Ownership, possession and use
‘Ownership’ of an asset is a complex subject in itself, but for present purposes the important thing to remember is that it is not a single indivisible right; rather, ownership is a bundle of rights which can be split between different parties. In the context of motor vehicle finance, the three core rights/questions are:
Title – who has the right to sell the vehicle;
Possession – who has the right to hold on to the vehicle; and
Use – who has the right to drive the vehicle around?
Usually, outside finance arrangements, the owner of a vehicle will be entitled to exercise all of these rights; they will be able to sell the vehicle if they wish to do so, but in the meantime are entitled to keep it in their possession and to make such use of it as they wish. Finance arrangements, however, often involve these rights being split between different parties. For example, a Finance Company will normally retain title to the vehicle whilst contractually passing the rights of possession and use over to the Customer under the terms of the finance agreement. This agreement may or may not involve a later transfer of title to the Customer, but either way it will need to contain provisions designed to protect the Finance Company’s interest in the vehicle by placing obligations and limitations on the Customer regarding the use and possession of it.
Furthermore, though not directly related to finance arrangements, it is worth highlighting that there are more general circumstances in which these rights of ownership can be split between parties. In particular, for present purposes:
Charges – charges are a contractual arrangement under which the owner of a vehicle transfers certain rights of ownership to a third party, usually by way of security. In such circumstances, use and possession of the vehicle will remain with the owner. However, the owner’s right of title will be restricted, in that the charge will prevent them from selling without the permission of the other party. Furthermore, that other party will usually be given the right to sell the vehicle and pass good title to a third party in specified circumstances, and the charge agreement will again contain obligations and limitations in respect of the owner’s use and possession, in order to maintain the value of the vehicle in case it ever becomes necessary for the power of sale to be exercised;
Liens – often wrongly thought of as being a form of charge, liens are in fact all about possession. It is possible for a contractual lien to create a power of sale, but such liens are unusual in practice. The vast majority of liens are no more than a right to hold onto a vehicle until certain conditions have been satisfied, most usually the payment of money. By far the most commonplace example of the exercise of a lien in respect of motor vehicles is the right of a vehicle repairer to hold onto the vehicle until a repair bill has been paid. This is a ‘common law’ right which can be exercised by any repairer of goods against the owner, even if that owner is a Finance Company and the arrangements for repair were actually entered into by the Customer. However, it is essential to remember that a common law lien is only a right to possession. It gives the repairer no rights of use or sale; neither does it allow for ancillary charges, such as in respect of storage;
Statutory bodies – the detail is beyond the scope of this book, but it is worth noting in passing that there are circumstances in which some statutory bodies can become entitled to hold and/or dispose of a vehicle against the wishes of the true owner, regardless of whether that owner is a Finance Company or a Customer.
What is a CCA ‘regulated’ agreement?
Almost the first point of confusion in the area of consumer credit law is that it doesn’t just cover credit; nor does it only apply to ‘consumers’ in the usual sense of the word. As we will see, contracts for the hire of goods can be regulated, as are certain types of business contract. In addition, there are many ‘consumer’ credit and hire agreements that are not regulated by the CCA. The identification of a CCA regulated agreement is a two-stage process, and we will look at credit and hire contracts in turn.
Section 8(1) defines1 a consumer credit agreement as “…an agreement between an individual (“the debtor”) and any other person (“the creditor”) by which the creditor provides the debtor with credit of any amount.”
The first point to note about this definition is just how wide it is in application. It is deliberately designed to encompass all contractual arrangements under which an individual is provided with credit. However, it is also necessary to appreciate that courtesy of section 189, the 1974 Act has its own special definition of an “individual” which includes:
a partnership consisting of two or three persons not all of whom are bodies corporate; and
an unincorporated body of persons which does not consist entirely of bodies corporate and is not a partnership.
As a result, the definition of a consumer credit agreement (whether or not regulated) not only encompasses any contractual grant of credit made to an individual in the normal sense of the word, whether acting in a personal or business capacity, but also to one made to small partnerships and unincorporated associations (for example members clubs). In practice, it applies to nearly all credit arrangements except those made with corporate entities such as limited liability companies and partnerships, and partnerships of 4 or more partners.
