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National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011

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2010-2011

 

THE PARLIAMENT OF THE COMMONWEALTH OF AUSTRALIA

 

 

HOUSE OF REPRESENTATIVES

 

 

THE National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011

 

 

EXPLANATORY MEMORANDUM

 

 

 

(Circulated by the authority of the

Deputy Prime Minister and Treasurer,

the Hon Wayne Swan MP)





The following abbreviations and acronyms are used throughout this explanatory memorandum.

Abbreviation

Definition

Home Loans and Credit Cards Bill

The National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011

NCCP Act

National Consumer Credit Protection Act 2009

National Credit Code

Schedule 1 of the National Consumer Credit Protection Act 2009

Transitional Act

National Consumer Credit Protection (Transitional and Consequential Provisions) Act 2009



Outline

The National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011 (Home Loans and Credit Cards Bill ) amends the National Consumer Credit Protection Act 2009 (NCCP Act) .  The NCCP Act establishes a national consumer credit regime.

The Home Loans and Credit Cards Bill adds Part 3-2A and Part 3-2B to the NCCP Act and makes consequential amendments to the NCCP Act and the National Consumer Credit Protection (Transitional and Consequential Provisions) Act 2009

The provisions contained within Part 3-2A introduce a requirement for lenders to provide a Key Facts Sheet for standard home loans.

The provisions contained within Part 3-2B:

•        restrict approval of the use of credit cards above the credit limit;

•        specify an allocation hierarchy for payments made under credit card contracts;

•        restrict credit providers from making unsolicited invitations to borrowers to increase the credit limit of their credit card; and

•        introduce a requirement for lenders to provide a Key Facts Sheet for credit card contracts.

Summary of regulation impact statement

Impact: The Home Loans and Credit Cards Bill will affect consumers who use credit cards; consumers of credit used to fund or refinance the purchase of residential property; industry participants, particularly credit card and home loan providers; the Government; and ASIC.

Main Points:

•        These reforms will assist consumers by increasing their capacity to select products or use their credit cards in a way that reduces the level of fees and interest they are charged; and reducing the risk of consumers being provided with credit cards limits where they may be unable to pay the total balance within a relatively short period of time.

•        The costs imposed on credit card industry participants relate to the development of adequate systems and resources to meet the new requirements, including changes to ensure that payments are allocated in the requisite way, credit card usage is not approved above the credit limit except in certain circumstances and Key Facts Sheets are provided to consumers.  There will also be associated record keeping costs.

•        Credit card industry participants are expected to face reduced revenue from existing practices in relation to credit card products.  They will also be under greater pressure to be competitive given that consumers can make more informed choices upfront.

•        The costs imposed on home loan providers primarily relate to the development of adequate systems and resources to ensure that Key Facts Sheets are provided to consumers, and can be generated by them online.  There will also be associated record keeping costs.

 

Date of effect: Sections 1 to 3 and any other provisions that do not have a specified commencement date come into effect on the day the Bill receives the Royal Assent.  Schedule 1, part 1 applies from 1 September 2011.  Schedule 1, part 2 applies from 1 July 2012.  Schedule 2 applies from 1 July 2012. 

Proposal announced: These reforms form part of the Government’s ‘Fairer, Simpler Banking’ and ‘Competitive and Sustainable Banking System’ announcements of 15 August 2010 and 12 December 2010 respectively.



Outline of chapter

1.1                   Chapter 1 of this explanatory memorandum outlines the arrangements for the commencement of the National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011 (Home Loans and Credit Cards Bill), definitions which are to be inserted into section 5 of the National Consumer Credit Protection Act 2009 (NCCP Act), and other key terms used throughout this explanatory memorandum.

Context of amendments

1.1                   At its meetings on 3 July and 2 October 2008, the Council of Australian Governments (COAG) agreed to implement a two-phase implementation plan to transfer credit regulation to the Commonwealth and introduce new Commonwealth regulation to enhance consumer protection.

1.2                   The NCCP Act implemented phase one of the implementation plan by introducing a Commonwealth statutory framework for the regulation of lenders and brokers.  The Home Loans and Credit Cards Bill supplements regulation in respect of two of the most common types of credit, credit cards and standard home loans.  This is part of phase two of the COAG implementation plan.

Summary of new law

1.3                   The Home Loans and Credit Cards Bill introduces major changes to the relationship between credit providers and consumers in respect of credit cards and home loans, as it:

•        introduces a requirement for home loan lenders to display on their website, and make available on request, a Key Facts Sheet about the products they offer.  The Key Facts Sheet sets out, in a standardised format, pricing and other information about their products (so that consumers can readily compare different home loans, especially in respect of their cost);

•        makes it mandatory for credit providers to include, in credit card application forms, key information about the annual percentage rate and other terms which would apply to any resulting contract;

•        prohibits credit providers from making unsolicited invitations that encourage consumers to increase their credit limits (except where the consumer has consented to receive such offers);

•        regulates the circumstances in which borrowers can exceed the credit limit on their card, and prohibit fees being charged by the credit provider where they do so (except where the consumer has specifically opted to have a higher buffer where they can be charged fees); and

•        requires credit providers to allocate repayments by the borrower to that part of the balance of their credit card on which they are charged the highest interest rate (subject to the consumer specifically electing to have a different payment arrangement). 

1.4                   Contravention of various provisions of this Bill attracts civil and criminal penalties.  Some offences attract strict liability penalties.

1.5                   The Bill allows for the detail of various obligations to be specified in the regulations, including in relation to:

•        the form and content of Key Facts Sheets;

•        a credit provider’s record keeping requirements;

•        circumstances in which liability will not attach to the credit provider; and

•        notifying the consumer of various issues, including when a credit card is used in excess of its credit limit.

Detailed explanation of new law

Commencement

1.6                   Sections 1 to 3 and any other provisions that do not have a specified commencement date come into effect on the day the Bill receives the Royal Assent.

1.7                   Schedule 1, part 1 applies from 1 September 2011.  This part introduces the requirement for credit providers to provide a Key Facts Sheet for home loans.

1.8                   Schedule 1, part 2 applies from 1 July 2012.  This part contains the amendments relating to credit cards.

1.9                   Schedule 2 applies from 1 July 2012.  This schedule applies transitional arrangements to Divisions 4, 5 and 6.

Definitions

1.10               The Home Loans and Credit Cards Bill inserts into subsection 5(1) of the NCCP Act a number of new definitions, or varies existing definitions. 

1.11               The phrase annual percentage rate is defined to have the same meaning as in section 27 of the National Credit Code.

1.12               A credit card is one or more of the following:

•         a card of a kind commonly known as a credit card; or

•        a card of a kind that persons carrying on business commonly issue to their customers, or prospective customers, for use in obtaining goods or services from those persons on credit; or

•         anything else that may be used as a card referred to above.  [Schedule 1, item 19,  subsection 133BA(2)]

1.13               The reference to ‘a card of a kind that persons carrying on business commonly issue to their customers for use in obtaining goods or services on credit from that business’ will include credit cards that may only be used with the issuer.

1.14               For the purposes of the Home Loans and Credit Cards Bill, ‘credit card’ includes anything else that may be used as a card such as ‘near-field communications’ devices.  ‘Near-field communication’ is a short range wireless communication technology emitted by devices such as mobile phones to allow consumers to access their account in place of a credit card.

1.15               Articles that can be used both as credit cards and in other ways, for example as a debit card, are considered to be a credit card but the provisions of this Act do not apply to the article in so far as it can be used in those other ways.  [Schedule 1, item 19, subsection 133BA(5)]

1.16               A credit card contract is a continuing credit contract (a credit contract under which multiple advances of credit are contemplated and where the amount of credit available ordinarily increases as the amount of credit is reduced) under which credit is ordinarily obtained only by the use of a credit card.  [Schedule 1, item 19, subsection 133BA(1)]

1.17               A contract will only be subject to the requirements contained in this Bill where c redit regulated by the NCCP Act is provided under the contract.  For example, the requirements would not apply to a contract under which a consumer can use a charge card to only access credit that is not regulated by the NCCP Act, or to a debit card where the consumer may be able to obtain both their own savings and amounts that are credit (but again that is not regulated by the NCCP Act). 

1.18               The existing definition of credit limit in subsection 5(1) of the NCCP Act is varied by including the phrase ‘disregarding the default buffer and any supplementary buffer (in the case of a credit card contract)’.  This ensures that the current meaning of credit limit, and the responsible lending obligations that apply in relation to credit limits, are unaffected by the introduction of the concepts of the default buffer and the supplementary buffer (in Part 3-2B Division 5 of the Home Loans and Credit Cards Bill).  [Schedule 1, item 11, subsection 5(1)]

1.19               Residential property has the same meaning as in section 204 of the National Credit Code.  [Schedule 1, item 2, subsection 5(1)]

1.20               The Bill also introduces a number of other definitions that are only relevant to particular provisions.  These definitions are discussed in the context of those specific requirements and obligations. 

1.21               The Bill makes a consequential amendment to the note under subsection 6(2) of the NCCP Act, to change the current wording to ‘credit card contracts’, to ensure internal consistency.  [Schedule 1, item 18, subsection 6(2)]



Outline of chapter

2.1                   The National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011 (Home Loans and Credit Cards Bill) implements a requirement for the credit provider to provide consumers with a Key Facts Sheet for standard home loans.

2.2                   The obligations only apply to credit providers who are licensees as defined in the NCCP Act.  In this chapter, the term credit provider refers to a credit provider who is a licensee.

Context of amendments

2.3                   At its meetings on 3 July and 2 October 2008, the Council of Australian Governments (COAG) agreed that the Commonwealth would implement a two-phase Implementation Plan to transfer credit regulation to the Commonwealth and introduce new Commonwealth regulation to enhance consumer protection.

2.4                   The NCCP Act implemented phase one of the implementation plan by introducing a Commonwealth statutory framework for the regulation of lenders and brokers.  The Home Loans and Credit Cards Bill supplements regulation in respect of two of the most common types of credit, credit cards and standard home loans.  This is part of phase two of the COAG implementation plan.

2.5                    A standard home loan is defined in section 133AA of the Bill as a loan used to finance the purchase of residential property (or refinance such a loan).  This is a significant asset from a social perspective.  A standard home loan is in many cases the largest loan that a person will take out and they may spend much of their lifetime repaying it.  There are many home loan products on the market and innovations in product design and features mean it can be difficult and time consuming for consumers to understand and compare products, or to identify which product is cheapest or can be most quickly repaid by the borrower.  The Home Loans and Credit Cards Bill assists consumers by improving disclosure requirements through the introduction of a simplified and standardised summary of the home loan product. 

Summary of new law

2.6                   The provisions contained within Part 3-2A introduce a requirement for lenders to provide a Key Facts Sheet for standard home loans.

2.7                   The obligations only apply to credit providers who are licensees.  A licensee is a person who holds an Australian credit licence.  In this explanatory memorandum, the term credit provider is a reference to a licensee who is a credit provider. 

Comparison of key features of new law and current law

 

New Law

Current law

Credit providers are required to provide a Key Facts Sheet to consumers in addition to their existing disclosure requirements. 

 

 

There is no equivalent disclosure requirement for a Key Facts Sheet to be made available to consumers before they have decided on a particular product. 

The existing disclosure obligations in the National Credit Code only apply once the credit provider has decided to accept an application by a borrower.  These obligations require the credit provider to disclose information in relation to the terms of the proposed contract, and to provide borrowers with a summary of their rights and obligations under the contract (Sections 16 and 17 of the National Credit Code).

Detailed explanation of new law

Part 3-2A Additional rules relating to standard home loans

Division 2 — Key Facts Sheets for standard home loans

2.8                   The Home Loans and Credit Cards Bill inserts Part 3-2A into the NCCP Act which imposes requirements that ensure a consumer can obtain a Key Facts Sheet for standard home loans on a lender’s website or on request.

2.9                   A standard home loan is defined as a standard form of credit contract under which the credit provider provides credit either to purchase residential property or to refinance credit that has been provided predominantly to purchase residential property, including for investment purposes.  These types of contracts will usually be regulated by the NCCP Act, although this cannot be determined until the terms of the contract and the identities of the contracting parties are known.  The regulations may make provisions for determining whether a particular credit contract is a standard form of credit contract.  [Part 3-2A, division 2, section 133AA]

2.10               A Key Facts Sheet for standard home loans is a document which contains the information and complies with the requirements prescribed by the regulations.  It is proposed that the form of the Key Facts Sheet will be prescribed by regulations.  [Schedule 1, item 5, section 133AB]

2.11               This document will summarise the key facts about a given home loan, which may include:

•        the interest rate;

•        the all-in rate, that is, the total cost including interest plus fees;

•        the total cost of the home loan;

•        particular product features;

•        fees; and

•        an explanation of how monthly repayments will be affected if interest rates increase.

2.12               The regulations may require the Key Facts Sheet to be based on information provided by the consumer as well as particular assumptions.  It is anticipated that the regulations will provide for the content of the Key Facts Sheet to be specified in a way that ensures comparability between similar products.  [Schedule 1, item 5, subsection 133AB(2)]

Requirement for consumer to be able to generate Key Facts Sheet on credit provider’s website

2.13               If the credit provider has a website that allows the consumer to apply for, or make an inquiry about a standard home loan, the website must allow consumers to generate an up-to-date Key Facts Sheet.  [Schedule 1, item 5, section 133AC]

2.14               The credit provider must ensure that the website informs the consumer that they can use the website to generate a Key Facts Sheet for the loan and what information is needed in order to generate it.  They must also provide instructions on how to generate a Key Facts Sheet, and ensure that the website complies with any requirements prescribed by the regulations.  [Schedule 1, item 5, section 133AC]

2.15               Breach of the requirements in section 133AC attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 5, subsections 133AC(2) and (3)]

2.16               Strict liability also attaches to this section with a penalty of 10 penalty units, meaning that this penalty applies regardless of fault.  This reflects the importance of the objective of ensuring consumers can readily compare different products through ready access to the information in the Key Facts Sheets.  [Schedule 1, item 5, subsections 133AC(4) and (5)]

Key Facts Sheet to be provided on request

2.17               A credit provider must also provide a consumer with a Key Facts Sheet in response to a request by a consumer, and in any other circumstances that may be specified in the regulations.  [Schedule 1, item 5, section 133AD]

2.18               Where a credit provider is required by section 133AD to provide a consumer with a Key Facts Sheet but needs more information from the consumer in order to do so, the credit provider must tell the consumer what information they need.  The regulations may prescribe requirements relating to this.  [Schedule 1, item 5,  section 133AE]

2.19               Breach of the requirements in section 133AD or 133AE attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 5, subsections 133AC(2) and (3) and 133AE(2) and (3)]

2.20               If the credit provider has, in accordance with section 133AE, told the consumer what information they need and the consumer has not provided that information, the credit provider has a defence to liability for which they bear the evidential burden.  [Schedule 1, item 5, subsection 133AE(4)]

2.21               The provision casts the onus of proof on the credit provider as it will be in a better position to address this issue, through the adoption of appropriate compliance systems. 

2.22               Other circumstances where a credit provider is not required to provide a Key Facts Sheet are where:

•        the credit provider has already provided the consumer with a Key Facts Sheet for a particular standard home loan in accordance with section 133AD, and the new Key Facts Sheet would be the same (except for its date);

•        the credit provider reasonably believes that another person has already provided the consumer with a Key Facts Sheet, and the new Key Facts Sheet would be the same (except for its date);

•        the credit provider reasonably believes that the consumer would not be eligible for the standard home loan (in which case provision of the Key Facts Sheet would not be necessary); and

•        any other circumstances prescribed by the regulations.  [Schedule 1, item 5, section 133AF]

2.23               The credit provider bears the evidentiary burden in relation to these defences, as these are matters that are within their knowledge or control.  [Schedule 1, item 5, section 133AF]



Outline of chapter

3.1                   The National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Bill 2011 (Home Loans and Credit Cards Bill) introduces a series of reforms to the way in which credit cards are offered and used.  The key elements of the reforms are that they:

•        introduce a requirement for lenders to provide a Key Facts Sheet for credit card contracts;

•        restrict the circumstances in which credit providers can send unsolicited written invitations to borrowers to increase the credit limit on their credit card;

•        restrict approval of the use of credit cards to obtain amounts in excess of the credit limit and to prohibit credit providers from charging a fee because a credit card is in excess of the credit limit (unless a consumer has agreed to have the use of a supplementary buffer); and

•        provide for an order of application of payments made under credit card contracts.

3.2                   The obligations only apply to credit providers who are licensees as defined in the National Consumer Credit Protection Act 2009 (NCCP Act).  In this chapter of the explanatory memorandum, the term credit provider is a reference to a credit provider who is a licensee.

Context of amendments

3.3                   At its meetings on 3 July and 2 October 2008, the Council of Australian Governments (COAG) agreed to implement a two-phase implementation plan to transfer credit regulation to the Commonwealth and introduce new Commonwealth regulation to enhance consumer protection.

3.4                   The NCCP Act implemented phase one of the implementation plan by introducing a Commonwealth statutory framework for the regulation of lenders and brokers.  The Home Loans and Credit Cards Bill supplements regulation in respect of two of the most common types of credit, credit cards and standard home loans.  This is part of phase two of the COAG implementation plan.

3.5                   Credit card contracts require targeted regulation because they differ from other credit contracts.  Some of the main differences are that:

•        consumers are commonly required to make repayments calculated at a low percentage of the outstanding balance, and credit card borrowers can therefore carry high balances for significant periods of time at relatively high interest rates;

•        there is low visibility of the impact of differences in features between credit card products; and

•        they are long term contracts in which the credit provider may, over time, change the terms of the contract and the obligations of the borrower resulting in significant changes to the original terms, and which can impact on the matters described above.

3.6                   The Home Loans and Credit Cards Bill addresses these issues.

Summary of new law

3.7                   The Credit Card and Home Loans Bill inserts Part 3-2B into the NCCP Act which:

•        restricts approval of the use of credit cards above the credit limit;

•        provides for an order of application of payments made under credit card contracts;

•        restricts the making of unsolicited offers to increase the credit limit of a credit card; and

•        introduces a requirement for lenders to provide a Key Facts Sheet for credit card contracts.

