Payday lenders face a major upheaval after a commercial watchdog discovered they were making half of their income from penalty interest charges on loans that cannot be paid off on time.
An OFT investigation has revealed “deep-rooted” problems with the £ 2bn industry after spot checks on household names like Wonga.
Existing laws cannot solve the problem. The OFT therefore asked the Competition Commission to intervene because it has powerful powers to ban or limit products and shake up entire markets.
OFT has found that lenders get up to half of their income from loans that have been rolled over or refinanced.
The watchdog expressed concern that consumers are struggling to compare the total cost of payday loans.
He said the extent to which payday lenders follow the rules is “variable,” meaning lenders who invest time and effort to comply are at a disadvantage compared to those who do not.
“Competitive pressure to approve loans quickly can cause businesses to skimp on the affordability assessment that is designed to prevent irresponsible lending and protect consumers.
“The OFT is also concerned about business models that appear to be based on providing unaffordable loans, which leads borrowers to pay far more than expected through refinancing, additional interest and other charges.”
The OFT has found that a “significant” number of borrowers have poor credit histories and an urgent need for access to cash.
This means the cost of the loan may be a lesser factor for borrowers and weaken price competition, the watchdog said.
Clive Maxwell, CEO of OFT, told BBC Radio 4’s Today program: “We think there are fundamental problems in this market. In short, competition is not working.
“This allows businesses to take advantage of unaffordable loans that cannot be repaid on time, resulting in financial loss and distress for some people.”
Recent figures show that the number of people seeking help for payday loans has doubled in the past year has doubled.
Payday lenders typically give loans of several hundred pounds for a few weeks.
Interest rates that can reach over 1,000 percent or more on an annual basis, leading to payday loan charges as a “legal loan shark”.
StepChange Debt Charity Director Delroy Corinaldi praised the payday lender survey.
“There are a number of questions this survey needs to answer, including whether the payday lending industry is making excessive profits at the expense of responsible lending.
“However, today’s decision cannot be used as an excuse by regulators to postpone addressing important areas where the payday lending industry is failing consumers.
“This investigation must be conducted alongside actions to address the problems we are currently facing, including large-scale irresponsible lending and aggressive debt collection measures.”
But Russell Hamblin-Boone, chief executive of the payday lending industry body, the Consumer Finance Association, said: “No other industry has received such a thorough review in such a short time.
“We would have preferred the investigation to be postponed to allow the significant improvements made by the lenders to take effect before the industry was further judged.
“We urge the Competition Commission to take this into consideration in its investigation.”