A clearer lending code

The Lending Code is a voluntary code of good practice overseen by the Lending Standards Board, which endeavours to monitor credit products. Specifically the code covers personal loans, current account overdrafts, and credit cards, as well as lending to micro-enterprises (employing under 10 people and with a turnover under €2m), and small charities (with an annual income of under £1m). The code aims to promote responsible lending and ensure that customers in financial difficulty have adequate support. The code is jointly sponsored by the British Bankers’ Association, the Building Societies Association and the UK Cards Association, and all main lending service providers have signed up to it.

Superseding the old Banking Code in November 2009, the Lending Code merged the existing lending sections with new industry-agreed provisions. In keeping with the Banking Code, a key commitment of the Lending Code is that it be subject to independent governance: the majority of the Lending Standards Board is made up of independent directors, and the code is subject to independent review every three years. Such reviews allow the code to remain transparent and fit for purpose. In June 2010, the first independent review of the Lending Code was undertaken by Professor Lorne Crerar.

About the review

Professor Crerar is the chairman of Harper MacLeod LLP and the firm’s senior banking law partner. Appointed to the Chair of Banking at the University of Glasgow in 1994, Crerar is the author of “The Law of Banking in Scotland”, and of the section covering financial institutions, banking and currency in the Stair Memorial Encyclopaedia. He has chaired a number of independent reviews including, notably, the commission by the Scottish Government to review regulations, audit, inspection and complaints handling in the public sector in Scotland.

Crerar’s role was to identify deficiencies and gaps in the code, and recommend amendments to ensure the code would be fit for purpose for another three years. This involved inviting views on what changes should be made to the code, assessing the costs and benefits of each change, and making recommendations to the Lending Standards Board in an open and transparent way. There were two main restrictions imposed: first, on competition grounds, Crerar could not make any recommendations restricting the ability of individual firms to set their own prices, or which would otherwise limit competition; and secondly, he had to weigh up the costs and benefits of each change.

The recommendations were to be made after considering submissions from as wide a range of stakeholders as possible. This involved a public call for submission from the websites of the code sponsors and the LSB, and a press release. Crerar was also to contact organisations such as the main consumer advice bodies, other regulators, and Government departments and agencies.

Recommendations were to be made if areas were identified where there was potential for customers to be disadvantaged, current provisions needed to be updated to ensure they were fit for purpose, changes had already been agreed on by the industry, provisions conflicted with each other or had a lower standard than new legislation, or it was felt that that the parts of the code needed to be clearer and easier to understand.

The review proceeded on the basis of the current self-regulatory regime and governance, notwithstanding that the new Government’s manifesto had committed to introducing a single statutory regulator for financial services. Crerar’s findings were to be presented to the board by 1 November 2010 to allow time for consideration.

Main recommendations and outcomes

In total, 33 submissions were made from various different sectors. These included LSB independent directors, sponsors, Government departments, regulators, subscribers, advice bodies, consumer bodies, trade associations and credit reference agencies. Crerar also held a number of round table discussions. In total 43 main recommendations were made (21 relating to financial difficulties), of which 30 were accepted in full, six were rejected and seven were compromised upon. A further 19 minor changes were recommended, the majority of which were accepted.

One of the key recommendations made was for a stronger requirement for responsible credit assessment. The code now, as recommended by Crerar, requires that if a subscriber declines a credit application they should provide the customer with the main reason why.

Another important recommendation was that new provisions on customers’ ability to opt out from unarranged overdrafts should be introduced. Crerar recommended that the standards developed by the LSB as a result of the Office of Fair Trading report “Personal Current Accounts in the UK – Unarranged Overdrafts”, should be incorporated into the code. This recommendation was accepted by the sponsors, and the code now contains the minimum standards agreed upon by the LSB for offering and operating current accounts, with the ability to opt out of unarranged overdrafts.

The code now contains more support for customers who may be in, or approaching, financial difficulties. It was brought to Crerar’s attention that subscribers were not proactive enough when dealing with customers heading towards financial difficulties, as banks were waiting until customers were in arrears, sometimes for as much as three months, before they took action. As a result of Crerar’s recommendations, the code now requires that if a subscriber becomes aware that a customer may be at risk of financial difficulties, either through their internal systems or by a customer informing them directly, they must contact the customer and work with them to improve the situation.

Crerar was concerned that some customers were being threatened with court action and other enforcement measures from jurisdictions outwith their own. This was a particular problem for Scottish customers, who were often threatened with bailiffs, who do not exist in Scotland. The OFT’s debt collection guidance specified that this practice is unfair, and Crerar recommended that the code reflects that. In line with that recommendation, the code has now been amended to specify that customers should not be threatened with court action or other enforcement methods from outwith their jurisdiction.

The code’s temporary breathing space provisions, which aim to give customers in financial difficulty a short break from repayments in order that they can effectively develop a long term repayment plan, have been extrended to customers using "self-help". In the previous code, breathing space provisions were only applicable if customers were using a not-for-profit debt agency. Crerar was concerned that this unfairly disadvantaged customers using self-help methods of debt control. That being said, he was wary of the risk that extending the provision in this way would enable some customers to use it to avoid paying their debts, rather than because they were in financial difficulty.

Consequently the breathing space provisions are extended to customers using self-help methods, so long as they are genuinely trying to create a repayment plan. Furthermore, banks now must make clear to customers exactly what should happen during breathing space, and all customers must be advised before their debt is passed or sold to a third party.

There are new standards on the appropriate use of the right of set-off, as Crerar was concerned that the bad press surrounding the right had caused customers to be falsely informed. Set-off allows banks to apply a credit balance against missed loan and credit card repayments where the customer holds both accounts with the bank. The majority of customers will never have set-off used on their accounts and, for the ones that do, all the evidence shows that it will be to their benefit, as in the majority of cases customers have simply forgotten to make a payment. However he acknowledged that for a small number of customers, set-off can be extremely damaging. As a result, the LSB’s minimum standards on the use of the right of set-off have been fully incorporated into the code, for added protection.

Finally, further assistance has been introduced for customers in financial difficulty who have a mental health condition. Subscribers are required to incorporate clear statements on how they respond to customers with mental health conditions into their internal policies, and they must inform customers how information about their mental health will be used, and for what purpose. Subscribers should consider a debt and mental health form if it is given to them, and are encouraged to establish a specialist team (or staff member) to deal with customers with mental health conditions.

Also for the first time, plain language guides to the code will be available in branches and online for both personal and small business customers, and a copy will be given to all new borrowing customers.

The Lending Code in the future

The Government has announced its intention to reform the entire consumer credit regime. It plans to introduce a new regulatory regime under the Financial Conduct Authority (“FCA”), within a legal framework based on the Financial Services and Markets Act 2000. The new regime is still in the consultation process, but looks likely to proceed. As such, the future for consumer credit regulation is likely to be the FCA. As the basic idea behind the reforms is to end the current practice of having different regulatory bodies in charge of different areas, and to create a single regulator, it is unclear whether self-regulatory codes will continue to have a place. In any event, for the moment, and for some time yet, the Lending Code is functional and provides much needed protection for customers in an ever more challenging financial environment.