3.8                   The obligations only apply to credit providers who are licensees.  A licensee is a person who holds an Australian credit licence.  [Chapter 1, part 1-2, division 2, section 5 of the NCCP Act]

Comparison of key features of new law and current law

New Law

Current law

The Bill:

•                  restricts approval of the use of credit cards above the credit limit;

•                  provides for an order of application of payments made under credit card contracts;

•                  restricts the making of unsolicited offers to increase the credit limit of a credit card; and

•                 introduces a requirement for credit providers to provide a Key Facts Sheet for credit card contracts.

The NCCP Act currently regulates credit contracts, including credit card contracts.  It does not include any requirements that currently impose similar obligations to those in this Bill.

The terms of the contract between the consumer and the credit provider usually specify the consequences of a use of a credit card to obtain funds in excess of the credit limit, and also provide for an order of application of payments made by the borrower under their credit card.

Detailed explanation of new law

Part 3-2B: Rules relating to credit card contracts

Division 3 — Key Facts Sheet for credit card contracts

3.9                   The Home Loans and Credit Cards Bill inserts Division 3 of Part 3-2B into the NCCP Act which imposes requirements aimed at ensuring a consumer is provided with, or can access, a Key Facts Sheet before entering into a credit card contract. 

3.10               A Key Facts Sheet for credit cards is a document which contains the information and complies with the requirements required by the regulations.  It is proposed that the form of the Key Facts Sheet will be prescribed by regulations.  [Schedule 1, item 19, section 133BB]

3.11               The Key Facts Sheet is intended to provide a clear summary of the standard terms applicable to a credit card contract, containing information on matters such as the:

•         minimum repayments required to be made under the contract;

•        annual percentage rates (including different rates where these may apply to particular liabilities); and

•        fees.

3.12               The purpose of the Key Facts Sheet is to provide the consumer with key information in an accessible form to assist them in deciding whether to enter into a particular credit card contract with the particular credit provider.  The standardisation of the Key Facts Sheet will allow consumers to both compare different credit card products more easily, and to have a better understanding of how to use their credit cards more efficiently, so as to minimise the amount they have to pay, in fees and interest.  It will be easier for consumers to either adapt their behaviour to minimise costs, or move to other credit card products more suited to their spending habits. 

3.13               Credit providers must ensure that any application form for a credit card contract that they make available to consumers includes an up-to-date Key Facts Sheet.  [Schedule 1, item 19, section 133BC]

3.14               Breach of the requirements in section 133BC attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 19, subsections 133BC(1) and (2)]

3.15               The regulations may prescribe circumstances in which it is permissible for the credit provider to provide a Key Facts Sheet that is not up-to-date (for example, where the annual percentage rate has changed from the figure stated in the Key Facts Sheet).  [Schedule 1, item 19, subsection 133BC(3)]

3.16               Credit providers must not enter into a credit card contract unless, in accordance with any requirements prescribed by the regulations:

•        the application is made using an application form that includes an up-to-date Key Facts Sheet; or

•        the application is made using an application form that includes an outdated Key Facts Sheet but the consumer has been provided with up-to-date information (to address the situation where a consumer applies on a form that contained superseded information); or

•        the consumer has otherwise been provided with an up-to-date Key Facts Sheet; or

•        the consumer has been given details of how to access an up-to-date Key Facts Sheet.  [Schedule 1, item 19, section 133BD]

3.17               Under section 133BD, consumers who apply online or by phone must receive a copy of the Key Facts Sheet, or given details of how to access one.

3.18               Breach of the requirements in section 133BD attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 100 penalty units.  [Schedule 1, item 19, subsections 133BD(1) and (2)]

3.19               Strict liability also attaches to section 133D with a penalty of 10 penalty units, meaning that credit providers are liable to this lower penalty regardless of fault.  This reflects the importance of the objective of ensuring consumers have access to key information relevant to their decision whether or not to obtain a particular credit card, and also reflects the straightforward nature of the requirements contained in Division 3.  [Schedule 1, item 19, subsection  133BD(3)]

3.20               If a credit card contract is entered into in breach of section 133BC or section 133BD, it is still valid and enforceable, pursuant to section 333 of the NCCP Act. 

Division 4 — Offers to increase the credit limit of the credit card contract

3.21               The Home Loans and Credit Cards Bill inserts Division 4 of Part 3-2B into the NCCP Act which imposes restrictions on a licensee from making unsolicited invitations to increase the credit limit of a credit card contract. 

3.22               The credit limit is the maximum amount of credit that may be provided under the credit contract, as specified in the contract pursuant to section 17(3) of the National Credit Code.  It does not include any default buffer or supplementary buffer (these terms are defined in Division 5).

3.23               Credit providers must not make credit limit increase invitations, except where they have obtained the express consent of the consumer to do so, in accordance with the requirements of the Home Loans and Credit Cards Bill.  [Schedule 1, item 19, sections 133BE and 133BF]

3.24               The purpose of this reform is to assist consumers to actively choose whether to increase their credit limit, rather than being prompted to do so by written letters from their credit provider.  A consumer who accepts these types of offers can, over time, have a high credit limit and find they are unable to repay the debt in full within a relatively short period of time.  For example, a consumer with a debt of $10,000 on a credit card contract with an annual percentage rate of 20 per cent, and who can only afford to make repayments of $200 a month, will have to make these repayments for over nine years to discharge the debt, and will pay over $11,000 in interest. 

3.25               A credit limit increase invitation is made where a licensee gives a written communication to a consumer about their credit card contract which:

•        offers to increase the credit limit of the credit card contract;

•         invites the consumer to apply for an increase; or

•        has a purpose of encouraging the consumer to consider applying for an increase.  [Schedule 1, item 19, subsection 133BE(5)]

3.26               This definition is intended to cover written communications promoting easy access to a higher credit limit (for example, promotions offering increases described as ‘pre-approved’ or ‘tick-a-box’ offers) or other similar communications which result in consumers being encouraged to apply for an increase. 

3.27               The regulations may make provisions that apply to determining whether a written communication has been given by a particular credit provider to a particular consumer and whether it relates to a particular credit card contract.  The regulations may also be used to clarify permissible communications.  [Schedule 1, item 19, subsection 133BE(6)]

3.28               Breach of the requirement in section 133BE attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 100 penalty units.  [Schedule 1, item 19, subsections 133BE(1) and (2)]

3.29               Strict liability also attaches to section 133BE with a penalty of 10 penalty units, meaning that this punishment applies regardless of fault.  This is to encourage strict compliance with the prohibition on sending out credit limit increase invitations, given the potentially adverse consequences for consumers.  [Schedule 1, item 19, subsections 133BE(3) and(4)]

3.30               Credit providers will be able to make a credit limit increase invitation where they have obtained the borrower’s agreement to receiving these types of offers, and this consent has not been withdrawn.  [Schedule 1, item 19, section 133BF]

3.31               Before obtaining the borrower’s consent, the licensee must inform the consumer that:

•        the consumer has a discretion whether to apply for any increase of the credit limit;

•        the licensee has a discretion whether to grant any increase applied for; and

•         the consumer may withdraw their consent at any time.

[Schedule 1, item 19, subsection 133BF(4)]

3.32               The credit provider may need to inform the consumer of any further matters prescribed by the regulations.  Regulations may also prescribe requirements in relation to the giving or withdrawing of consent and informing the consumer of the above matters.  [Schedule 1, item 19, subsection 133BF(7)]

3.33               Credit providers will need to obtain a customer’s consent before providing a credit limit increase invitation.  [Schedule 1, item 19, subsection 133BF(5)]

3.34               The credit provider must keep records of consents and withdrawals of consents, in accordance with the requirements prescribed by the regulations.  [Schedule 1, item 19, section 133BG]

3.35               Breach of the requirement in section 133BG attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 19, section 133BG]

Division 5 — Use of credit card in excess of credit limit

3.36               Division 5 imposes restrictions on a licensee approving the use of a credit card in excess of the credit limit for the credit card contract.  It also restricts the charging of fees under those circumstances.

3.37               The primary obligation introduced by this Division is a requirement that credit providers must not approve the use of a credit card in excess of a credit limit, or the default buffer or any supplementary buffer where they may apply.  [Schedule 1, item 19, section 133BH]

3.38               The credit provider approves the use of a credit card if they approve or authorise its use, or if they debit the consumer’s account in respect of its use.  This clarifies that the approval can happen before or after the consumer has entered into a transaction with a retailer.  [Schedule 1, item 19, subsection 133BH(5)]

3.39               Section 133BH allows a credit provider to approve purchases or transactions made by the consumer that would result in the credit limit being exceeded, limited by the amount of the default buffer.  The default buffer is 10 per cent of the credit limit.  [Schedule 1, item 19, sections 133BH and 133BI]

3.40               The default buffer enables borrowers to use their credit card above their credit limit in limited circumstances, where this may be convenient, for example where the credit limit is exceeded only by a small amount. 

3.41               A consumer can specifically elect not to have the option of a default buffer.  Where they have made such an election credit providers must not approve the use of a credit card in excess of the credit limit of the contract.  Some consumers may chose to opt out of having a default buffer, so that they can have the certainty that the credit limit will operate strictly.  [Schedule 1, item 19, sections 133BH and 133BI]

3.42               The regulations may prescribe requirements in relation to the making or withdrawal of an election for the default buffer not to apply.  [Schedule 1, item 19, subsection 133BI(3)]

3.43               A credit provider can decline to offer a default buffer or decline transactions within the default buffer.  Their discretion to decline transactions within the credit limit, default buffer or any supplementary buffer, where applicable, is not constrained by this Bill. 

3.44               The regulations may prescribe circumstances in which credit providers may approve the use of a credit card in excess of the default buffer.  This would provide a defence to the general rule.  An example of the situations that may be addressed by such an exemption is where a payment to a supplier of goods and services is processed manually (because electronic communications between the supplier and the credit provider are not operating), and it is not possible for the credit provider to ascertain whether a customer has reached their credit limit.  [ Schedule 1, item 19, section 133BL] 

3.45               Breach of the requirements in section 133BH attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 100 penalty units.  [Schedule 1, item 19, subsections 133BH(1) and (2)]

3.46               Strict liability also attaches to section 133BH with a penalty of 10 penalty units, meaning that this punishment applies regardless of fault (although identified situations where compliance is impractical are to be addressed in the regulations).  This reflects the importance of credit providers ensuring that they have systems in place to avoid approving transactions in excess of the default buffer.  [Schedule 1, item 19, subsections 133BH(3) and (4)]

3.47               The regulations may provide for a supplementary buffer to apply to a credit card contract to allow the approval of credit above the default buffer.  Any such regulations will define the circumstances in which the supplementary buffer can operate, and include when a fee may be charged for the provision of this service.  [Schedule 1, item 19, section 133BJ]

3.48               The regulations may include offences and civil penalties where this is necessary to ensure consistency in the operation of the default buffer and the supplementary buffer, and that similar regulatory requirements apply to safeguard borrowers and ensure compliance.  [Schedule 1, item 19, subsections 133BJ(3), (4) and (5)]

3.49               Credit providers must keep records of elections and withdrawals which they have been notified of, in accordance with the requirements prescribed by the regulations.  [Schedule 1, item 19, section 133BK]

3.50               Breach of the requirement in section 133BK attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 19, subsections 133BK(1) and (2)]

3.51               Regulations may require credit providers to notify a consumer where they become aware that the consumer has used the credit card in excess of the credit limit of the contract (including within the default buffer).  The regulations may specify how and when notification must occur and the content of the notification.  This notification would be required whether or not the use of the credit card is approved, but would not apply to attempted use by the consumer where the credit provider elects to decline the transaction.  [Schedule 1, item 19, section 133BM]

3.52               Breach of the requirement in section 133BM attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 19, subsections 133BM(3) and (4)]

3.53               Credit providers must not impose fees or charges, or a higher rate of interest on the consumer as a result of a credit card exceeding its credit limit, even within the default buffer.  [Schedule 1, item 19, section 133BN]

3.54               However, the credit provider is not prohibited from imposing fees or charges, or a higher rate of interest, where the use of the credit card is covered by the supplementary buffer applying to a credit card contract (and where any other requirements prescribed by the regulations are complied with).  [Schedule 1, item 19, subsection 133BN(3)]

3.55               The requirements in respect of default buffers and supplementary buffers are intended to operate in the following way:

•        A consumer can exceed their credit limit provided they are within the default buffer (that is, up to 10 per cent of their credit limit), and cannot be charged a fee or additional costs by the credit provider;

•        A consumer can elect not to exceed their credit limit; or

•        A consumer can elect to allow their account to exceed their credit limit by the supplementary buffer (that is, by more than 10 per cent of their credit limit), and the credit provider can charge a fee or additional costs for providing this service (with these arrangements subject to any requirements imposed by the regulations).

3.56               By virtue of subsection 133BN(4), criminal and civil consequences attach to a breach of section 133BN, through the operation of section 23 and 24 of the National Credit Code.  The effect of section 23 is that amounts paid by the consumer in excess of what is permitted by the Bill may be recovered.  By virtue of section 111 of the National Credit Code, additional penalties and consequences may apply to a contravention of section 23 of the National Credit Code.

3.57                There is a strict liability criminal penalty of 100 penalty units in section 24 of the National Credit Code.  The penalty is intended to ensure compliance with these obligations, so that consumers can have certainty they are not being overcharged, and that there is consistency between credit providers in the way they charge fees and interest.

Division 6 — Order of application of payments made under credit card contracts

3.58               Division 6 imposes requirements relating to the order of application of payments made under credit card contracts.  Generally, a payment must be applied against that part of their outstanding balance on which they are charged the higher interest rate.

3.59               This measure addresses existing practices where some credit providers allocate repayments under their credit card contracts in a way that can maximise the amount and time required for the consumer to repay their credit.  They will also assist consumers in comparing different credit card products, given that it is presently the case that the same repayments can produce different results according to the allocation hierarchy under the contract. 

3.60               This Division regulates the order in which the credit provider must attribute payments as follows:

•        in accordance with an agreement between the consumer and the licensee to apply certain payments made under the credit card contract against a particular amount; [Schedule 1, item 19, Section 133BP]

•        against the amount owed contained in the most recent closing balance provided in a statement provided to the consumer before they made the relevant payment;

•         against the part of the balance that has the highest annual percentage rate (the rate specified as such in the credit contract), then the part of the balance that has the next highest annual percentage rate, and so on; and

•        remaining payments in accordance with the terms of the credit card contract.  [Schedule 1, item 19, section 133BQ]

3.61               For the avoidance of doubt, it is specifically provided that the requirement does not apply to a payment to a credit card account which is made by the licensee as a result of a reversal of a previous transaction or a refund made in respect of such a transaction.  [Schedule 1, item 19, subsection 133BO(2)]

3.62               Where there is an agreement between the consumer and the licensee to apply certain payments made under the credit card contract against a particular liability, the credit provider must act in accordance with the agreement.  [Schedule 1, item 19, section 133BP]

3.63               An agreement can arise where the consumer requests for a certain payment to be made against a particular liability.  If the credit provider has agreed to this request, they must then allocate repayments in accordance with it.  The consumer may withdraw a request at any time, but the credit provider can only withdraw a request with the consent of the consumer.  [Schedule 1, item 19, section 133BP]

3.64               Regulations may prescribe further requirements in relation to the operation of these requests and withdrawals.  [Schedule 1, item 19, subsection 133BP(5)]

3.65               Such an agreement can only exist where the liability satisfies any other requirements which may apply under the regulations.  [Schedule 1, item 19, subparagraph 133BP(1)(a)(ii)]

3.66               Consumers may seek such agreements so that they can direct payments to ensure a particular outcome; for example, they may want to ensure an ‘interest free’ purchase is paid off during the period in which interest is not charged, as the cost of not making repayments in this timeframe may exceed the cost of accruing higher interest on remaining credit card balances.  In situations such as these, the consumer has discretion to assign repayments to pay off balances attracting the lowest charges first, leaving other balances unpaid and accruing higher interest.

3.67               If the consumer has not agreed otherwise, a payment must be first allocated to that part of the closing balance, from the previous statement provided to the consumer, which attracts the highest interest.  If that part of the balance has been repaid in full, the remaining portion of the payment must be allocated to that part of the closing balance which attracts the next highest interest, and so on.  [Schedule 1, item 19, section 133BQ]

3.68               If the closing balance has been discharged in full, any remaining part of the payment or further payment must be applied in accordance with the terms of the credit card contract.  [Schedule 1, item 19, section 133BR]

3.69               Repayments to fees and interest charges are to be allocated in accordance with the above requirements.  For example, if the closing balance on a consumer’s last statement includes an amount in respect of interest charges (the interest balance), the application of repayments to  the interest balance will be determined by the annual interest rate applicable charged in respect of the interest balance. 

3.70               Interest that accrues after the last statement will be regulated by the provisions governing the application of any remaining part of the relevant payment. 

3.71               In relation to the application of payments the order of application is to be determined by reference to the relative rates of interest.  The size of any particular underlying debt being irrelevant.  This includes components of the balance to which the same interest rate applies. 

3.72               Breach of the requirement to apply payments in accordance with this Division attracts a civil penalty of 2,000 penalty units and is an offence, attracting a criminal penalty of 50 penalty units.  [Schedule 1, item 19, subsections 133BO(1) and (3) ]

3.73               Strict liability also attaches to this Division with a penalty of 10 penalty units, which applies regardless of fault.  This reflects the importance of credit providers ensuring that they have systems in place to attribute payments in the required order and to give effect to agreements with the consumer.  [Schedule 1, item 19, subsections 133BO(4) and (5)]

3.74               Where a credit provider contravenes one of the obligations in the Division, the consumer may end up paying more interest than would otherwise have been the case.  The consumer would then have suffered a loss because of the contravention.  A court which can exercise jurisdiction under the NCCP Act can make an order compensating the consumer for this loss under section 178 or 179 of the NCCP Act. 

3.75               The obligations in the Division will be applied separately in relation to each credit card contract that a person has, so that a payment made in relation to one credit card contract cannot be applied against an amount owed under another credit card contract.

3.76               If a consumer has a credit card contract, and one or more other kinds of credit contracts with a particular credit provider, the obligations in this Division will only apply to payments made under the credit card contract.

