Rolled over by debt

The extent to which debt has become a way of life was highlighted towards the end of last year by the charity Creditaction. According to figures compiled by the charity, the average household in the UK has debts of around £7,700. Take mortgages into account and that figure rises to an average £46,491 or approximately £24,636 for every adult in the country. Encouraged by the financial service industry, credit card companies and retail finance deals, the UK’s personal debt mountain weighs in at £1.148bn and is growing by around £1m every four minutes.

For most, these debts are passed off as an inevitable inconvenience of modern life. We make our monthly payments and move on. But for a growing number of people, unmanageable debt can herald a spiralling descent with devastating personal consequences.

Last year saw a record number of personal insolvencies with over 43,000 bankruptcies and 16,000 individual voluntary arrangements (a common alternative to bankruptcy) declared during the first nine months of the year. County court judgements against personal debtors in the first half of 2005 rose by 15 per cent and Citizens Advice bureaux dealt with over one million new debt cases. More than two million people who used credit cards to buy their Christmas presents in 2004 still had not paid off the debt by Christmas 2005.

Inevitably, those hit hardest by the consequences of debt are those least well equipped to deal with it; the poor, older people and the disabled. Worst off are the “financially excluded”, the one in 12 households that lacks access to a bank account and is considered too risky by most mainstream sources of credit. These families quickly become locked in a cycle of poverty and exclusion, turning to high cost credit or even illegal lenders.

Research carried out last year by the National Institute of Economic and Social Research, showed that people in poverty tend to have debts relative to their incomes 20 to 25 per cent higher than those of the population as a whole.(1)

However, the report stressed that borrowing per se was not the problem. Rather it was the lack of access to affordable credit that was keeping these families locked into their cycle of poverty.
Indeed, research carried out last year by the Personal Finance Research Centre (PFRC) at Bristol University showed that people on low, insecure incomes often borrowed at annual repayment rates of between double and five times their original loan.(2)  This study could not find a single source of credit that fully met the needs of poor people.

These needs – small, unsecured, fixed-term cash; quick access to credit without lengthy or intrusive application procedures; affordable weekly repayments with no hidden or extra charges; automatic repayment arrangements; opportunities for making late payments without incurring extra charges – are considered too costly by most commercial providers.

There are alternative sources, such as not-for-profit credit unions and the Social Fund, which provides low-income households with interest-free loans for furniture and other essential items. However, credit unions usually have restricted membership and the required level of payment to the Social Fund is often too high.

PFRC director Elaine Kempson, who co-authored the Bristol University report, believes that some form of intervention is required to ensure that poor people have access to affordable credit.
She says: “Left to its own devices, the commercial market will continue to move away from lending to the poorest people.”

Kempson says this should be countered by reducing the cost of commercial credit and measures such as expanding access to the Social Fund and increasing the availability of not-for-profit lenders. 

“For the poorest people, the best solution lies in further increases to the Social Fund budget, either from taxation or using capital provided by banks. The discretionary Social Fund budget is being increased by £90m over three years ending in April 2006. Our research suggests that this amount would have to more than double to fully meet the non-discretionary borrowing needs of people in the poorest households.”

This call to expand the Social Fund is echoed by Claire Kober, policy manager at disability charity Leonard Cheshire. Last year, Kober authored a report that revealed how many disabled people were being driven into debt simply to meet their basic costs of living.(3)

In a survey of disabled people facing debt problems, nine out of 10 of those interviewed found themselves running out of money on a regular basis. Most had annual incomes of less than £10,000 a year (compared to the £22,060 national average) and said their level of income was not meeting their basic needs.

Few, however, had turned to the Social Fund for help.

“Only 9 per cent of the people surveyed had taken out a Social Fund loan although many more were eligible,” says Kober.

“By contrast 49 per cent were in debt to catalogue companies. Part of the reason for this is lack of awareness – people don’t know the Social Fund exists. But it’s also because the Social Fund isn’t flexible enough for many.”

Those surveyed in the study tended to fall into two categories, says Kober.

“There were those whose circumstances had changed suddenly. They may have suffered a massive drop in income and their creditors were not being particularly understanding. As a consequence they were finding it difficult to keep up payments on their existing debts.

“The other group were people with long-term impairments, many of whom had never been able to work and who had been living on disability benefits that simply don’t provide enough for a decent standard of living.”

Kober emphasises that, contrary to popular perception, most of the people in debt that she interviewed were extremely careful with money. Their problem was that there simply was not enough to meet their everyday needs.

“It’s not about reckless spending. The vast majority of these people are really skilled at managing their income, juggling one allowance against another. But they are still falling into debt.” 

Just over a year ago the government launched its Financial Inclusion Fund: £120m to be spent over three years on initiatives to tackle financial exclusion. One project bidding for part of this fund is a joint initiative between Citizens Advice and the Association of British Credit Unions. This would establish 15 full-time, specialist debt advisers to provide free, independent, face-to-face advice to members of credit unions in areas particularly affected by financial exclusion. It is this kind of impartial advice and access to affordable loans that the researchers from the NIESR, Bristol University and Leonard Cheshire have all called for. Nobody expects the poor and the excluded to remain debt free. What can be expected, however, is a system that enables everyone to manage that debt.

(1) Poverty and Debt, National Institute of Economic and Social Research, 2005
(2) Affordable Credit: The Way Forward, The Policy Press, 2005 
(3) In the Balance, Leonard Cheshire, 2005

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