In this blog we highlight the impact Fair4All Finance and other social investors have by expanding access to affordable credit.

Why is this important? In the UK over 20 million people are in financially vulnerable circumstances, of which 7 million have no savings. That means no ‘rainy day’ money to use when unexpected expenditure happens (eg the car needs fixing and that’s the only way to get to work, or the nursery asks for an upfront deposit to secure a place).

Accessing credit when needed is critical for households to effectively manage life events and improve financial wellbeing. Here we mean a small sum loan, typically less than £1,000 for less than a year at an affordable cost of credit.

It’s not just about access to the financial products and services that most take for granted. It’s about building financial resilience and providing individuals with the means to thrive, participating in economic life and being able to better deal with life’s curve balls. The boost to economic growth from greater participation and reduced expenditure on the harms done by financial exclusion is a potent combination when assessing the case for long term support for such initiatives.

Many lenders view people as too risky or too expensive to provide credit to. This is a market failure; LEK estimates that in the UK there is £2bn of annual credit demand that can be met on commercial terms that isn’t being provided.

One statistic in community finance that reflects poor access to credit is the loan application accept rate. Typically this is less than 10%. For every 10 applications, 9 are rejected. Some of these might be due to an individual having no or little credit history (a so called ‘thin file’) or what history they do have isn’t particularly positive. In these cases the risk to the lender is that they make the loan and it doesn’t get paid back.

Fair4All Finance has researched the per loan unit costs of community finance lenders and bad debt costs are one of the highest elements. However, it is also the case that the credit risk of lending to many in these customer groups who are declined is not materially worse compared to those who are accepted. What if a closer look at an applicant’s data suggested they could in fact afford a small sum loan, based on recent experience (perhaps evidencing this via access to Open Banking transaction data)?

Servicing this customer group nevertheless still carries potentially higher associated costs. For community finance to be comfortable lending to financially vulnerable customer groups, grant or first loss funding might be required. This provides a first loss buffer or guarantee that absorbs some or all of the bad debt costs associated with such lending without negatively impacting a lender’s ability to be sustainable.

Grant or first loss funding doesn’t have to be a permanent feature. Ideally the experience gained in lending to people who would otherwise be declined is both financially viable and has a high social impact. This extra financial support can be reduced or removed entirely over time.

Piloting first loss funding

First loss funding works in three ways.

• The first is that the grant amount is lent out to customers on the margins of an accept decision. Some of these loans will not be repaid – say 15%. That leaves 85% of the original grant plus interest earned to be lent out again, a multiplier effect that helps more people in financially vulnerable circumstances.
• Alternatively, the grant can be used to cover only the bad debt element in excess of the core loan book (with a 10% core bad debt rate the grant can be used to cover 5% from the above scenario).
• The final method is used in our No Interest Loan Scheme (NILS) in which a per loan fee is paid to cover delivery and servicing costs. The bad debts that result are also recompensed, up to a certain level. The rationale here is that customers offered a loan with no interest can, and do, repay such loans providing valuable access to funds and having a positive impact on their credit record. Through its partners Fair4All Finance has lent out £10.6m in such loans to over 14,000 customers during the past two years. An independent evaluation of the scheme is underway and initial findings are very positive. A high proportion of NILS customers return to borrow a loan they were previously declined for and a majority avoiding the need to resort to loan sharks.

Where loans generate income (charge interest) they have the potential to scale as they crowd in private investment due to the risk reduction role played by the first loss funding or bad debt guarantee. By offering potential investors protection against a proportion of first losses, first loss funds or guarantees improve the risk return profile, which can be the catalyst for investment in the sector.  

How much are we talking about? We estimate that the recycling of first loss funding combined with the crowding in of private capital, and the fact that small sum lending is typically for less than 12 months, means for every £1 of first loss funding as much as £12 of lending can be generated.

Importantly, this boost in lending is affordable, with significant customer savings versus high cost alternatives. Responsible Finance, the member association for Community Development Finance Institutions (CDFIs) estimates personal lending CDFIs saved customers over £29m in interest last year.

Fair4All Finance is using first loss funding in several projects funded by our Community Finance Resilience Fund. We have first loss grant funding being lent out in a trial by Stockport Credit Union (SCU). Some 12 of the 19 area postcodes covered by SCU have more than 25% of adults living in financially vulnerable circumstances. In Brinnington where SCU is based this is almost 60%. The trial targets customers that fail on traditional credit rating metrics but can afford a loan based on Open Banking data. The outcomes will build on an existing pilot SCU is running and will be evaluated by the Illegal Money Lending Team.

Responsible Finance has secured over £200k in grant funding from Fair4All Finance to enable Moneyline to increase lending in the West Midlands. The region has the highest poverty rate in the UK. Home credit usage was historically high here but this has now largely gone. A local CDFI serving this area closed, followed by the recent closures of credit unions in both Sandwell and Dudley, and Stoke does not have a credit union.

This highlights the region as a credit desert despite the obvious need. Support from partnerships with the likes of Citysave, Walsave and Wolverhampton City credit unions will be important as people can be referred to Moneyline where appropriate. The Responsible Finance/Moneyline pilot funded by Fair4All Finance is projected to more than double Moneyline’s lending in the region.

Responsible Finance is also working with City Bridge Foundation (CBF) in London to expand access to affordable credit. Here organisations Fair4All Finance has made significant investments in – Salad Money, Fair for You and Fair Finance – are leveraging £600k of CBF grant funding to target as much as £8m of lending over the course of the pilot. A little (first loss) goes a long way.

The case for guarantees

Fair4All Finance provided a partial guarantee to social impact investor Ceniarth’s investment in Salad Money, the biggest personal lending CDFI in the UK. Although not expected, if the investment is loss making then Fair4All Finance will pay a proportion of losses together with Ceniarth. In the absence of a partial guarantee Ceniarth would not have made the investment.

With no cash outflow from Fair4All Finance (indeed, we receive a fee for making the guarantee) we have provided the catalyst to secure funds which, when leveraged with other investments, can boost lending 12x the Ceniarth investment.

First loss funding isn’t new. Via the UK Government’s Regional Growth Fund, CDFI lending to enterprises has been supported for over 10 years. This was boosted recently by the announcement of over £150m in a new fund from the British Business Bank to further support SME lending CDFIs. And Fair4All Finance believes that a government-backed first loss fund or guarantee for personal lenders in community finance is necessary to increase inclusive economic growth.

The investments detailed above will be evaluated to assess social impact and the crowding in of external funding. This will help build further support for guarantees and first loss grants to scale access to affordable credit.

In addition, during 2025 Fair4All Finance will research the use of first loss funding and guarantees outside the UK to see if there are lessons to be learned and structures that can be usefully deployed here. The experience of the government guarantee offered to enterprise lending CDFIs should also highlight what might be transferable to consumer lending.

Where appropriate we will use our funding to invest more in first loss and guarantees, scaling access to affordable credit by engaging with existing commercial lenders that either don’t serve or only partially serve customers in financially vulnerable circumstances. By doing so the confidence provided by such tools can have the greatest catalytic impact on access to affordable credit in the UK.