Drivers face car loan crackdown to avoid new financial crisis

man in car 

Drivers may face tougher affordability checks to qualify for car loans amid fears of a new financial crisis triggered by pay-as-you-drive deals.

The amount of money being borrowed to buy new cars has trebled over the past eight years to more than £30bn and there are growing concerns over the lack of financial checks made on potential borrowers.

Motorists can be offered loans worth more than their own salaries in a growing scandal which has echoes of the sub-prime mortgage boom which helped spark the global financial crisis.

Last night the Bank of England confirmed it is investigating car financing arrangements which could lead to regulators enforcing tougher affordability tests, potentially similar to those used on mortgages.

Nine in ten new car sales are now financed by “personal contract plans” which can enable people on low incomes and poor credit histories to afford brand new top-of-the range cars.

Drivers pay a small upfront fee and then a monthly “rental” before handing back the vehicles and upgrading after several years. The popularity of the finance schemes has soared in recent years.

The Daily Telegraph has seen figures indicating that households with “stressed” incomes are a major force behind the rises, with a 54 per cent increase in applications since 2014.

cars 
Millions of cars in the UK have been purchased through finance deals  CREDIT: ALEX SEGRE / ALAMY STOCK PHOTO

Now financial experts are calling on City watchdogs to introduce tighter mortgage-style affordability checks for car financing deals to prevent consumers signing up for deals they may find they cannot afford in the future.

Jane Tully, director of external affairs at the Money Advice Trust, said it was “essential” that all lenders – including car financiers – carry out stringent affordability checks before granting credit. She said: “Car finance and consumer credit more generally is booming, and the Bank of England is right to be concerned.”

James Kirkup, director of the Social Market Foundation think-tank, added: “We are at risk of a situation where some people unfairly end up with inappropriate loans. Regulators and politicians need new thinking about how to ensure complex markets like this work better for consumers who are potentially vulnerable.”

Last night MPs warned that car loans could lead to the next “sub prime” financial collapse after the housing market crash.

It follows previous predictions by Bank of England economists the industry could be “speeding” towards a potential “economic shock” if people are left unable to meet their repayments and the value of cars falls as a result.

Steve Baker MP, a member of the Treasury Select Committee, said: “It’s a terrifying prospect to think that car loans are being securitised in the way mortgages were in the run-up to the crash. Our economy may well be too dependent on cheap credit and the Bank of England should urgently explore this problem.

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“Living beyond our means is always attractive while it lasts but it’s doing no-one any favours. Those tempting people to do so should really be ashamed. Unfortunately, scandals like this will further discredit the market economy.

“It’s inevitable the [Treasury select committee] committee will want to take a look at what is obviously a fundamental issue of financial stability.”

The value of car loans in the UK almost trebled to £31.6bn between 2009 and 2016 according to the Leasing and Financing Association.

Some of the car-leasing loans have been packaged into investments called “asset-backed securities” and sold on to investors such as pension funds.

Falls in the value of this type of investment were a major reason behind the 2008 financial crisis. However this time the investments are backed up by cars instead of houses.

If people are no longer able to pay the loans en masse then the value of the assets can plummet in value, leaving the financial institutions holding the investments worse off.The Bank of England said it could not reveal the extent of the banking system’s exposure to finance subsidiaries of car manufacturers for regulatory reasons.

A spokesman insisted the financial system is safer than it was before the crisis. Capital requirements, the amount of reserve money held by banks, is now ten times higher than it was before the crisis, it said.

Data obtained by the Daily Telegraph reveals the demand for car loans is rising fastest among low income groups whose finances are stretched and who are most likely to be hit by a sudden downturn in the economy.

The number of applications for a type of car plan called “personal contract purchase” by people classed as having “stretched finances” has increased by 54pc over the past two years, a database provided by the UK’s biggest credit checking agency Experian shows.

Consumers deemed to have stretched finances tend to have low incomes, unstable jobs, little savings and are often reliant on state housing or benefits, the firm said.

Andy Wills, director of automotive & consumer data at Experian, said: “Manufacturers and lenders have recognised the appeal of these financial products. However, before entering into a personal contract purchase agreement it is important for car buyers to keep in mind the cost of any financial agreement in the long-term.

“It is essential that providers ensure that the loan is affordable for the driver when they make the first and final payments of the agreement.”

Meanwhile a separate mystery shopping exercise conducted by this newspaper found car financing firms appearing to encourage potential customers to spend over half their monthly disposable income on car contracts.

volva 
The Volvo V40 Cross Country CREDIT:  VOLVO V40 CROSS COUNTRY

A salesman at one firm encouraged a customer, who said he had £400 total monthly disposable income, to apply for a deal on a Volvo V40 with heated seats and metallic paint. At a cost of £397-a-month it would have left the customer with just £3 a month to live on. To buy the car outright would cost £22,800.

Another firm suggested a £372pm deal on a “premium” Hyundai Santa Fey, which retails at £31,406, could be suitable.

The offers were subject to the shopper passing basic credit checks, but salesmen appeared confident that the deals were affordable.

Salesmen are incentivised by commission and are under no obligation to perform any tests other than credit checks to test whether customers can afford car financing, although some firms do insist on extra tests.

Firms have formulas to decide what level of credit delinquency is acceptable, however these vary between firms and are kept a secret.

car 
The Hyundai Santa Fey, which retails at £31,406, CREDIT: DOMINIC FRASER
[“Source-telegraph”]