At What Cost? Access to Consumer Credit in a Post-Financial Crisis Canadaby Janis Sarra1
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Access to consumer credit is influenced by many factors, such as amount and security of the consumer’s income, and credit card company and financial institution practices. Access is also driven by social, cultural and cognitive factors, including consumer understanding of the cost of credit; perceptions regarding ability to repay; cognitive influences regarding immediate consumption and delayed payment; understanding of the benefits and risks of debt to economic security; and the conflicts of interest inherent in the business of lending. Overall, bank and credit union credit has tightened since the global financial crisis. However, the study found that for many Canadians, the issue is less whether there is access to credit, but rather, “access to credit at what high cost and on what terms and conditions”.
Much of the reported need for credit in the past two years has been the need to bridge income loss from job loss, reduced hours of employment and small business failures. Many individuals that could not access personal loans from their bank or credit union turned to alternate, more expensive, forms of credit, such as merchandise finance company loans, increasing credit card debt, skipping monthly payments on loans, and payday loans. Consolidation loans have been increasingly viewed as a debt management strategy, yet there are problems associated with consolidation. One issue identified was the growth in home equity lines of credit, originally intended to bridge financing for emergencies or a significant purchase, but now being used more akin to account withdrawing, portending future issues in respect to debt load and longer term economic security.
Consumers face the direct costs of high interest rate charges and loan and broker fees. There is evidence to suggest that costs increase when consumer borrowers do not understand how interest rates and terms work, and thus consumer debtors may be paying considerably more for their credit than they need to. The lack of financial literacy is a major concern in that many consumer debtors do not fully appreciate the costs of carrying expensive credit, identified as particularly an issue among younger adults and recent immigrants to Canada. Yet to date, financial literacy training does not align with consumer debtors’ particular needs for financing based on income and a range of other factors. There are also significant indirect costs to the consumer of access only to expensive credit, such as foregone basic necessities because of excessive debt load, health outcomes and costs associated with the stress of over-indebtedness, and the costs to society, borne by creditors or the general tax base, when consumers default on loans or file for insolvency or bankruptcy.
Analysis of the causes of insolvency for a cohort of 4,000 consumer insolvency cases from 2008 to 2010 indicates that “access to credit” forms an extremely small percentage of declared reasons for filing bankruptcy or proposals under the BIA. Related causes are much higher. For bankruptcies, insufficient income accounted for 30.5% of insolvency, unemployment for 18.8%, and over-indebtedness for 12.4%. For proposals, insufficient income accounted for 40.7% of insolvency, unemployment for 15.8%, and over-indebtedness for 13.8%. Seeking relief under Canadian insolvency law is reported by bankrupts as less associated with access to credit and more an outcome of consumer debtors’ inability to meet the payment demands of expensive credit they previously accessed.
Credit card debt is a significant issue for consumer debtors. The average credit card debt was $21,620 and the median debt was $13,979. The data shows that 90% of all debtors filing for insolvency relief had credit card debt. Equally, however, mortgage debt, personal loans and finance company debt are significant factors in filing, evidence of credit behaviour that catches consumer debtors in a repeated pattern of refinancing expensive debt and re-incurring it, which can expedite financial distress.
Considerably more research and policy development is required to make consumer access to credit more understandable, affordable and accessible on a fair and reasonable basis. While financial literacy is an important goal, there is also an urgent need for the federal government to complement its current work in financial literacy with a much more comprehensive program regarding consumer credit.
1 Dr. Janis Sarra, Faculty of Law, University of British Columbia. My very sincere thank you to Danielle Lewchuk, who served as primary research assistant on this study, and to Ahmed Malik, Jennifer Wriley, Ting Sun, Martin McGregor, UBC law students, and Danielle Sarra for survey assistance. My thanks to the OSB staff for their very helpful assistance in providing access to their database. Financial support from the Office of the Superintendent of Bankruptcy to conduct the research is gratefully acknowledged. The views expressed in this paper are not necessarily the views of the Office of the Superintendent of Bankruptcy, Industry Canada, or of the Government of Canada. (Return to Text )