Credit unions as a viable alternative to payday lenders

Posted by Rebecca Stains in Credit Crunch on 20 January 2015 - Rebecca worked as a Credit Analyst at checkmyfile until 2015

A new cap on payday loans was introduced in the New Year, meaning that all short-term credit will now capped at a daily rate of interest at 0.8%. Default charges cannot exceed £15 and the maximum amount paid back will not exceed twice what was borrowed.

But this will leave around 70,000 borrowers that the Financial Conduct Authority (FCA) estimates will no longer be able to access this type of credit. The worry is that these borrowers may turn to illegal loan sharks, says the payday loan industry body the Consumer Finance Association (CFA).

In the past it has been hard for credit unions to compete with payday lenders. The CFA has said that credit unions have not yet proved themselves as a viable alternative. In 2012, the Department for Work and Pensions published a report stating that the sector was ‘not financially sustainable’ because of high cost structures and low interest rates. However, since then the government has signed a £38 million deal with the Association of British Credit Unions (Abcul) to ‘modernise’ the sector. It has increased the monthly cap on interest rates they can charge from 2% to 3% this will help credit unions generate more income and have the ability to lend to members with a higher risk profile.

Unlike a building society or bank, members of a credit union share a common bond; something that unites them, such as a location or a trade.

An example of a credit union is Glasgow credit union. It was started 25 years ago for the employees of Glasgow City Council. It is now the largest in Britain, both in terms of assets and membership. With 36,000 members, 600 have used the union to take out a mortgage.

Another example is London Mutual; it is the only credit union openly advertising ‘payday loans’. First-time customers can borrow up to £400 on the same day at a 3% monthly interest rate. But unlike high street payday lenders, if a borrower took out £100 over 30 days, they would pay back only £103. This is well below the repayments that payday loans can charge, even under the new cap. With London Mutual are no additional fines for early or late repayment, but borrowers must be earning more than £12,000.

The Church of England has also launched ‘To Your Credit’ campaign to promote credit unions and other community finance organisations. It is promoting debt advice services and money skills courses. Sir Hector Sants, head of the FSA says, “To be fully effective the sector will have to grow both in terms of capacity and capability, and helping them to do this is a key element of the church’s initiative”.

Mark Lyonette, chief executive of Abcul, says that credit unions are not an immediate answer to payday lenders, but rather that it is now important to create a long-team, responsible alternative.

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