3.77               Consequential amendments are also made to the note under subsection 23(1) of the National Credit Code, introducing a second note and renumbering the existing note .  [Schedule 1, item 20 and 21, subsection 23(1)]

Amendments to the National Credit Code

3.78               The Home Loans and Credit Cards Bill introduces a number of amendments to the National Credit Code.

3.79               Section 30 of the National Credit Code specifies the maximum amount that can be charged under a credit contract, including a continuing credit contract.  However, there is currently significant divergence in practices as to the circumstances in which credit providers may offer borrowers a benefit by reducing or reversing accrued interest charges; ‘interest free periods’ are the most common example of these arrangements. 

3.80               Borrowers do not always appreciate or understand the nature or impact of these types of arrangements.  These arrangements can mean that the amount of interest charged can vary between different credit products, even if the same annual percentage rate is charged. 

3.81               It is intended to introduce reforms that will provide greater consistency in relation to annual percentage rates, and will therefore allow consumers to compare credit cards more effectively.  The details of this reform are to be addressed through regulations.

3.82               Section 30B provides appropriate power for this by allowing regulations to be made in relation to any of the following matters relating to interest charges under credit card contracts:

•        the day from which a daily percentage rate may be applied, and the balance (or part of the balance) to which it may be applied; and

•        how matters relating to interest charges may be described in credit card contracts and other documents or advertisements published by or on behalf of credit providers.  [Schedule 1, item 22, subsection 30B(1)]

3.83               Regulations made for this purpose may omit, modify or vary provisions of this Division in relation to a credit card contract.  They may provide for offences not exceeding 50 penalty units for an individual or 250 penalty units for a body corporate.  They may also provide for civil penalties against the regulations, not exceeding 500 penalty units for an individual or 2,500 penalty units for a body corporate.  [Schedule 1, item 22, subsections 30B(2), (3) and (4)] 

3.84               Specific provision is made for the imposition of penalties through the regulations as these reforms are intended to provide greater consistency between different credit card products.  This will allow consumers to make more efficient choice in product selection and ensure that differences in the operation of competing products can no longer continue.  It is therefore important that these objectives can be enforced through appropriate sanctions.

3.85               The Home Loans and Credit Cards Bill also makes a number of consequential amendments to definitions in the National Credit Code to ensure internal consistency with the NCCP Act:

•        the phrase ‘continuing credit contract under which credit is ordinarily obtained only by the use of a card’ is replaced by the defined term ‘credit card contract’ in subsection 33(2)(a) and subsections 34(5) and 204(1) of the National Credit Code;

•        the terms ‘credit card’, ‘credit card contract’ and ‘credit limit’ are included in the list of definitions in subsection 204(1) of the National Credit Code, and defined as having the same meaning as applicable to those terms in the NCCP Act. 



4.1                   The Home Loans and Credit Cards Bill makes a number of consequential amendments to the National Consumer Credit (Transitional and Consequential Provisions) Act 2009 (Transitional Act): 

•        it introduces, in a new Schedule 4 to the Transitional Act, definitions of the term amended Act (meaning the NCCP Act as amended by Part 2 of Schedule 1 of the National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Act 2011 ) and commencement   (meaning the commencement date of Part 2 of Schedule 1 of the National Consumer Credit Protection Amendment (Home Loans and Credit Cards) Act 2011 ); and

•        it specifies that:

-       the requirements introduced by Part 3-2B, Division 4 of the Home Loans and Credit Cards Bill, in respect of the restrictions on the making of credit limit increase invitations,  apply to credit card contracts whether or not the contract was entered into prior to commencement (as defined above); and

-       the requirements introduced by Part 3-2B, Divisions 5 and 6 of the Home Loans and Credit Cards Bill, in relation to approving the use of a credit card in excess of the credit limit and the allocation of payments made under a credit card contract, only apply to credit card contracts entered into after commencement (as defined above). 



Chapter 5           Regulation impact statement: requiring a home loan ‘key facts’ document and standard terminology

Problem [1]

5.1                   The complexity of financial products available makes understanding the key features of a home loan and the choice of a home loan for consumers a difficult one.  Timely and clear disclosure of information before a consumer applies for a home loan (precontractual disclosure) can also assist consumers in comparing different home loans and assessing home loan products.  Improved precontractual disclosure can lead to better understanding and increase home loan choice for consumers, which may drive demand-side competition in the home loan market. 

5.2                   Complexity of precontractual disclosure for home loans can lead to poor decision making.  Consumers may not understand the true cost of the credit contract and, as such, select a home loan that does not meet their needs and requirements.  These observations are consistent with empirical research. 

5.3                   The 2010 Standing Committee of Officials of Consumer Affairs Simplification of Disclosure Regulation for the Consumer Credit Code (SCOCA Report) noted that only 6 per cent of test participants understood the true cost of home loan credit using the current method of disclosing home loan information. [2]  Other empirical research has indicated that improved disclosure can convey complex home loan information to consumers more effectively. [3]

5.4                   The problem of consumers not understanding key features of the home loan stems from several sources; complexity, different terminology, comparability, varied formatting and timing issues.

Complexity

5.5                   The range of features included in a home loan can make it difficult for consumers to understand the information and compare home loans based on the true cost of a loan, particularly where there are different interest rates and fee structures and the use of non-advertised discounting. 

5.6                   Moreover, when comparing different home loan products the information at the precontractual disclosure stage may not be tailored to the consumer’s requirements.  This means that the consumer may be comparing home loan information that is less relevant to their particular situation.  For example, consumers may consider several different types of home loan products (such as fixed rate mortgage, adjustable rate mortgage, hybrid mortgage or interest-only mortgage).  Each product could be suitable for the consumer but comparing the products would be complex given that they all have different information and features.  An effective means of reducing complexity is to highlight key features of the home loan relevant to the consumer’s particular situation. 

5.7                   The level of numeracy required to understand the document adds to complexity.  Consumers may have to calculate costs or fees in order to compare and understand home loans.  Data suggests that many individuals may not have the numeracy skills to perform complex calculations.  The 2006 ABS Adult Literacy Survey indicated that numeracy levels were relatively low, with approximately 53 per cent of Australians assessed at Level 1 or 2. [4]

5.8                   Making clear the costs, fees and charges in total dollar amounts would reduce the need for consumers to perform calculations in order to understand the cost of the home loan and to compare the home loan with other products. 

Terminology

5.9                   Closely linked to the issue of complexity is the different technical language associated with home loan contracts.  Consumers may be unaware of, or not fully understand, the various fees and charges that apply to their mortgage products.  This could be due to the range of different terms for the same issue, but also due to the technical nature of the language.  Many individuals may not have the literacy skills to understand home loan terminology.  The 2006 ABS Adult Literacy Survey indicated that in most cases, Australian’s level of literacy fell into the Level 1 and Level 2 range: for prose literacy, 46 per cent were Level 1 and Level 2, and for document literacy, 47 per cent Level 1 and Level 2. [5]  

5.10               Currently, there is no standardised nomenclature for the features of these products, including fees and charges.  Across the majority of precontractual home loan disclosure there continues be a reliance on legal or technical language.  This decreases the likelihood that a consumer will read a document and understand that document. 

5.11               Standard terminology, descriptions and/or structure for fees and charges would make it simpler and clearer for consumers to compare fees and charges across institutions, and in particular the level of those fees and charges that are of interest to the consumer. 

Comparability

5.12               Comparability of credit contract information to assist consumer comprehension has been identified as an issue warranting an appropriate policy response.  Previous attempts to resolve this issue have included developing comparison rates. 

5.13               Under the previous credit regulatory system, the Uniform Consumer Credit Code (UCCC) introduced the requirement for lenders to include in their advertising a ‘comparison rate’, which includes both the interest rate and fees and charges relating to a loan. [6]  However there are problems with the comparison rate.  It is calculated on a loan size of $150,000 making it difficult to compare loans of a different value.  It also does not include contingent fees that are charged only in certain circumstances. 

5.14               The introduction of a mandatory comparison rate may have led to some lenders avoiding advertising interest rates to circumvent comparison rate requirements.  Industry may have also restructured products so that most fees and charges could be included under the ‘unascertainable fees and charges’, which led to reduced transparency for consumers. [7]  

Transparency

5.15               Lack of transparency can exacerbate information asymmetry where suppliers in the market have a better understanding than the consumer of the cost of credit and the terms of the home loan.  This can compound the issue of poor understanding of credit. 

5.16               Advertised mortgage interest rates typically do not include any interest rate discounts which are often available depending on the size of a loan, the loan-to-valuation ratio, profession of the borrower or other variables.  Information on these discounts is not readily available and, in general, can only be obtained through a direct enquiry with a lender.  The lack of transparency about these discounts makes it difficult for eligible borrowers to compare mortgage products.

Format

5.17               Understanding of the cost of credit is also determined by the format of the information.  If the information is formatted in a simple manner it can improve consumer comprehension.  In the United States formatting has been mandated to include a Schumer Box, which consists of a tabular format which clearly labels the relevant amounts or interest rate. [8]

5.18               At present there are no requirements for standardisation of formats and, as such, consumers may have difficulty in selecting the relevant comparable features of the credit contract.  This can hinder their ability to understand and compare essential features. 

5.19               Standardisation of formats and clearly labelling the essential information could enable a consumer to compare different credit contracts from a range of suppliers.  Standardised formats would highlight and simplify the relevant information for consumers, which could avoid the information overload associated with lengthy precontractual disclosure documents. 

Timing

5.20               Timing of precontractual disclosure can determine the effectiveness of that disclosure.  Empirical cognitive testing and behavioural economics shows that consumers have greater comprehension when presented with information early in the decision making process. 

5.21               The concept of ‘early disclosure’ has been considered previously in consumer policy; with the general understanding that early disclosure in the consumer credit context would be considered to be the first contact with a credit provider or credit assistance provider.  For ‘early’ precontractual disclosure, consumers could be given the document to assist them in understanding key features of the home loan but also to compare different types of home loans.

5.22               Early disclosure also has a focus on assisting comparison, which can encourage demand-side competition.   If consumers have a longer period in which to consider different types of home loans, it is likely they will shop around and choose the product that is most appropriate.

5.23                There are different policy outcomes for ‘late’ precontractual disclosure, where policy focuses on ensuring consumer protection by informing them of their statutory rights.  ‘Late’ disclosure would be considered to be the stage where the consumer has settled on a particular type of home loan and is provided with further information specific to that particular home loan. 

Empirical evidence

5.24               Empirical studies show that simplified and timely disclosure can improve consumer comprehension of credit contracts as well as improve decision making processes, such as encouraging them to consider a wider range of options and choosing the right option for them. 

Consumer cognitive testing — SCOCA Report

5.25               In December 2005 the Uniform Consumer Credit Code Management Committee released a consultation package, Precontractual disclosure under the UCCC , which included a proposed disclosure model to replace the UCCC disclosure model.  Following the consultation, an independent consultant was commissioned to conduct research into precontractual disclosure, with the aim of developing an evidence-based disclosure model to meet the information needs of consumers and, where possible, provide consumers with a better understanding of the cost of credit.

5.26               Following the 2008 COAG decision to transfer responsibility for the regulation of consumer credit to the Commonwealth, it was agreed that the Commonwealth would consider the finding of the report as part of Phase 2 of the Consumer Credit Reforms.  In mid-May 2010 the final report was released, Simplification of Disclosure Regulation for the Consumer Credit Code: Empirical Research and Redesign .  The report used an evidenced-based approach and tested various precontractual disclosure models through simulation, surveys, focus group discussions, qualitative research and comprehension testing.  The study found that only around 6 per cent of participants understood the true cost of home loan credit using the UCCC method of disclosing home loan information . [9]  

5.27               The study found that simplified precontractual disclosure greatly assisted consumers to improve their understanding of the cost of the credit contract, by simplifying the financial summary table accompanied by a set of standard terms or the loan contract.  Final comprehension tests based on simplified disclosure found that questions about the cost of credit improved by factors of between 400 per cent and 1,800 per cent.  The report tested several different disclosure formats on consumers and recommended disclosure model consists of a simplified Financial Summary Table of the key facts.

5.28               The research also tested an early disclosure model which summarised the key information into a one page, stand alone Financial Summary Table that is intended to be used early in the decision process.  The report found that when exposed earlier to simple disclosure of key facts, consumers find comparison of products easier and make more informed choices. 

5.29               Other studies also show that lengthy precontractual disclosure documents do not assist consumers and instead overloads them with information. [10] Consumers generally focus on the headline information, such as amount repayable each month, interest rates and whether insurance is required. [11] Studies have also found that 41.09 per cent of participants found that the interest rate was most helpful in making their decision with only 1.59 per cent finding information from the supplier as a key factor. [12]  

Behavioural economics research

5.30               Behavioural economics research, which combines economics and psychology, examines an individual’s comprehension of information.  Findings from behavioural economics are consistent with empirical consumer comprehension cognitive findings. 

5.31               The research indicates that an individual’s behavioural biases are a barrier to understanding complex contractual information and that in most cases, individuals expect that lenders would act in their interests. 

5.32               In particular, behavioural economics suggests that consumers are overly optimistic when assessing their capacity to repay or take on debt. [13] Research also indicates that the quantity of information can overwhelm consumers, which can encourage consumers to ignore the precontractual disclosure information.

Scope and magnitude

5.33               Chart 1 shows the number of new housing commitments by number of loans from 1992 to March 2010. 

5.34               The data is based on new loans as well as refinancing loans.  The data shows that there are potentially a large number of consumers that could benefit from enhanced precontractual disclosure for home loans.

Chart 1: number of new housing commitments by number of loans (‘000) from 1992 to March 2010

Context

Background to Australian precontractual disclosure

5.35               Consumer credit was the subject of reports and inquiries in Australia, starting with the 1969 Rogerson Report and the 1972 Molomby Report.  Both of these reports were influenced by the US Consumer Credit Protection Act 1968 (also known as the Truth in Lending Act), which focused on credit contract disclosure. 

5.36               South Australia adopted the Consumer Transactions Act 1972 , with other states following with their credit acts 12 to 15 years later.  In particular the credit acts required standard-form information statements.  In 1993 the Uniform Credit Laws Agreement led to the State-wide adoption of the Consumer Credit Code (the Code).  The Code’s disclosure regime was largely the product of research conducted by consumer affairs officials and comparing credit regulations in other countries.  There were also a number of academics calling for empirical research into precontractual disclosure. [14]

5.37               The Code underwent an extensive post-implementation review in 1999 (PIR) by the Ministerial Council for Consumer Affairs (MCCA).  The review made recommendations to improve precontractual disclosure.  In response to the PIR recommendations, MCCA publicly released a consultation package on January 2006 with amendments aimed at requiring credit providers to disclose key information in a clear and simple format. 

5.38               In February 2007, the WA Department of Consumer and Employment Protection acting on behalf of the Uniform Consumer Credit Management Committee (UCCCMC) and the Standing Committee of Officials in Consumer Affairs (SCOCA) issued a tender for consultancy services for the ‘Simplification of Disclosure Regulation-Consumer Credit Code’.  The tender noted that ‘the key message arising out of consultation was that any changes to existing disclosure should be based on consumer testing’. [15]

5.39               The final report was released in May 2010.  The empirical research was based on a combination of comprehension testing, focus group discussions and cognitive interviews (see empirical research section). 

5.40               With the transfer of responsibility for consumer credit regulation to the Commonwealth, the SCOCA report was considered as part of Phase 2 of the National Credit Reforms.  The issue of precontractual disclosure was specifically addressed in the Phase 2 National Consumer Credit Green Paper (Green Paper), which sought industry feedback on the precontractual disclosure report recommendations.  Specifically, feedback was sought on the costs and benefits to consumers and industry of the findings of the recommendations.  The Green Paper suggested that the findings of the report may need to be reconsidered under the National Consumer Credit Protection Act 2009 disclosure framework as the SCOCA report was conducted under the old UCCC regulatory context.  The Green Paper also suggested that further precontractual disclosure requirements should be considered over a longer timeframe.   

Australian regulatory context

5.41               The issue of simple and meaningful disclosure of credit contracts for consumers has been an ongoing policy objective, with various regulatory solutions developed to improve precontractual disclosure. 

Precontractual disclosure under the Uniform Consumer Credit Code (UCCC)

5.42               Until 1 July 2010 the States and Territories regulated credit providers through the UCCC.  Under the UCCC precontractual disclosure was only required for lenders under sections 17 and 18. 

5.43               Responsibility for enforcing the UCCC lay with various State and Territory Fair Trading Authorities or Consumer Affair Bodies.  The UCCC precontractual disclosure requirements were designed to improve information about the full costs of credit.  However, there were no timing and formatting requirements or standardisation of terminology.  The UCCC also prohibited ‘unjust’ terms in credit contracts, required the provision of ‘comparison rates’ in certain credit advertising, and covered such matters as default procedures and provision for hardship applications. 

5.44               The 1999 Post-Implementation Review of the UCCC (PIR) noted that the requirement for precontractual disclosure was ‘generally seen as desirable by consumers ...  many respondents considered [the current] information to be too complicated’. [16]   The PIR made the recommendation that a simplified Schumer Box format containing key features should be adopted, with other information contained outside of the Schumer Box.  [17]

5.45               The PIR also noted that early disclosure of key information would be of greater use for consumers. 

National Consumer Credit Protection Act 2009

5.46               The National Consumer Credit Protection Act 2009 (Credit Act), which commenced on 1 July 2010, has set out responsible lending conduct obligations and has a similar goal of improving disclosure for consumers. 

5.47               The conduct obligations require licensees to ensure that before providing credit assistance or before a consumer enters into a credit contract that an assessment must be made as to whether the contract will be unsuitable for the consumer.  The responsible lending conduct obligations also include precontractual requirements for credit providers in Chapter 3 of the Act and under sections 16 and 17 of the National Credit Code (Code). 

5.48               Under sections 16 and 17 of the Code, precontractual disclosure documents provide information about a specific credit contract before the consumer enters into that contract.  However, sections 16 and 17 were based on the UCCC model of precontractual disclosure and, as such, there are no requirements for formatting of the information or terminology used. 

