In June last year, the Financial Conduct Authority (FCA) confirmed it was going to introduce reforms to "fix a dysfunctional overdraft market", to make overdrafts simpler, fairer and easier to manage. The aim? To protect the millions of consumers who use overdrafts. A handful of changes have already come into effect, with the remainder coming into force in April 2020. In this article, we look at the changes, their impact on the industry so far and who stands to benefit from them. 

What changes were proposed and why?

There was no surprise when the FCA announced in June 2019 that it was overhauling the overdraft market. Many considered the changes were long overdue, that the market needs to be more transparent, and in particular that the fees charged for a number of vulnerable customers going into unarranged overdrafts were disproportionately high. With this in mind, the FCA therefore ordered banks to:

  • stop charging a higher fee for an unarranged overdraft (being an overdraft which is entered into automatically when an account balance falls below zero) than for an arranged overdraft (one that is set up by agreement in advance);
  • stop charging fixed fees for borrowing through an overdraft i.e. it introduced a ban on any fixed daily or monthly fees for an overdraft, or a general fixed fee for having an overdraft facility;
  • price overdrafts using a simple annual interest rate i.e. without additional fees and charges;
  • advertise arranged overdraft prices with an annual percentage rate to make it easier for customers to compare them with other products;
  • comply with new guidance reiterating that refused payment fees should reasonably correspond to the costs to the bank of refusing payments; and
  • do more to identify customers who show signs of financial stress or are in financial difficulty, and develop and implement a strategy to reduce repeat overdraft use.

The changes are designed to help consumers with their finances and spending. The FCA wants consumers to understand that overdrafts are a form of debt, not their own money, and should not be used for large amounts over extended periods. 

The new rules will be in force by 6 April 2020, apart from the guidance on refused payment fees, which took effect immediately, and the repeat use remedies, which came into force on 18 December 2019. 

What impact have the changes had to date?

Banks have responded to the overhaul by setting their new single overdraft rate at a higher rate than their previous arranged one. The new rates will come into force in late March/early April. For a trade-off of saving consumers expensive unauthorised overdraft fees, many customers will find that arranged overdraft borrowing has become more expensive than before.

The FCA has written to major banks asking for detailed evidence of how they arrived at their new pricing structures. It has asked for (i) internal and external factors considered and how they were taken into account; (ii) a timeline of key decisions; (iii) a summary of decision-making executive meetings where the issue was discussed (including any minutes); and (iv) any pricing paper proposals. 

It also says it expects banks to take measures to help and support customers who could be left in a worse position or struggling because of the changes. Commentators in the industry have suggested that banks could reduce or waive interest, allow customers to continue using their (arranged) overdraft at current rates or agree repayment programmes. However, the information has only been requested by the FCA on a voluntary basis and it remains to be seen how the banks will respond and what changes or further requirements the FCA will actually implement going forwards.

Who stands to benefit from them?

The FCA have said that 7 in 10 customers will be better off or see no change. However, this implies that almost a third will be worse off. Certainly those customers who regularly use agreed authorised overdrafts will be likely to pay more for this if their borrowing patterns continue unchanged.

There is no doubt that the FCA changes will be helpful to some consumers i.e. those that occasionally slip into an unarranged overdraft and, in particular, those who do so regularly, as the overall cost of such usage will fall. However, borrowers with large, arranged overdrafts already paying significant sums for their borrowing could see those sums double and will not have much time to switch to an alternative.

As a result, consumers are being advised to consider other methods of credit if they find they need to borrow for longer. However, this will only lead to an increase in other types of borrowing, such as credit cards and personal loans. It will be interesting to see the impact of the reforms over time and, in particular, whether or not arranged overdraft users are significantly worse off in practice.

It seems as if the banking industry's position may well remain the same. In charging some customers less, they recoup the money through a fee structure that charges others more. The reforms may therefore simply shift costs from one vulnerable group to another (less vulnerable) group. If those arranged overdraft users move to borrow elsewhere, then it may mean banks ultimately need to look at charging all customers for current accounts – something they have long hinted would be the case. From a disputes perspective, the changes may ultimately lead to an increase in litigation for banks, in pursuing their own customers who find themselves in different kinds of debt than they would have been prior to the changes. If that were to happen, many banks may end up spending more in litigation costs than they would have done if there had been no reform at all.

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