A radical overhaul of the UK's 30-year-old credit laws will be brought forward in the autumn, Consumer Affairs Minister Gerry Sutcliffe announced yesterday. The reforms include a scrapping of penalties imposed on consumers who repay loans early.

Gerry Sutcliffe explained:

"The credit sector is far larger and more sophisticated than the one our credit laws were designed for. Back In 1971 only one type of credit card was available, compared to around 1,300 credit cards on the market now. And the amount of money owed on credit cards back then was worth £32m but now it's over £49bn."

A report issued yesterday by market analysts Datamonitor shows that the average unsecured borrowing of each person within the UK is £3,383 – an increase of more than £1, 000 in the last five years. However, around 70% of all personal loans are settled early, and under the current laws redemption penalties are usually charged by the lender on early settlement of the loan – often amounting to two months' interest.

Consumer bodies have been calling for legislation to deal with these penalties for a very long time.

Gerry Sutcliffe confirmed that changes were needed:

"I want to ensure our credit laws meet the needs of a modern credit sector. They must protect consumers by tackling loan sharks, allow unfair loan agreements to be challenged, and ensure consumers know what they are getting themselves into when they sign on the dotted line."

A White Paper will be published in the autumn to implement a package of reforms that will deal with these problems. In brief it will:

abolish the 'Rule of 78' - the formula often used by lenders to calculate how much consumers have to pay when they settle a loan early. This tends to overestimate the outstanding loan balance so borrowers pay more than they would if other more accurate ways of working out the balance are used;

introduce a new actuarial method to calculate costs, which is fair to the lender and borrower;

ensure lenders give early settlement examples and a summary of early settlement rules prior to the signature of a loan agreement;

allow most lenders to recoup their early settlement administrative costs by claiming one month's additional interest beyond the settlement date; and

allow lenders to defer the settlement date for up to 28 days to allow both parties to organise the processing of the final payment.

The White Paper will also include provisions to strengthen the current credit-licensing regime, set up a coordinated money advice service, modernise the existing legislation to allow for on-line agreements and simplify existing rules governing the advertising of credit.

The National Consumer Council (NCC) welcomed the proposals. NCC Chief Executive Ed Mayo said:

"We are especially pleased that our call to abolish the pernicious 'Rule of 78' has been heeded by the Minister. It is an unfair and expensive penalty on the many people who pay off their loans early. It is important that the proposed new early settlement arrangements are kept under review, to ensure we haven't ditched one form of unfair small print for another."

The Consumer's Association was less enthusiastic with the proposals:

"We welcome the Government's intention to abolish the 'Rule of 78'. We are disappointed, however, that while the DTI is proposing to abolish this rule it still plans to allow lenders to charge borrowers one month's interest which means consumers will continue to be penalised for settling loans early by credit companies."

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