The Consumer Protection Code – Implications and Implementation

Presented by Group 2

Contents

Consumer Protection Code overview Reasons for the revision of the code A summary of the reviews of the directives Legislative bases and application Common Rules The Impact of the code on small firms Impact on larger regulated entities Conclusions and recommendations Cost and Benefits of the code to regulated entities

and consumers

Consumer protection code overview

The code outlines the requirements that must be complied with by regulated entities when dealing with consumers

Regulated entities must act in the best interest of the consumers

Regulated entities are also required by the code to provide suitable product, appropriate information to consumers that will make it possible for them to make an informed choice

There must also be available to the consumer an effective complaints handling procedure and time frame for the handling of complaints from the consumer

Reasons for the revision of the code

The Consumer Credit Directive (Directive 2008/48/EC) must come into effect by early next year 2011.

The agreements which are covered by both the Consumer credit act of 1995(CCA) and the Consumer protection code of 2006 will be affected.

Clarity with regards to the above code for lending institutions on it’s implementation.

To strengthen existing provisions and increase consumer protection.

Dispel provisions in the codes which are no longer appropriate to the present dispensation.

Improve the an integrated consumer market across the European Union

A summary of the reviews on the Directives

It applies to consumer loans from €200 to €75,000 It will increase the cooling off period to 14 days which

cannot be waived by the consumer It excludes certain agreements such as leasing, hire

purchase and loans secured on mortgages Information given to consumers pre contract will become

standardised Annual Percentage Rate (APR) will now have a common

definition Regulated entities must asses and confirm the

creditworthiness of the borrower Debts can be settled early by the borrower, subject to

compensation being payable to the lender in the case of fixed rate lending

Legislative bases and application

The code is issued under section 117 of the Central Bank Act of 1989

The central Bank has the power to administer sanctions and fines for a contravention of this code; under Part IIIC of the central Bank Act of 1942

Under the new code the provisions are binding on all regulated entities and must at all times be complied with when providing services

Subject to exclusions the code applies to regulated activities and entities operating in the state including;

Financial services providers authorised, registered or licensed by the Central bank

Financial services providers authorised, registered or licensed in another EU or EEA member state with regards to the provision of services in this state in a branch as well as on cross border basis

Common Rules

General requirements1. A regulated entity must ensure that names of products and services are not

misleading

2. A regulated entity must ensure that instructions and requests from and on behalf of consumers are processed properly and promptly

3. A credit institution must ensure that funds logged or sent via a deposit agent are credited to the correct account on the same day

4. A receipt must be provided to a consumer if the regulated entity is in direct receipt of a negotiable or non-negotiable instrument as payment for financial products or services

5. A regulated entity must also acknowledge in writing receipt for a completed direct debit mandate or payroll deduction from a consumer for the payment of financial products or services

6. A regulated entity must also ensure that all warnings required by this code are prominent i.e. larger than the font size used throughout in the document and or on advertisement

7. In situations where power of attorney has been granted a regulated entity must obtain a certified copy of the power of attorney and ensure that it operates within it’s limitations

A regulated entity must have regard to the provisions of any relevant anti-money laundering rules and guidance notes approved by the Minister for Justice, equality and Law reform under section 107 of the criminal Justice ( Money Laundering and Terrorist Financing) Act 2010

Common Rules cont;

Restrictions: New and Strict restrictions have now been placed on the below

activities Offers on unsolicited pre-approved credit

Tying and bundling of products

Deposit agents

Conflicts of interest between a consumer and a regulated entity

Remunerations

Premium handling

Product producer responsibilities

Unsolicited contacts such as coldcalling

Sales processes and Pre-contact disclosure

Right of withdrawal for contract agreements

Credit agreements which are made in writing or on “durable medium” e.g. online

The handling of arrears

Small prints – full disclosure including all charges must be well outlined

Credit card statements must also be transparent and clear

The Impact of the code on small firms

The size of the firm and the scale of services may confer competitive advantage or disadvantage which could have an adverse effect on competition of scale

The common rules would have a huge impact on smaller firms and as such hinder their growth when compared with larger entities

The code could also cause a situation where smaller firms have a few dedicated compliance function

Due to the lack of a dedicated compliance team or expert in small firms, they may fall out of regulation in regards to the complexity of the code

Smaller firms who have narrower product ranges have less opportunities to cross sell their products

It could discourage firms from entering into new markets

Cost and Benefits of the code to regulated entities and consumers

Some of main costs and benefits of the codes are

summarised below:

Cost Benefits

Consumer

Reduction in choice because ofharmonisation of products

Funding costs ultimately borne by the consumer

Assists in delivering to consumerswhat it is that they think they arebuying Creates a greater number of close to optimal outcomes Fewer incidents of being sold the wrong product More competition leading to better value for consumers.