5.49               The Credit Act also has a slightly different emphasis on disclosure, with a view to improving accountability of licensees (See Appendix 1).

5.50               The responsible lending conduct obligations prescribe the type of information to be provided in a disclosure document and how the disclosure document will be provided to consumers when a credit contract will be entered into or when credit assistance is provided to consumers.  The Credit Act disclosure requirements provide key information to consumers about the lenders and brokers, particularly related to commissions and fees and charges. 

5.51               Specifically, the Credit Act responsible lending conduct obligations require any commissions received, either directly, or indirectly, to be fully disclosed as well as any fees incurred by the consumer.  The obligations are designed to better inform consumers and prevent the provision of unsuitable credit contracts by:

•        providing information about the licensee;

•        disclosing key responsible lending conduct obligations;

•        providing information about the rights of the consumer and procedures for dealing with a dispute;

•        informing the consumer of their right to request a copy of the unsuitability assessment; and

•        disclosing quotes for providing credit assistance.

5.52               Based on this framework, consumers are provided with substantial information to clarify the accountability and responsibilities of lenders and brokers.  However, this type of precontractual disclosure information may not be as useful to consumers when attempting to understand and compare home loan products.  For example, while commission structures disclosure could be useful to indicate the accountability of a broker or a lender; it does not clarify the true cost of the home loan to the consumer as they are not paying that particular commission. 

Overseas regulatory context

5.53               In the UK, the Financial Services Authority (FSA) has responsibility for regulating mortgages.  The FSA Mortgage Conduct of Business (MCOB) rules came into effect from 31 October 2004.  The MCOB lays great emphasis on providing consumers with intelligible information provided in a consistent format that will enable consumers to shop around, compare different products, and make informed choices.  Every consumer must be given precontractual information, in a highly prescribed format — the Key Facts Illustration (KFI) — before they can apply for a particular loan.

5.54               The KFI is a short, straightforward document that sets out the key facts about a specific mortgage product in enough detail to allow comparisons to be made with other products.  It is personalised to the consumer, so to produce a KFI the firm needs to have certain pieces of information, including: the loan amount required; the value of the property; and the term required.  The KFI is of a similar form to the early disclosure model tested in the Uniform Consumer Credit Code Management Committee report. 

5.55               A 2006 UK Mortgage Effectiveness Review conducted by the FSA found that Consumers find the KFI useful in helping them to decide whether a mortgage is right for them, compare mortgages and consider the risks of a mortgage product.  The report considered that given the backdrop of a low level of financial capability in the population as a whole, it is encouraging that consumers are using the KFI in their decision-making process.  The report found that consumers are using the KFI to better understand the risks and features of the mortgages they take out, including the affordability risks.

5.56               There has been an effort in the UK to standardise terminology, particularly in relation to fees on mortgage termination.  For example, all fees payable due to early termination must be referred to as ‘Early Repayment Charges’.

Objectives of Government action

5.57               The objectives are to assist consumers to better understand the cost of their home loan and, where possible, enhance comparability of the product.

5.58               Standard terminology, descriptions and/or structure for fees and charges would make it simpler for consumers to compare fees and charges across institutions, and in particular the level of those fees and charges that are of interest to them.

5.59               An additional Government objective is to foster demand-side competition within the home loan market and contribute to the economic efficiency of the banking sector by empowering consumers through improved transparency, reduced transaction costs (through time savings) and more appropriate product selection. 

5.60               This will promote more competition among lenders, thereby lowering the costs to borrowers and improving levels of service. 

5.61               A final objective is to, where possible, minimise compliance and transitional costs for the home loan industry.  Options that may achieve objectives

5.62               The RIS has attempted to quantify the costs and benefits.  However, the information to quantify costs and benefits associated with any changes to the status quo are not available.  Where necessary, benchmark costs have been used to provide some quantification of costs and benefits. 

5.63               In the absence of quantification of costs and benefits, qualitative analysis has been used. 

Option 1 — Status-quo: precontractual disclosure under the National Consumer Credit Protection Act 2009

5.64               Under this option, the currently regulatory context of the Credit Act would apply, which commenced on 1 July 2010.  Responsible lending disclosure obligations will commence from 1 January 2011.   

5.65               The objectives of the Credit Act disclosure regulations are to provide consumers with clear information about the costs related to a credit contract and the features and information regarding the commission and bonus structures for brokers.  For lenders, the precontractual disclosure would be limited to the requirements under Section 16 and 17 of the National Credit Code (see current regulatory section and Appendix 1). 

5.66               The Credit Act does not prescribe any formatting, simplification of terminology or information that could assist comparison of costs. 

5.67               There would be no obligations imposed on industry or protections for consumers other than those existing by virtue of the Credit Act. Consumers would therefore not receive any additional assistance in terms of simplified precontractual disclosure. 

Impact analysis

5.68               Under Option 1 there are some benefits for industry and for Government.  There are significant costs for consumers. 

5.69               For industry, there would be no costs associated with additional regulation.  There would be reduced education costs associated with regulations and minimal IT or business system changes.  However, these would be related to the ongoing Credit Act disclosure process and not to any further Government intervention related to proposals in this RIS. 

5.70               For Government there would be no additional costs associated with developing a response, whether regulatory or non-regulatory.  The costs would therefore be zero as there would be no changes or transitions required. 

5.71               For consumers, under Option 1 there would be no further changes to precontractual disclosure. This has significant repercussions for consumers. 

5.72               Under Option 1, precontractual disclosure is focused on consumer protection, where accountability of licensees is one of the mechanisms to protect consumers.  Consumer groups have suggested that the current Credit Act provisions may increase the accountability of lenders and brokers, but it does not provide clear and concise information about the cost of the credit contract.  During Consumer Credit Reform consultations, consumer groups have suggested that commission-related information may ‘overload’ consumers with information and cause further confusion.  Indeed in most cases, the first piece of information that the consumer receives is the Credit Guide, which provides preliminary information about the lender or broker and disclosure of the key conduct obligations.  This information may not be helpful in understanding the home loan product itself. 

5.73               This means that consumers may not benefit from the potential financial gain from finding a more suitable home loan or making the right choice based on simpler precontractual disclosure.  For example, by shopping around, consumers can make considerable savings on their home loan.  If a borrower selects a $250,000 home loan with the lowest advertised rate, over the 30 year life of the loan the borrower could save more than $40,000 compared to a home loan with an interest rate equal to the benchmark average variable rate. [18]   Without improved disclosure, there could be a significant number of Australians that would not benefit from potential savings from choosing a better home loan based on simpler precontractual disclosure. 

5.74               Additionally, the Credit Act does not contain provisions for how information should be formatted or presented to consumers.  This means that lenders and brokers can provide information of varying formats, which can reduce comparability of home loans and even reduced understanding of the precontractual disclosure content. 

5.75               Empirical research provides further evidence that there are significant gaps in consumer comprehension under the current disclosure model (Section 16 and 17 of the Code). [19]   Research has found low consumer comprehension of many standard features of credit contracts, including home loans.  The SCOCA report found that only 6 per cent of adult participants in the cognitive study understood the true cost of the home loan.  If this was applied to the Australian community in general, this would mean that only 6 per cent of adults would understand the cost of credit. 

 

Table 5.1  High level impact analysis table: Status-quo: precontractual disclosure under the National Consumer Credit Protection Act 2009

Stakeholder

Benefits

Costs

Industry (including lenders and brokers)

No additional compliance or transaction costs. 

 

Potentially uneven playing field

Less consumer mobility in the home loan market as consumer would not be aware of their products, or if they were, consumer may have difficulty in understanding the relative benefits of home loan product. 

Consumers

No further change to the system

Ongoing difficulties in understanding home loans and critical features 

Government (including regulators)

No further policy development costs

No further regulatory changes

Costs associated with current levels of government assistance 

 

Economy-wide benefits

No significant changes to the market

No impact on cost of credit or service delivery associated with regulatory intervention  

Less informed consumers, which can lead to a potentially less dynamic market

Less consumer empowerment, which can reduce demand-side competitive tensions

Option 2 — Non-regulatory option: self-regulation

5.76               An alternative option would be for Government to encourage industry to develop and implement an early disclosure document by amending the Code of Banking Practice and the Mutual Banking Code of Practice.   For brokers this could include the Mortgage and Finance Association of Australia and the Finance Brokers Association of Australia codes of practice. 

5.77               The Government could encourage industry to develop a document through targeted consultations.  If this option was selected the exact process would be discussed with industry. 

5.78               Under this option, provision of the key facts document would not be legislated but ASIC could still approve the provisions under the relevant codes of conduct.  Under this option, there would be minimal Government intervention beyond consultations with industry to discuss the key facts document.  There would be no further provisions or regulations developed for this option. 

5.79               Additionally, under this option current online comparison websites would be used as the main means of comparison of interest rates.  This could include comparison websites such as Cannex, Mozo, Infocity, Canstar and Ratecity. 

Impact analysis

5.80               This approach relies on the current voluntary industry codes of conduct, of which there are several depending on the entity engaged in lending or brokering.  Most industry codes of conduct have disclosure requirements in place, aimed at giving the consumer adequate information about the type of loan and the entity providing the loan or the credit assistance. 

5.81               There are some benefits for industry under this approach. 

5.82               In most instances, the industry codes of conduct provide a good benchmark for disclosure requirements.  Industry would have control over the process and would develop a format that would balance consumer comprehension against industry requirements.  Information provided by Cannex and Mozo could provide a useful benchmark.

5.83               However, there are some costs both for industry and consumers. 

5.84               The industry costs associated with this option include the cost of breaching the self-regulation and the cost of developing the key facts document. 

5.85               If a lender breaches the Code of Banking Practice, the Code of Banking Practice Code Compliance Monitoring Committee (CCMC) may report on the breach by identifying a non-compliant bank in its publicly available annual report.  A similar voluntary code system is in place for brokers and could also result in reputation risk.   Under this option there would be no formal penalties applicable beyond an impact on reputational risk for the lender or the broker.

5.86               There are also costs of implementing a simpler precontractual disclosure document. 

5.87               It is difficult to calculate the precise cost to industry of introducing the key facts document if it were to include a lowest competitor rate.  However, the costs are expected to be relatively modest as the other information contained with the key facts document should be readily available to home loan providers. 

5.88                 The cost of implementing the mandatory comparison rate (MCR) disclosure under the UCCC can be used as a broad guide for introducing a lowest competitor rate as the policy objectives are similar and the required effort by industry is largely similar. 

5.89               The MCR was introduced in July 2003 with the objective of providing information to consumers to enable them to understand the true cost of a loan product and compare various loan products in order to select a product that best suited their budget and other borrowing needs.  This is a similar objective to the key facts document.  The expected costs to introduce a key facts document, including developing IT systems, training staff and roll-out costs, are estimated to be similar to the costs that were incurred for the MCR implementation. [20]

5.90               The Mandatory Comparison Rates Final Impact Statement prepared for the Uniform Consumer Credit Code Management Committee in May 2008 reported the compliance costs affecting credit providers implementing the MCR requirements.  The Australian Bankers’ Association (ABA) estimated that the initial costs to comply with the MCR were approximately $11 million across all ABA members. 

5.91               Credit unions estimated the start-up compliance costs associated with the MCR regime to range from $3,700 through to $7,500 per credit union which represents an investment for the 166 credit unions ranging from $0.614 million to $1.245 million. [21]  

5.92               Ongoing costs to credit providers to maintain the MCR requirements included maintaining IT systems, printing of schedules, changes to schedules, updating websites, staff costs and distribution of schedules.  The ABA estimated annual recurring costs of $1.5 million across ABA members. [22]  It is estimated that the ongoing compliance costs for the key facts document would be similar to the ongoing compliance costs for the MCR.  Although some of these costs would be incurred in any event, irrespective of the introduction of the key facts document. 

5.93               When the document is introduced, there may also be an increase in monitoring industry compliance.  A benchmark for monitoring costs can be provided based on the cost of running the CCMC.  The CCMC expenditure for the year ending 31 March 2009 was $509,812. [23]   Inclusive of the expenditure is consultant fees ($36,419) and technology ($13,522). 

5.94               If a key facts document were developed for industry, it is likely that increased technology and consultancy costs would be required.  The timeframe for developing such a product could be assessed against the timeframe for the SCOCA report which developed a similar format.  The tender process started in February 2007 and the report was finalised in March 2010.  This is almost a three year period.  This could lead to considerable development costs. 

5.95               There are no available precise IT or regulatory costs for this particular document.  The ABA claims that any changes to documentation would require a lead time of at least 8 to 12 months to prepare for IT release schedules. 

5.96               For consumers, the benefits may be that they receive an innovative, market-driven disclosure solution.  This could reduce regulatory red-tape and perhaps provide a document that more closely reflects market developments.  If a product were developed and implemented this could encourage more shopping around and consumers could make considerable savings on their home loan.  For example, if a borrower selects a $250,000 home loan with the lowest advertised rate, over the 30 year life of the loan the borrower could save more than $40,000 compared to a home loan with an interest rate equal to the benchmark average variable rate. [24]   If this saving was applied to Chart 1 under the scope and magnitude section, it would indicate significant savings for consumers across the home loan industry. 

5.97               Coverage under this option would be limited for consumers as it would only apply to lenders and brokers who are signatories to their respective voluntary codes of conduct.  This has costs for consumers. 

5.98               Consumers may be under the misapprehension that they are receiving industry-code regulated disclosure from an entity that in fact may not be signatory to an industry code.  For example, if a lender breached the Code of Banking Practice it would not be covered by the Credit Act and would not be considered a contractual breach, against which borrowers can make a claim for damages (which can only be awarded through the Court or through an external dispute resolution scheme, such as the Financial Ombudsman Service).  This is the case for small business borrowers for example.  A similar situation would exist for consumers if precontractual disclosure were implemented through codes of conduct and not covered by the Credit Act.

5.99               Additionally, if there was misconduct ASIC would have limited options for enforcement.  It is likely that the only recourse for action would be each code’s misconduct procedures.  As noted before, an industry monitoring body could breach a lender, but the outcome of this would be limited to the impact on the entity’s reputation.

5.100           There may also be delays in developing the document, which could limit benefits for consumers.  Self-regulation may be less effective compared to regulatory intervention as there is a need to seek industry agreement for the regulation in order for it to be widely adopted and implemented.  This can be an extended process if there are difficulties in reaching industry agreement and it may lead to delays in finalising self-regulation or delays in implementation. 

Table 5.1 High-level impact analysis table: Non-regulatory option: Self-regulation

Stakeholder

Benefits

Costs

Industry (including lenders and brokers)

As industry would develop and implement the key facts document, the measure would more closely reflect industry practices.  This could potentially reduce administrative and consultation costs. 

Better use of industry expertise, industry would also have greater ownership of the key facts document.

Potentially high compliance and transaction costs associated with changes to IT and business systems due to industry consultation and implementation costs to develop the document.

Increased enforcement and monitoring costs.

Industry may not be best placed to develop a document with the same policy outcomes.

Consumers

Potentially better understanding of cost of credit.

Increased consumer empowerment.

Potentially more opportunities to compare credit contracts. 

Coverage would not be universal and would be contingent on entity being signatory to an industry code of conduct.

A related problem would that consumers may be misled into assuming that they have universal coverage. 

 

Government (including regulators)

Avoids detailed and prescriptive regulation which could hinder product innovation or service delivery.

Less regulatory and administrative complexity associated with regulatory intervention. 

 

Lack of enforcement capacity, may undermine the strength of the system. 

Costs associated with current levels of government assistance 

Misconduct would be hard to enforce.

 

Economy-wide benefits

Increased consumer empowerment potentially driving demand-side competition. 

There may be slight efficiency gains if better informed consumers select home loans that are appropriate.   

May be used to promote anti-competitive behaviour through establishing barriers to entry.

 

Option 3 — Regulatory Option — National Consumer Credit Reform Phase 2 process and consideration of disclosure

5.101           Under Option 3 a key facts document would be progressed through Phase 2 of the National Credit Reforms and would be implemented through the Credit Act.  If the key facts document were progressed through this option, it could take a further one to two years. 

5.102           Under this option, it is likely that the key facts document will more closely resemble the proposed content and format of the SCOCA report.  The SCOCA report did not consider providing information that could assist with comparison of interest rates. 

5.103           It should be noted that the report was conducted in the context of the old UCCC credit regulation context.  This means that subjects were only tested against precontractual disclosure in relation to credit providers (lenders) and not credit service providers (brokers).  The new Credit Act disclosure obligations apply precontractual obligations on brokers and maintain the same precontractual obligations for credit providers. 

5.104           The National Credit Reform Phase 2 Green Paper (Green Paper) noted that there are further issues that need to be considered in conjunction with the SCOCA report findings (see Background).  The Green Paper did not propose to consider specific reform options. 

Impact analysis

5.105           Under this option the key facts document would be mandated through Phase 2 of the Credit Reforms.  There are different levels of impact analysis for consumers and for industry. 

5.106           For consumers, mandating a key facts disclosure document could provide significant savings through encouraging shopping around, providing consumers with potential savings on their home loan.  For example, if a borrower selects a $250,000 home loan with the lowest advertised rate, over the 30 year life of the loan the borrower could save more than $40,000 compared to a home loan with an interest rate equal to the benchmark average variable rate. [25]   If this saving was applied to all new housing commitments (see paragraph 5.33), it would indicate significant costs for consumers across the home loan industry. 

5.107           For consumers and industry, the benefit of this approach is that a longer consultation process could potentially take place through Phase 2 of the Consumer Credit Reforms.  This could give further consideration to the issue of precontractual disclosure (scheduled to commence on 1 January 2011). 

5.108           Mandating the key facts document through Phase 2 of the Consumer Credit Reforms would be a longer process.  As such, there would be a period where consumers would be receiving potentially ineffective disclosure.  This could impact on consumers’ decisions for a home loan, either through not understanding the credit contract or by choosing the wrong type of loan or through reduced opportunities for comparison of different home loans.  In the absence of good consumer decision making, there could be considerable costs. 

5.109           One potential issue related to improvements in transparency is that if competitor rates were included (aside from the information already provided by the market), then there could potentially be a convergence of costs and product availability.  This could result in reduced consumer choice and possibly competition. 

