Over a year into the Financial Conduct Authority regulation, there has been a lot of change for the better in the short term lending industry. The interest rate cap (introduced in January 2015) is the most high-profile change, with all lenders having to comply. There have been a lot of improvements to the information displayed by lenders on their websites, and now consumers are finding it much easier to see the real cost of borrowing and how much they’d be liable to pay in interest (and fees, if any).
We’ve said before that lenders should do all they can to make the customer ‘journey’ as transparent as possible. This means being up front with potential borrowers about how much their loan will cost… and by that we don’t mean just putting an example of a loan on the screen. A customer should be given the chance to select how much they want, over whatever term, and see what their repayments will be, of course as well as the total they’ll have to repay. So while it’s great some lenders are allowing people the chance to do just that, plenty still aren’t. Even then, there is another area where many lenders aren’t being totally transparent.
This is to do with how calculate (and charge) interest on their loans. Are you paying more than you should? There are a number of short term lending firms who allow customers the ability of spreading repayments by way of monthly instalments. It’s definitely a good way to ensure you can manage repayments in a more affordable way.
However, this is where the calculation and charging of interest comes into play. A large percentage of short term lenders charge interest for the whole loan amount, for the entire loan term. Breaking this down, imagine you took out a loan for £500 over three months (three repayments / instalments); say for this example, that’s 90 days. Given the interest rate cap of 0.8% per day, a lender would calculate how much interest would be payable for those 90 days, add it to the amount you’ve borrowed, then divide that total by three. This would then give you a nice, neat scenario where you have three equal instalments which you pay, then your loan is settled.
Surely as a customer borrowing money you should only pay interest on what you owe at the time, right? So as you pay part of your loan off, you owe less, and the interest payable comes down accordingly. Why should you have to pay interest based on the original amount you borrowed even though you don’t owe that now?
At Mr Lender, we do it that way. So as you pay back more, you ultimately owe us less – and we’ll only charge you interest on what’s outstanding. Therefore the cost of borrowing with Mr Lender will be less than if you went to some other lenders. Comparing prices – below is a table which shows a simple comparison to illustrate our point. We’ve shown each firm’s Representative APR too, just to demonstrate that even though some may charge a lower rate of interest, it’s the total cost of borrowing which is key. Based on a loan of £500 for three months.
|Lender||Representative APR||Cost of borrowing||Total repayable|
So you’ll see from the table despite the majority of lenders charging more or less the same interest rate, it’s the way they calculate interest that makes a big difference. Even with the example of Sunny, they charge a lower rate of interest but they are still more expensive than Mr Lender due to the way they calculate and charge interest. As we’ve mentioned before, while lenders have to show Representative APRs on their websites and in any marketing material, you should really focus on exactly what your loan will be costing you. Short term loans are just that, short term. So an APR is less relevant if you’re borrowing money for three months – it’s really about what that loan will cost you.