Is your Collections and Recoveries fit for the downturn?

How will you be treating customers in arrears?

In our latest series of articles ‘Gearing up for the downturn’ we explore how financial services firms are preparing to help their customers achieve good outcomes through the recession. This article looks at how firms can prepare their Collections and Recoveries function.

Our team has spent many years working in collections and recoveries. We have experienced a variety of economic conditions and seen examples of good and bad practices. During the late 90’s and early 00’s; with the housing market booming, steady employment and stable interest rates balancing new business with collections was straightforward. A predictable stream of eligible customers allowed robust underwriting to identify and reduce risk of default, leading to a stable book with minimal arrears.

In 2008 that changed. House prices fell and new mortgage approvals plummeted. As the impact of the recession took hold, there was a fundamental shift in the lending market. Firms softened criteria to chase targets that were previously achievable, and arrears began to increase.

As financial pressures mounted practices changed. Some directed from ‘the top’, others by collections agents fatigued by challenging targets. Fees began being added to inflate the balance of loans, prior to them being sold on to increase recovery. The industry shifted focus away from long term sustainable solutions and towards chasings bad debt provision targets, with token payments accepted to drop arrears under the threshold. Financial incentives were introduced, and teams became creative in their approach with 'collections bells’, to signal a payment received, and low performers were shamed by a cabbage on their desk. It became common across the industry to work evenings and weekends, even contacting customers on Christmas eve. Collections and recoveries practices had become far from customer centric.

There are many similarities with the current economic challenges. The Bank of England are forecasting inflation potentially reaching 13%, and many consumers are finding themselves in a precarious financial position. The cost of living is rising; mortgage payments, heating, fuel, credit cards, overdrafts, and the price of groceries have all increased. And the Financial Stability Policy Summary issued in October 2022 by the Financial Policy Committee, predicts a deteriorating outlook. The FCA outlined that 27% of the consumer population have low financial resilience, with the expectation that this will grow over the coming months.

Since 2008, conduct standards for lending have been brought into scope of regulation. The FCA has clear expectations how customers should be treated when in arrears, with rules and protections. Recent Dear CEO letters have reinforced how firms need to act to support consumers particularly during the tough time ahead.

What do firms need to do?

In the examples given, customers’ needs were an afterthought. While lending is more regulated the legacy of these behaviours may still be present. More than ever, firms need to be aware of the expectations placed on them when customers are struggling with their mortgage, loan or credit. The regualtory rules are clearly outlined in MCOB 13, CONC 6.7, and CONC 5D. The FCA have also issued Tailored Support Guidance (TSG) for mortgages, consumer credit and overdrafts. We have listed some of the key requirements and expectations below that firms should consider and ensure they are complying with:

Vulnerable customer identification and support – The rising cost of living is expected to lead to an increase in the number of customers who may be considered vulnerable. The FCA outline clearly that firms need to ensure that those with vulnerable characteristics are identified and provided with appropriate tailored solutions.

Proactively identify customers who are struggling – Recognise the signs of customers in financial difficulty and be equipped to offer appropriate support and guidance. Ensure effective identification of customers who are more likely to face financial hardship, in order to offer support early and put pro-active solutions in place.

Tailored forbearance – Firms should explore customers individual circumstances and outcomes, rather than adopting a standard approach to debt collection. This includes ensuring the payment deferral process is followed in line with the TSG guidance and suitable to customers circumstances.

Repossessions and legal solutions - Ensure final recovery solutions such as repossession are approached in an appropriate sensitive way as a measure of last resort, and in line with the TSG guidance.

Ensure collections practices are appropriate – Firms need to make sure that they work with customers in arrears, offering a range of potential solutions such as suspending payments, reducing payments, considering a period of no-payment and allow customers reasonable time to repay the debt incurred or suspension of interest. This extends to making sure any charges for missed payments are fair and proportionate. Where additional fees are applied, make sure they do not add an unnecessary burden and that they are reflective of the additional costs incurred by the firm.

Promote free debt advice – Ensure that firms actively promote the use of debt free advice, enabling the customer to consider their overall financial situation as opposed to focusing on the firm’s debt.

Prevention of fraud and other financial crime – During times of financial hardship, there is some evidence that certain types of fraud can increase. Firms should protect their customers from fraud and other financial crimes such as money muling. They should have systems, controls and procedures in place to identify when fraudulent behaviour may be occurring and when their customers may have fallen victim to fraud or scams. These processes may involve involving Banking Protocol if there is suspicion about the legitimacy of a financial transaction and be able to identify other illegal activity such as illegal money lending.

Oversight of third parties - It is safe to say that industry is in a better position than in 2008, however there may be areas that you wish to test. Collections is often completed by third parties and with the increased expectations it is down to firms to ensure that there are no potential issues and have appropriate governance, MI and oversight over third party activities.

How can BDO help?

We are helping several clients to review their collections and recoveries processes to ensure they are compliant and aligned with industry best practice. To talk further about how we can help contact Richard Barnwell today.