Section 140A of the Consumer Credit Act 1974 gives the courts a very wide discretion to re-write credit contracts which otherwise lead to an “unfair” relationship. But, as Lord Justice Tomlinson (who gave the only speech, and with whom the other Lord Justices agreed) noted in Harrison:
"Section 140A of the Act offers no guidance in respect of factors which either may or must be regarded as rendering a relationship unfair."
Harrison adds new Court of Appeal authority to the slender pre-existing body of case law, so that we do now increasingly have some legal guidance to draw on.
This aspect of consumer credit law has been widely regarded as weighted in favour of borrowers, at the expense of lenders. However in Harrison, in contrast with some earlier cases, it was the borrowers who lost, despite the Court recognising some unfairness in their relationship with the lender.
Facts of Harrison - duty to disclose large commission?
Mr and Mrs Harrison sought a personal loan for £60,000 from the lender, Black Horse, which they planned to repay in instalments over 23 years. Alongside the loan, they purchased Payment Protection Insurance to cover repayments if they suffered sickness or redundancy within the first five years of taking it out.
The Harrisons paid a premium of £10,200 for the insurance. Of that sum, £8,887.49, equating to 87 percent of the total premium, was retained as commission by Black Horse, with the being remainder passed to the insurer. As Tomlinson LJ said, another way of looking at this is to regard the commission for the insurance as 667 percent of its actual cost (although he noted there may have been an element of cross-subsidy between the premium, the commission and the annual percentage rate (APR) of the loan). Black Horse did not disclose to the Harrisons the amount of commission they were receiving on the insurance sale.
The £10,200 premium was payable as one single up-front lump sum, rather than in instalments over the five-year insurance term. The amount of the premium was also loaned to them by Black Horse. This meant it was added to the amount of the personal loan, and interest was payable on it on the same terms.
Over the planned 23-year life of the loan, taking account of interest incurred on the borrowed premium, the insurance would have actually cost over £20,000. By the time it was in fact cancelled, almost three years after it had been taken out, the insurance had in fact cost the Harrisons £10,529.70.
There was evidence that insurance paid for in this way was very expensive compared to where the premium is paid by regular monthly instalments, and that equivalent five-year payment protection with regular premium instalments could have been purchased for only £2,083.84.
Of course, Black Horse did not inform the Harrisons of this fact. But the lender did make it clear that they offered only one type of insurance, and Tomlinson LJ said that:
"In the real world I do not believe that any reasonable person expects that an insurance intermediary who holds himself out as able to sell only one product will proffer advice as to the suitability of that product by reference to and comparison with other products available in the market."
The salesperson who sold the insurance to the Harrisons closely followed the sales script put in place by Black Horse. This emphasised that the insurance cover was optional. The Harrisons were not put under any pressure to buy the cover.
However, the sales script, which was followed to establish whether the insurance was suited to the Harrisons’ needs, did come in for criticism. The Harrisons were asked:
Q. Would you like your repayments to be paid for you whilst you are unable to work as a result of an accident or sickness for more than 45 days?
Q. Would you like your repayments to be paid for you whilst you are unemployed as a result of involuntary redundancy and remain so for more than 60 days?
The Harrisons' barrister made the point that these were questions to which anyone would answer yes.
The question for the Court of Appeal was whether, on these facts, there had been an unfair relationship between the Harrisons and Black Horse when they were sold the insurance at this price.
The Consumer Credit Act 1974
Generally, the Act regulates the supply of credit to individuals throughout the United Kingdom. Some key features of the Act are:
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"Credit" is understood very widely. It extends to all types of loans, overdrafts, debit cards and purchases of goods on interest free credit.
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Previously, credit for an amount over £25,000 was exempt. But since April 2007, credit over this amount is now covered by the Act, unless advanced predominantly for business purposes.
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Businesses which provide credit or lend goods to consumers must be licensed by the Office of Fair Trading (OFT).
