Responsible lending rethink – easing access to credit for consumers and small businesses

Responsible lending obligations (RLOs) will be jettisoned to fire-up post-COVID economic recovery.

On 25 September 2020, in the lead up to the Federal Budget, Treasurer Josh Frydenberg announced that as part of the Morrison Government’s economic recovery plan, it will remove RLOs from the National Consumer Credit Protection Act 2009 (Credit Act).

Lenders and mortgage brokers will no longer be subject to RLOs, except in relation to small amount credit contracts (SACCs) and consumer leases, with additional obligations introduced for these products.

The trouble with RLOs

While the principles behind RLOs appear sound, their application has led to uncertainty, lack of flexibility, and a risk averse culture in credit provision. The Governor of the Reserve Bank of Australia, Phillip Lowe, summed up the problem: “the pendulum has swung a bit too far in blaming the bank if a loan goes bad because the bank didn’t understand the customer.”

RLOs resulted in lengthy and unwieldy credit processes.  Lenders faced vast penalties for breaches of RLOs, even where there was no actual consumer harm. Credit assessment was designed to prevent regulatory problems, rather than assessing the needs and circumstances of individual borrowers. The requirement for lenders to verify an applicant’s income and expenses involved a virtual proctology exam for potential borrowers, having to justify even small discretionary spends, and excessive amounts of data for lenders to sift through. 

Little wonder that the Government considers RLOs are slowing recovery and creating a barrier to accessing credit for consumers and small businesses.

Enhanced consumer safeguards lessen reliance on RLOs for consumer protection

In the wake of the Banking Royal Commission, subsequent legislative amendments mean ASIC has additional enforcement tools, arguably lessening the need for RLOs. These changes include:

  • product intervention powers;
  • design and distribution powers;
  • a best interests duty for mortgage brokers;
  • significant increases in maximum corporate and financial sector civil and criminal penalties under the Credit Act;
  • banning unsolicited credit card offers;
  • the establishment of the Australian Financial Complaints Authority (AFCA); and
  • inclusion of enforceable provisions in industry codes, such as the Banking Code of Practice, to be regulated by ASIC.

APRA has also updated its lending standards to require sound credit assessment and approval criteria. These standards currently apply only to authorised deposit-taking institutions (ADIs), but the Government proposes to modify key elements of the APRA standards to apply to non-ADIs.

Onus on lenders to verify borrowers’ information removed

One of the major criticisms of the RLOs was the requirement that the lender verify information provided by the borrower. This meant lenders were unable to rely on information provided by the borrower, even in relation to non-material expenditures. This increased application approval times and has been a disincentive to refinance or switch credit providers.

The Government now intends to introduce a “borrower responsibility” principle.  This principle will allow lenders to rely on the information provided by borrowers, unless there are reasonable grounds to suspect it is unreliable.

Small business lending

Under the current regime, the RLOs do not apply to small business lending if the predominant purpose of the loan is for business purposes. These loans are not regulated by the Credit Act. However the RLOs will still apply to a regulated loan if one of the purposes of the loan (but not the predominant purpose) is a business purpose. This has led to some confusion in implementation, and in March 2020, the Government announced a six month exemption from the RLOs for regulated loans if at least some of the credit was used for business purposes.

The Government wants to clearly separate consumer and small business lending. Under the proposed changes, where a proportion of an application for credit is for a business purpose, irrespective of the proportion, the framework applicable to consumers will not apply.

Total payments cap for consumer leases

A cap on the total payments made under a consumer lease will be implemented.  The cap on costs will be equal to the sum of the base price of the goods hired, permitted delivery and installation fees, multiplied by 4% per month, up to a maximum of 48 months.   An establishment fee of up to 20% of the base price of goods can also be charged.

Protected earning amounts introduced for SACCs and consumer leases

SACCS and consumer leases will be prohibited if the SACC or lease does not comply with the following protection of income framework:

  • Where the customer receives 50% or more of their net income from Centrelink: no more than 20% net income to SACC and consumer lease payments; and no more than 10% of the 20% being SACC repayments.
  • Where the customer receives less than 50% of their net income from Centrelink: No more than 20% of net income to SACC and consumer lease payments.

Debt management firms to be licensed

The Government will require debt management firms to hold an Australian Credit Licence (ACL) when the firm is paid to represent consumers in disputes with financial institutions. As ACL holders, these firms will be required to comply with the general obligations of licensees, including to act efficiently, honestly and fairly, and to be members of AFCA.

Timing

The Government says it will consult publicly with stakeholders before finalising any legislation required to implement the changes.

Subject to the passage of amending legislation, the Government’s indicative timeframe is:

  • changes to the Credit Act to remove RLOs will commence from 1 March 2021;
  • caps on consumer leases and protected income provisions will take effect 6 months following the passage of legislation; and
  • the requirement for debt management firms to hold an ACL will be implemented through a change to the credit regulations and will commence from 1 April 2021. 

Kathleen Harris and Patrick Dwyer
Legal Directors

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