To help avoid confusion, it should be noted that for FSMA purposes the RAO adopts a slightly different approach. Use of the word ‘individual’ by the RAO and by the FCA in its Handbook is restricted to the everyday meaning of the word. Accordingly, the RAO and the Handbook refer to an individual or ‘relevant recipient of credit’; the latter being defined to cover the gap between the normal meaning of ‘individual’ and the extended section 189 definition. This rather clunky approach becomes doubly confusing when applied (as it is) to those who enter into consumer hire agreements, which contain no element of credit!
Of course, this all begs the question of what is ‘credit’. Again, for anti-avoidance purposes, this concept is deliberately defined in as wide a manner as possible; section 9(1) says2 that it includes “…a cash loan, and any other form of financial accommodation“. Entire books have been written about this one subject. For present purposes it is enough to note that all the commonplace forms of deferred payment for the purchase of motor vehicles, such as hire purchase, conditional sale and credit sale, are within the definition of ‘credit’.
On the other hand, although hire purchase is a form of ‘credit’ (because section 9(3) says so), an ordinary hire contract is not; it has a separate identity in the form of a ‘consumer hire agreement’, defined by section 15(1) as3:
“… an agreement made by a person with an individual (the “hirer”) for the bailment or (in Scotland) the hiring of goods to the hirer, being an agreement which—
(a) is not a hire-purchase agreement, and
(b) is capable of subsisting for more than three months.”
The second of these criteria is the reason why short-term vehicle rental contracts, such as the hire of a car or van for a few days, always contain a standard clause restricting the maximum possible period of hire; usually to thirty days, but at the very most to ninety days. This is to ensure that the agreement remains outside the scope of the 1974 Act.
As with credit, section 15(1) does not discriminate between hirers acting in a personal or business capacity, and of course the section 189 definition of an ‘individual’ extends it to hire agreements with small partnerships and unincorporated associations, as does the FSMA/RAO use of the phrase ‘relevant recipient of credit’.
To avoid similar confusion to that which the FCA has created by use of this phrase, the draftsman of the 1974 Act drew a distinction between the parties to a credit agreement (the ‘creditor’ and the ‘debtor’) and those to a hire agreement (the ‘owner’ and the ‘hirer’). This distinction is particularly helpful when it comes to distinguishing between those sections of the 1974 Act that apply to both forms of agreement, and those which only apply to either credit or hire
Having deliberately drawn the boundaries for consumer credit and consumer hire agreements as widely as possible, the 1974 Act then takes us on to the second and crucial stage in identifying a ‘regulated’ agreement. Essentially, all consumer credit and hire agreements are to be treated as regulated unless they fall within one of a number of specific and tightly defined exemptions. Prior to 2014, these exemptions were part of the 1974 Act itself, but are now to be found within the definitions set out in the RAO.
The exemptions applying to credit agreements are set out in Articles 60C to 60H of the RAO, and those applying to hire agreements in Articles 60O to 60Q. Many of these exemptions are highly technical, and for the purposes of this book consideration is limited to the two which most commonly apply, usually referred to as the ‘business’ and ‘high net worth’ exemptions.
The business exemption is based on the value of the transaction. The 1974 Act originally applied only to agreements which had a value below a specified level, but this was abolished by the Consumer Credit Act 2006 (the 2006 Act). The limit had been adjusted on a number of occasions, but immediately prior to its abolition, the 1974 Act did not apply where the amount of credit to be provided, or the aggregate rentals to be paid under a hire agreement (including VAT), exceeded £25,000. Since the limit was abolished, there has been no general restriction on the application of the 1974 Act by value. However, there was much debate at the time about whether the 1974 Act should continue to apply to business transactions. In the end, a compromise solution emerged; business arrangements involving sole traders, small partnerships and unincorporated associations would continue to be regulated, but only where they fell within the existing £25,000 limit.
