Financial Conduct Authority focuses on firm approach to Borrowers in Financial Difficulty (BiFD)
The current economic climate and cost-of-living crisis in the UK have altered the macro environment for lenders and borrowers in the credit sector. There is increasing political and regulatory scrutiny on lending to consumers and SME businesses by regulated credit firms, including their treatment of borrowers.
The Financial Conduct Authority’s (FCA) most recent work on borrowers in financial difficulty (BiFD) has found that many firms are not supporting these customers effectively. From July this year, the FCA will also be able to use the new Consumer Duty to test how firms have responded to the BiFD findings. So how can organisations act now to ensure they are delivering sustainable lending for borrowers in this unfamiliar environment?
The changing economic environment
The economic conditions mean lending decisions are more varied, complex, and being taken in a different context than over the last decade. This presents a significant ongoing challenge for customers, with more people likely to face unmanageable debt and financial vulnerability. FCA data shows that 24 percent of all UK adults have low financial resilience, one in six adults have no savings, and 21 percent of UK adults sought debt advice between August and October 2022. Now is a great time to review areas such as affordability assessments and lending decisions in response to the changing environment. Our recent research shows that customers are turning to different types of credit, such as Buy Now Pay Later - and we have already seen that the cost-of-living crisis is forcing people to borrow to pay for basic outgoings, rather than additional spending or spreading the cost of purchases. Inflation and base interest rates are likely to remain volatile over the next two to three years, making it harder for organisations to assess lending affordability and credit risk. Many of those working in lending only have experience operating in a low interest rate environment, highlighting potential capability challenges. Quickly strengthening knowledge across lending teams, considering the current volatility, is a critical step for organisations to take.
Borrowers in financial difficulty
The fair treatment of BiFD has been a high priority for the FCA for several years and in 2020 they published guidance for firms, setting out expectations under Treating Customers Fairly (TCF). Since then, the FCA has undertaken extensive supervisory work to assess how firms are adhering to Tailored Support Guidance. In July 2022, a ‘Dear CEO’ letter was also issued to the lending sector setting out emerging findings and wide-ranging concerns of the treatment of consumer and SME borrowers by lenders. Many of these findings were confirmed in its November 2022 publication where the FCA concluded that firms are not sufficiently supporting customers in financial difficulty. As a result, it has required firms to make significant changes to their business processes and, where appropriate, pay redress to customers.
Lenders’ response to the FCA findings
Lenders who review their approach to borrowing for customers in financial difficulty will reduce the harm for customers, and the conduct risk from TCF and future Consumer Duty requirements. We recommend organisations take a comprehensive approach to reviewing their lending business, but at minimum take some key actions.
1. Reviewing capabilities and controls in relation to credit risk, affordability assessments, and lending decisions.
Many organisations are likely to have embedded approaches that have been designed to run in a predictable low interest rate environment with lower credit risk. To reduce risk and promote good customer outcomes, organisations should ensure they have an end-to-process within customer journeys that enables them to:
- Understand and interpret customer circumstances fairly and accurately, whilst identifying what makes customers vulnerable
- Carry out assessments of the suitability and affordability of what is offered to the customer, to meet customer needs and appropriate credit risk appetite
- Ensure they have the ability to proactively monitor indicators of potential difficulty, for example, arrears trends, and segment customers effectively so that insight can be incorporated into ongoing credit risk management.
2. Reviewing practices, policies, and procedures against the core areas of FCA concern.
The FCA has specifically called out customer engagement, customer communications, support, signposting to debt advice, and fees and charges. It is no coincidence that these are closely aligned with the four FCA Consumer Duty outcomes. Rather than rely on existing TCF standards, organisation’s reviews should reflect their developing approach to Consumer Duty compliance. This may include:
- Producing and analysing high quality data and management information that informs where practices are not effective and continuous improvements can be made
- Designing process maps that are reflective of the customer journey, including where complaints or problems arise, to ensure there is a consistent approach across an organisations employee’s that are aligned to the FCA’s expectations
- Clearly written policies, aligned to the FCA’s requirements and industry best practice
- Regular training to ensure employees understand their responsibilities and how to operate in line with policy. Training should include how to support borrowers in financial difficulty, identification of vulnerable customers, and compliance.
3. Reviewing accountability structures
Senior Manager Function holders should have clear roles and responsibilities, with regular reviews to consider whether these should be uplifted given the changing economic and regulatory context. Organisations should be able to provide tangible evidence demonstrating how:
- The delivery of good outcomes should be documented within the remit of individual senior roles and the overall map of responsibilities
- They consider senior management capability to ensure compliance with the FCA’s expectations and Consumer Duty requirements .
Consumer Duty Board Champions are used to challenge existing culture, business strategy, and attitude to risk, for example when reviewing the accountability of SMFs. Given the wider economic and political environment, we expect the FCA’s focus in this area to continue. Further supervisory and enforcement action against organisations is possible, so now is a great to time to act. The FCA has said that it intends to consult on the future of its Tailored Support Guidance, and potentially further Handbook changes. Nevertheless, the FCA’s expectations of firms will increase anyway, as it moves from the concept of TCF to Consumer Duty in July next year. This will place new and higher standards on firms providing credit in how they assess customer needs, communicate with and support customers, provide fair value, and act to deliver good overall outcomes.