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Loans and other financial products need detailed labelling like food and prescriptions
Coupled with unbiased advice, that’s the best way for consumers to make prudent, cost-effective decisions. (Pexels Photo)
How much does it cost to borrow $500?
Payday lenders advertise $14 per $100. Credit card cash advances are 22 per cent, plus a one-time fee that’s either a fixed amount or a percentage of the total. If a customer accesses the cash advance via an ATM, there may be an additional fee. An instalment loan is soon to be capped at 35 per cent. Overdrafts usually cost $5 each, plus 21 per cent.
So what exactly does the consumer pay?
Total costs are often buried in a sea of details. The absence of a final bottom line hinders comparison shopping. The lack of critical information relevant to suitability of a loan to a borrower increases the risk to consumers.
The solution is simple: Financial products should be required to carry the same kind of upfront labelling that applies to food in the supermarket or drugs at the pharmacy. Coupled with unbiased advice and someone to turn to for help, that’s the best way for consumers to make prudent, cost-effective decisions.
Current disclosure rules result in extremely long and complex fee schedules and personal account agreements that undermine efforts to promote financial literacy. Without standard reporting requirements, these documents only increase the potential for misunderstanding.
Canadians need to know which financial product is most suitable for their needs, how much it will cost them and whether there are any adverse effects.
Clear information, unbiased advice
If they run into difficulty with a financial product or have questions, they need to be able to identify where to go for unbiased advice. In the absence of clear, concise and comparable information and instruction, it’s no surprise that money issues are among the highest causes of stress and are among the most detrimental factors to financial and overall well-being.
Easily identifiable sources of unbiased financial advice would help ease the stress of managing in tight times. Suitability information and proper labelling with cautions could offer basic user information. Accessible support could offer a place to answer consumer questions.
Co-author John Stapleton holds low-income retirement sessions at libraries in Toronto and across Ontario. The majority of attendees are thunderstruck to find out that a reverse mortgage is a loan that must be repaid as opposed to sharing equity in their home that only their estate needs to settle.
They most often say they would never choose to move or sell their homes just to repay this debt. As marketed today, these loans are advertised as “tax-free cash without having to move or sell and no monthly mortgage payments required.” Yet buried in the fine print are conditions that could trigger an early repayment obligation.
How products are framed and labelled is critical for determining the best fit in other areas, too, especially for students in need of financial support.
When higher education costs are viewed as loans to be paid back with interest, the probability that students would opt for that approach decreased by eight to 11 percentage points when compared to offering students an “income-sharing” agreement with money advanced today traded for a share of income in the future.
A bundle of contract terms often masks the cost, suitability and risk of financial products. Interest rates — quoted in terms of annual percentage rates sometimes with varying compounding periods — are mixed with simple percentages and flat fees — both independent of the time over which one borrows.
In the absence of comparable information, financial consumers may draw faulty conclusions about product suitability. For example, to borrow $500 for two weeks, a payday loan may be cheaper at $14 per $100 than options that charge one-time fees in addition to a daily interest rate. But if the term is longer, that calculation will change.
The inability to identify final costs and suitability complicates the consumer’s decision unnecessarily.
At Stapleton’s workshops, participants often say they believe that life insurance with no required medical checkup or blood test is cheaper because medical assessments are thought to be costly. Silence on possible adverse consequences of potentially higher insurance costs (due to applicants being assigned a high-risk rating) leaves some participants making wrong decisions.
Give users straight financial facts
The absence of notice about adverse consequences and cautions may yield faulty conclusions. Recent research found food labels identifying sugar and caloric content increased consumer awareness and concern about food quality. But then shoppers would substitute unlabelled products, believing incorrectly that they were healthier.
Standardized product labelling can help inform consumer choice where there is unbalanced information. Labelling with nutritional value, product safety, processing information and warning signs is appropriate under the following conditions:
- Consumer preferences differ.
- Information is clear and concise.
- Information on product use enhances safety.
- Costs and benefits are borne by the consumer.
- Standards, certification and enforcement can be established.
- No political consensus on regulation exists.
These conditions also apply to financial products.
Best practices in product labelling require plain language, clear and consistent formatting and organization of information, as well as explicit instructions for use, especially in the case of prescription drugs. How hard can that be?
The U.S.-based Mission Asset Fund models a “financial facts” labelling standard. A front-of-contract policy would require a contract summary with basic content in a predetermined standardized format.
It would identify clearly and simply total costs, monthly payments and the annual percentage rate, including interest and total fees. It could separate out mandatory fees from optional ones.
The contract to which the label was affixed would also come in a standard format and include information about cancelling the agreement during a cooling-off period and stopping optional services at any time.
Finally, we suggest adding appropriate “caution” and “directions for/recommended use” segments to standard financial contract summaries.
A caution added to “no medical life insurance” products might read: ”Providing a detailed medical report may result in lower life insurance costs.” In the case of reverse mortgages, directions for use could be simply: “A reverse mortgage is a type of loan for homeowners.”
Requiring a link to the Financial Consumer Agency of Canada’s (FCAC) unbiased description and suitability assessment would be an easy pointer to valuable consumer information. But to whom might consumers turn if they run into trouble? Here again, the options are complex and confusing.
If someone decides against turning to the sellers of the financial products themselves, there is no shortage of financial advisers, planners, counsellors, managers and gurus from whom to choose. But which title confers expertise in the needed area?
Since 1998 in Quebec, financial planners have had to be certified before they can use that title.
That’s not necessarily so in other jurisdictions. In Ontario, for example, the Financial Professionals Title Protection Act came into force in 2019 and covers only advisers (for investment advice) and planning (for estates). Where do indebted consumers go to speak to counsellors who are not also trying to sell them licensed insolvency trustee services?
In Australia, the federal and two state governments support a national debt helpline which provides online information as well as an opportunity to chat with a financial counsellor. This is especially valuable for people struggling financially and facing a complex situation, for example, if they are in an abusive relationship, dealing with mental health issues or in prison.
The FCAC information page for managing debt is a start. Consumers need easy access to a financial counsellor who can provide quality, situation-appropriate advice untethered to a potential seller.
Much like health status, more financial information is better. Much like prescription drugs, financial contracts are complicated and risky.
Consumers need to know basic financial information to compare apples to apples. At the grocery store, consumers can easily identify nutritional content, basic production information and price per unit, so comparison shopping is easy. There are no surprises at the checkout.
Nutrition labels offer consumers basic information to make informed food choices. An “organic” designation or a notation about whether a product came from a nut-free facility offer important details. Meat labels provide safe handling instructions.
At the pharmacy, drug packaging and labels include cautions and instructions for appropriate use, raise awareness of possible side effects and specify which of these require immediate medical attention. Advice from a pharmacist or a doctor is readily available.
The same should apply to financial products. Consumer decisions need to be easy at precisely the time when stress levels are at their highest.
The total cost to the consumer of a loan or other financial product should be transparent and easily comparable. There would be considerable benefit from clear information about appropriate product use, side effects — especially those that require immediate financial attention — and where to go to get help.
If we are serious about financial health, we need a policy with front-of-contract labelling standards inclusive of side effects and easy access to unbiased advice.
This article first appeared on Policy Options and is republished here under a Creative Commons license.