Regulated Entities

Information technology costs Staff costs, including trainingSupervision fees.

Market stability, facilitating long-term planning Greater consumer confidenceleading to greater business volumes Internationally recognised regulatorystandards.

Cost and Benefits cont;

Costs of the code can be summarised into four categories:

Direct and indirect cost to the industries Compliance cost to the industry The timeframe for implementation The costs to the consumers themselves

Cost and Benefits cont; Benefits of a consumer protection code may be

more difficult to quantify as it relates to outcomes.1. Benefits to the consumer is very obvious in regards to the code

but there still some benefit for the regulated entities as well

2. Conduct of business regulation fosters stability in the market

3. The standardised regulation helps to enhance Irish firms abroad when operating in foreign markets and environments

4. In the absence of a code of conduct poor service levels could damage the whole sector as minimum standards are set for all firms

5. Unfair and undue competitive advantage are fairly reduced where a statutory code is being implemented

6. The code is also an important tool for the management of operational risk within a regulated entity

“a regulated entity must, when assessing the consumer’s ability to repay, calculate the impact on the repayment amount of a 2% interest rate increase above the interest rate offered to the consumer.

Where the consumer is availing of an introductory interest rate, the calculation must be based on the lender’s standard variable rate or fixed rate, whichever is to be applied after the introductory period.”

Regarding ”interest-only mortgage to a consumer, a regulated entity must be satisfied that the consumer will be able to repay the principal at the end of the mortgage term”.

Regarding “interest-only basis for a limited duration, a regulated entity must be satisfied that the consumer will be able to meet the increased mortgage repayments at the end of the interest-only period"

Mortgages - What the Code states;

Mortgages - Critic of the Code

While it’s commendable that mortgages are attracting such attention there are holes in the above arguments and we ask whether they go far enough - is the proposed amendment focusing on a 2% interest rate rise a valid stress test?

There is no hard and fast rule as to why banks should focus on a 2% change.

For example the ECB interest rate peaked at 4.25% (August 2008) before falling to the present level (1%) as the ECB tackles the credit crises.

As the available euro area data is limited we can look at the United States and Britain to review historical interest rate fluctuations.

The US in the past decade has seen quite volatile interest rates movements with rates falling form 6% down to 1% in the early part of the decade and then back up to 5% before the current crises kicked off and forced the authorities to reduce rates to practically zero at present.

Mortgages - Critic of the Code

The UK has not had quite the same degree of fluctuation in interest rates as the US, however there was significant movement from 6% a few years ago down to 0.5% today.

Our research focused only on the past decade however historical trends suggest that once interest start moving upwards they do not tend to stop at a 2% cut off.

Rising inflation in europe (the highest inflation rates experienced in two years) could result (although unlikely) in the ECB raising its interest rates, although the sovereign debt crises in Europe does make a rise in interest rates in the near future extremely unlikely.

We are experiencing negative inflation in Ireland at present - deflation makes debt repayment much more difficult! The falling prices force wages downward which has a negative impact on the ability of a customer to repay their mortgage. Therefore a 1% interest rate increase in a country experiencing deflation will actually have a much greater impact on disposable income.

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Mortgages - Critic of the Code

Another factor that the proposed change does not account for is the change in mortgage interest relief on mortgage holders. Over the past year the Government have moved to phase out mortgage relief. “First Time Buyers who are within the first seven years of their mortgage will continue to get the relief automatically until the end of the 7th year of their mortgage”

Therefore should banks not also be required to take into account the impact the removal of this relief will have in year 7?

Finally there is no mention to consider the impact of potential tax rises will have on the ability of consumers to repay their mortgage. Increases in both direct (Property/ Water/Income) and indirect taxes (VAT/ Carbon) will lower disposable incomes across the board but will have significant impact on the ability of the mortgage holders to repay their debt.

Solution - incorporate legislation limiting banks ability to lend any 1 individual 3 times salary for mortgage and 2.5 times a couple income? 1

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Appendix

Alfon, I. and Andrews, P. Cost-Benefit Analysis in Financial Regulation, How To Do It And How It Adds Value. FSA Occasional Paper. September 1999.

Ferran, E. and Goodhart, C. (eds). Regulating Financial Services and Markets in the Twenty First Century. Hart Publishing, 2001.

Bank of England Statistics on interest rate

http://www.bankofengland.co.uk/Statistics/about/index.htm

Eurstat statics

http://epp.eurostat.ec.europa.eu/tgm/table.do?tab=table&language=en&pcode=teicp000&tableSelection=1&plugin=1

Federal Reserve Research Data

http://www.federalreserve.gov/econresdata/default.htm