His Majesty's Treasury (HMT) announced in February 2021 its intention to regulate interest-free Buy Now Pay Later ("BNPL") products. In November 2021, it followed up with a consultation paper on the proposed approaches to regulation of BNPL ("the Consultation") and, following a period of consultation, published its Response to the Consultation in June 2022 ("the Response"). We summarised key aspects of the Consultation and the Response in our earlier Insight articles 'HMT consults on the regulation of Buy Now Pay Later credit products' and 'HMT refines scope of regulation for Buy Now Pay Later'.
While the overall policy options set out in the Consultation remained largely unchanged in the Response, the potential scope of regulation remained unclear. The Government therefore invited stakeholders to provide further feedback on the scope of future regulation, following which it has recently issued a consultation paper on the draft legislation ("the CP"), together with the BNPL draft statutory instrument ("the Draft Legislation"). In this Insight, Sushil Kuner and Yasmin Gidda summarise the key aspects of the CP and the Draft Legislation and outline what this all means for merchants currently offering BNPL.
Policy position on the scope of regulation
There is currently an exemption for credit lenders whereby interest and cost free creditor-lender-supplier agreements which are repayable in under 12 months and in 12 or fewer instalments are not regulated credit agreements ("the Exemption"). The Government has previously made the following distinction between BNPL and Short Term Interest Free Credit ("STIFC"), both of which currently benefit from the Exemption:
- BNPL - usually taken out online with consumers often having an overarching relationship with a third-party lender, under which multiple low value agreements are made, with little transactional friction as a result.
- STIFC - frequently offered in-store, with consumers taking out a single, higher-value discrete agreement with the credit provider, who may be a third party lender or the merchant itself. The FCA's initial view was that this is a more traditional form of credit, which has operated for many years without raising significant concerns of consumer detriment.
At the time of the initial Consultation, the Government proposed a proportionate approach to regulation by ensuring that the scope of regulation is defined as closely as possible to target those currently exempt credit products where there is most potential for consumer detriment (i.e regulating BNPL only and not STIFC). However, as a result of feedback from respondents to the Consultation that developments in the market blurred the distinction between BNPL and STIFC, the Government indicated in the Response that it was minded to extend the scope of regulation to capture:
- both BNPL and STIFC agreements where they are provided by third party lenders; and
- STIFC agreements that are provided directly by merchants online or at a distance, given their potential to create the same risks as BNPL agreements and STIFC agreements provided by a third party lender. This would ensure that agreements offered directly by large e-commerce merchants would be regulated and would also mitigate the risk of BNPL providers avoiding regulation by structuring agreements, so that they technically become the merchant in the transaction that they are financing.
However, the Government invited further stakeholder views on the scale and nature of the merchant-provided market, to ensure that the proposed scope of regulation was proportionate.
Having carefully considered the responses, the CP confirms the Government's view that the scope of regulation should be limited to agreements that are offered by third-party lenders.
Evidence from stakeholders indicated that it would be disproportionate for regulation to apply to all agreements provided by merchants online or at a distance as it would potentially capture the types of arrangement where there is little, if any, evidence of there being a substantive risk of consumer detriment. In particular, a potentially large number of small, independent merchants, whose main business is the sale or supply of goods and services, and not financial services, may also be captured. The burden of regulation for these firms could therefore be disproportionate and possibly lead to them ceasing to offer useful, low-risk and cost-free credit to consumers as a result of needing to become authorised. The effect of the Government's approach is that borrower-lender-supplier agreements for fixed-sum credit to individuals or 'relevant recipients of credit' will be regulated if:
- they are interest-free, repayable in 12 or few instalments within 12 months or less;
- the credit is provided by a person that is not the provider of goods or services which the credit agreement finances (i.e. third-party lenders); and
- not exempt as a result of falling within one of a limited number of exemptions:
- agreements financing contracts of insurance;
- agreements offered by registered social landlords to tenants and leaseholders; and
- employer / employee lending.
Third party lenders offering BNPL agreements as outlined above, will therefore need to be authorised and regulated by the FCA and will need to comply with a proportionate regulatory framework (see further below).
To address the risk of BNPL providers avoiding regulation by structuring agreements, so that they technically become the merchant in the transaction that they are financing, the Government has included anti-avoidance measures within the Draft Legislation.
The anti-avoidance 'mechanism' will capture agreements provided by a third-party lender to finance purchases from a merchant, but where the merchant has an arrangement with the third-party lender under which the merchant agrees to sell the goods to the lender at the point when the agreement is taken out.
Regulatory controls for newly regulated agreements
As set out in the initial Consultation, interest free credit agreements which currently benefit from the Exemption are lower risk than other types of credit. As a result, the Government has confirmed that the regulatory controls that should be applied to those agreements which will be brought into regulation should be proportionate to the risks that they present, whilst also providing sufficient consumer protection.
The proposed regulatory controls largely remain unchanged since the initial Consultation and the Response (summaries of which are linked in the introduction). In the CP, the Government invited responses to the Draft Legislation relating to the following areas:
- Credit broking: where merchants introduce their customers to agreements which will now be brought into regulation, they will be exempt from credit broking regulation. The proposed article 3(2) of the Draft Legislation introduces a new article 36FB in the RAO to implement this.
- Domestic premises suppliers: this includes one who sells goods, offers or agrees to sell goods, or offers or contracts to supply services, to individuals while the supplier or the supplier's representative is physically present in the customer's home. Domestic premises suppliers that carry on credit broking activities will be subject to the FCA's full permission regime, reflecting the higher risk of pressure selling that is present for vulnerable customers where sales may routinely take place in their home. The proposed new article 36FB in the RAO will be inserted by article 3(2) of the Draft Legislation.
