FCA overhaul of overdraft rules likely to lead to extra costs, expert says

The FCA said it would stop banks and building societies from charging higher prices for unarranged overdrafts than for arranged overdrafts, and ban fixed fees for borrowing through an overdraft.

Banks and building societies will now have to price overdrafts by a simple annual interest rate rather than with fixed daily or monthly charges. They will have to advertise arranged overdraft prices with an annual percentage rate (APR) to help comparison with other products.

Refused payment fees will now have to “reasonably correspond” to the cost of refusing payments, and banks and building societies will have to do more to identify customers who are showing signs of financial strain or are in financial difficulty, and develop and implement a strategy to reduce repeat overdraft use.

Banking expert Andrew Barber of Pinsent Masons, the law firm behind Out-Law.com, said the changes would present challenges for firms, but the changes were broadly welcomed by the sector.

“A number of the final rules that will be implemented, such as stopping firms from charging higher prices for unarranged overdrafts than for arranged overdrafts, have received broad industry support during the consultation process but it is going to be interesting to see how firms deal with the commercial challenges that these will throw up for their businesses,” Barber said.

Barber said those challenges included income lost by the reduction in charges, and extra costs for banks and building societies generated through the increased regulatory burdens.

“Firms are likely to look for other ways to make up the lost income, and cover the increased costs that these proposals will have with the FCA already highlighting the possible effect of fees being raised elsewhere to recover the lost income from unarranged overdrafts - what they have called the ‘waterbed’ effect,” Barber said.

“While vulnerable customers will receive some welcome reductions in the cost of unarranged borrowing and clarity about overdraft prices, the impact on those with arranged overdrafts may be greater than anticipated,” Barber said.

The FCA policy statement (95 page / 1.1MB PDF) follows proposals set out in a consultation paper published last December. The regulator said high charges and the repeated use of overdrafts risked significant harm to consumers.

The FCA said firms made over £2.4 billion in 2017 from overdrafts alone, with around 30% of the sum from unarranged overdrafts. Meanwhile more than 50% of banks’ unarranged overdraft fees came from just 1.5% of customers in 2016, and fees for unarranged overdrafts can be 10 times as high as fees for short-term ‘payday’ loans.

“A very welcome outcome from the policy statement is the requirement for firms to identify customers showing signs of financial strain, or who are in financial difficulty, and then to develop a strategy for them to reduce repeat use. This might finally be the tool needed to significantly reduce the use of unarranged overdrafts by a small percentage of the overall banking population,” Barber said.

Consumer research showed that many people wanted to see the cost of borrowing set out in pounds and pence as well as with an APR and interest rate. The FCA said banking trade association UK Finance had agreed to implement this alongside the FCA’s remedies.

The FCA is also consulting on proposals (28 page / 465KB PDF) to require banks and building societies to publish representative APRs and overdraft related prices on a quarterly basis. In addition, it is proposing to make minor changes to its competition remedies.

The guidance on refused payment fees takes effect immediately. Competition and repeat use remedies will come into force on 18 December 2019 and pricing rules will take effect on 6 April 2020.