A Solution Under $5000

A new study by the OACP and the CLA published on February 5th, 2024 indicates the government’s recent decision to decrease the maximum allowable rate of interest may lead to a rise in illicit financial activities, endangering Canadians who are already at risk of not making ends meet.

“The legislation has the potential to create a vacuum for criminals to fill,” said Barry Horrobin,  Co-Chair of the OACP’s Community Safety and Crime Prevention Committee. “Under the  legislation, illegal predatory lenders could take advantage of Canadians by operating online  from outside the bounds of Canadian jurisdiction. By forcing legal, responsible lenders out of the  marketplace, we worry Canadians will be targeted by this type of criminal activity.”

We continue to ask the government to provide a lifeline to 4.7 million non-prime Canadians who find themselves in a credit desert not being able to now access regulated installment loans under 35% APR and pushed to predatory, illegal and payday options at 360% plus. An under $5000 exception for installment lenders would ensure that Canadians, regardless of their financial circumstances, have options to access necessary funds from regulated and reputable lenders when confronted with unexpected expenses or financial emergencies, such as car or home repairs, sudden funeral costs, or unplanned medical expenses.

The suggested exemption seeks to bridge the existing gap in the financial market by encouraging lenders to offer practical solutions tailored to individuals seeking smaller unsecured loans. It will also prevent illegal lenders from entering the Canadian market to fill the void created by the new federal rate cap.

The Underbanked in Canada

Presently, more than 8 million Canadians encounter difficulty accessing loans from traditional financial institutions due to their credit scores, constituting 29% of all Canadians with credit reports. The proposed modification to the maximum allowable interest rate in the Code to 35% APR would adversely affect approximately 4.7 million Canadians, as these individuals are ineligible for loans from traditional financial institutions and rely on alternative lenders to meet their credit needs.

To serve this tier of 8 million Canadians, installment loans currently provided by alternative lenders offer non-prime consumers seeking loans access to the credit they need (up to the maximum allowable interest rate of 47% APR, or 60% EAR that was established in 1980), manageable repayment schedules, and the opportunity to rebuild their credit. The absence of credit access for the 8 million-plus non-prime Canadians impedes their ability to rebuild credit scores, as borrowing and repaying credit in a timely manner account for a significant portion (48%) of an individual’s credit score.

Simply reducing the maximum allowable interest rate in the Code would exacerbate the plight of non-prime Canadians, limiting their options to access legal and regulated credit in the Canadian marketplace for essential needs such as consolidating debt or addressing car repairs. Lenders utilize a risk-based approach to determine interest rates, where riskier borrowers (with lower credit scores) are subject to higher interest rates, reflecting the likelihood of loan default.

Reducing the allowable interest rate would inadvertently exclude millions of Canadians from accessing credit legally and safely, as legal lenders would be unable to extend loans to certain customers at lower rates due to the risk profile of the non-prime borrower.

The Payday Debt Trap

Historically, government and consumer advocacy groups have tended to conflate the payday loan industry with the alternative loan market. The definition of “payday loan” under the Payday Loans Act, 2008 is extremely broad and could inadvertently catch many products that do not warrant regulation as payday loans. In particular, installment lending is often mistakenly grouped together with payday lending in the media and with some policy markers because these types of loans can share certain features, like low principal amount of credit extended over a short term. Installment lending can provide creative and alternative lending options that benefit consumers while still being subject to regulation under both the Code and provincial consumer protection regimes.

Canadians should never be relegated solely to the realm of predatory payday lenders or illegal lenders when seeking financial assistance. Instead, they should always be provided the opportunity to establish and bolster their credit histories over time with the assistance of responsible and regulated lenders. This path can lead to lower interest rates and improved financial prospects in the future, aligning with the overarching goal of promoting financial stability and responsible lending practices. The federal government’s change to 35% APR will push more Canadians to payday and illegal lenders to meet their credit needs, as responsible and regulated alternative lenders will be limited from extending credit to the group of borrowers representing the highest credit risks.

The Rise of Illegal Lending

The British Columbia Cullen Commission’s findings have shed light on a concerning correlation between the prevalence of loan sharking and the limited access to credit. The constraints placed on traditional lending channels may inadvertently push individuals towards illegal lending practices. The Commission’s findings also identified that loan sharking has also been used as a way of “laundering illicit funds generated by organized crime groups involved in other types of profit-oriented crime.” In many cases, the loan will be secured through a lien registered against property. As access to credit becomes increasingly challenging through formal financial institutions, there is a growing concern that the demand for alternative sources, such as illegal lenders will rise. This underscores the importance of a comprehensive review of the regulatory framework to strike a balance between safeguarding against predatory lending practices and ensuring that individuals have legitimate avenues for accessing credit in a responsible manner.

A Solution under $5000

This lack of access to credit presents a significant challenge for a specific group of Canadians seeking financial assistance below $5,000. To address this issue and prioritize access to funds, unsecured loans below a $5,000 threshold should be eligible to be administered at the previously mandated rate cap.

The most tangible result of this policy would be to divert this group of Canadians away from payday loans and illegal lenders. Without this exemption, the 4.7 million Canadians requiring loans of $5,000 or less would be compelled to rely on multiple payday loans at over 300% interest, rather than being able to obtain one installment loan for their credit needs It is essential to clarify that these Canadians would not simply qualify for unsecured loans at 35% APR, given their lack of credit scores or credit history. Examples of Canadians falling into this group include new immigrants, students, and individuals with limited lending history.

A $5,000 small loan exemption would also allow Canadians to substitute and consolidate their payday loans with loans from regulated and reputable lenders featuring lower interest rates. Through the consolidation of provincially regulated payday loans, Canadians have the potential to effectively reduce their borrowing costs, which currently stand at an astounding 360%. This exemption, if implemented, could offer considerable relief to Canadians grappling with multiple outstanding debts, enabling them to consolidate these obligations into a singular loan with a predictable repayment structure. In addition, payment on installment loans would be reported to the credit bureaus, thereby allowing borrowers to improve their credit scores – something that payday loans do not facilitate.