5.110           However, for this scenario to occur it would be necessary for all lenders to have similar goals with regards to the home loan market.  In practice, different lenders may seek different shares of the home loan market or indeed may seek to expand their lending in the small business credit market.  There are also other aspects of home loans, other than the interest rate, over which lenders can compete, such as customer service.  As such, whilst a convergence of home loans could potentially occur due to greater transparency over costs, it may not be the likeliest scenario. 

5.111           For industry the specific amount of compliance costs would be difficult to calculate as different elements would have specific compliance costs.  It is assumed that Phase 2 would provide the basic key facts document, without additional information on market rates.  The impact analysis is based on an estimate of assumed printing costs, and preparing a tailored precontractual disclosure document.  Under this model, the government would undertake the costs of developing the product and awareness campaigns.  It is not clear at this stage what the potential costs would be as the key facts document content is not finalised at this stage. 

5.112           Under this option there would be changes to industry IT and business systems to suit one type of disclosure model (the current Credit Act) and then a further change if a decision is made to consider the SCOCA report findings.  Additionally, the SCOCA report focused on four different types of credit products (home loans, credit cards, car loans and store cards).  Under this process, it is likely that all four types of disclosure formats would be considered, this could increase costs and time associated with consultation and possibly implementation costs. 

5.113           The cost of complying with a tailored precontractual disclosure document may be similar to that of the cost for preparing a Statement of Advice (SOA) [26] under Chapter 7 of the Corporations Act.  The RIS for the Corporations Legislation Amendment (Simpler Regulatory System) Bill 2007 noted that industry suggested that the cost of preparing an SOA is approximately $260. [27]   A key facts document may incur similar costs in terms of time used by lender or broker to produce the document.  The unit cost of printing the key facts document would depend on the volume printed. 

5.114           Beyond costs associated with further consultations, there would be no additional product development or awareness campaign costs for industry.  Moreover, the additional industry costs of maintaining and training staff to use a lowest competitor interest rate would not apply, as the Phase 2 consumer credit reforms do not consider this measure.  There are no IT or regulatory costs for banks available.  However, as claimed by the ABA any changes to documentation would require a lead time of at least 8 to 12 months to prepare for IT release schedules. 

Table 5.1 High-level  impact analysis table: National Consumer Credit Reform Phase 2 process and consideration of disclosure

Stakeholder

Benefits

Costs

Industry (including lenders and brokers)

As industry would develop and implement the key facts document, the measure would more closely mirror industry practices.  This could potentially reduce administrative and consultation costs. 

Better use of industry expertise. Industry would also have greater ownership of the key facts document.

Potential compliance and transaction costs associated with changes to IT and business systems. 

Industry consultation and implementation costs. 

Consumers

Potentially better understanding of cost of credit.

Increased consumer empowerment.

Potentially better information with which to compare home loans. 

Coverage would not be universal and would be contingent on entity being signatory to a industry code of conduct

A related problem would be that consumers may be misled into assuming that they have universal coverage. 

 

Government (including regulators)

Avoids detailed and prescriptive regulation which could hinder product innovation or service delivery.

Less regulatory and administrative complexity associated with regulatory intervention. 

Misconduct would be easier to enforce using the Credit Act.

Lack of enforcement capacity, may undermine the strength of the system. 

Costs associated with current levels of government assistance. 

 

Economy-wide benefits

Increased consumer empowerment potentially driving demand-side competition. 

There may be slight efficiency gains if better informed consumers select home loans that are appropriate.   

May be used to promote anti-competitive behaviour through establishing barriers to entry.

 

 

Option 4 — Regulatory option — requiring a home loan key facts document

5.115           Option 4 is similar to Option 3 in that the overall policy objectives are the same, that is, simplified disclosure for consumers.  However, there are two key differences. 

5.116           Option 4 would accelerate the development and consultation process with a view to introducing legislation in the first sittings of parliament in 2011. 

5.117           Option 4 would also consider more prescriptive requirements regarding the content and formatting of the precontractual disclosure document, namely providing information that allows for comparisons of interest rates.  Option 4 would cover key features of the credit contract, in clear and concise English.  It would have a standardised format and font size.  Figures would be in total dollar amounts (which can be tailored according to the consumer’s particular credit needs). 

5.118           Another feature of Option 4 is that it aims to provide a personalised document.  Consumers would be able to provide their credit requirements to the lender or broker, and this would be reflected in the document.  Consumers will receive information that is directly relevant to their credit needs and objectives.  The key facts document would be provided early on in the decision making process to enable consumers to shop around and compare offerings from a range of credit providers.  This will help enhance portability and comparability of home loan information.  At present, none of the precontractual disclosure documents provide this for consumers. 

5.119           In particular the content could include:

•        standardised format similar to a Schumer Box;

•        disclosure of the value of the loan, the all-in interest rate;

•        the amount of interest the consumer will pay over the life of the loan (including how much per month based on various interest rate assumptions);

•        mortgage exit fees;

•        standardised terminology;

•        requirement to disclose lowest published market rate available compared against the all-in interest rate offered by the particular lender; and

•        on-going fees and charges. 

5.120           Given the different potential policy outcomes between ‘early’ and ‘late’ precontractual disclosure, the early disclosure document could be mandated separately and prior to any other change in the precontractual disclosure regime.  The key facts document would also include a requirement for lenders to clearly state the lowest market rate.  A model would have to be developed to calculate the comparison rate for each competitor mortgage product depending on the loan amount, loan-to-value ratio and the term of the loan. 

5.121           This option would be implemented in several stages, industry consultation, potentially including further consumer testing and legislated through the Credit Act to ensure that the key facts document aligned with current credit disclosure policy.  The impact analysis will address these steps in turn. 

5.122           Option 4 would accelerate the development process of a key facts document.  It would not be progressed through the Phase 2 of the Consumer Credit Reforms.  Under this regulatory option the content and the formatting of the key facts document would have more detailed prescribed formatting and information. 

5.123           The precise content and format of the key facts document would be the subject of discussions with key stakeholders, including industry and consumer groups regarding implementation arrangements, with a view to minimising compliance costs on the home loan industry.  The consultation process could also consider how the key facts document would interact with other disclosure documents under the Credit Act. 

5.124           The consultation process could also include further focus-group testing on the nature and the form of the document to ensure that the lay-out and information is useful and accessible for consumers.  This initiative will progress in parallel with a similar disclosure initiative in relation to credit cards, announced by the Government as part of the Fairer, Simpler Banking election commitment.   The Government will work with the industry in order to minimise any costs of compliance associated with this reform.

5.125           Using the Credit Act to implement the policy would mean that coverage would also be universal, all consumers would benefit as they would have access to external dispute resolution schemes for any misconduct related to precontractual disclosure.  An additional benefit is that ASIC would have enforcement powers and could appropriately address any misconduct. 

5.126           It is intended to have the legislation for the key facts document in place for introduction in the first sittings of Parliament in 2011. 

5.127           The method of rolling out would be subject to consultation with industry.   Given that this process would be developed in consultation with industry, there are no benchmarks for systems development, roll-out policies and procedures and training for relevant staff.  A public awareness campaign could be implemented through ASIC.  The costs involved with this will be finalised based on further consultations and once the policy framework is set. 

Impact analysis

5.128           Option 4 would require Government intervention.  In most cases, a preferable option would be for the market to develop a solution, as suggested by Option 2.  However, the key issue is that the objective is to simplify disclosure for consumers and improve comprehension and transparency.  It is not clear whether industry is best placed to fully achieve this objective.

5.129           In this case, Government intervention may be necessary to achieve a balance between market dynamics and consumer needs.  In particular as consumers may not have sufficient market power to achieve adequate precontractual disclosure. 

5.130           Requiring a prescribed early, personalised precontractual disclosure key facts document would impose compliance costs on industry.   The specific amount of compliance costs would be difficult to calculate as different elements (such as a lowest competitor rate for example) would have specific compliance costs.  As such the impact analysis is based on an estimate of assuming printing costs, and preparing a tailored document with a lowest competitor rate. 

5.131           The cost of complying with a tailored precontractual disclosure document may be similar to that of the cost for preparing a SOA under the Chapter 7 of the Corporations Act.  The RIS for the Corporations Legislation Amendment (Simpler Regulatory System) Bill 2007 noted that industry suggested that the cost of preparing a SOA is approximately $260 based on the estimated time that an adviser would spend on documenting the individual’s information and advice.  A key facts document may incur similar costs in terms of time used by lender or broker to produce the document.  The unit cost of printing the key facts document would depend on the volume printed. 

5.132           The ABA claim that changes to documentation require a lead time of at least 8 to 12 months to prepare for IT release schedules that are already pre-booked to maximum capacity (due to the current volume of regulatory reform and other system changes).  The ABA suggested that there are certain timeframes in their IT systems which are more amenable to wholesale changes to IT and business systems.  The precise training, implementation and roll-out costs would be made available through consultation to finalise the content and format of the key facts document.

5.133           Overall compliance costs for industry would be expected to be similar, although slightly higher than those outlined for Option 2 — Self-Regulation. 

5.134           Despite the costs, under Option 4 there are some benefits for industry.  It would provide a level playing field for all entities and would allow credit providers to advertise the key home loan features more clearly.  Credit providers that offer more competitive products will be able to clearly signal this under a standardised precontractual disclosure document.  This is a key difference with Option 2, where coverage would be limited for consumers as it would only apply to lenders and brokers who are signatories to their respective voluntary codes of conduct.

5.135           Another benefit for industry is that monitoring and compliance costs would be provided by the Government.  There would still be some monitoring costs associated with the voluntary codes of conduct, but the impact would be smaller than if industry were to implement all monitoring activities. 

5.136           Under Option 4 industry would not have to develop the product themselves and it is anticipated that the costs would be relatively low. 

5.137           There would be some maintenance costs for Option 4, mainly related to IT systems, printing of schedules, changes to schedules, updating websites, staff costs and distribution of schedules.  As noted previously, the ABA estimated annual recurring costs of $1.5 million across all ABA members. [28]  It is estimated that the ongoing compliance costs for the key facts document would be similar to the ongoing compliance costs for the MCR. 

5.138           One potential issue for consumers is that improvements in transparency could lead to a convergence of costs and product availability as competitors would have greater awareness of each other’s products.  For this scenario to occur it would be necessary for all lenders to have similar goals with regards to the home loan market.  In practice, different lenders may seek different shares of the home loan market or indeed may seek to expand their lending in the small business credit market. 

5.139           For consumers, improved disclosure could lead to improved comprehension rates of the cost of credit and perhaps increase the SCOCA Report estimated 6 per cent comprehension rate.  As noted before, if a borrower selects the appropriate loan it could lead to significant savings for them based on the example of a $250,000 home loan with the lowest advertised rate, over the 30 year life of the loan where the borrower could save more than $40,000 compared to a home loan with an interest rate equal to the benchmark average variable rate. [29]   This indicates a significant savings for consumers across the home loan industry. 

5.140           Importantly, there would be universal coverage for consumers as the key facts document would be implemented through the Credit Act.  Consumer would benefit from the enhanced dispute resolution mechanisms, court arrangements and remedies. 



Table 5.1 High-level impact analysis table: Regulatory option — requiring a home loan key facts document

Stakeholder

Benefits

Costs

Industry (including lenders and brokers)

Even playing field, all entities are required to provide similar forms.  Reduces possibility for unfair advantage from regulatory arbitrage amongst industry.

Potentially reduces need for self-regulation system, which would reduce costs related to monitoring and compliance costs. 

Potentially high compliance and transaction costs associated with changes to IT and business systems and meeting regulatory requirements.

Less costs associated with consultation and product development costs.

Consumers

Universal access to simple and tailored precontractual disclosure.

Potentially better understanding of cost of credit and opportunities to compare credit contracts.

Increased opportunities for consumer empowerment.

Industry associated costs may be passed on to the consumer in the form of increased cost of credit or fees or charges. 

 

Government (including regulators)

Even playing field, robust precontractual disclosure requirements.

 

Costs associated with current levels of government assistance. 

Increased regulatory and administrative complexity associated with regulatory intervention. 

Consultation and implementation costs.

Economy-wide benefits

Increased consumer empowerment potentially driving demand-side competition. 

There may be slight efficiency gains if better informed consumers select appropriate home loans.

 Initial transition costs may translate into increased cost or fees imposed on consumers.  This could impact on fostering demand-side competitive pressures. 



 

Consultation

5.141           Consultation on the issue of simplification of precontractual disclosure has been an on-going process, with responses to consultations focussing on the same issues.  There have been several rounds of consultation processes held, with industry providing useful feedback. 

Post-Implementation Review of the UCCC 1999

5.142           In August 1998 the Standing Committee started consultation processes for the Post-Implementation Review (PIR).  Although the PIR was conducted over 12 years ago, the regulatory context is still relevant as section 16 and 17 of the UCCC were replicated in the National Credit Code.  Moreover, submissions and respondents to the PIR had similar recommendations and suggestions to the policy objectives of a simplified pre-contractual disclosure document for home loans.  The issues paper was the main consultation document, submissions were sought from stakeholders on the issues detailed in the paper.

5.143           Between 23 October 1998 and 24 December 1998 the PIR project team received 33 submissions from key stakeholders, including consumer groups (CCLS New South Wales, Consumer Credit Legal Service), industry stakeholders (Wizard Finance, Statehealth Credit Union Limited, Super Members Home Loans) as well as industry representations (Australian Bankers Association, Finance Brokers of Tasmania Pty Ltd, Small Business Development Corporation). 

5.144           The Standing Committee approved substantive research on the impacts of disclosure on the market place through a telephone survey, additional data was collated and focus group tested.  The data was considered to be of sufficient statistical validity.  Section 1 of the Issues Paper asked whether it is possible for disclosure information to be presented more simply and yet still comply with requirements of the UCCC.  Section one also asked about the format, timing and key information content. 

5.145           Submissions were broadly supportive of simplified disclosure, both from industry and consumer group.  In particular, the response from consumer groups was that it would be desirable to have simplified disclosure. [30]  

5.146           The PIR recommended [31] :

1) the financial table should be converted to a simplified Schumer Box containing essential financial information;

2) other essential information should be provided outside the box and consumers must be informed that other important information is contained in the credit contract; and

3) the UCCC should be amended to clarify fees and charges. 

5.147           These recommendations are reflected in the overall policy objectives for pre-contractual disclosure outlined in this RIS. 

 

Uniform Consumer Credit Code Management Committee consultations 2005

5.148           In December 2005 the Uniform Consumer Credit Code Management Committee (UCCCMC) consultations released the consultation package, Precontractual disclosure under the Uniform Consumer Credit Code , which include a ‘proposed disclosure model’ to replace the UCCC disclosure model, the format of which is similar to the proposed key fact document. 

5.149           The consultation was based on the December 1999 PIR Final Report, focussing on two issues: whether the disclosure requirements have resulted in the provision of useful information to consumers when making choices between credit products and credit providers and whether disclosure information could be presented more simply and yet still comply with the requirements of the UCCC. 

5.150           Submissions in response to the consultation generally supported the overall framework and design of the proposed disclosure model. 

5.151           Following consultations with stakeholders from the consumer credit industry, UCCCMC determined that the need for any further changes to the existing UCCC precontractual disclosure should be identified through consumer testing and research into disclosure models, particularly the timing of precontractual disclosure. 

5.152           The outcome and research from the tender are outlined under this empirical research SCOCA report section in this RIS.   

House of Representatives Standing Committee on Economics Inquiry into Competition in the banking and non-banking sectors 2008

5.153           The inquiry received evidence on a range of issues and found that in addition to the credit reforms related to disclosure and there that is a need in Australia for some form of standardised key facts document similar to the UK model.  The Committee suggested that this could assist consumers to effectively compare home loans. [32]

5.154           The inquiry received 60 submissions, with 6 submissions commenting on the need for simplified precontractual disclosure and 2 submissions commenting on the need for standardised terminology.  Some industry members were supportive of a key facts document [33] as well as the standardised terminology. [34]

National Credit Reform

Consumer Credit Stakeholder Consultations

5.155           The Consumer Credit Reforms main industry consultation group comprises of the banking, mortgage brokering industries and consumer groups.  The industry consultation group meet on a monthly basis.  This approach has ensured industry input into the consultation process.  It is in this context that the SCOCA Disclosure Report and issues related to mandating formats for precontractual disclosure have been discussed. 

5.156           It was agreed that under Phase 2 of the Consumer Credit Reforms  — which considered precontractual disclosure — that consultations should occur through the main industry consultation group. 

5.157           Industry consultations focussing on Phase 2 commenced in December 2009 and continued throughout 2010 (except during the caretaker period).  During this time, most key stakeholder groups were present at the consultations. 

Consumer Credit Green Paper process

5.158           The National Credit Reform Phase 2 Green Paper, released on 7 July 2010, sought broad industry feedback on the precontractual disclosure report recommendations.  The feedback during industry group consultation consultations was incorporated into the Consumer Credit Green Paper. 

5.159           Over 55 submissions were received during the Green Paper consultation process, including from industry, consumer groups and industry representative groups. 

5.160           However, a simplified disclosure document was not specifically recommended by the Green Paper.  As such, responses to the Green Paper only provided high-level comments on the nature of precontractual disclosure. 

5.161           In its submission to the Green Paper, the Australian Bankers Association (ABA) noted that there were certain IT and business system issues that would need to be taken into account regarding precontractual disclosure changes.  The ABA noted that new responsible lending disclosure obligations will commence for credit providers and credit assistance providers on 1 January 2011.  The ABA suggests that the new disclosure regime be monitored for 12 to 24 months before further changes to precontractual disclosure requirements are contemplated. 

5.162           From an implementation perspective, the ABA submission stated that any changes to documentation would require a lead time of at least 8 to 12 months to prepare for IT release schedules and that most IT schedules are pre-booked to maximum capacity.  The submission also noted that banks stop any IT system changes from mid-November to January of each year to allow the IT systems to function at full capacity to account for seasonal shopping. 

Conclusion and recommended option

5.163           Four options are considered:

•        Option 1: Maintaining status quo;

•         Option 2: Self-regulation;

•        Option 3: Regulation through the Phase 2 of Consumer Credit Reforms; and

•        Option 4: Regulation through mandating a key facts document.

