Clear shortcomings in the management of default risk in consumer lending and in credit providers’ contractual terms

Firms granting consumer credit were transferred under the supervision of the Financial Supervisory Authority on 1 July 2023 when the Act on the Registration of Certain Credit Providers and Credit Intermediaries entered into force. In this context, a new provision was also introduced on the management of default risks in consumer lending.

In autumn 2023, the FIN-FSA initiated a survey of new supervised entities with the aim of assessing fulfilment of the prerequisites for the registration of credit providers, code of conduct concerning customer protection and compliance with obligations under the Anti-Money Laundering Act. In addition, the FIN-FSA conducted a thematic review of the management of default risk by entities granting consumer credit in Finland.

This supervision release provides information on the results of the thematic review of the management of default risks by entities granting consumer credit in Finland and the review of the code of conduct. These reviews looked into how the conduct of lenders included in the review matched the requirements of regulation on the management of default risk, the content of new supervised entities’ contractual terms and processes of handling customer complaints. The results of the review on the fulfilment of the prerequisites of registration and compliance with obligations under the Anti-Money Laundering Act will be published later.

Management of default risks

Considerable differences were identified in the management of default risks by entities granting consumer credit in Finland. Significant shortcomings were found in the credit granting practices of cross-border credit institutions and branches, and even severe shortcomings were found among certain lenders and credit intermediaries transferred under FIN-FSA supervision. Shortcomings were also identified among Finnish credit institutions. The most significant ones were related to lending to consumers with an unreasonably high default risk and to the lenders’ risk rating systems enabling them to assess and monitor default risks in consumer lending in a reliable manner.

The following shortcomings were identified in the thematic review:

• The discrimination power of the application scorecard used in credit granting is insufficient¹
• Credits are granted to customers with an excessively high default risk¹
• The credit provider does not have a risk rating system to monitor default risks
• The credit granting criteria are not retained for a sufficient period of time
• The maximum interest rate exceeds the allowed limit
• The performance of the application scorecard is not monitored sufficiently
• The credit provider does not assess the applicant’s income and other financial circumstances sufficiently
• The credit provider is unable to generate requisite reporting of the risk rating methods used by it.

In addition, the following observations were made in the course of the thematic review:

• Discriminatory factors are used in the credit risk model
• Credit losses/past due credits form a significant share of the credit portfolio
• Payment default entries are not checked before making a credit decision.

Contractual terms and handling of customer complaints

The assessment of responses concerning the code of conduct focused on new supervised entities actively granting new consumer credits instead of just managing previously granted credits (credit portfolio). According to FIN-FSA’s knowledge, there are 20 active credit providers.

In reviewing the contractual terms, some shortcomings were found in individually agreed contractual terms concerning the price of credit. The existence of the consumer’s and lender's statutory rights is covered well in the general terms and conditions, but there are shortcomings in the description of the prerequisites and consequences of resorting to these rights. In some cases, key contractual terms are spread out across several documents and therefore hard to locate.

A preliminary assessment suggests that not all credit providers comply with all mandatory legislation on consumer lending in their contractual terms.

Based on the assessment, descriptions of the customer complaints handling processes included sufficient information, and no significant shortcomings were identified in that respect.

Actions by FIN-FSA

The findings will be used as a basis in focusing supervision on the management of default risks as well as code of conduct. The FIN-FSA requires that the credit providers remediate the shortcomings identified in the reviews. The observations will also be used in planning periodic reporting needed in the assessment of default risks and in preparing FIN-FSA regulations and guidelines concerning consumer lending.

For further information, please contact:

Management of default risks

• Torsten Groschup, Chief Specialist, tel. +358 9 183 5333 or torsten.groschup(at)finanssivalvonta.fi

Conduct of business

• Timiikka Tommiska, Legal Advisor, tel +358 9 183 5578 or timiikka.tommiska(at)finanssivalvonta.fi

¹ The credits reviewed in the thematic review had been granted before the new regulation on the management of default risks came into effect on 1 July 2023 (186/2023 and 610/2014).