As a result, any agreement providing for credit or total rentals exceeding that figure will be exempt from CCA regulation if it is entered into ‘wholly or predominantly’ for the purposes of a business carried on by the Customer. Whether that is the case is a pure question of fact; this is not, as is sometimes mistakenly believed, an optional exemption. However, to limit uncertainty for Finance Companies, the RAO does provide that if the agreement contains a declaration by the Customer in the prescribed form, then it will be presumed to be exempt as long as the Finance Company did not know, or have reason to suspect, that the agreement was not actually for business purposes.
The ‘high net worth’ exemption, by contrast, only applies at the option of the Customer. The exemption is based on the assumption that an individual of “high net worth” will be sufficiently sophisticated in financial terms as to be able to divest themselves of the protections of the 1974 Act, if they so wish. Whether or not this assumption is correct remains open to question, but the exemption is available if the relevant criteria are satisfied.
There is, however, a value limitation applicable to credit agreement (though not to hire agreements). The exemption is incompatible with the EU Consumer Credit Directive (the CCD); accordingly, it is only available if the amount of credit to be provided exceeds the CCD value limit of £60,260.
In either case, there are also strict criteria for the identification of a ‘high net worth’ Customer. Essentially, during the previous financial year they must have either had an income (net of tax) exceeding £150,000, or assets (excluding their residence and pension arrangements) exceeding £500,000.
In addition, the agreement needs to contain a declaration by the Customer which:
confirms that they have received a statement in the required format identifying them as an HNW individual (usually provided by an appropriately qualified accountant): and
acknowledges that they are knowingly giving up their CCA rights.
One final point regarding the categorisation of credit and hire agreements. It is often suggested that they fall into two categories; regulated and unregulated. However, this categorisation can be unhelpful, because there are some elements of CCA regulation which apply to, or in respect of, agreements which are otherwise ‘exempt’. In particular, exempt credit agreements are still subject to the unfair relationship provisions of section 140A. In addition, the regulation by the 1974 Act of ancillary finance activities such as credit broking, debt collecting, debt counselling and debt adjusting extends to engaging in such activities in respect of any consumer credit or consumer hire agreement, regardless of whether it is regulated. The somewhat counter-intuitive result of this is that whilst (for example) the Finance Company entering into an exempt credit agreement does not need to be authorised by the FCA to do so, a credit broking Seller that makes the introduction does.
Creditworthiness, Forbearance and Vulnerability
In addition to the specific provisions laid down in the 1974 Act itself, Finance Companies have for some years also been subject to the wider set of rules and guidance contained in the FCA’s Handbook; in particular CONC. In many ways, the Handbook provisions are not dissimilar to the concept of section 140A, being greatly based on the FCA principle of ‘Treating Customers Fairly’, and TCF most obviously manifests itself in the shape of the concepts of ‘creditworthiness’, ‘forbearance’ and ‘vulnerability’. The last two of these concepts are particularly applicable in the context of collections and recoveries.
Generally speaking, Finance Companies who want to stay in business for any length of time do not lend money to a Customer unless they think it is likely to be repaid. However, the CCD introduced a specific requirement for them to consider the issue of ‘creditworthiness’ before entering into any agreement with a consumer. There is always an element of risk involved in providing credit, and Finance Companies engage in substantial amounts of analysis in order to keep that ‘credit risk’ within acceptable commercial limits. However, whilst credit risk is the essential element of any lending decision from the Finance Company’s point of view, it is not the whole story by any means. The requirements in this regard have recently been clarified by the FCA, but the general position is unchanged; in addition to considering the risk to themselves arising from a failure by a Customer to repay the credit (on time or at all), Finance Companies are required to further consider the risk to the Customer arising from such a failure (referred to as ‘affordability risk’).
Affordability is a difficult concept to pin down in practice, not least because it involves both objective and subjective factors. However, whilst the details of an affordability assessment can be difficult to develop, the principle is fairly easy to state; based on all the relevant evidence, does it appear likely that the Customer will be in a position to make the anticipated payments under the agreement in a ‘sustainable manner’. To put it another way, the Finance Company is required to look at the potential for the commitments under the agreement to adversely impact the Customer’s financial situation, both now and in the future.
