There have been a number of stories in the mainstream media recently about PCP (personal contract purchase) car finance driving a boom in car sales that will shortly become a bust, with massive knock-on effects for the car industry and the UK economy. But what is driving those claims, and what are the implications for car buyers?
The Telegraph, the Sun, the Times and others have reported that the Bank of England is looking to regulate PCPs to prevent lenders charging excessively high interest rates to sub-prime customers. The Financial Conduct Authority (FCA) has also launched an investigation into how car finance is sold at dealerships, having stated a while back that it was watching the industry for evidence of mis-selling.
The tabloid papers have jumped a few steps forward and are predicting madness and mayhem if the number of PCP agreements falls, whether as result of Brexit, tougher selling rules or some other reason. With about 75% of personal car purchases from traders currently being made on a PCP agreement, a reduction in car finance approvals could lead to a significant downturn in sales. This has the potential to negatively affect the factories that build the cars, the dealers who sell them and most everyone else involved in the enormous automotive industry.
There are a few separate issues at play here, which inevitably have been mixed up – much like the Volkswagen Dieselgate scandal from 18 months ago that has catalysed an anti-diesel crusade around the world.
Interest rates are too high for sub-prime borrowers
As part of its evaluation of the broader credit market in the UK, the Bank of England is concerned that some car finance lenders are loaning money for PCP car finance to sub-prime (higher-risk) customers at excessively high interest rates. The Telegraph has reported that the Bank of England is contemplating tougher affordability tests, similar to those imposed in recent years on mortgage applications.
Should affordability tests be strengthened, more people might be declined finance, resulting in fewer customers. This would initially have an impact on new and used car sales at the cheaper end of the marketplace, as inevitably sub-prime loans tend to be for lower amounts than normal loans. But, there is the potential for a knock-on effect if cheaper cars become harder to sell, gradually pulling prices down across the board.
The Bank of England’s investigations are part of a broad look at how the finance markets operate. It is taking a big-picture approach, while the Financial Conduct Authority is separately looking at the issue of how PCPs are being presented and sold to customers.
PCP car finance agreements are being mis-sold
“Mis-selling” is a strong accusation in the financial world, usually with strong repercussions. So when the FCA announced that it had opened an investigation into the mis-selling of PCPs by car dealers, it generated headlines and provoked a strong response from car industry groups.
However, the FCA’s announcement, as reported in the Times, should not come as a surprise. The FCA said long ago that it was monitoring the situation and was considering an investigation – The Car Expert reported on it last July – and it had been discussed less formally for many months before that. Claims lawyers have also been priming themselves to launch action against dealers and finance companies who are guilty of mis-selling PCP car finance.
The FCA’s main concerns are that PCP products are not being adequately explained to customers, and are not being presented in an impartial manner.
In a speech at the Credit Summit conference in London in March 2017, Jonathan Davidson, Director of Supervision – retail and authorisations at the FCA, said: “Relevant here is not just the question of affordability, but also whether consumers are able to compare and choose effectively between financing options.
“The range of products available means that consumers’ choices are not always straightforward and they may have to take account of a number of variables in order to determine the most suitable product for their circumstances. These variables will depend on their attitude towards ownership of the vehicle at the end of the contract and the amount they want to pay on a monthly basis.”
Anyone selling car finance at a dealership must be accredited by the FCA to do so, but crucially they are only accredited in a ‘non-advisory’ capacity. This means that the salesperson is obliged to present you with all of the available finance options in a fair and transparent manner, highlighting the relevant points to consider, so that you can make an informed decision in your own time.
The reality is often very, very different for most customers. Salespeople in franchised dealerships are heavily financially incentivised to sell cars with PCP car finance packages, with monthly targets to hit and significant rewards or penalties based on their performance. Inevitably, this means that salespeople are pushing customers towards PCP offers instead of other alternatives – either consciously or subconsciously.
In some dealerships, salespeople are also measured on how much money each customer is financing, the idea being to push customers towards borrowing more money by purchasing a more expensive car and/or putting down a smaller deposit.
It is difficult to establish how prevalent this sort of selling behaviour is throughout the industry without active intervention and enforcement by the FCA. Indeed, this does not appear to be happening at anywhere near the levels required, especially when it comes to actively monitoring what is being said by sales staff to customers.
Sales staff are required to complete an online FCA quiz each year to maintain their accreditation, but this is easily cheated (for example, one employee can complete the quiz for all staff members) and it does not provide insight into what is actually going on at point of sale.