5.164           Based on issue of stakeholder interests, timing and the proposed content of the key facts document, the preferred option is Option 4.  This option achieves the Government objectives for improved consumer understanding of home loan costs and would assist consumers. 

5.165           Option 4 would create a level playing field for all entities.  Credit providers that offer more competitive products will be able to clearly signal this under a standardised precontractual disclosure document. 

Implementation and review

5.166           There would be two steps for implementation of Option 4, the targeted consultation process and changes to the Credit Act. 

Targeted consultation

5.167           First, further targeted consultations will take place over a three week period (this could also include further focus-group testing).  The consultation process would take place through the Consumer Credit Industry Stakeholder Consultation Group.  The precise format for consultation and consumer testing would be decided on in conjunction with industry.   However, it is the intent that consumer groups and industry representatives will be able to provide comment on the proposed content and format for the key facts document.  Whether this will occur through formal submissions or discussion will be decided on once the policy option is finalised.  The consultation group would provide input to potential transitional and practical issues that may need to be addressed to implement the proposal. 

5.168           Issues that will be consulted on include the use of certain sized text, prescribed wording, sections and terminology and possibly consumer tested.  Using the main industry consultation group would ensure that all key stakeholders dealing with consumer credit are properly consulted and will produce a more robust product.  Focus-group testing could examine more closely what types of information and the format that should be included in the key facts document, and perhaps the interaction with the Credit Act’s additional disclosure objectives. 

5.169           Consultations will also examine how the regulations of the key facts document will take place.  The measure could be regulated by ASIC in a similar way to that adopted in the UK, where the FSA regulates mortgage and home finance products. 

Changes to the Credit Act

5.170           The key facts document would be introduced by amendment to the National Consumer Credit Protection Act 2009 and where needed further consumer credit regulations. 

5.171           When the key facts document content and format is finalised, a more developed RIS will be provided with the introduction of the legislation in the first sittings of Parliament in 2011. 

5.172           The legislative process — depending on drafting resources — could take up to six months.  It is intended that the key facts document will be introduced in the first sittings of Parliament in 2011.  State referral would not be required in this instance, as the type of credit product, home loans, is addressed under Section 5 of the National Credit Code.  State referrals have therefore already been provided for this issue. 

5.173           The review process for the key facts document would be decided on at a later date.  But the effectiveness of the proposed measure and legislative amendments would be informally monitored by Treasury and then reviewed after a sufficient period of time had elapsed. 



 

APPENDIX:

Appendix 1: National Consumer Credit Protection Act 2009 precontractual disclosure requirements

Document

Obligation

Purpose

Explanation of obligations

Credit Guide (CG)

Credit providers (CP)

Credit assistance providers (CA)

Credit representatives (CR)

To provide consumer with preliminary information about the CP, CA and CR.

Information that should be provided is conduct obligations of licensee, key rights of the consumer.

For CA the information needs to include the possible nature and size of fees and charges that the consumer may incur as well as commissions. 

Applies to consumer leases as well.

For CA the credit guide must be given to the consumer as soon as practicable after it becomes apparent to the CA that they will provide credit assistance to the consumer.  It is anticipated that this could occur as early as the first communication.  If CA gives the consumer CP CG, there is the expectation that there is no need to provide it to the consumer again.

For CP, it is envisaged that precontractual disclosure required as required by the Code.  For the CP, it is anticipated that the timing could be as soon as the consumer is likely to enter into a credit contract. 

For CR, they must give CG to consumer at same time as CG of licensee they represent.

Quote for providing credit assistance (quote)

CA

The quote advises the consumer of maximum cost of the CA’s services, also includes estimates incurred by consumer or out of credit contract.  Possibility that final quote will be less.  Quote clarifies with consumer whether or not the costs will be incurred by consumer regardless of whether the credit is obtained.

The quote must be provided before credit assistance is provided.

The quote needs to be signed and date before credit assistance is provided.  These requirements also apply to consumer leases.

Credit proposal disclosure document (CCPD)

CA

The document provides the consumer with estimates of fees and commissions relating to the credit contract.

Applies to consumer leases as well.

CA must at the same time as providing credit assistance provide the CPDD.

Precontractual disclosure statement

CP

The document provides the consumer with financial information specified by regulations. 

Applies to consumer leases as well.

The CP must provide the document before the contract is entered into or before the debtor makes an offer to enter into the contract, depending on what comes first. 

It may be that the pre contractual statement can be the proposed contract document.  In this case section 17 information requirements would apply.

Credit proposal disclosure document (CCPD)

CA

The document provides the consumer with estimates of fees and commissions relating to the credit contract.

Applies to consumer leases as well.

CA must at the same time as providing credit assistance provide the CPDD.



Background

6.1                   During the 2010 election campaign, the Government announced the Fairer, Simpler Banking election commitment.  The Policy proposed a range of reforms in relation to credit card practices.  The changes were aimed at improving fairness and consistency in the way fees and interest are charged, giving consumers more say over credit card products, and improving disclosures to help them to better understand credit card products.

Summary

6.2                   There are two key problems for consumers who access credit through the use of credit cards:

•        They have become a significant source of consumer indebtedness where borrowers carry high balances at relatively high interest rates for significant periods of time.  For example, if a consumer has drawn down $10,000 on a card with an interest rate of 20 per cent, and can only afford to meet repayments of $200 per month, it will take them over 9 years to repay the debt. 

•        Particular features of the product make it difficult for consumers to make the most efficient use of these products (both in making an initial selection between competing products) and in their subsequent use. 

6.3                   It is proposed to address these problems by:

•        requiring c redit card providers to allocate repayments to that part of the consumer’s  debt which is incurring the higher interest charges;

•        requiring credit card providers to calculate the way in which interest is charged in accordance with statutory requirements that allow consumers to compare the cost of competing products more easily;

•        requiring credit card providers to include a clear summary of key features of the proposed product on their credit card application forms;

•        requiring credit card providers to effectively inform consumers of the implications of only making the minimum repayments on their credit card accounts;

•        prohibiting credit card providers from charging borrowers fees for exceeding their maximum limit except where the consumer has specifically elected to exceed their limit, and has agreed the lender can charge a fee should this occur;

•        prohibiting credit card providers from making unsolicited offers to consumers to increase their credit limit, except where the borrower has specifically agreed the credit provider can send them such offers;

•        requiring lenders, as part of their responsible lending obligations, to ask consumers to nominate their credit limit (as part of the inquiries lenders make to determine the extent of the consumer’s need for credit); and

•        requiring lenders to assess the amount of credit provided according to the capacity of borrowers to repay that credit within a reasonable period (as currently the only requirement is to assess the capacity of the borrower to meet the minimum repayments due under the contract).   

6.4                    It is expected that these measures will assist consumers by:

•        increasing their capacity to select products or use their credit cards in a way that reduces the level of fees and interest they are charged (for example, the NAB has already publicly stated that their reforms to credit cards will save borrowers $225 million annually); and

•        reducing the risk of consumers being provided with credit cards limits (either on application or through subsequent increases) where they may be unable to pay the total balance within a relatively short period of time.

6.5                   It is considered these measures will have the following impact on lenders who provide credit cards:

•        They will incur significant compliance costs, given that some of the measures (such as changes to the way in which interest is charged) may require substantial changes to their systems. 

•        They may face reduced revenue from credit card products and seek to address this through introducing other fees or increasing interest rates.  However, to the extent that consumers can make more informed choices upfront they will also be under greater pressure to be competitive.

Election commitment 1 — consumers are not charged over-limit fees unless they specifically agree that their account can go over the limit

6.6                   This election commitment provides that credit card accounts will not be able to be drawn over their maximum limit unless the consumer specifically agrees to opt-in to the service.

6.7                   Credit card providers generally allow accounts to go over their maximum limit and then the borrower is subject to an over-limit fee.  While consumers can opt out, this is not well known and is often not made clear.  Over-limit fees can be around $20-$25 if you exceed your maximum limit.  Allowing consumers to opt-in rather than opt-out will mean they can avoid exceeding their credit limit and will be able to avoid over-limit fees.

6.8                   As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.9                   Some customers do not realise that banks may extend credit beyond their agreed credit limit, and are then charged a fee for doing so.  This practice poses two problems.  Firstly, card issuers are providing more credit than has previously been agreed with the customer.  This may lead to consumers taking out more debt than anticipated on the mistaken belief that the credit would not be extended once they reach their credit limit.  The 2008 ANZ Survey of Adult Financial Literacy in Australia, found that only 6 per cent of people take steps to not exceed limits on credit cards.  This does not mean that the remainder borrow beyond their limit, as most users do not go near their credit limit.  However, it does demonstrate that only a small percentage of people carefully manage their credit to avoid going over their limit.

6.10               Secondly, cardholders may be charged an over-limit exception fee even if they exceed their limit by a small amount.  This adds an additional impost on those consumers who are under the greatest financial pressure.

Objective of election commitment

6.11               This election commitment has two primary objectives.  By limiting the extent to which people can go over their specified credit limit, cardholders can limit their debt exposure, giving them more control over their debt.  The second objective is to limit the cardholder’s exposure to the overlimit exception fee. 



 

Implementation Options:

Option

Impact on Consumers

Impact on Credit Providers

1.  Impose a hard limit

This option would prohibit lenders from authorising transactions that would take consumers over the credit limit specified in their credit contract.

Consumers would not be able to take out more credit for emergency purposes.  This may cause consumers some discontent if they are declined for transactions that would only slightly take them above their specified credit limit.

 

2.  Allow a buffer

This option would allow lenders to authorise transactions so that consumers could go over their limit, however this will be limited.

Consumers would still be able to take out credit beyond their credit limit up to a pre-determined limit. 

This would avoid consumer dissatisfaction if they are only slightly over their limit

Allows lenders to authorise transactions that may be over the limit.

3.  Prohibit a fee for consumers obtaining credit in excess of the limit.

Lenders will not be able to charge a fee to consumers who exceed their credit limit.

Consumers would be better off by not having to pay the fee (currently up to $20)

Credit providers will lose the ability to charge this fee.  One major bank has already abolished this fee.

4.  Require lenders to notify consumers

Lenders will be required to notify consumers once they exceed their credit limit.

Consumers would be better off by being advised of when they exceed their limit, and how they can address it.

There will be a cost to credit providers if they are required to notify consumers.

 

6.12               These options are not mutually exclusive.  It is proposed to adopt options two, three and four.  Under the proposed regime, consumers will be given a buffer of the lesser of 10 per cent or $500 in which the lender has discretion to authorise the transaction.  This will avoid consumer dissatisfaction by having transactions declined that would take them only slightly over their specified limit.

6.13               In some cases consumers may not know that they have exceeded their specified limit.  Therefore it is also proposed that consumers would not be charged a fee for going over that limit.  This will benefit consumers of lenders who currently charge such a fee.  In addition, it is proposed to require lenders to take reasonable steps to notify consumers once their specified credit limit is reached and advise consumers of actions they may take to address this.

Impact Analysis

6.14               The election commitment addresses both problems identified in this chapter by limiting the extent that accounts can go over their approved credit limit and abolishing over-limit fees.

Impact on Consumers

6.15               Consumers will not unwittingly obtain much more debt than they had previously been approved.  This option will allow consumers more control over their debts as they will not be able to access more debt than they had previously sought and agreed to.  Consumers will be advised when they reach their specified credit limit, informing them of their liabilities so they can take prompt action to address the situation.  In addition, consumers will not be charged a fee for exceeding their credit limit.

Impact on Credit Card Issuers

6.16               The option to allow consumers to not go over their limits is currently offered by many credit card lenders, however there is currently no limit to which the specified limit can be exceeded.  Lenders will only be able to lend amounts in accordance with the specified buffer. 

6.17               A prohibition on over-limit fees will reduce revenue from those fees.  In 2009 banks received $470 million [35] from total exception fees [36] .  In 2009, the NAB [37] abolished its over-limit fee and most other banks substantially reduced their fee from around $30 to $10.

Consultation

6.18               Generally, consumer advocates view the ability for consumers to spend beyond their approved limits as inconsistent with responsible lending and support this element of the reforms.  A common complaint received by their clients who have taken on more debt than they can handle is why they were allowed so much credit beyond their credit limit.  The provision of a buffer with suitable constraints, and the absence of any fees, is accepted as an appropriate method of addressing this.

6.19               Credit card issuers were generally opposed to imposing a limit, saying that the service allows consumers to manage their accounts with minimal fuss.  The option is currently available to customers, but the take-up has been low.  Credit card issuers prefer the option of a buffer which is largely consistent with existing industry practices.

Election commitment 2 — credit card providers must allocate repayments to higher interest debts first

6.20               A single credit card contract can contain a number of different interest rates, such as on promotional purchases, balance transfers, cash advances and standard purchases.  Consumers may be unaware that, in many cases, their repayments are used to pay off balances attracting the lowest charges first, leaving other balances unpaid and accruing higher interest.

6.21               It is difficult for consumers to work out from the fine print how repayments are allocated, which makes it hard to compare different products and work out exactly what the charges will be on an account.  Ensuring repayments are allocated to higher interest balances first will ensure consumers are not caught out and have to pay more interest than they expected.

6.22               As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.23               Credit card contracts can allow for the imposition of different interest rates for different liabilities such as balance transfers, purchases and cash advances.  Currently, it is standard practice for card issuers to allocate repayments to the balances attracting the lowest interest rate first, leaving the higher interest balance unpaid for longer and attract more interest charges. 

6.24               This is an issue for consumers who take on debt cash advances.  For example, in the case of a credit card debt of $3000 comprising $1000 of cash advances (charged at a rate of 21.5 per cent) and $2000 of purchases (at a rate of 13.5 per cent), if the cardholder repaid $200 a month and that money was applied first to the purchases, the interest charged would be about $425 over the year.  However, if the repayments were allocated firstly to the cash advance and that was cleared first, the interest over the year would be $326, a saving of about $99 for the year.

6.25               Similarly, consumers who take out no or low interest balance transfers are often negatively impacted by the allocation of repayments.  For example, a customer who takes out a $2,000 balance transfer (at a rate of 3 per cent) and then makes purchases of $1,000 (at a rate of 18 per cent - for simplicity assume no interest free period); if the consumer makes a repayment of $1,000 in the beginning of the next month, and that was applied to the lowest interest first, the interest charged for that month would be $17.50.  However if it were applied to the purchase first, the interest would be $5 for that month, a saving of $12.50.  The following diagram shows the difference between allocating repayments to the lowest interest first, compared with highest interest first.

Figure 1 — How the allocation of repayments can impact on the interest charged

 

6.26               The method for calculating interest charges and allocating repayments is inconsistent across credit card products.  However, the existing policies of most lenders maximise interest charges, often at the expense of the credit card user.

6.27               It is likely, due to these varying practices and changes in contractual arrangements over the life of a credit contract that most consumers do not know or are confused about how repayments are allocated to accounts where different interest rates apply.  In a survey conducted as part of the Review of the Regulation of Credit and Store Cards undertaken by the UK Government, the allocation of repayments was considered to be the most important issue. [38]

6.28               While these practices are often disclosed under the terms and conditions of the credit contract, it is often difficult for consumers to understand the implications of how repayments are allocated, which makes it hard to compare different products and work out exactly what the charges will be on an account.

Objective of election commitment

6.29               The objective of this election commitment is to promote competition by applying a single standard way of applying repayments allocated to credit card accounts across the industry. 

Impact Analysis

6.30               This election commitment will result in repayments being allocated to higher interest-bearing debts first.  This addresses the problem identified in this chapter by adopting a single industry-wide approach to adopting repayments.  It applies repayments to the debts the consumer would want them applied to, and therefore minimises the interest paid by the consumer.  It would also minimise the impact of more expensive cash advances, by clearing those debts first, and maximise the benefit of cheaper balance transfers, by clearing those debts last.

6.31               Provision is to be made for consumers to be able to alter these arrangements on specific request (for example, where they want to pay off a purchase that is interest free for a specified period, prior to that debt accruing interest). 

Impact on Consumers

6.32               Consumers with different interest bearing balances will pay less interest by being able to reduce higher interest bearing balances first.  Consumers will be able to take maximum advantage of balance transfers.  Consumers who take out cash withdrawals would be able to pay them off first, incurring less interest. 

Impact on Credit Card Issuers

6.33               As higher interest balances will be lower (as repayments are allocated to them first) and therefore, interest charges will be lower, this will impact on revenue.  As balance transfers may become less profitable, credit providers may be less willing to offer them or the attractiveness of the promotions may change.  To implement this measure, lenders will also need to update their systems for allocating repayments.  Business practices will need to change and an estimate on compliance costs associated with those changes for all elements of the proposals are considered in a separate section before the conclusion. 

6.34               One major bank has already adopted this approach.  The NAB has announced that it will apply this approach to repayments for its customers from 14 January 2011.  They estimate that if the rest of the industry adopted the same approach, Australians would save around $225 million a year in fees and interest.  Competitive pressures may see all banks move in this direction.

Consultation

6.35               Generally, community groups and legal centres support this measure as a means of addressing an area where consumers have little awareness of the method of calculation and where they can be disadvantaged.  Others see the current practice as a way card issuers maximise profits at the expense of consumers.

6.36               Some credit card lenders and banks maintain that such policies are appropriately disclosed and any changes would stifle competition and innovation in the industry, as well as impose additional costs in moving to a new regime.  They contend that this reform would reduce the availability of balance transfer offers and lead to the commoditisation of credit card offers where there is little to differentiate between products.

Election commitment 3 — interest charges are applied consistently under an industry-agreed standard, including when interest starts to accrue and on what balances

6.37               Credit providers can apply interest in various ways.  There is no industry standard on how interest is calculated and charged on credit card balances.  Therefore, the actual interest paid on some credit products can vary greatly even if the interest rate is stated as being the same.  This is because credit issuers have different approaches in the way they apply interest, such as when interest starts accruing and balances on which it accrues.  Addressing this will enable consumers to better compare interest rates on products, and identify the product that most suits their spending habits and financial circumstances.

6.38               As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.39               There are many variables that contribute to the amount of interest charged to a credit card account.  The multitude of variables makes it difficult for consumers to compare one product with another. 

