HM Treasury Response to consultation Regulation of Buy-Now Pay-Later

The Government has issued a response to its October 2021 consultation on the regulation of Buy-Now-Pay-Later ("BNPL"). The key takeaway is that the Government will extend the scope of regulation to capture previously exempt consumer finance arrangements, including BNPL and other forms of short-term interest-free credit ("STIFC") where offered by third party lenders. There is also some appetite to regulate STIFC that merchants offer directly online (this seems aimed at capturing e-commerce giants).

The result is that BNPL and certain STIFC lenders will need to be authorised by the FCA, undertake affordability checks and comply with financial promotion rules. In addition, borrowers will be able to make complaints about such products to the Financial Ombudsman Service ("FOS"). It also looks like there will be a prescribed form of credit agreement and statutory post-contractual notices, subject to further consultation (the Government has indicated that any prescribed form and content requirements will need to be proportionate).

The final regime appears to be a long way off – the Government is planning to issue a consultation on draft legislation towards the end of this year and to lay down secondary legislation by mid-2023, after which the FCA will consult on its rules. We can therefore expect the new package of secondary legislation and FCA rules to come into force around 2024.

Background

The Consumer Credit Act 1974 ("CCA") and the Financial Services and Markets Act 2000 provide the UK regulatory framework for consumer credit. Article 60F(2) of the Financial Services and Markets Act 2000 (Regulated Activities) Order 2001 sets out an exemption for interest-free instalment credit provided that certain conditions are met, including:

• the agreement is a borrower-lender-supplier agreement for fixed-sum credit;
• the number of payments to be made by the borrower is not more than 12;
• those payments are required to be made within a period of 12 months or less; and
• the credit is provided without interest or other charge.

The Government consulted in October 2021 on the operation of this exemption in the BNPL market. The October 2021 consultation found that BNPL products tended to follow a particular model: a consumer makes a purchase from a merchant offering a BNPL product provided by a third party; the consumer enters into a point of sale agreement with the third-party BNPL provider to finance the purchase; and the BNPL provider remits funds to the merchant, minus a percentage of the full value of the credit agreement.

The October 2021 consultation was prompted by the Woolard review, which called for BNPL products to be brought within the regulatory perimeter "as a matter of urgency" (see our briefing here). The Woolard review identified areas of consumer detriment such as: the inappropriate promotion of BNPL to consumers; poor consumer understanding of the product; lack of affordability assessments; lack of visibility of these products on credit files; and inconsistent treatment of customers in financial difficulty. The Government consultation in October 2021 outlined proposals for regulating BNPL in order to mitigate those potentially detrimental lending practices. The consultation response sets out respondent views on the proposals together with the Government's current position.

Regulation of STIFC

The Government wants to expand the scope of regulation beyond the BNPL-only scope proposed in the October consultation. The proposed new scope would include STIFC agreements provided by a third party lender. The Government argues that the distinction between BNPL and STIFC has become increasingly blurred. Further, third party STIFC providers tend: to be already authorised for providing regulated credit agreements; and to approach their unregulated lending in a similar manner to their regulated lending.

The Government is more cautious about regulating merchant-provided STIFC, owing to its limited understanding of the scale and nature of this sector. However, it has not ruled out regulating STIFC agreements provided directly by merchants online or at a distance, as these present much the same risks as BNPL and STIFC provided by a third party lender. Further, the Government is keen to mitigate the risk of BNPL providers avoiding regulation by structuring agreements so that the BNPL provider becomes the merchant under the financed transaction. As a result, the Government is considering carrying out further stakeholder engagement in this market.

Anti-avoidance measures may also include legislative changes to ensure BNPL providers do not switch to a running-account model in order to circumvent regulation by using the article 60F(3) exemption instead.

Credit broking

It is not proportionate, in the Government's view, to require that merchants offering regulated BNPL or STIFC agreements either obtain credit broking permission or become appointed representatives of BNPL or STIFC providers. A narrow exemption to the credit broking regime will therefore be created for merchants. An exception to this exemption will be domestic premises suppliers, who are currently not eligible for the FCA's limited permission regime owing to the increased risks of pressure selling associated with those business models.

