BNPL: UK Government Consultation and International Overview

November 26, 2021
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On October 21, 2021, the UK government launched a consultation on the potential scope of regulation and regulatory controls for buy now, pay later (BNPL) products, which are currently unregulated. This analysis focuses on the government’s views contained in the consultation, as well as their potential impact for the currently unregulated BNPL product providers. It also gives an overview of the initiatives, in relation to this kind of product, taken in other jurisdictions.

On October 21, 2021, the UK government launched a consultation on the potential scope of regulation and regulatory controls for buy now, pay later (BNPL) products, which are currently unregulated. This analysis focuses on the government’s views contained in the consultation, as well as their potential impact for the currently unregulated BNPL product providers. It also gives an overview of the initiatives, in relation to this kind of product, taken in other jurisdictions.

Background

Following its call for input “Review into change and innovation in the unsecured credit market” in November 2020, the UK Financial Conduct Authority (FCA) published the Woolard Review on February 2, 2021, which investigated how regulation can support the lending market, particularly taking into account the emergence of new unregulated products. The review highlighted the rapid expansion of BNPL and identified the potential harm that such products, considering low consumer knowledge of the product, may cause to consumers, such as overindebtedness and lack of appropriate consumer credit assessment.

Additionally, the Woolard Review highlighted the significant growth of the value of transactions made using BNPL and recommended that this product should be within the scope of FCA regulation, while making sure that other services, such as healthcare and sport clubs, would not be included. On April 29, 2021, the UK Financial Services Act 2021 received royal assent, with Section 37 enabling the Treasury to exclude the application of provisions of the Consumer Credit Act (CCA) 1974 to certain credit activities, to allow a “proportionate approach” and exempt them from the scope of possible future provisions.

More details about the Woolard Review and the rapid expansion of the BNPL market can be found here.

Consumer credit regulation and RAO exemption

The Financial Services and Markets Act 2000 (FSMA) and the CCA regulate unsecured credit in the UK and the Regulated Activities Order (RAO) sets out which kinds of credit agreements fall within their scope and therefore require a relevant licence from the FCA.

Article 60F(2) of the RAO provides the conditions under which credit agreements fall outside the scope of the regulation. In relation to BNPL, the following are relevant:

  • Borrower-lender-supplier agreement for fixed-sum credit.
  • The number of payments to be made by the borrower is not more than 12.
  • Those payments are required to be made within a period of 12 months or less (beginning on the date of the agreement).
  • The credit is provided without interest or other charges.

Scope of the consultation

Although certain categories of BNPL products are regulated, other types of BNPL are not due to providers making use of the RAO exemption. The scope of the consultation includes only BNPL products that are currently exempt from regulation.

The consultation’s objective is to gather views to help delineate two main points regarding the provision of regulation on BNPL products: the scope; and the kinds of controls applicable to credit agreements, taking into consideration:

  • The product can be allowed to be offered and consumer choice should not be narrowed.
  • Adequate consumer protection and access to dispute resolution solutions should be offered.
  • The regulation should not have a negative impact on competition and innovation within consumer credit and payments markets.
  • Small and medium-sized enterprises (SMEs) should not be penalised in comparison to larger companies when offering BNPL services.

The UK government has identified three key categories of credit or financial arrangements that currently use the exemption provided by Article 60F(2) of the RAO, namely unregulated BNPL, short-term interest-free credit and invoicing.

Invoicing is defined in the consultation as “arrangements between a supplier and customer, which permit the customer to pay for goods or services at a date later than the contractual due date”. However, as the government considered that these practices benefit consumers and businesses more than they may potentially harm them, they are not further taken into account by the consultation.

BNPL

BNPL, according to the consultation document, “now represents the most common type of formal credit agreement that falls within the Article 60F(2) exemption”.

The following are the characteristics of BNPL products considered by the consultation:

  • The consumer may have already opened, or decides to open, an account with a BNPL third-party provider, whose product is offered by the merchant from whom the consumer intends to make a purchase.
  • The consumer uses BNPL to finance the purchase at the point of sale.
  • A percentage of the amount of the credit agreement between the BNPL provider and the consumer, used to make the purchase, constitutes the merchant fee kept by the BNPL provider.
  • The account the consumer holds with the third-party BNPL provider can be used by the consumer to finance purchases from any merchants that offer BNPL from that provider.
  • In certain BNPL models, a third-party lender buys goods from a merchant and then sells them on to the consumer. In other cases, lenders and merchants do not have any kind of previous relationship.
  • Usually the value of the credit object of the agreement is low, at an average of £65 to £75. BNPL products are mostly used in online transactions, especially e-commerce.
  • Terms of repayments are short, such as deferring payment for a month or providing repayments over three to four months.