6.40               Variables such as the interest rate and the number of interest free days are generally visible and commonly advertised.  However, some other variables such as how repayments are allocated, the time and balance on which the interest applies also affect interest charges but their impacts are not transparent to the consumer.  Even when disclosed to the consumer, their complex nature makes them difficult to compare products.

6.41               Such variables include:

•        The date from which interest applies — some issuers apply interest from the purchase date while others apply interest from the date the statement is issued.  This difference can be up to 30 days.  The longer the period that interest is applied, the greater the interest charged.

•        The balance on which the interest applies — some issuers apply interest to the purchase balance while others apply the interest only to the unpaid balance.  Giving credit to amounts already paid off will reduce the interest charged.

6.42               The following table shows the impact each variable can have on the interest applied to a credit card account.



 

Table 6.1  — Impact of variable methods of calculating interest

Issue

Assumptions

Variable

Interest

Timing of Interest

Interest rate of 20%

Purchase of $1,000 made on 2 March

Balance due date of 15 April

From Purchase date (2 March)

 

$24

 

 

From Statement date (2 April)

$7

Balance on which interest applies

Interest applied from statement date

Repayment of $800 made before interest is applied

On full balance

$7

 

 

On partial balance

$1

 

6.43               The multitude of conditions and variables make it difficult for consumers to understand different consumer credit contracts.  The detriment to cardholders is that they may pay more than they otherwise would if they fully understood the implications of all these variables, by either adapting their behaviour to minimise charges, or moving to other credit products more suited to their behaviour. 

6.44               Also some of the variables may not be concurrent but may be excluded by disclaimers which may not be prominent enough for the consumer to be informed.  For example, a 55 days interest free on purchases may be excluded where there is an outstanding balance transfer.

6.45               These differences not only disguise the true cost of credit but also make it difficult for credit card users to compare the true cost of credit products.  Choice has a history of campaigning on credit card issues. [39]   In August 2010, they reviewed the terms of 22 cards.  Despite applying the same interest rate of 16 per cent, different credit card interest calculation methods meant the actual interest paid ranged from 9.9 per cent to 45.0 per cent.  The comparison conducted by Choice showed at least 10 different billing methods being used by card providers. 

6.46               Experiences of Choice members include one who underpaid their balance but was charged interest on the full balance ‘In one instance I underpaid by $1 — I keyed an incorrect figure — and the interest was nearly $10’.  Others have complained about how interest is backdated to previous purchases. [40]

Objective of election commitment

6.47               The objective of this election commitment is to promote comparability and competitiveness across credit card products and providers.  An implementation objective is to balance those issues with the costs imposed on businesses.

6.48               The method of implementing this proposal is still the subject of consultation, so that the election commitment will be implemented through regulations rather than the Act itself.

Election commitment 4 — unsolicited credit limit extension offers are not allowed unless the consumer has agreed to the service

6.49               While credit card limit increases can only occur at the request of the consumer, credit providers are allowed to make unsolicited credit limit offers.  Preventing these offers, unless the consumer has given permission, will mean consumers can choose whether or not they receive offers for more credit.

6.50               As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.51               Unsolicited credit limit increase (UCLI) offers or invitations allow consumers to obtain more credit easily.  Under the responsible lending obligations, an offer for a credit limit extension can only be made where the increase has been assessed as not unsuitable.  While assessments may conclude that a limit extension is not unsuitable (based on the consumers ability to service the minimum repayments), access to greater debt may place some consumers into a debt that they cannot repay or can only repay after incurring significant costs. 

6.52               Consumer advocates view UCLI offers as causing significant consumer detriment, including over commitment leading to bankruptcy and loss of the family home, significant stress, harassment from debt collectors, and court proceedings leading to further stress. [41]   In a case study provided by Legal Aid Queensland, one pensioner couple had a $5,000 credit card limit increase over a series of UCLI offers to $43,500, despite being on a pension and having no increase in income.

6.53               National Legal Aid commented that their casework experience was that UCLI offers have caused significant financial stress for many disadvantaged consumers.  Given their social and economic situation, they are more likely to accept an offer for more credit to meet immediate financial needs without considering the long-term consequences. 

6.54               A survey conducted by the Australia Institute found that 41 per cent of respondents earning less than $40,000 had received an unsolicited credit card extension limit offer.  In addition 40.8 per cent of respondents not in paid work had received an offer to increase a credit card limit. [42]

6.55               A 2008 Consumer Action Law Centre report Congratulations, You’re Pre-Approved! suggested that the way in which banks and credit providers present UCLI offers can be designed to persuade, encourage, or convince customers to take up a credit card limit increase, often against their better interests or without evaluating the consequences.  It found that UCLI were ‘low involvement’ means of attaining more credit as they do not require the customer to provide extensive information or evidence as required upon application.  Therefore the customer does not fully appreciate the impact the additional debt would have on their finances, and may accept the increase and use it as a relatively high cost source of credit. 

6.56               The report is consistent with a study undertaken by AC Neilson and ANZ bank in 2005, which acknowledged the lender’s role in influencing a person’s decision to take on more debt. [43]  The majority of people in the study had received unsolicited credit limit increase offers and around half had accepted them.  Acceptance was underpinned by a perception that ‘it must be okay’ because the lender had sent it out.  Such offers have been attributed to consumers increasing their debt levels. [44]  

6.57               Responsible lending obligations under the Credit Act now apply to the assessment of applications for increases in credit limits resulting from these types of offers and credit card providers need to consider whether an increase in credit limit meets the consumer’s requirements or objectives.  However, these obligations do not specifically address this issue.  Lenders can still provide an increase where the application has been encouraged by the lender through an UCLI offer.  Lenders only need to consider whether the increase meets the consumer’s needs rather than being the best or optimal method of meeting them, and can therefore provide an increase notwithstanding that either cheaper forms of credit would also meet the consumer’s needs or that maintaining the existing limit reduces the risk of the consumer incurring interest charges for an extended period. 

6.58               In addition, the Office of the Privacy Commissioner, in their submission, expressed concern that information about customers are being inappropriately used in identifying customers who are targets of UCLI offers.  Such information should be used to assess a customer’s application, not for advertising or marketing purposes.

Objective of election commitment

6.59               This election commitment aims to allow consumers to have more control over their credit and debt levels by preventing cardholders from being sent offers to increase their credit limits without their consent.  A further objective is to allow lenders to provide credit marketing services to those who wish to receive and can afford to repay them.

Impact Analysis

6.60               This election commitment addresses the problem identified in this chapter by preventing UCLI offers being sent to consumers unless they have specifically agreed to this service.  Any consumer wishing to increase their credit limit would need to approach the lender, not the other way around. 

Impact on Consumers

6.61               Consumers have more control over how much they borrow.  Consumers do not receive offers that they do not want and may not afford.  Consumers who would usually take advantage of this offer and use credit responsibly, will now need to approach the bank themselves to change the credit limit, when they have themselves determined they need a higher limit.

Impact on credit card issuers

6.62               Credit card issues will save on direct marketing costs.  Credit card issues may adopt other marketing techniques to ‘sell’ more credit.  The impact on lender’s revenue is unquantifiable but is expected to be low.  Consumers who require a higher credit limit are likely to actively seek it. 

6.63               Consumers who may not necessarily require a higher credit limit and accept the higher limit based on the offer may not seek it and therefore the lender may have a reduction in the growth of their credit card balances.  However, to the extent that these consumers are taking on credit that they do not need, it may be desirable to limit this element of growth.  The number or proportion of UCLI acceptances by people not actively seeking a higher credit limit is unquantifiable.

Consultation

6.64               Community groups and legal centres are strongly in favour of prohibiting unsolicited credit limit extension offers.    They view UCLI offers as the cause of significant consumer detriment including over commitment, stress, harassment and court enforcement proceedings.  They view terminology used in those offers, such as ‘pre-approved’, give consumers the perception that they are entitled and can afford the increased limits.

6.65               Credit card lenders and banks maintain that additional regulation is not necessary as they apply their own credit scoring systems to filter out customers for who unsolicited credit limit extension offers are inappropriate.  Because of these credit scoring procedures, lenders view that UCLI offers can be made responsibly and are a function of customer service by anticipating the changing or future needs of consumers.

Election commitment 5 — consumers are given more say over nominating their own credit limit, subject to responsible lending obligations

6.66               Giving consumers more say in setting credit limits will give them more power over their own debt management practices and will safeguard them against card issuers granting credit in excess of that requested by them.

6.67               This measure will be consistent with the responsible lending conduct provisions.  Under these provisions, credit providers are unable to offer consumers a limit above a responsible amount.

6.68               As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.69               The new responsible lending conduct obligations require lenders to make reasonable inquiries about a borrower’s needs and requirements before entering into a credit contract or increasing a credit limit.  While some lenders have interpreted the new responsible lending conduct obligations to require asking an applicant their preferred credit limit, the legislation is not explicit about this requirement. 

6.70               However, it is difficult to see how a lender could adequately understand the needs and requirements of the consumer, as required in providing a product that is not unsuitable, without first asking the consumer how much they are willing to borrow (even if the answer is the maximum possible).  The application of this requirement to credit card contracts raises particular issues because consumers may nominate a credit limit that is quite high, in the expectation that they will be able to pay off the balance in full each month.  Where this is not the case in practice the consumer will be at risk of paying relatively high interest charges.  The reform therefore complements election commitments 4 and 6, and reduces the risk of borrowers having unnecessarily high credit limits. 

6.71               The responsible lending conduct requirements in some cases, will require, the lender to offer a lower limit than that nominated by the consumer.  It would then be up to the consumer to accept the lower amount or not accept any credit at all.

6.72               If lenders interpret the responsible lending conduct obligations as not requiring asking an applicant of how much credit they want, the lender may provide credit well in excess of that sought by the applicant.  This may place some consumers into more debt than they originally want, increasing the costs of their debt.

Objective of election commitment

6.73               This election commitment aims to allow consumers control the amount of credit they take on and feel comfortable with when they apply for a credit card or a credit limit increase.  A further objective is to provide additional guidance to lenders of their responsible lending conduct obligations.

Impact Analysis

6.74               The impact of introducing this election commitment would be limited as most industry participants have indicated that, as a result of the responsible lending obligations introduced in Phase One of the National Credit Reforms, they will be required to ask consumers to nominate their credit limit.  The election commitment would make it a statutory requirement, which would provide more certainty to industry.

6.75               Lenders would be required to specifically ask the applicant to nominate a credit limit.  Responses to the Green Paper indicate that at least some lenders have interpreted the new responsible lending obligations as requiring such inquiries.  There was general consensus amongst all respondents to the Green Paper, from both consumer groups and lenders, that consumers should be able to nominate credit limits when applying for credit cards.  This was seen as an essential tool to help consumers manage their credit, require applicants to consider their credit needs, and complement the responsible lending obligations of lenders.  This approach would not restrict credit providers from offering less credit than requested by the consumer, where, for example, the lender assessed the nominated credit limit as unsuitable.

Impact on consumers

6.76               Consumers will need to think about how much and why they are seeking credit which may lead to more financially responsible spending.  Consumers will not have easy access to credit that they have not previously requested. 

Impact on credit card issuers

6.77               Credit card issuers may not be able to offer as much credit to consumers as they previously did.  Additional costs would be incurred in redesigning applications and updating systems to incorporate an amount requested by the consumer.  However, many lenders have already done so to meet existing responsible lending conduct obligations.  There will be no additional revenue impacts for credit card issuers from their existing obligations under the National Consumer Credit Protection Act 2009 .

Consultation

6.78               This election commitment had broad appeal from consumer groups and lenders.  Community groups and legal centres are supportive of these requirements and see this proposal as encouraging better financial literacy and management of money.  Lenders commented that this complemented and was consistent with existing approaches to responsible lending and was therefore unproblematic; they noted that the issuer would retain the right to set the limit in consultation with the applicant.  A number of banks indicated that this feature had been available to their customers prior to responsible lending.

Election commitment 6 — credit card application forms include a clear summary of key account features

6.79               Information such as the amount of credit, fees and repayments must already be disclosed in credit card contracts.  However, the lengthy and technical nature of most contracts means it is easy to miss important information.  A summary of key features on the application form will draw important terms and conditions to the attention of consumers before they commit to credit cards.

6.80               As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.81               The National Credit Code regulates credit contracts including precontractual disclosure and the credit provider’s obligation to account.  Despite these mandated disclosures, consumer groups contend that more can be done in improving disclosure to make it more accessible. 

6.82               Submissions to the Green Paper have expressed the view that a consumer’s understanding of the core features of the credit product and contract is shaped by their level of financial literacy. [45]   Therefore, disclosures should be made as simple and clear as possible for consumers with low levels of financial literacy.  In addition disclosures should also be made at a time in the selection process that is useful for the consumer to make well informed decisions about their credit.

6.83               A study by Griffith University for the Brotherhood of St Laurence focusing on vulnerable borrowers, found that the language and length of credit contracts as barriers to consumers understanding them. [46] Participants in the study said they felt overwhelmed with the amount of information and that their limited education limited their understanding of the credit contracts.  The Study recommended that contracts be tailored to meet the needs and capacity of consumers such as providing a summary that would highlight key terms.

6.84               A report prepared for the Standing Committee of Officials of Consumer Affairs by Uniquest found significant gaps in consumer comprehension under existing disclosure requirements.  When the Revised Disclosure Model documents were given to consumers, individuals were more likely to answer questions about key features correctly. [47]   The Revised Disclosure Model is a summary of key features which refers to the credit contract for more substantive information.  The improvement in comprehension of key features can be seen from the table below.



 

Table 6.2 Correct answers to individual questions for the credit card sample for participants who read CDM, PDM or RDM documents.

Question

CDM [48]

PDM [49]

RDM [50]

Interest rate on credit card

60%

80%

100%

Maximum interest rate on credit card

37%

50%

80%

Term of the loan

13%

73%

80%

Cost of late payment

70%

87%

100%

 

Objective of election commitment

6.85               This election commitment aims to improve consumer comprehension in two ways: first, by key features of their credit card accounts being presented in a uniform, simple and easy to understand table on application forms; and secondly by providing this information earlier in the life cycle of the transaction (on application rather than just before entering into the contract).  An implementation objective is to balance those issues with the costs imposed on businesses.

Impact Analysis

6.86               In addition the content of the pre-contractual statement will need to be considered to avoid duplication and unnecessary documentation.  Key features would include the amount of credit advanced, the interest rate, and any fees or charges possible or likely to be charged.  This proposal addresses the problem identified in this chapter by increasing consumer comprehension of key terms and conditions of their credit cards.

6.87               A Standing Committee of Officials of Consumer Affairs on precontractual disclosure recommended a redesigned disclosure model which consisted of a Financial Summary Table (otherwise known as a Schumer box).  A Schumer box is a standardised disclosure box that features consistent terms and conditions for credit card offers.  The aim of the Schumer box is to allow consumers to compare credit cards in a consistent manner.  Specific terms and conditions are required to be spelled out for consumers when applying for credit cards.

6.88               As seen in table 6.2, consumer testing found that the redesigned disclosure model was a more meaningful document for consumers in explaining the cost of credit more clearly and referring to accompanying documentation when further information is sought. [51]   The study found improvement in the comprehension of credit card features when presented with a summary of key information when consumers were exposed to a financial summary table. 

Impact on consumers

6.89               Consumers are more likely to receive information that is relevant and understandable to them, and make more efficient choices when selecting credit cards.  Any additional costs of disclosure may be passed on to consumers.

Impact on credit card issuers

6.90               Consumers will be better informed so that consumer complaints about certain features of credit cards are likely to reduce.  Greater transparency may benefit those with more competitive products.  Changing disclosures will require system upgrades in redesigning communications.  Business practices that will need to change and an estimate on compliance costs associated with those changes for all elements of the proposals are considered in a separate section before the conclusion.

6.91               It will also be necessary to consider some transitional arrangements, as there will be a period in which current paper application forms continue to be in circulation, after the introduction of this requirement. 

Consultation

6.92               Generally, community groups and legal centres are strongly in favour of a short, standardised summary of terms and conditions but have noted that disclosure alone provides insufficient protection.  They believe it will enable consumers to make informed financial decisions with confidence and easily compare different products to source the best product to meet their specific needs.

6.93               Some credit card lenders and banks maintain that additional disclosure may not be necessary or provide clear consumer benefits as it will simply mean financier’s costs are passed onto consumers.  The additional paperwork may not be well received by consumers and further disclosures may be counterproductive, particularly where they repeat information already set out in the pre-contractual statement.

Election commitment 7 — consumers are informed about the implications of only making minimum repayments on their credit card

6.94               Consumers will have to be informed of the implications of making minimum repayments on their credit card bills.  Making sure consumers are made aware of the long-term implications of making minimum repayments on their credit card statements will help them manage their finances. 

6.95               Such information will include the period of time to pay all the debt and the total interest payable if only minimum repayments are made.  It will let consumers know how long they could expect to be indebted if they only make minimum repayments.  As this proposal is an election commitment, other alternatives are not considered.

Problem identification

6.96               Only making minimum repayments considerably extends the time debt is held by the consumer and therefore the interest paid.  For example, on a $1,000 debt, making minimum repayments based on a typical minimum repayment of 2 per cent of the outstanding balance, it would take over 26 years to repay that debt, at a cost of $3,102 in interest (red line in the diagram below).  Making higher repayments for example, $40 a month, would reduce the time to repay to under 3 years, and the total interest cost would be $305 (the bold black line in the diagram below), a saving of $2,797.

Figure 1 — Impact of making a 2 per cent repayment and $100 repayment on a $1000 balance

 

Table 6.1 Impact of minimum repayments on repayment period and total interest

Credit type

Interest Rate

Repayment

First monthly repayment

Repayment period

Total Interest

Credit Card

20 per cent

1.5 per cent

$15

Does not pay off

Not applicable

Credit Card

20 per cent

2 per cent

$20

26 years, 5 months

$3,102

Credit Card

20 per cent

5 per cent

$40

6 years, 1 month

$446

Credit Card

20 per cent

10 per cent

$100

3 years, 2 months

$191

Credit Card

20 per cent

20 per cent

$200

7 months

$53

 

6.97               Some cardholders may only make the minimum repayments, because they do not appreciate fully how much this behaviour would cost them in the long term.  The Financial Literacy Foundation’s Australians understanding money survey of 1,500 Australians in 2007 found:

•        72 per cent of adults reported having at least one credit card;

•        20 per cent of adults fail to regularly pay off the total balance owing on credit cards; and

•        13 per cent say they usually pay only the minimum owing. 