Advertising and promotions

The Government believes that the financial promotions regime should apply to merchants offering BNPL and STIFC products as payment options. The Government confirms that in practice, this means merchants will be required to obtain approval for all promotions of BNPL products from an authorised person (which could, but does not have to, be their BNPL lender partner). The FCA will consult on its proposals for rules on financial promotions for BNPL and STIFC agreements in due course.

Pre-contractual information

The Government had argued in its October 2021 consultation that it would be excessive to apply CCA-mandated pre-contractual information requirements to BNPL agreements. The response confirms that the Government maintains this position. BNPL and STIFC products will not therefore be subject to the detailed information disclosure regulations made under section 55 of the CCA. Instead, the Government proposes to apply the more flexible FCA rules on pre-contract disclosure and adequate explanations set out in the FCA's Consumer Credit sourcebook ("CONC").

Form and content of credit agreements

The Government considers that the form and content of BNPL and STIFC agreements should be prescribed in legislation made under section 60 of the CCA. However, some degree of tailoring will be required, given the lower risk involved in BNPL and STIFC agreements and how they tend to be used.

Improper execution

The improper execution provisions contained in sections 61 and 65 CCA should, in the Government's view, apply to BNPL and STIFC agreements. This means that the sanction of unenforceability will apply to non-compliant BNPL and STIFC agreements.

Creditworthiness and credit files

BNPL and STIFC lenders would become subject to the FCA's current rules on creditworthiness assessments in CONC 5. It would be up to the FCA to decide if those rules need to be tailored for BNPL and STIFC.

As for consumer credit files, there are currently no specific reporting rules applicable to firms offering regulated credit. The Government confirms that it is engaging with credit reference agencies to develop an approach to reporting on BNPL. In parallel, the FCA is undertaking its cross-market Credit Information Market Study, which is due to be published imminently (summer 2022). Credit information may consequently become subject to more consistent/elevated regulatory obligations.

Arrears, default and forbearance

The Government has not changed its position on arrears, default and forbearance. FCA rules around the treatment of customers in default and arrears would apply to BNPL and regulated STIFC, subject to FCA consultation on the scope and nature of application. Further, BNPL and STIFC providers would need to prepare CCA statutory notices and statements for consumers in financial difficulty. The Government acknowledges that CCA requirements on post-contractual information and arrears notices must be tailored for BNPL and STIFC, particularly the timing of when this information must be sent. These issues will be addressed when drafting the relevant secondary legislation.

Section 75 of the CCA

The Government maintains its view that section 75 CCA (which covers the liability of a creditor for misrepresentation or contractual breaches by a supplier) should not be disapplied for agreements that are brought within the scope of regulation.

Small agreements

To ensure consistency across the requirements applicable to BNPL and STIFC agreements, the Government intends to disapply section 17 of the CCA for BNPL/STIFC. This ensures that regulated BNPL/STIFC agreements with values of less than £50 are subject to the full suite of CCA requirements applicable to other regulated BNPL/STIFC agreements.

FOS jurisdiction

The regulation of BNPL should, in the opinion of the Government, include the ability of consumers to access the FOS for issues concerning the conduct of lenders. The Government will engage with the FOS in respect of respondents' concerns around the disproportionality of the £750 case fee.

What next?

As stated above, the Government is seeking views on extending the scope of regulation so that STIFC products provided directly by merchants online or at a distance are brought into the scope of regulation. Stakeholders should submit their views by 1 August 2022.

It will be necessary to publish and consult on draft legislation. The Government aims to publish such draft legislation towards the end of this year, together with a further consultation paper. The Government aims to lay secondary legislation in mid-2023 confirming the scope and framework of the new regulatory regime.

Once secondary legislation has been laid, the FCA will consult on its approach for the new regime.

Added complexity is created by the fact that the Government has committed to undertake broader consumer credit reform, including an overhaul of the CCA regime. The first public consultation on this reform programme is due to be published later this year. The Government suggests that its BNPL intervention will be a test case for changes to the CCA regime – including for areas such as improper execution.