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Advertisements relating to consumer credit must comply with special regulations, requiring e.g. that an example be given of how the APR works in practice.
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A consumer credit agreement has to be in a special form, e.g. stating it is regulated by the Consumer Credit Act and the relevant applicable APR, and a copy of the agreement must be provided to the borrower.
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A consumer borrower must always be able to pay off the loan early, and in case of default cannot be subject to penalty interest.
As can be seen, the Act contains a range of provisions which potentially at least level the playing field between lender and borrower. But the most notable provision, and offering potentially the greatest protection to borrowers, is that regulating unfair credit relationships.
Unfair credit relationships
Section 140A of the Act enables the court to make an order (under section 140B) if it determines that the relationship between the lender and the borrower arising out of a credit agreement is unfair to the borrower. Note that the relationship is the important thing, not the agreement itself.
Although certain agreements (e.g. where the borrower signs up to a "high-net worth" exemption) are exempt for most purposes from the Act, all are subject to section 140A, with the sole exception of home mortgages (which are regulated by the Financial Services Authority (FSA)).
If an unfair relationship is alleged, the burden of proof falls on the lender to show that the relationship is not unfair, although the borrower must at least show some evidence of unfairness.
The court can take account of any of the following:
- The terms of the agreement (or any related agreement)
- The way in which the lender has exercised or enforced any of his rights
- Any other thing done or not done by or on behalf of the lender either before or after making the agreement
The third of these could hardly be wider in scope, but the section then goes on to provide that the court can have regard to all matters it thinks are relevant.
These wide unfair credit relationship provisions were introduced by the Consumer Credit Act 2006, and have been in force since April 2007. The provisions they replaced were far narrower. Under the old regime, the court could only intervene if a credit bargain was ‘extortionate, meaning ‘grossly exorbitant’ or otherwise ‘grossly’ contravening the ‘ordinary principles of fair dealing’. That test was abandoned in light of widespread criticism that it was very difficult for a borrower ever to satisfy.
The range of remedies available under section 140B to the court, having found an unfair relationship, is extremely wide. The court can, among other options:
- Require the lender to repay a sum to the borrower
- Reduce the amount owed by the borrower
- Change the terms of the agreement
In effect, the court can do whatever it thinks is necessary to make the relationship between the borrower and lender fair.
But when is a relationship "unfair"?
As set out above, the Act gives very wide discretion to the court, and notably there is no definition of when a relationship is unfair. This was presumably Parliament’s intention – for each case to be left very much to the discretion of the judge on its individual facts – but it makes for curiously open-textured and hard-to-predict law. Some commentators have even suggested that, as such, it breaches lenders' human rights.
A starting point, perhaps, is guidance published by the OFT in August 2011. The OFT has an enforcement role (under the Enterprise Act 2002) of taking action against lenders whose terms or practices lead to unfair relationships. So its interpretation of when a relationship is “unfair” is influential, although it must follow the law as determined by the courts, and cannot set the law itself.
The guidance, again, does not provide a definition of what an unfair relationship is, although various examples are provided. For example, the OFT suggests that pre-contractual advertising could render an agreement unfair.
More specifically, the OFT suggests that legislation such as the Unfair Contract Terms Act 1977 and the Unfair Terms in Consumer Contracts Regulations 1999 may be relevant. In particular, the 1999 Regulations’ test of unfairness is that a significant imbalance in the parties’ rights and obligations under a contract arises contrary to the requirements of good faith.
This has been equated with ‘taking advantage of the consumer’ (by Lord Bingham in Director General of Fair Trading v First National Bank [2001]). It would be surprising if the different tests of unfairness under UK consumer law diverge very much, although there is an important difference in that the 1999 Regulations refer to individual terms rather than to relationships, where matters have to be considered much more broadly.
Patel v Patel
Until Harrison, the High Court case of Patel v Patel (2009) was perhaps the most important authority on the meaning of unfair relationships under the Act.