An example from the world of pay day lending may assist understanding of the difference between credit risk and affordability risk. It was common practice for pay day lenders to require a loan to be repaid when the Customer had funds available in their bank account; usually on the date of salary payment. As such, the credit risk to the pay day lender could be relatively low. On the other hand, once the loan and charges had been repaid, the Customer would still need to cover their everyday financial commitments for the rest of that month, and would often struggle to do so. As such, the affordability risk to the Customer could be relatively high.
As regards forbearance, the Handbook states4 that: ‘A firm must treat Customers in default or in arrears difficulties with forbearance and due consideration.’ In particular, the firm must allow the Customer reasonable time and opportunity to remedy any default or arrears; it must also take steps to refer the Customer to sources of free and impartial debt advice.
In one sense, forbearance is an extension of the concept of affordability discussed elsewhere, in that a firm should not be putting pressure on a Customer to enter into any repayment plan which is going to adversely impact their general financial circumstances. As a result, a Finance Company has to ensure that any action it takes in respect of recovery and collections is proportionate. This, as always, involves a balancing exercise between the interests of the Finance Company and those of the Customer, with the Finance Company being required to demonstrate that it has paid due attention to those of the Customer.
In addition, a Finance Company will need to ensure that it has policies and procedures in place in order to deal with Customers which it knows, or reasonably suspects, to be ‘vulnerable’. This is not a precise concept, and is in many ways an extension of the general principles of TCF. Applying TCF is a fluid exercise. What may be fair in respect of one Customer may not be fair in respect of another; indeed, what may be fair in respect of a given Customer at a given time, may not be fair at another time. This balancing exercise is constant, and any circumstances which tend to make a Customer more vulnerable than they might otherwise be, need to be taken into account.
At the more extreme end of the spectrum, Customers with mental health issues must be seen as particularly vulnerable. However, since vulnerability is a spectrum, Finance Companies need to ensure that any activity regarding a Customer (including, but by no means limited to collections and recoveries activity) is geared to the potentially shifting vulnerability of a Customer. A Customer in financial difficulties, or suffering from health problems, loss of job or marital difficulties, is thereby likely to be more vulnerable, and all such factors need to be taken into account as part of the balancing exercise.
Lastly, it is worth bearing in mind that whilst the Handbook Rules in question may only directly apply to certain Customers, the concepts of creditworthiness, forbearance and vulnerability are good examples of issues that must be treated by authorised firms as being of wider application, given that the principles which underpin them, particularly TCF, are of general application. That is not to say that the same approach needs to be taken in every case; the approach can (and indeed should) be tailored to the relevant context. Nevertheless, it must be possible in every case to say that the approach taken is consistent with the underlying principles. For example, the Rules on creditworthiness do not apply directly to hire agreements. However, it is difficult to see how a Finance Company might be able to justify not adopting a similar approach to a Customer’s affordability risk arising from a given level of payments, simply because the proposed agreement is one of hire rather than credit.
Total Charge for Credit/APR
These two linked concepts are fundamental to the operation of the 1974 Act. It is clearly important that consumers are informed about the true cost of the credit they are minded to take out, in a form that allows them to compare alternative means of obtaining that credit. The regulations controlling the identification of the total charge for credit are particularly obscure. However, in terms of motor vehicle finance, the basic concept is straightforward; anything that is payable in connection with the credit which isn’t part of the ‘cash price’ of the vehicle, is a charge.
It must always be remembered that an Annual Percentage Rate (APR) is not an interest rate. Interest will often be the primary charge to be included within the APR calculation, but the APR and the Interest Rate for an agreement will only be the same if the interest rate in question is an ‘effective annual rate’, and there are no other charges payable. Use of ‘flat’ interest rates, which do not allow for any element of compounding, can be misleading to consumers. Likewise, the use of fixed charges to reduce the element of interest charged can make it hard for consumers to compare different products, and hide the fact that an agreement with a lower rate of interest is actually more expensive overall.
