While some may find it hard to believe, given what can be seen as high APRs, making money in high cost short-term credit (HCSTC) can be challenging. Lending small sums over short periods reduces the opportunity to recover costs, be they bad debt, data and CRA expenses, or just the bills incurred running a business.
Recently, the FCA increased their focus on affordability in the HCSTC market. The increased number of complaints received by the Ombudsman (in part fueled by claim management companies) has led many lenders to reconsider how they determine if customers can afford the loan they want.
So, in a market that calls for operational efficiency as well as robust affordability decisions, while meeting consumers’ demand for fast decisions and rapid access to funds, does Open Banking offer the solution?
GAIN Credit has always taken affordability seriously. We have always run affordability checks, combining self-declared income and expenses with other data such as from credit bureaus and the Office of National Statistics.
In 2018 GAIN Credit started using Open Banking to understand loan affordability and to further enhance underwriting. Setting it up took around three months but now the practice is providing insight into customer affordability, based on transactional-level data, in a highly automated fashion. We can make lending decisions with more confidence than ever before, with even greater validation of income and expenditure numbers.
But it’s early days and there are challenges. These include:
Consumer apprehension about sharing bank data: Whilst customers can be reticent about providing hard copies of bank statements, sharing access to bank data online can be even more alarming. For years the UK public were told not to divulge their banking details by banks and government. It is crucial we overcome this perception barrier. We will need more education to convince customers it really is okay to share data (providing it is through a secure system such as Open Banking).
Bank enthusiasm about open banking: Some banks have been at the forefront of the Open Banking revolution, and quick to hone their customer journey; others still have a lot to do to make their journey customer-friendly. At GAIN Credit, through our Lending Stream product, we see the customers of some banks being twice as successful at completing online banking processes when compared to others.
Categorisation of expense: Perhaps the key challenge for using transactional banking data to make underwriting decisions is the ability to categorise spend as discretionary or essential. This is at the heart of deciding whether a loan is affordable or not. For example, a spend at Tesco could be for their value range food, premium lager or a second TV; it is not an easy challenge.
Integrating transactional data into models: More data opens more questions. For example, without transactional data there is an inability to consider the level of gambling that is indicative of a problem. £2 on the lottery may be ok, but £1000 a week at Ladbrokes? The new data means new decisions around responsible lending are easier to be made.
So, should a lender introduce Open Banking? Ultimately each lender will make their own decision on whether and/or when to implement the approach. There are, however, several key impacts on business models, both on expense and revenue lines:
Costs incurred in securing transactional data: Most lenders will choose to use a third party to pull transactional data. This may be much easier than applying for a full ‘Account Information Service Providers’ (AISP) licence themselves. There are multiple players, ranging from specialists to the biggest CRA. Lenders will make their own decisions, perhaps trading flexibility and adaptability with confidence from a known name. Whatever choices lenders make, the market is sure to commoditise in the not too distant future.
Consumer dropout reducing lending: The level of dropout will vary from organisation to organisation, depending both on the consumer need, their attitude to risk and the complexity of journey. This will obviously impact the amount of lending, but as Open Banking becomes better understood by the general public over time, it is reasonable to expect that more consumers will be comfortable sharing their bank data. In the meantime, lenders need to be willing to accept reduced conversion rates in return for better lending decisions.
Using historical transactional data to defend against complaints: Of course, the FOS will continue to make decisions based on the individual circumstances of a case, however having transactional level data, and being able to articulate how it was used to make affordability and underwriting decisions represents a step forward in being able to defend a decision to lend. Only time will tell how successful it is in ensuring affordability to the standards set by the regulatory family.
We were aware that being the first mover to introduce Open Banking might be a disadvantage given the costs and lost conversions. However, we believe those who embrace transactional data and understand how to operationalise it in a digital form will be the ones that prosper. A £200 loan over three months does not allow the margin to utilise manual underwriters profitably, and consumers won’t wait days to receive a decision. At GAIN Credit we believe Open Banking will soon be the base for all lending decisions, especially in an ever-expanding digital world under increasing regulatory scrutiny. As a conduit for transactional data and assessing affordability, it offers a new gold standard.