The FCA has found that around 2.2 million people in the UK using a consumer credit product suffer financial distress. The FCA’s Occasional Paper 20 “Can we predict which consumer credit users will suffer financial distress” (OP20) aims to analyse the prevalence of financial distress, how it is related to consumer credit use and whether financial distress can be predicted.
The FCA considers that customers suffer financial distress “when they face financial and non-financial difficulties from repaying their outstanding debts”, which can be assessed using objective measures such as whether a customer misses repayments or subjective measures, such as the customer’s experiences and ability to manage their finances.
Interestingly the FCA, which has taken on the responsibility for regulating 50,000 consumer credit firms, asks fundamental questions such as “is consumer credit debt bad?” The paper considers behavioural biases which have played into social discourse on the use of credit, and questions the role of credit in society.
OP20 makes the point that “financial distress” is necessarily subjective, and that determining an “appropriate” level of debt will clearly vary from customer to customer. OP20 suggests that assessments of financial distress amongst borrowers should be sufficiently flexible to cover idiosyncratic issues amongst populations of borrowers.
OP20 found that, when examining subjective measures of financial distress, approximately half (49 per cent) of individuals with outstanding consumer credit debts do not consider keeping up with repayments a burden, but that 17 per cent of individuals with outstanding consumer credit debts face moderate or severe financial distress.
The demographic of a target customer profile will also have an impact on the likelihood of a firm’s customers experiencing financial distress. The FCA found that individuals in financial distress were typically younger, with lower income, less likely to be employed and exhibited higher debt-to-income ratios. They were also more likely to hold products with a higher cost (such as payday loans).
OP20 also provides consumer credit firms with a variety of potential predictors of financial distress, all of which can be used by lenders when carrying out a creditworthiness assessment on customers.