By Neil Kadagathur, founder and CEO of Creditspring
Every day, across the UK, thousands of people find themselves locked out of mainstream credit. Unfortunately, this included a young customer of ours, Poppy, who really struggled to build her credit score because of a thin credit file due to a lack of borrowing history and she was worried about what this would mean for her financial future.
Especially now, these issues have been exacerbated, particularly for young adults like Poppy. According to a recent report, in spite of young adults having been hit hardest financially by the pandemic, they are nine times more likely than those over 55 to have been turned down for credit. Shockingly, nearly half of under 35s turned to high-cost credit after being turned down by a mainstream lender.
With mainstream lenders turning customers away, it is unsurprising that people have turned to credit as a way to cope with income shocks amid the turbulent economic climate, which also caused the number of UK adults with low financial resilience to increase from 10.7 million to 14.2 million over the course of 2020.
But these short-term easily accessed loans often have higher interest rates which not everyone realises. While short-term loans might seem like an easy fix, what do they really mean for you and your finances?
Buy now pay later: worth the hype?
The sector has gained huge amounts of traction over the past year. During 2020, over 10 million are estimated to have bought products or services via a BNPL plan in the UK.
BNPL enables individuals to make payments via a short-term loan, most commonly repayable through a series of instalments, offering a quick, easy, and flexible short-term borrowing solution. The ability to spread costs over time offers a convenient and stress-free option for those experiencing financial instability.
Amid the hype, it can be easy to forget that BNPL is a form of borrowing, not payment, and in turn poses a risk. In fact, four in ten of those who’ve used BNPL in the last 12 months struggle to repay, as many as a quarter regret paying using BNPL platforms, and many say they cannot afford repayments or are spending more than they expected.
This spiral of debt might be attributed to the fact that it’s easy to miss BNPL’s fine print and hidden charges, with terms and conditions taking up to an hour to read and some banks charging almost 4% if a BNPL payment is made using a credit card. Furthermore, many people aren’t entirely sure what the method entails, with 42% not fully understanding what they are signing up for.
According to a survey of Creditspring members, borrowers feel that being upfront about hidden fees and charges is the number one thing a lender could do to improve the borrowing experience but many BNPL providers arguably are not doing this.
To top it all off, it’s the vulnerable that are suffering the most. A recent survey found that three-quarters of consumers who have missed a BNPL credit payment are said to have experienced a challenging life event in the past 12 months, whether that’s after having a baby or being made redundant.
Bank overdrafts: friend or foe?
It’s likely that you have heard of an overdraft, a borrowing method that allows you to take out money from your current account when you don’t have any money in it. These can be ‘authorised’ – which means you agree to have an overdraft in advance, or ‘unauthorised’ – which means the bank offers it to allow direct debits or other payments to come out even when your balance is too low. Offering a flexible option for those who need a quick, flexible option for day-to-day expenses, an overdraft can help you to manage cash flow in the short term.
What you might not be aware of is the fees and interest linked to using, extending and exceeding your overdraft, which while manageable on occasion, can be very expensive. Data from Hargreaves Lansdown found that going into your overdraft by £500 every month for 10 years would cost an astounding £1,663 in interest. What’s more, anyone who appears to be reliant on their overdraft can be deemed a risk by lenders, which might affect future borrowing prospects, for example when applying for a mortgage.
Recently, the Financial Conduct Authority (FCA) prevented interest rates for unarranged overdrafts – those that haven’t been pre-agreed with your bank – from being higher than arranged overdrafts. As a result, authorised overdrafts have become more expensive, with consumers able to pay over twice as much for arranged overdrafts following the changes.
Light at the end of the tunnel
It’s important that we have the option to access finance in a flexible way, but without the inherent risk of debt that high-cost forms of borrowing are associated with. Subscription finance is a new type of borrowing that can offer just that.
The vast majority of us have paid for a subscription service at some point in our lives, whether that be a streaming service such as Netflix, or our monthly mobile payments.
A credit subscription service is no different. By paying a small, fixed fee on a regular basis, it’s possible to receive no-interest loans and short-term credit, with no hidden charges and lengthy fine print. Creditspring helps people better understand their financial situation and take positive steps to build their financial stability.
Small, regular payments mean that interest is no longer a worry, and financial control is feasible. Likewise, this is a service that is available to a large pool of borrowers who might otherwise struggle to access mainstream credit products and instead rely on high-cost lenders that lead them further down the path to debt.
Credit that puts you first
Everyone should be entitled to credit – it forms an important part of an individual’s financial power and determines future financial freedoms, from the ability to afford a family holiday to simply coping with an unexpected MOT cost. It is crucial that in the pursuit of affordable credit, people do not fall into a spiral of debt due to a lack of transparency.
Everyone needs credit options that aren’t designed to trick them into spirals of unmanageable debt, but rather empower them and support them to reach a place of greater financial stability.
Credit subscription services offer a way of borrowing intelligently, responsibly and with ease, equipping people with all the necessary information to make informed financial decisions. This way, the power is fully in the hands of the borrower – as it should be.