- Advertising and promotion: unauthorised merchants will be required to obtain approval for promotion of agreements which will be brought into regulation from an authorised person (which could, but does not have to be, their lender partner). In practice, the Government anticipates that merchants will not have all of their financial promotions individual approved by an authorised person. Instead, the Government's view is that third-party lender partners will provide pre-approved materials to merchants as part of the overarching commercial arrangements between the lender and the merchant. The proposed article 5 of the Draft Legislation seeks to achieve this by amending the Financial Promotions Order.
- Pre-contractual requirements: The pre-contractual disclosure requirements within the Consumer Credit Act 1974 ("CCA") will be disapplied to credit agreements which will be brought into regulation. As such, the corresponding sanction of unenforceability without a court order for failing to comply with those requirements will not be applicable. Instead, a proportionate FCA rules-based regime will be introduced. The proposed article 2(3) of the Draft Legislation disapplies section 55 CCA for agreements which will be brought into regulation.
- The Financial Services (Distance Marketing) Regulations 2004 ("DMRs"): article 4 of the Draft Legislation will disapply the DMRs for unauthorised merchant brokers where information is disclosed by authorised lenders in accordance with the FCA's rules on distance marketing for authorised persons.
- Small agreements: Given that BNPL is frequently used for agreements below £50, article 2(2) of the Draft Legislation would substitute a new section 17(1)(a) into the CCA which specifies that newly regulated agreements which do not exceed £50 are not small agreements. This would have the effect that provisions of the CCA would apply to newly regulated agreements of any value once they are regulated.
Transition to FCA Regulation
The Government has been working closely with the FCA in developing the regulatory regime for credit agreements to be brought into regulation. It is their intention that shortly following the publication of the Government's response to the CP, the FCA will publish a consultation on its proposed rules for firms which provide agreements that will be brought into regulation.
In order to allow sufficient time for the FCA to consult on and put in place the relevant architecture for the new regulatory regime, and for firms to take the necessary steps to meet the requirements of the amended regulatory framework, the Government intends to put in place a transition period from the point at which, subject to Parliamentary approval, the amending legislation is made.
There will be a proposed temporary permissions regime ("TPR") to enable firms to continue to operate until they will need to transfer into the new regulatory regime and seek full FCA authorisation. Without a TPR, an unauthorised firm would have to suspend operations until it had completed the FCA's authorisation process. The intention is that firms in the temporary permissions regime will be deemed authorised by the FCA and as such, will be permitted to undertake the relevant regulated activities relating to newly regulated agreements and will need to comply with the relevant FCA rules. The FCA will be able to supervise these firms and take enforcement action against them if necessary.
The relevant regulated activities will be:
- entering into a regulated credit agreement as a lender;
- exercising, or having the right to exercise, the lender's rights and duties under a regulated credit agreement; and
- credit broking (for domestic premises supplier merchants that offer newly regulated agreements).
However, firms will only enter the TPR where they have:
- engaged in an activity (which will become a regulated activity on regulation day) prior to regulation day;
- registered for the TPR prior to regulation day; and
- paid a non-refundable registration fee.
The proposed legislative provisions which put in place the mechanism for the TPR regime are set out in Part 4 of the Draft Legislation.
Regulatory controls not included in draft legislation
HMT is aware that existing elements of the consumer credit regulatory regime will apply to newly regulated agreements (please see our previous Insight where we have referred to HMT's regulatory proposals for full details):
- Creditworthiness: The Government's view is that it is for the FCA to decide how the current rules need to be tailored for these products, although it has made clear that newly regulated agreements should be subject to a proportionate and tailored application of some of the FCA's current rules on creditworthiness assessments.
- Contents of agreements: The Government's view is that the current form and content requirements of regulated credit agreements in the CCA should apply to newly regulated agreements as this approach will provide an appropriate degree of friction for each transaction to ensure it strengthens consumer protection. The Government has sought feedback from stakeholders on this point.
- Arrears and defaults: Some stakeholders had pointed out that the current CCA requirements on post-contractual information, especially regarding timing of when this information must be sent, may need to be tailored for BNPL given their short-term nature. However, the Government's approach is that legislative change to timings of trigger points at which information must be sent is not necessary.
- Section 75 CCA: The Government has confirmed that the application of Section 75 of the CCA will remain as it is a strong and well-known consumer protection measure and should apply to newly regulated agreements. Therefore, the protections under this section will make a creditor jointly and severally liable for a supplier's breach of contract or misrepresentations for goods or services with a cash price of between £100 and £30,000.
- FOS Jurisdiction - HMT confirmed that newly regulated agreements should include the ability for consumers to access the FOS for issues concerning lenders. Whilst it is for the FOS to consider its case fees, the Government is engaging with the FOS to prepare an approach going forward.
Key points for merchants
Merchants who only offer currently exempt third party credit agreements which will be brought into regulation:
- can continue to offer those credit agreements to customers without needing any authorisation or licences from the FCA, unless they are domestic premises suppliers; and
- will need to have all financial promotions in respect of these agreements approved by an FCA authorised person.
HMT sought views regarding the Draft Legislation and the CP. The consultation period closed at 11.59pm on 11 April 2023.
After considering the responses, HMT will publish a summary of the responses and will set out the next steps, including timings. Following that, the Government will lay legislation when Parliamentary time allows, with the ambition that this will be during 2023.
To discuss any of the points raised in this article, please contact Sushil Kuner.
 The Financial and Markets Act 2000 (Financial Promotions) Order 2005
 HMT refines scope of regulation for BNPL