Frequently Asked Questions
1. What types of consumer credit do FLA members offer?
3. What finance options are available when buying from motor dealerships?
5. What is the difference between secured and unsecured lending?
6. Does the FLA represent banks?
7. What checks are made if you apply for credit?
8. What is “responsible lending”?
9. What is the industry doing to protect consumers?
1. What types of consumer credit do FLA members offer?
FLA members offer a wide variety of different types of consumer credit.
Secured loans are personal loans where the lender has some rights over the customer’s assets if the loan is not repaid. An example is second-charge mortgages. Some customers use such loans to consolidate existing debts at a lower and more affordable rate of interest. This can be particularly important for anyone struggling with their finances.
Unsecured loans are personal loans where the lender does not have any rights over their customer’s assets. Such loans are often used to purchase cars or invest in home improvements.
Credit cards and store cards offer consumers a very flexible and convenient way of accessing credit, with the option to pay the lender back immediately or over time.
Store instalment credit is typically used to purchase electrical goods, furniture and furnishings. Payments are usually monthly, and may be interest free or offer a buy now, pay later option.
Some FLA members also sell Payment Protection Insurance (PPI), which ensures that loan payments are made if the customer suffers an accident, sickness or unemployment.
Helpful consumer finance guidance
2. What is asset finance?
Whenever organisations invest in tangible assets – anything from office equipment to manufacturing plant, from cars to a fleet of aircraft – they usually need an affordable, secure means of finance.
That’s exactly what the Asset Finance sector is all about. In fact, Asset Finance is the third most common source of finance for businesses, after bank overdrafts and loans. It is also of growing importance in the public sector.
The two main forms of Asset Finance are Hire Purchase and Leasing
Hire Purchase
Hire Purchase is a financing solution for companies wishing to purchase business assets. The customer pays an initial deposit, with the remainder of the balance and interest paid over a period of time. On completion, ownership of the asset transfers to the customer.
Leasing
Most people are now conversant with leasing because of the popularity of car leasing in the UK.
Under a commercial agreement, the leasing company buys and owns the asset. The customer, or lessee, then hires the asset, paying rental over a fixed period. At the end of the contract, the customer usually has a choice of extending the lease, buying the asset or simply returning it.
Finance Leases
Under a finance lease, the finance company owns the asset throughout and the agreement covers a set period – considered to be the full economic life of the asset. Often, there is an option to continue leasing at a reduced, or ‘peppercorn’ rate, at the end of the contracted period.
As you are not the owner of the asset, you cannot sell the asset during the rental period.
The finance company can claim the writing-down allowances and pass this benefit to you in reduced the rentals.
Operating Leases
An operating lease runs for less than the full economic life of the asset, and the lessee is not liable for the financing of its full value.
The lessor carries the risk associated with the residual value of the asset at the end of the lease.
This type of lease is often used when the asset is likely to have a resale value, for example, aircraft and vehicles. The customer gets the use of the asset, sometimes along with other services. Operating leases are particularly attractive to companies that frequently update or replace equipment and want to use equipment without ownership.
The most common form of operating lease in motor finance is contract hire, particularly in the provision of vehicle fleets.
3. What finance options are available when buying from motor dealerships?
Hire purchase (HP) is the most common method of funding a car purchase. After all the payments have been made, the ownership of the car transfers from the finance company to the customer, usually on payment of an option-to-purchase fee.
Personal Contract Purchase (PCP) is increasingly popular. At the end of a fixed term during with payments are made, customers have the option to purchase the car at a pre-agreed value, or to return it once all outstanding charges have been settled. A maintenance plan may also be included under the agreement.
Leasing a lease agreement funds the use, but not the ownership, of the car over a fixed period of time. Repayments cover the cost of the car plus interest. The customer is usually responsible for insuring, maintaining and taxing the car.
Payment Protection Insurance (PPI) is available for consumers. It protects credit repayments for the consumer, usually in the case of accident, sickness or unemployment. Car finance repayments will be made until the policy expires or is no longer needed.
Guaranteed Asset Protection Insurance (GAP) is often available along with finance. In the event of an accident, GAP insurance covers any shortfall between the value of the car (the amount the insurance company pays out) and any outstanding finance repayments owed by the customer.
Additional option for businesses
Contract Hire is often used to fund car fleets. It is a cost-effective method for businesses to fund the use – but not the ownership - of a vehicle, because payments are fixed over an agreed term. Payments may include maintenance and service charges. An anticipated annual mileage is usually agreed and any miles travelled above that figure charged at an additional rate. At the end of an agreement the car is handed back to the leasing company.
For more information visit: www.FinancingYourCar.org.uk
4. Who are our members?
FLA Members - Asset Finance Division
FLA Members - Consumer Finance Division
FLA Members - Motor Finance Division
5. What is the difference between secured and unsecured lending?
Secured lending
Many finance providers offer secured lending, sometimes called asset-backed lending, to businesses and consumers. It is a finance facility that is secured against an asset, for example a car. A mortgage is an example of a secured loan.The asset provides collateral for the finance provider should the customer become unable to make the agreed repayments. The finance provider may recover the asset and sell it to regain some of their losses, although this is always seen as the last option.