The lender was claiming for a debt arising under a number of oral loan agreements, made between 1979 and 1983. The lender was a close friend of the borrower, and the money was to be invested in the borrower’s supermarket business, which happily turned out a success. Compound interest had been accruing on the debt at 20 percent per annum, so that an original loan of £56,450 had by 2007 grown into a claim for over £4.5 million.
The judge unhesitatingly reached the conclusion that the terms of the loan and the relationship between the parties were unfair. This was because:
- Although not unreasonable when the loans were taken out, an interest rate of 20 percent per annum was in fact exorbitant when the base rate was ultimately only 0.5 percent.
- The lender did not ensure that the borrower had a written record of the loan agreement.
- For over 15 years, the lender did not give the borrower any calculation of the amount he owed.
- The loan was to be repaid only when requested by the lender, and such requests were few and far between and only for small amounts.
- The lender did not keep a record of the borrower’s repayments, so it was impossible to calculate exactly what the borrower had repaid and what he owed.
- As a result, the huge debt allegedly owing by the borrower came as a complete shock to him when the lender eventually raised it.
- The lender to some extent took advantage of a trusting and deferential relationship with the borrower.
- The lender was content not to request repayment for a long time, because he knew that was getting an extremely good return on his investment. But this nurtured a quite reasonable expectation in the borrower that the unwritten terms made many years before would not be strictly enforced.
As a result, the judge made an order under section 140B which would ‘reflect and be proportionate to the degree of the unfairness which the court has found’. He ordered the borrower to pay only £207,465.
Ruling in Harrison
Tomlinson LJ accepted the obvious limitations in the process by which Black Horse had sold the insurance, describing it as ‘unattractive’. He also admitted that (apart from the possibility of cross-subsidy),
"The commission here is on any view quite startling and there will be many who regard it as unacceptable conduct on the part of lending institutions to have profited in this way."
In essence, the argument for unfairness was that the high level of profit on the insurance created a conflict of interests between Black Horse and the Harrisons, and should have been disclosed.
According to Tomlinson LJ, the relationship between Black Horse and the borrowers was not unfair because:
- Black Horse was not required by the FSA’s rules on insurance sales to disclose the amount of commission it was making. It would be:
"An anomalous result if a lender was obliged to disclose receipt of a commission in order to escape a finding of unfairness under section 140A of the Act but yet not obliged to disclose it pursuant to the statutorily imposed regulatory framework under which it operates."
- A seller in any other business does not have to disclose the level of commission or profit it makes. The Harrisons had a choice whether to buy the insurance and where to buy it, and they could decide for themselves whether it was worth the price they were asked to pay.
Better off with the FOS?
In light of Harrison, it is apparent that the Consumer Credit Act 2006 has not shifted the balance so far in favour of the borrower/consumer that any underlying unfairness will lead to an order under section 140B.
Another change brought in by the Consumer Credit Act 2006 was to put disputes between lenders and borrowers under the Consumer Credit Act 1974 within the remit of the Financial Ombudsman Service (FOS).
The FOS would likely pay far more regard to principles such as “treating customers fairly” (mandatory under FSA rules, but not mentioned by the Court of Appeal), and also be less robust in regarding consumers like the Harrisons as able to shop around for themselves.
The lesson of Harrison is the courts will not readily find that the operation of the free market within an already highly regulated sector leads to an unfair relationship, in contrast perhaps to the far more unusual circumstances in Patel, where personal relations rather than market forces were at work. In this light, borrowers/consumers will no doubt be keener than ever to refer their complaints to the more tender mercies of the FOS.
Summary
- A court may find the relationship between lender and borrower unfair under s. 140A of the Consumer Credit Act 1974.
- If the relationship is unfair, the court has a wide discretion to make it fair under s. 140B.
- The court will not readily find that the operation of free market forces makes the relationship unfair if regulatory rules have been complied with.
- The Financial Ombudsman Service also has a remit to determine whether credit relationships are unfair.