Short-term interest-free credit

The consultation on BNPL refers to “short-term interest-free credit”, which include “formal interest free instalment loans, repayable in under a year, generally offered by a third party and used to finance higher-value goods, as well as those which allow monthly payments for club memberships and season tickets, more often offered without third-party involvement”. This kind of credit can also be offered by the merchant themselves; however, those offered by third parties are more common as the merchant does not have to bear the risk associated with the credit and the cost of managing the loan. The following are the most common characteristics of short-term interest-free credit as laid out in the consultation:

  • Usually it is used to finance higher value goods and services.
  • “Credit is more commonly offered over a full year and 12 instalments”.
  • Lenders usually hold an FCA licence for other activities they carry out.
  • The agreement generally takes place on-premises.
  • “Consumers typically do not have an ongoing relationship or an account with the lender”.

According to the UK government, short-term interest-free credit seems to carry similar risks to those associated with BNPL, especially when provided by third parties. However, “the government has not seen substantive evidence of widespread consumer detriment arising from this type of lending and is minded to draw the scope of regulation so that such credit agreements can continue outside of the regulatory boundary”.

Consultation considered options

The government considers the following options:

  • Include interest-free credit agreements within the scope of the regulations when a third-party lender is involved in the transaction.

This option would make the scope broader; however, according to the government, it would include most of the situations associated with higher risks and would not create additional significant burdens on short-term interest-free credit providers.

  • Consider a BNPL agreement as “one where there is a pre-existing, overarching relationship between the lender and consumer, for example where a consumer opens an account with a lender, under which the lender agrees to finance one or more transactions but where any repayments made are toward specific agreements made as part of that relationship”.

The government believes that, under this option, BNPL products might escape the regulation with small changes to the agreement, as they could be assimilated into running account credits, which currently fall within the exemption provided by Article 60F(3) of the RAO. The government also highlighted that some BNPL providers already offer running account credits.

Therefore, the government proposes and seeks views on how to make sure that the products would not fall within the above exemption, which requires all the following conditions:

  • It is a borrower-lender-supplier agreement for running account credit.
  • The specified periods for the borrower to repay the amount of credit must be up to three months.
  • The borrower is to make no more than one payment in each such period to repay the whole amount of credit provided.
  • No interest or other significant charges are provided for the credit.

Regulatory controls

As, according to the UK government, credit provided with interest carries a higher level of risk than credit offered without interest, it suggests a proportionate approach to such kind of credit.

Credit broker

The consultation highlights that merchants offering BNPL provided by third parties could be regarded as similar to credit brokers, as they do not provide the credit themselves. However, the consultation also highlights that credit brokers are subject to requirements, such as FCA licensing and periodic regulatory reporting, and applying them to retailers could be disproportionate.

Therefore, the government’s view is to exempt merchants that act as brokers for BNPL products from being subject to the application of credit brokerage regulations.

Advertising and promotions

On December 1, 2020, the Committee of Advertising Practice (CAP) issued its Guidance on advertising delayed payment services, specifically addressed to unregulated BNPL and merchants that make these products available, to ensure that relevant and appropriate information about BNPL is given to consumers. Advertising and promotions of BNPL products were also identified as an area of concern in the Woolard Review.

The government’s consultation considers that consumer protection could be provided, including all promotions of BNPL agreements, within the financial promotions regime that already applies to certain financial and investment products. This would mean that merchants or credit providers promoting credit products need to obtain approval from an FCA-authorised entity or be authorised by the FCA themselves. Additionally, “the promotion has to meet standards set out in the FCA’s rules on financial promotions and communications including that it is ‘clear, fair and not misleading’”.

“The government considers that proportionate regulation of BNPL could include amendment of the relevant legislation so that all promotions of BNPL agreements also fell within the financial promotions regime,” according to the consultation.

