a helpful measure for loans with a term of under a year. It seems that some lenders may have extended their minimum term to above a year just to show a reduced APR!
Given that one of the things we should strive to do in financial services is make things simple and clear for our customers, APR is a very misleading way of showing people what a loan costs. Yet currently, it’s something we have to show to meet legal and regulatory requirements.
The Cost of Small Cash Loans
As a not-for-profit organisation who only wants to cover our costs, we are constantly trying to offer loans at the lowest viable cost to our customer. But the fact remains that the cost of credit is high for small, short-term cash loans so let’s look at that in a bit more detail.
If we take Moneyline as an example, our highest cost of credit is roughly 79% (not our APR which is currently a maximum of 239%).
For every £100 a person would borrow for a year they would pay £79 back. Our average loan for a new customer is £400 over 26 weeks.
In simple terms, the table above shows that issuing small cash loans over a short-term and offering larger loans over a longer term have a large income difference.
That sounds simple but is often lost when we are just focused on APR%. Also, we always try to offer loans at the shortest term a customer can afford to keep the cost of the loan down for them but this does mean less income for us.
The direct cost of acquisition and delivery is the same no matter what value or term of loan is issued. That means it costs as much for us to lend £250 as it does for someone to lend £10,000. However, we don’t have the economies of scale that larger lenders have to access cheaper unit costs from suppliers.
Even with good quality customers we don’t make a profit on loans below £400 by the time we have paid our overhead costs and account for bad debts. That’s why you don’t find commercial lenders trying to do small cash loans at this price.
Impact of the wrong product match
You may look at the reduction in figures in the HCSTC market and see this as a good outcome. It would be if the need for small cash loans had gone away but for many low-income households, just like you or I, they will always need credit to spread the cost of a larger purchase. We need to make sure they have access to the correct products.
Access to only longer-term products of higher value can mean customers are paying more interest as it’s not the product they need…or want! BNPL is a good example of a great product that doesn’t work for everyone. 25% of customers miss payments, often leading to late fees. Yet for many, it’s a great and cheap product.
I will leave you with another thought on BNPL…. what is the real cost to consumers in the UK of BNPL? Someone has to pay for the retailer’s fees that BNPL companies charge. Costs aren’t always about the APR.
What needs to change?
- We need to look at the overall outcome for the customer and not the APR that a product charges. We produce customer personas which allows us to check that our product is suited to what the customer wants and needs. There is an added cost to ensuring we continue to serve the most financially and digitally excluded, reducing our costs and our APR would mean we would need to say no to them.
- We need to look at the product attributes and not just the cost. We offer cashback and reduced APRs for good payment, flexible payment methods and frequencies to help with differing customer budgets, payment holidays and self-cure periods to help with financial bumps in the road. Again, this all adds cost and complexity to our service but offers a product that fits the customer needs.
- We need to find a better way to explain the cost of the loan. APR is currently required by the Consumer Credit Act, so the FCA cannot change this requirement without the law changing. However, we can start on the journey of thinking about alternatives that customers can understand and therefore help them make better choices.
If we continue to consider APR% as an appropriate measure for the cost of credit on short-term loans we will see more and more products come to market that are focused on ensuring their APR stays low, rather than a focus on developing products that create good customer outcomes. This means small cash loans will become a thing of the past. We need to rethink how we explain the total cost of a product to the customer but also destigmatise the higher APR which we need to charge for short-term loans. We need to recoup our costs and create a sustainable organisation, while giving customers an affordable product which they want and need.
Moneyline is a better option for our customers compared to other alternatives they have.
Click on the video below to listen to Michael Sheen, actor and activist, talk through APR.
The view on APR% is still one of the biggest barriers we have as an organisation, in both raising funds and creating partnerships. I would love to hear what you think by either leaving a comment or contacting me directly by email at shiona@moneyline-uk.com.
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