An APR is an annualised expression in percentage terms of all charges falling due under the agreement. Once the total charges have been identified, the Finance Company is required to apply a complicated actuarial formula in order to calculate the APR by reference to the actual timing of the credits, charges and repayments that should occur throughout the term of the agreement. APRs have their drawbacks, and can be misleading for both short and long term finance arrangements. Nevertheless, for most vehicle finance agreements they serve their intended use by being a useful way of comparing the cost of different types of arrangement.
Unenforceability under the 1974 Act is a difficult concept, and there has been considerable legal dispute over the years as to what it means. The situation is further complicated because unenforceability broadly falls into two types:
In some cases, the agreement will be unenforceable until the designated authority (usually the Court, but in some cases the FCA) has given permission for enforcement to take place; but
In other cases, the agreement can only become enforceable again if the Finance Company remedies the breach, which can sometimes be difficult or even impossible.
Application of the concept of unenforceability is further complicated by the range of interpretations that can be placed on the meaning of the word. There are those who argue that any action which a Finance Company takes in order to try to make a Customer pay when the Customer is unwilling or unable to do so, amounts to ‘enforcement’ for these purposes. This is, however, a very restricted view, and at the other end of the spectrum are those who argue that ‘enforcement’ should be given a strict legal meaning, thereby effectively limiting the concept to the enforcement of a court order.
Adopting a purposive approach to interpretation of the concept would suggest that neither of these extreme approaches can be right. The most restrictive interpretation would, by definition, prevent a Finance Company from carrying out certain actions, including the service of a Default Notice, which are prescribed by the 1974 Act as pre-requisites for the making of an application to the court for an enforcement order. On the other hand, there are many references within the 1974 Act which are clearly inconsistent with the ‘court order’ approach, not least the fact that retaking possession of the vehicle is specifically stated to be ‘enforcement’.
As with so many such arguments, the answer must lie somewhere in between, and is probably context specific. In the absence of a clear indication from the courts as to interpretation of 1974 Act unenforceability, it must be assumed that a Finance Company is entitled to take steps to require a Customer to comply with an unenforceable agreement, such as the sending of letters stating that it will arrange to terminate the agreement and repossess the vehicle if the Customer does not pay, provided that:
the Finance Company does genuinely intend to take the indicated steps if the Customer does not comply; and
the Finance Company clearly brings the fact of unenforceability to the attention of the Customer, so that they can make an informed decision as to whether to comply.
On this basis, a Finance Company is entitled to go through the process of default and termination, with a view to issuing court proceedings and obtaining an enforcement order if needs be. This approach is entirely in line with the 1974 Act itself, which provides in section 173 that whilst an attempt to contract out of its requirements is invalid, anything which may only be done ‘on an order of the court or the FCA’ may in fact also be done with the contemporaneous consent of the Customer. As FCA guidance indicates, any Customer consent must be genuine and informed; hence the need for the Finance Company to ensure that the Customer is informed of the fact and consequences of unenforceability.
As regards obtaining an enforcement order, this requires the Finance Company to make an application under Section 127 of the 1974 Act. This can, of course, only be done where the particular breach means that the agreement is unenforceable without an order of the court. As noted above, some breaches of the 1974 Act can only be remedied by the Finance Company itself, and if the Finance Company is for some reason unable to comply, then the breach can never be remedied and the agreement can never be enforced.
Updating the 1974 Act/the Consumer Credit Directive (CCD)
Even a cursory examination of the updating of the 1974 Act and its underlying regulations which has taken place over the past few years will reveal just how fragmented the whole area has become, as each new development is shoe horned uncomfortably into the existing structure. The 1974 Act, and the original regulations introduced (mostly) in 1983, created what was, with a few notable exceptions, a well drafted and coherent body of rules and requirements. Unfortunately, many of the changes introduced over the last fifteen or so years have added considerably to the complexity of the structure, and unfortunately many of them have not been well drafted so as to fit in seamlessly into the whole. In particular, the changes introduced in 2011 to bring the UK in line with the requirements of the CCD have fragmented the structure, so that different types of motor finance credit agreement now get dealt with in very different ways, depending on a number of factors.