6.98               However, for low income earners (those earning less than $20,000), the percentage of people saying they only pay the minimum amount owing rose to 16.2 per cent.

6.99               The SCOCA report on Simplification of Disclosure Regulation for the Consumer Credit Code, identified minimum monthly payment on the credit limit, time to pay off the credit and the amount of interest paid on fully-drawn credit limit the least understood of all credit card features.

Table 6.4 Correct answers to individual questions in relation to repayments for participants who read CDM, PDM or RDM documents.

Question

CDM [52]

PDM [53]

RDM [54]

Minimum monthly payment on credit limit

13%

17%

100%

Time to pay off the credit

13%

7%

100%

Amount of interest paid on fully-drawn credit limit

13%

70%

80%

 

6.100           As can be observed from the table, significant improvements in consumer’s understanding of the implications of making minimum repayments where they were provided with a warning.

6.101           However, borrowers who make only minimum repayments are not the only category of credit card users likely to benefit from this disclosure.  Borrowers who make partial repayments may also be motivated to pay off their credit cards faster by showing the implications of making lower repayments or alternative repayment scenarios.

Objective of election commitment

6.102           Consumers are informed about the consequences of only making minimum repayments and may therefore pay off credit card debts more quickly.  An implementation objective is to balance those issues with the costs imposed on businesses.

Impact Analysis

6.103           This proposal addresses the problem identified in this chapter by giving consumers information and making them more aware of the implications of making minimum monthly repayments.  The election commitment will introduce a ‘health warning’ on monthly statements to give visible and tailored information to consumers of the implications of making minimum monthly repayments on their outstanding debt.  The warning would be prominently displayed on the monthly statement and would include the time it would take the consumer to clear their current debt (assuming they make monthly minimum repayments) and the total interest payable over that period. 

6.104           This would give consumers the information at the point where they are considering their repayments.  While this information may be of limited value for those making full, it would assist habitual minimum payers to reconsider the implications of their repayment habits.  For people who make partial repayments, it may also be of benefit by demonstrating the impact of making additional repayments (than they otherwise would) or showing how much they would need to repay to clear their debts within a certain amount of time.

6.105           The introduction of this requirement by the US Credit CARD Act of 2009 has resulted in reduced debt levels.  A study conducted in July 2010 by the Consumer Reports National Research Centre showed that consumers carried about $1,100 less debt than in 2009.  In addition, 23 per cent of respondents to the survey said they were motivated to pay off their credit cards faster by the Minimum Payment Warning on their bills mandated by the US Credit CARD Act of 2009 [55] .

Impact on consumers

6.106           Consumers will receive more information so they understand the full costs and implications of holding onto debt, and make informed decisions accordingly.  However, any additional costs of disclosure may be passed on to consumers. 

Impact on credit card issuers

6.107           If consumers do decide to pay off debts more quickly, they will pay less interest and profits may decline.  Changing disclosures, and in particular tailoring this information to different consumers, would require significant systems upgrades.  Business practices that will need to change and an estimate on compliance costs associated with those changes for all elements of the proposals are considered in a separate section before the conclusion.

Consultation

6.108           Generally, community groups and legal centres are strongly in favour of placing a warning, advising consumers about the effect of paying only minimum repayments on monthly credit card statements.  Some said that the information will give customers the capacity to consider other options available to them to complete their purchases and that having such a warning would likely motivate a consumer to make extra repayments.

6.109           Credit card lenders and banks maintain this type of disclosure is of limited benefit as the number of customers making minimum repayments is small.



 

Example 6.1 Repayment Information Box [56]

Balance Outstanding : Your closing balance is $1,000

Late payment warning: If we do not receive your minimum payment by 26/8/2010 , you will be charged a late fee of $20 in addition to any interest charges.

Minimum Payment Warning: If you make only the minimum payment each period, you will pay more interest and it will take you longer to pay off your balance.  For example:

If you make no additional charges using this card and each month you pay...

You will pay off the Closing Balance shown on this statement in about ...

And you will end up paying an estimated total interest of...

Only the minimum repayment of $25

5 years, 7 months

$662

$93

1 year

$111 (saving of $551)

If you would like information about credit counselling services call (XX) XXXX XXX

 

Impact Analysis — systems changes for credit card issuers

6.110           This section expands on the impact analysis on systems changes for credit card issuers.  As noted in each relevant section, credit card issues will incur costs to implement these changes from either discontinuing certain activities, to major IT systems rebuilds and staff training.  These costs are in addition to impacts of decreased revenue (for example, from no longer charging over-limit fees) or for the potential for reduced business (for example, from no longer sending unsolicited credit limit increases) as outlined in each relevant section. 

6.111           It is impossible to obtain an exact implementation cost for these changes.  These systems will be different from business to business and the costs of changing these systems will vary.  They will also depend on the exact nature of the changes (where consultation is still required to choose between different options).  The systems adopted by credit card issuers are a source of competitive advantage for issuers and therefore information about systems which may need to be changed are matters of intellectual commercial property and must be treated as commercial-in-confidence.  However, a limited impact analysis considering what changes may need to change is provided. 

6.112           Changes required to comply with one minor aspect of Phase One of the National Credit Reforms to a number of systems and interface have run into the millions.  Changes proposed by the Fairer Simpler Banking policy would require more substantial changes and could easily be expected to cost between $10 and $20 million. 

6.113           In addition to implementation of Phase 1 of the National Credit Reforms, most credit card issuers are also implementing or preparing for systems changes in relation to Personal Property Securities reforms, and changes to the Privacy laws, particularly Positive Credit Reporting.

6.114           Most major credit card issuers’ IT systems are based on build ‘windows’ meaning any changes will require long lead times for IT systems builds — up to 12 months.  Changes are required to both systems administering products and documentation for those products.  In addition, some banks have noted that there is a lack of suitably qualified personnel to conduct change programs within their business.  Any changes adopted before that time would require issuers to employ contractors, at significantly higher expense, to work on systems changes.  It is for these reasons any changes should commence no earlier than 2012.

Consultation Processes

6.115           Consultation with industry commenced shortly after the confirmation of the 2010 election result.  Meetings with the broader National Credit Reform Implementation Group in which these reforms were discussed were held on:

•        10 September 2010, Sydney; and

•        18 October 2010, Sydney.

6.116           Treasury established a specialist credit card implementation group as a forum to obtain views on the reforms.  Membership of the group comprised all major lenders, three industry bodies (the Australian Bankers Association, ABACUS Mutuals and the Australian Finance Conference), the three major payment system providers (Visa, Mastercard and AMEX), and three consumer representatives (Consumer Action Law Centre, Choice, Consumer Credit Legal Centre NSW).  Each of the election commitments was discussed in detail at a series of meetings and teleconferences between November 2010 and February 2011.  Meetings with the Credit Card Reform Implementation Group were held on:

•        3 November 2010, Sydney;

•        1 December 2010, Sydney;

•        17 December 2010, teleconference; and

•        2 February 2010, teleconference.

Conclusion

6.117           The measures announced as part of the Fairer, Simpler Banking policy and additional credit card reforms will make credit cards cheaper to use, credit card debt easier to control, and make credit card features easier to understand.  They are likely to be effective in addressing the problems identified in this RIS.  All the proposals addressed in this proposal should be implemented. 

6.118           Prohibiting credit card accounts from being drawn over their maximum limit will be effective in limiting the debt consumers accrue from their credit cards to an amount that they have agreed on and have been assessed as being able to afford.  This reform would have minimal impact on lenders as they already offer this service to their customers.

6.119           Allocating repayments to the highest interest first will be effective in helping consumers minimise their interest and pay off more expensive debts first.  This reform will impact on lenders as they will receive less interest and will need to adjust their IT systems. 

6.120           Greater standardisation of interest rates will be effective in allowing comparison between the price of different products, and in some cases, will help consumers save money on interest.

6.121           Banning unsolicited credit limit extension offers will be effective in limiting the amount of credit offered to people.  This measure will support responsible lending conduct requirements by requiring borrowers to actively seek more credit if they require it.  This measure will reduce the likelihood of low income or government benefit recipients from being offered credit beyond their capacity to service the debt.

6.122           Requiring lenders to ask applicants to nominate their preferred credit limit will clarify existing responsible lending requirements for credit cards.  This measure will give consumers more say in their level of indebtedness.  Most lenders have already moved to adopt this approach in light of the responsible lending conduct obligations.

6.123           Disclosure of key features on credit card applications will be effective in enhancing consumer comprehension of the pricing and important fees and charges of credit cards for which they are applying.  Consumers will benefit from knowing how best to use their cards.  Issuers may incur some additional costs in redesigning their applications to incorporate the changes.

6.124           Disclosure of the impact of minimum repayments will encourage consumers that do not repay their credit card balances, to make higher repayments and minimise their interest.  It will explain to consumers who make minimum repayments how much interest they will repay and the time it will take for them to repay it.  For people making partial repayments it will give them an additional incentive to make higher repayments.  If they do so, this measure may reduce the interest revenue of lenders.

6.125           Imposing a statutory requirement to assess a consumers’ capacity to repay within a reasonable amount of time will support responsible lending requirements so that capacity to repay assessments are made in line with consumer’s requirements.  

6.126           These changes will benefit consumers in controlling the pricing of credit, controlling the amount of credit they receive, and enhance their understanding of credit cards.  For these reasons these proposals should be supported.




[1]    See Attachment A for glossary of terms.

[2]    2010 Standing Committee of Officials of Consumer Affairs Simplification of Disclosure Regulation for the Consumer Credit Code, pg 6.

[3]    Lacko, J and Pappalardo, K ‘ Improving consumer mortgage disclosures - an empirical assessment of current and prototype disclosure forms’ (2007) US Federal Trade Commission’s Bureau of Economics 13 June 2007.

[4]    ABS Adult Literacy Survey 2006, pg 2.  The scale of 1-5 used is based on proficiency measures, with Level 1 being the lowest level of literacy and Level 5 being the highest level of literacy.  Level 3 is regarded by the survey developers as the ‘minimum required by individuals to meet the complex demands of everyday life and work in the emerging knowledge-based economy.’

[5]    ABS Adult Literacy Survey 2006, pg 2.  The scale of 1-5 used is based on proficiency measures, with Level 1 being the lowest level of literacy and Level 5 being the highest level of literacy.  Level 3 is regarded by the survey developers as the ‘minimum required individuals to meet the complex demands of everyday life and work in the emerging knowledge-based economy.

[6]    Uniform Consumer Credit Code: Mandatory Comparison Rates Final Impact Statement, 7 May 2008.

[7]    June 2008 Financial Services and Credit Reform Green Paper, pg 10.

[8]    The Schumer Box is named after the US Senator Schumer who proposed that all important features of a credit contract be placed in a box on the front of the credit contract. 

[9]    2010 Standing Committee of Officials of Consumer Affairs Simplification of Disclosure Regulation for the Consumer Credit Code, pg 6.

[10] Malbon, J ‘Taking Credit: A Survey of Consumer Behaviour in the Australia Consumer Credit Market’ (1999) September Law School, Griffith University for the Consumer Credit Code Post Implementation Review Committee on behalf of the Ministerial Council on Consumer Affairs.

[11] 92 per cent of low income consumers and 84 per cent of high income consumers said that they mainly took notice of the key features of the credit contract, Malbon, J ‘Taking Credit: A Survey of Consumer Behaviour in the Australia Consumer Credit Market’ (1999) September Law School, Griffith University for the Consumer Credit Code Post Implementation Review Committee on behalf of the Ministerial Council on Consumer Affairs.

[12] Ewing, S ‘The Effectiveness of Mandatory Comparison Rates’ (2006) Swinburne Institute of Social Research.

[13] Howells 2005 and Sheehan, G and Wilson, T and Howell, N Brotherhood of St. Laurence, ‘Coming to grips with credit contracts’, November 2008.

[14] SCOCA report pg 23-24.

[15] WA Department of Consumer and Employment Protection, Request for Consultancy Services for the Simplification of Disclosure Regulation-Consumer Credit Code, February 2007, pg 27.

[16] PIR 1999 pg 9.

[17] PIR 1999 pg 30.

[18] Based on advertised rates on 15 November 2010. The benchmark variable rate is the weighted average of the rates offered on full featured variable loans of approximately 100 big and small lenders around Australia.

[19] O’Shea, P, Simplification of Disclosure Regulation for the Consumer Credit Code: Empirical Research and Redesign, UniQuest, March 2010.

[20] Uniform Consumer Credit Code: Mandatory Comparison Rates, 7 May 2008, Pg 35.

[21] Uniform Consumer Credit Code: Mandatory Comparison Rates, 7 May 2008, Pg 35.

[22] Uniform Consumer Credit Code: Mandatory Comparison Rates, 7 May 2008, Pg 37.

[23] CCMC annual report 2008-09, pg 20.

[24] Based on advertised rates on 15 November 2010. The benchmark variable rate is the weighted average of the rates offered on full featured variable loans of approximately 100 big and small lenders around Australia.

[25] Based on advertised rates on 15 November 2010. The benchmark variable rate is the weighted average of the rates offered on full featured variable loans of approximately 100 big and small lenders around Australia.

[26] The SOA is a similarly tailored document that outlines the financial advice given to the individual, the information on which it’s based, how the financial adviser gets paid and any interests or relationships that could influence them.  The key similarity with the proposed key facts document is that it is tailored financial advice, not general advice.

[27] This estimate is based on the time that a financial adviser would spend on documenting the individual’s information and advice. It does not include the costs of making appropriate inquiries about the consumer or doing the associated analysis. 

[28] Uniform Consumer Credit Code: Mandatory Comparison Rates, 7 May 2008, Pg 37.

[29] Based on advertised rates on 15 November 2010. The benchmark variable rate is the weighted average of the rates offered on full featured variable loans of approximately 100 big and small lenders around Australia.

[30] 1999 UCCC PIR pg 9.

[31] 2005 Precontractual Disclosure and the Uniform Consumer Credit Code Consultation Package 2005, Ministerial Council for Consumer Affairs (MCCA), pg 2.

[32] Report Inquiry into Competition in the banking and non-banking sectors, House of Representatives Standing Committee on Economics, November 2008, pg xvii.

[33] Fujitsu Consulting submission to the Inquiry into Competition in the banking and non-banking sectors, House of Representatives Standing Committee on Economics 2008.

[34] Mates Rates Mortgages submission to the Inquiry into Competition in the banking and non-banking sectors, House of Representatives Standing Committee on Economics 2008 and transcript to the inquiry: http://www.aph.gov.au/hansard/reps/commttee/R11145.pdf.

[35]    Many institutions reduced or removed over-limit exemption fees in late 2009.  Some reduction in fees is likely to be reflected in the exception fee income for 2009, though it is likely that figures for 2010 will also be affected.

[36]    Exception fees may be charged when there are insufficient available funds to cover a transaction, resulting in a dishonour or approval to overdraw; credit card payments are late; or credit card limits are exceeded.  Data obtained does not break down the total fees into those categories.

[37]    The NAB has around 12 per cent of credit cards in Australia.  NAB is the only major lender to abolish this fee.

[38]    37% of consultation respondents to an online poll considered allocation of repayments the most important issue, second was minimum repayments at 20%.

[39]    Choice has published articles on this specific issue in October 2006 (Card Games), January 2010 (Which Credit Card for You), May 2010 (Low Interest, High Anxiety) and August 2010 (Stings in the Tail).

6. Choice article of March 2010, ‘Stings in the tail: financial institutions are using unfair practices to squeeze every last cent of interest from customers.’

 

[41]    Responses to Consumer Credit Phase 2 Green Paper.

[42]    Money and Power, The Case for better regulation in banking, The Australia Institute submission to Green Paper, Page 18

[43]    ACNielson, ANZ, Understanding Personal Debt and Financial Difficulty in Australia, Nov 2005, p4

[44] Congratulations, You’re Pre-Approved! Consumer Action Law Centre 2008.

[45] Sheehan, G Wilson, T and Howell, N Coming to grips with credit contracts - Steps to protect vulnerable borrowers, Brotherhood of St. Laurence and Griffith University, November 2008, pp 4-5

[46] Genevieve Sheehan, Therese Wilson and Nicola Howell,, Coming to Grips with Credit Contracts, Brotherhood of St Laurence

[47] O’Shea, Paul, Simplification of Disclosure Regulation for the Consumer Credit Code: Empirical Research and Redesign, UniQuest, March 2010

[48] CDM is the Current disclosure model which is the current disclosure mandated by the Code.  It can be a separate document but is usually a copy of the loan contract and includes a financial table or schedule.

[49] PDM is the Proposed Disclosure Model proposed in the 2005 Uniform Consumer Credit Code Management Committee consultation package.  It consists of a Financial Summary Table and a Statement of Other Information.

[50] RDM is the Redesigned Disclosure Model.  It consists of a redesigned Financial Summary Table which refers to the contract schedule.  It also includes a set of standard terms.

[51] SCOCA Simplification of Disclosure Regulation for the Consumer credit Code: Empirical Research and Redesign - Final Report, March 2010, p6

[52] CDM is the Current disclosure model which is the current disclosure mandated by the Code.  It can be a separate document but is usually a copy of the loan contract and includes a financial table or schedule.

[53] PDM is the Proposed Disclosure Model proposed in the 2005 Uniform Consumer Credit Code Management Committee consultation package.  It consists of a Financial Summary Table and a Statement of Other Information.

[54] RDM is the Redesigned Disclosure Model.  It consists of a redesigned Financial Summary Table which refers to the contract schedule.  It also includes a set of standard terms.

[55] Consumer Reports, Consumer Reports Survey Finds Credit Card Issues Improving In Wake of Credit CARD Act of 2009: But Some Perils Linger, www.consumersunion.org

[56] The example is based on an interest rate of 20% per annum.