Creditworthiness assessment and consumers in financial difficulties

The creditworthiness assessment is one of the Woolard Review’s main concerns. It consists of checking the affordability (whether the borrower would be able to repay the credit without negatively affecting their overall financial circumstances) and risk of the credit (the risk of the borrower not being able to repay the credit). In this instance, the government’s view is to apply the FCA’s current rules on creditworthiness to BNPL agreements and ensure that BNPL providers’ reports on credit agreements to credit rating agencies (CRAs) are consistent.

The government suggests introducing requirements for BNPL providers on how to handle situations where the customer is in financial difficulty and on communication with them when payments are not made on time, as no obligations are currently provided and inconsistency across the sector has been noticed, contributing to consumer confusion on the product.

Financial Ombudsman Service

The government proposes making the free and independent Financial Ombudsman Service (FOS) available to solve consumer complaints on lender conduct. Currently, according to the consultation, despite some BNPL providers offering a process to handle complaints, “this is not truly independent, and there is no standard approach across the industry to provide this”.

Next steps

The UK consultation will close on January 6, 2022, following which the government will publish a summary of responses.

Beyond the UK - Overview

The BNPL market is not only growing rapidly in the UK ​​— the following jurisdictions are also assessing the risks associated with the product and whether further regulation is necessary.

Australia - In November 2020, the Australian Securities and Investments Commission (ASIC) launched a consultation following its Consultation Paper 330 (CP 330) - "Using the product intervention power: Continuing credit contracts". The November 2020 consultation proposed changes to CP 330 to exclude certain BNPL arrangements and the fees charged by Australian financial services licensed providers of non-cash payment facilities that are associated with continuing credit providers. To date, ASIC has not released updates on the draft.

On March 1, 2021, the Australian Finance Industry Association (AFIA) announced the entry into force of its Code of Practice for Buy Now Pay Later (BNPL) on the same day. The code is binding for code compliant members of the AFIA BNPL Providers Group when they provide BNPL products or services, as specified in Part A.

Canada - On November 18, 2021, the Canadian government released a Pilot Study: Buy Now, Pay Later Services in Canada from the Financial Consumer Agency of Canada (FCAC). The study suggested that overall consumers expressed they had had positive experiences using BNPL; however, “data also point to potential risks that warrant further research and examination”. The FCAC stated that, among other actions, it will monitor the market to understand how vulnerable consumers use it and will examine the regulatory framework applicable to such products.

New Zealand - On November 4, 2021, the Ministry of Business, Innovation and Employment (MBIE) launched a consultation on buy now, pay later (BNPL) to assess costs and benefits of such products and consider whether actions need to be taken to address their associated risks. The consultation closes at 5pm on December 16, 2021.

Russia - On November 1, 2021, the Bank of Russia issued an information letter which highlights cases in which professional lenders (intended as a person carrying out professional activities in the provision of consumer loans in accordance with clause 5 of part 1 of Article 3 and Article 4 of the Federal Law No. 353-FZ, dated 21 December 2013, ‘On Consumer Loans’), provided payment services that allow consumers to make a purchase by paying in installments without concluding consumer contracts credit. The bank considered this practice to deprive consumers of a number of significant rights and guarantees provided by Federal Law No. 353-FZ, including, in terms of informing borrowers, limiting the cost of borrowed funds and the amount of penalties and limiting the possibility of assignment of rights requirements. Therefore, the bank recommended that professional lenders refrain from such practices until changes in regulations are implemented.

Sweden - On November 2, 2021, the Swedish Ministry of Finance published the Committee Directive Dir. 2021:108 Counteracting Risky Lending and Over-Indebtedness (Motverka riskfylld kreditgivning och överskuldsättning), appointing a special investigator to examine the market for consumer credit and to assess whether measures to counteract risky lending and over-indebtedness are necessary, as well as to make proposals. The report is due by May 3, 2023.

Conclusion

With the rapid development of BNPL products, jurisdictions around the world have expressed concern about the potential risks they may cause, especially to vulnerable consumers. The UK consultation seeks feedback on the government views and proposed options to regulate BNPL, such as: exempting merchants that broker BNPL products from being subject to the application of credit brokerage regulations, including all promotions of BNPL agreements within the financial promotions regime scope; introducing requirements for BNPL providers on how to handle situations when the customer is in financial difficulty or repayments of the credit are not made on time; regulating promotions and advertising of BNPL products; and providing consumers with complaints mechanisms, while protecting consumers and not limiting their choices in terms of payments.

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