This problem is most evident as regards the documentation and execution of regulated agreements. However, before looking at the detail, it is helpful to have a broad idea of the ground covered by the CCD changes, and which forms of regulated agreement fall inside and outside the relevant requirements. Unfortunately, getting an understanding of these issues is not helped by the fact that the CCD boundaries are not applied consistently. In advance, the Treasury’s stated approach was that it would make only the minimum changes required to the existing CCA provisions in order to ensure CCD compliance. However, when it came to the detail, the Treasury could not resist extending some of these changes into areas that were strictly outside CCD scope.
As regards that scope, broadly the CCD does not apply to agreements:
secured on land;
for credit exceeding £60,260; or
for business purposes.
As explained elsewhere, hire agreements do not involve credit, and secured lending was already the subject of other EU discussions; furthermore, outside the UK, the distinction between retail and business purpose agreements is better drawn. As such, three of these exemptions from the CCD are easily understood. The financial exemption seems rather arbitrary at first sight, but does have a reasonable explanation. For about 30 years, the 1974 Act incorporated a financial limit. UK consumer protection thinking had moved away from this approach by the time the CCD came to be, but the EU still took the view that such a limit should apply, and set the bar at 75,000 Euros. In accordance with a standard EU approach, the potential currency exchange fluctuation issue this might cause because the UK was outside the Eurozone was avoided by fixing the limit at the sterling equivalent on the date the CCD took effect; hence the figure of £60,260.
Applying the CCD was a relatively simple process for those EU countries which did not have complex existing consumer finance laws already in place. Many were able to adopt the CCD wholesale, as a standalone set of measures. The problem for the Uk was how incorporate the CCD regime within the pre-existing structure of the CCA, bearing in mind that;
the 1974 Act has no financial limit and does extend to cover some, though not all, business purpose agreements;
the CCD is what is known in EU law as a ‘maximum harmonisation’ directive, which requires the law in all member states to be identical; and
the government was reluctant to abandon any part of the existing regime.
That existing regime was considerably more developed, and arguably much better, than was the norm in most other EU states. Unfortunately, the government approach inevitably led to the creation of a regime made up of multiple alternative requirements based on variations in context.
Understanding the practical application of this new regime was then further complicated by an additional issue; namely, the ability of Finance Companies in some circumstances to voluntarily adopt the CCD documentation requirements should they wish to do so. This was an entirely economic point. At the time the CCD changes were being discussed, many Finance Companies pointed out that it would make life prohibitively expensive for them (and therefore indirectly for Customers) if they were required to maintain distinct approaches for the documentation and execution of credit agreements that were inside and outside CCD scope. Accordingly, to avoid unnecessary system duplication, provisions were introduced to allow Finance Companies to opt-in to the relevant CCD requirements instead of those which would otherwise apply.
However, this ability to opt-in has its limits. It applies to unsecured credit-based arrangements, thereby allowing Finance Companies to adopt the CCD approach to documentation and execution in respect of credit agreements which are strictly outside CCD scope because they are above the £60,260 limit or are for business purposes. On the other hand, it has no application to hire agreements.
As a final general point, whenever looking at the detail of these alternative regimes, it is always worth remembering that the CCD is trying to address the same issues (real or perceived) that underpin the 1974 Act approach to the documentation and execution of regulated CCA agreements. It has always been a fundamental principle of CCA regulation that Customers need to be given the right information by Finance Companies in advance, so that they can make an informed decision as to whether they should enter into the finance agreement. Accordingly, leaving aside the technicalities of the regulations, both the CCD and 1974 Act versions of the regulations are trying to do much the same thing.
In fact, the CCD approach is in many ways to be preferred, for much the same reasons as the FCA approach to regulation has advantages over the OFT approach. Both the CCD and 1974 Act approaches require similar information to be given to Customers, in broadly similar ways. However, the 1974 Act approach is much more prescriptive about exactly how this is to be done, and in many ways produces documentation that is harder for Customers to understand. The CCD version is much more flexible, and actually allows Finance Companies to provide the relevant information in a manner that is often much easier for Customers to read and appreciate.