The benefit of secured finance for customers is that, because of the reduced risks, lenders are able to offer more flexible terms and conditions.
Unsecured lending
An unsecured loan provides a lump sum purely on the basis of the borrower’s creditworthiness. It is not linked to, or secured against, a tangible asset. A borrower may use it for any purpose they see fit, such as loan consolidation, home improvements or a holiday.
Examples of the different ways in which unsecured lending may be packaged include bank overdrafts, store cards and credit cards.
There are, of course, greater risks for lenders in the event of a finance agreement falling into arrears. For this reason, interest rates tend to be higher than with secured lending.
6. Does the FLA represent banks?
The FLA represents specialist lenders, some of whom are bank subsidiaries, but others who are independent, for example in the motor finance and second charge mortgage markets.
7. What checks are made if you apply for credit?
Credit Scoring
Credit scoring is the system most major banks and finance companies use when considering applications for borrowing. It takes account of information you provide in your application, any information the lender may already have about you, and any information they may get from other organisations, such as credit reference or fraud-prevention agencies. When lenders use information from other organisations, they will tell you who they are.
The credit-scoring system awards points for each piece of relevant information and adds these up to produce a score. If your score reaches a certain level, a lender will generally accept your application. If your score does not reach this level, they may not accept your application.
A lender may sometimes use scores worked out by credit reference agencies.
Each lender uses their own scoring system to evaluate risk, but they tend to use factors such as the length of time you have been in a job, home ownership, length of time at your current address, your age group and so on.
Credit scoring produces consistent decisions and is designed to make sure that all applicants are treated fairly. The process is closely regulated by the Financial Services Authority.
Your credit decision explained – FLA consumer guidance leaflet
8. What is “responsible lending”?
FLA members are committed to undertaking responsible lending. Under the FLA Lending Code, all loan applications must go through a sound and proper credit assessment. This assessment may look at a combination of 14 different features, designed to help the lender check the customer’s ability to repay the loan. These include, for example:
- The customer’s existing credit commitments;
- How they have handled their financial affairs in the past;
- Information from credit reference agencies; and
- Income
Lenders may also consider factors that may suggest a higher risk of the customer experiencing financial difficulty, such as:
- Having four or more credit commitments.
- Spending more than 25% of gross income on consumer credit.
- Spending more than 50% of gross income on consumer credit and mortgages.
The Office of Fair Trading (OFT) is currently drafting guidance for lenders on Irresponsible Lending. All lenders who have a consumer credit licence provided by the OFT will have to comply with the guidance. The Guidance will be introduced in January 2010.
In June 2009, the European Commission also published a consultation paper on Responsible Lending and Borrowing. This is aimed at building on the work already undertaken on the new Consumer Credit Directive, which introduces a duty on all lenders to assess the creditworthiness of a borrower before providing credit. UK-based lenders are already well-placed to meet this requirement, in light of the extensive checks already undertaken when providing loan finance.
Mainstream lenders routinely turn down between a third and half of all applicants. And lenders who specialise in the non-standard markets turn down 70 or 80 out of every 100 applications. The UK has some of the most sophisticated credit referencing systems anywhere in Europe.
9. What is the industry doing to protect consumers?
Member companies are bound by a robust Lending Code, which requires them to act ‘fairly, reasonably and responsibly’ in all their dealings with customers, especially those struggling to make repayments.
The Code is monitored by an independent panel and where complaints cannot be resolved to the borrower’s satisfaction, they are passed to the Financial Ombudsman Service, which has recently cited the Code as the industry standard, even for non-members of the FLA.
FLA members have:
- Developed new Statement of Principles on credit card risk re-pricing, giving customers better information and more options.
- Implemented a breathing space for credit card customers, during which collection activities are put on hold if a customer is seeking advice on a debt problem - recently agreed that this breathing space should be extended to other types of unsecured consumer credit.
- Worked with Government on an industry-led solution to unsolicited credit card limit increases and credit card cheques. Better information for customers and an ability to opt-out of services you don’t want are likely to be part of the package.
- Worked with the Money Advice Trust and the Royal College of Psychiatrists, to develop mental health guidelines that support staff training in the industry and stress the need to treat customers with mental health problems sensitively.
- Helped to design the new Home Owner Support Scheme, which assists people with first or second charge mortgages who have experienced a significant reduction in their income. It will allow interest payments to be deferred for up to two years, and the UK Government guaranteeing up to 80 per cent of the deferred payments.
- Jointly sponsored the Common Financial Statement, which is used to assess the debt priorities facing people having difficulties.
- Published Ten Tips on How to Deal with Debt, to help MPs and MSPs deal with constituents’ debt concerns.
- Worked with the Civil Justice Council on Pre-Action Protocol for mortgage possession actions.