ASIC puts payday lenders on notice they may be breaching the law

Late last week, corporate watchdog the Australian Securities and Investments Commission (ASIC) issued a warning to lenders that provide high-fee small-amount loans – known as payday lenders – that they may be breaching consumer-lending laws.

Trying to provide effective protections to borrowers of these small loans is fiendishly difficult. People in financial hardship turn to payday loans, even though they are expensive. Lenders can charge high fees for such loans but may change products to avoid regulation.

If access to payday loans dries up, borrowers in need are likely to turn to other products. And so the cycle begins again.

The regulator’s report might be a prompt to government to think about other strategies.

What is payday lending and why is it a concern?

Payday lending is the name commonly given to loans of small amounts (under A$2,000) for short periods of time (16 days to one year) that promise quick credit checks and don’t require collateral.

They are called payday loans because the original idea was borrowers would pay them back when they got their next pay cheque. But often that is not how it works, and borrowers struggle to repay.

ASIC said the total value of small and medium loans provided to consumers in 2023–24 was $1.3 billion. An earlier study by Consumer Action Law Centre found 4.7 million individual payday loans were written over three years to July 2019.

Why do borrowers use (expensive) payday loans?

Small, short-term loans like payday loans have been around for a long time – and in part, they respond to a reality that, for many people, their income is not sufficient to give them buffers.

Payday loans can be used by borrowers who don’t have savings or credit cards to pay for one-off unexpected bills – a broken fridge, an emergency medical appointment or even utilities bills. But they can also be used to meet daily living expenses.

There are limited other practical options – for some types of bills, there are hardship schemes, but these are not always well-known. For one-off expenses, there are low and no-interest loan schemes but they can be quite restrictive. Free financial counselling may also help, but knowledge and access can be an issue.

Why were new laws dealing with payday loans introduced?

Payday lenders have typically charged very high fees. In 2013, concerns about the high cost of payday loans led to specific provisions to limit the fees that could be charged.

Nonetheless, regulators and consumer advocates remain concerned these kinds of loans lock borrowers into debt spirals because they keep accumulating and that lenders manage to avoid many of the restrictions.

Further reforms in 2022 introduced a presumption a loan is unsuitable if the borrower has already taken out two payday loans in the preceding 90 days. The reforms also prohibit payday lenders from offering loans where the repayments would exceed a prescribed proportion of a borrower’s income.

What did ASIC say?

ASIC said it found a trend of payday lenders moving borrowers who previously might have borrowed relatively small amounts ($700 to $2,000) to medium-sized loans ($2,000 to $5,000), which are not subject to the same consumer protections.

The regulator said small loan credit contracts fell from 80% of loans in the December quarter of 2022 to less than 60% of loans by the August 2023 quarter.

It said it was concerned by this approach and reminded lenders they were still subject to the reasonable lending regime. This effectively means not lending amounts that would be unsuitable for borrowers.

Why are payday lenders moving consumers to larger loans?

It’s a concern that lenders change products to avoid restrictive rules. But it is not altogether surprising.

One response from increasing restrictions on one form of credit might be that lenders decide to focus on other, less restricted, products like medium-sized loans – this is what ASIC seems to have found.

This is problematic if those larger loans are not meeting consumers’ needs and objectives (for instance, if they only needed a smaller amount), or complying with the loan would cause substantial hardship. It’s important to remind lenders that the responsible lending obligations apply to medium size loans, and for ASIC to take enforcement action where appropriate.

What might be a better approach?

The ASIC report highlights the increasing complexity of the National Consumer Credit Act regime – with the standard obligations complemented by specific and unique rules for a range of credit products. These include small amount credit, standard home loans, credit cards, reverse mortgages, and Buy Now Pay Later.

It’s worth thinking about whether a better strategy might be to go back to a simpler approach, where one set of rules applied to all consumer credit products. Regulatory exceptions and qualifications are minimised.

If access to payday loans becomes more restrictive, borrowers are likely to turn to other products. This means ASIC should also be looking at other products that are used to provide short-term small loans. These are likely to include buy now pay later schemes and pawn broking.

Buy now pay later products are subject to their own regulations, including responsible lending obligations. But pawn brokers aren’t covered by the Consumer Credit laws and are subject to little regulatory scrutiny. This is also something that should change.

We also need to consider whether there are financial inclusion options not dependent on lenders out to make a profit from borrowers struggling with the cost of living.