Ahead of the FCA’s consultation on Reviewing the financial promotions rules for consumer credit, our CEO Kate Pender writes about the challenges of using APR for small amounts of short term credit and the long shadow it leaves on the supply of affordable credit.

1,614% sounds huge doesn’t it? Michael Sheen uses it as an example of how misleading APR can be in this video on YouTube which should be more widely viewed. It sounds like a huge number. But it’s reflecting a loan that involved £4.20 in borrowing costs where £75 was borrowed for 7 days. £4.20 doesn’t sound like a lot. Once upon a time it could buy you a pint – as is the case in Michael’s story.

Earlier this month we hosted a workshop with the FCA and one of the key subjects was the need to explain the cost of credit differently and better. Research by Plain Numbers, ClearScore and Fair4All Finance shows quite how dramatically representative APR reduces, not improves, a consumer’s understanding of borrowing costs. It is simply not helping customers make informed decisions.

But the problem is deeper than that and it is having widespread impacts in other parts of the credit ecosystem. 

At present the FCA is consulting on APR as part of its consultation on reviewing the financial promotions rules for consumer credit. The consultation closes next week and we’ll share our response here on our website soon. What I set out below is to encourage others to engage with that consultation.

At Fair4All Finance we’re committed to growing access to affordable credit, and for that credit to be as affordable as possible. We’ve committed over £50m in funding and social investment to credit unions and CDFIs (Community Development Finance Institutions).

These community finance lenders routinely show that higher APRs don’t automatically equate to a poor outcome for customer. They lend thoughtfully and responsibly to people who often struggle to access credit elsewhere.

Yet we sometimes see negative sentiment about the consumer costs of borrowing.

Credit unions have a maximum interest rate capped by regulation at 42% APR. Some people believe that is too high, but it typically reflects the costs of lending to customers who would struggle to find better alternatives.

CDFIs, often lending to customers with substantially worse credit files, routinely charge more – some charge a lot more – for the small sum short term credit they provide. Their costs of delivery, of which bad debt forms a part, drive the level of interest they charge. But another key contributor to what they charge is how much they are paying for their lending capital. 

For CDFIs and other responsible commercial lenders to scale significantly they need more lending capital, and they need that lending capital to be affordable. Yet regularly we see prospective investors, who would potentially offer cheaper lending capital, worry about the APRs being charged by well-run lenders and refuse to invest.   

Investors worry about this because they also don’t always understand how ineffective a measure APR is for short term, unsecured lending. This means CDFIs and other responsible commercial lenders can end up taking lending capital from more expensive investors, if it’s available, which charge them a higher APR, which in turn is passed on to the consumer. And so, the cycle continues!  

All of this might sound a bit of a bizarre objection. Surely it’s a good thing that investors are cautious about providing capital to lenders who are charging interest at a rate that is much higher than many commentators would themselves be offered?   

Well, sure, but who’s looking at the wider impacts of that?

In response to terrible practices and outrageous charges from some lenders – from high interest to penalty fees – high cost credit has been tightly regulated, almost out of existence.

While this has helped to protect consumers from unaffordable lending and problem debt, and led to welcome improvements in lending practices in the high cost credit market, it has also had unintended consequences.

Since 2013 the high cost credit market in the UK has shrunk from £4bn in 2013 to around £500m in 2024. This means that the 16-17m people who rely on access to non-standard credit are left with far fewer credit options.  

And perversely having ended the supply of regulated credit at high rates, where consumers had a right of escalation to the ombudsman, some are left with no alternative than to use illegal lenders whose rates are often the at and above the 10,000% level and come with threats of violence and intimidation and certainly no right to complain to the FOS.

So, although we can sleep easy at night knowing that some predatory lenders are no longer, we shouldn’t be sleeping easy with the lack of regulated alternatives that has unintentionally created. This is doubly problematic when the actual borrowing cost (£ per £100 borrowed) is not what is being objected to, but the APR where the % interest rate is inflated by a short term of months rather than years. 

The legacy of this change is that the available capital for higher cost lending is scarce, with much of it coming from offshore rather than from UK PLC. As a result the lending offered to borrowers who can afford to pay, where lending could be delivered in a compliant manner, is suppressed with a supply gap of £2bn per annum. That’s £2bn of commercially viable (ie profitable), compliant (ie within regulation) lending that is not being offered.

In some cases we see the limited supply that is still available under threat because of the perception of APR. In extremis, we see commercial higher cost lenders being debanked. Small family run firms are the last providers standing in the home collected credit market. They are regulated entities, with transparent conduct clear in auditable ombudsman complaints, and they mostly lend their own money.  

That regulatory environment is important. The interest they charge is significant and it needs scrutiny. Their customers are predominantly women and most of them have impaired credit files and few alternative choices.

Many of these lenders are now integrating benefits checkers into their customer engagements which is helping people discover benefits they were unaware of, and in so doing avoid the need to borrow.   

Despite their regulated lending status, and improvements to consumer experiences, some of the home collected credit providers we speak to have explained they were summarily debanked by their big-six bank in the weeks leading up to Christmas. No explanation. No reasonable grace period to find another business transaction account. Just account closure in an uncomfortably tight turnaround in their busiest lending month. Bear in mind the bank in question was not providing them with any lending capital, just providing them with a way for the business to make payments and be paid.

It is of course up to a bank to manage its business banking customers and decide what does and does not align with their reputation risk management appetite. But the bank that debanked that micro business lending door to door, didn’t also turn up to offer the lender’s customers an alternative credit product at a better rate.  

Sadly, the implications for the lender’s customers were not part of the bank’s consideration of whether it wanted to continue to provide accounts for the home collected credit lender. So whilst they may have ridded themselves of lending they didn’t want to be associated with, odds are that they’ve not improved the lives of the people who were reliant on that lender. The demand for that lending is still there.      

This is the shadow that APR is casting. By creating something that is poorly understood by consumers, that doesn’t improve consumer decision making, we have also created something that is not well understood by investors, and is inaccurately used as a proxy for good lending – with the aversion of investors to approach it leading to really perverse outcomes like funding constraints for responsible lending and debanking of lenders who are highly regulated and serving customers effectively. 

Something’s got to give, so now is a great time to engage with the FCA’s consultation on APR. The consultation closes on 17 June.