Do employment-based lending programs mark a paradigm shift in consumer credit?

The financial exclusion faced by the underbanked is a long recognised problem but one that only payday lenders have so far explored. In the current aftermath of the latest financial crisis more than 1.4 million adults in UK are cut out of mainstream credit products, while more than 7 million often pay a poverty premium when using them.

This is mainly because traditional lending models remain unforgiving to those with impaired and thin credit histories, basing their judgment on horizons of up to six years. Individuals with such credit histories are therefore left with no alternative but to turn to unconventional lenders such as high cost payday lenders and pawnshops to deal with life’s unforeseen financial needs.

A never-ending debt spiral

As a result, they enter a never-ending debt spiral with no clear answer as to how they could improve their financial situation. Research has shown that up to 44% of the workforce in UK do not have enough savings set aside to deal with life’s emergencies.

It is therefore no longer news that the vast majority of low pay employees face financial problems or are very susceptible to them. Employers have also come to acknowledge the impact that financial health has on their employees’ productivity and engagement.

As a result, recent years have seen the adoption of employee financial wellbeing programs in the workplace in the form of advice and provision of information. Nonetheless, these programs do very little in terms of offering tangible and practical financial options for the immediate remedy of an employee’s financial burdens.

The advent of payroll-deduction lending

Today there is a viable alternative, which needs to be embraced and provided by employers. A social innovation in the Fintech space has seen the creation of a payroll-deduction lending product. This allows employers to offer, as part of their employee voluntary benefit packages, low cost credit at a controlled level against their income.

As a result, employees are able to consolidate high cost debt into a more manageable repayment schedule deducted through their payroll with their job tenure acting as a de facto substitute for low (or no) credit history.

Unlike payday loans, employee benefit loans are spread over longer repayment terms at a much lower cost, comparable to that available to the banked population. Additionally, they are more sympathetic to employees past financial crises and in return put a lot of emphasis on current affordability levels.

Lower risk equals lower cost

Salary-deduction loan providers are able to offer these loans at much lower cost to the borrower due to the additional security provided by the payroll deduction aspect of the product.

By adopting these programs employers can help improve the credit score of the financially distressed among their workforce and ultimately allow them to gain access to the full array of financial services offered by mainstream lenders.

Equally, employers can benefit from the increasing productivity and engagement of a financially fit workforce and enhanced employee loyalty particularly in low pay industries that incur the highest costs of low employee retention and high turnover levels.

Employment-based loans could therefore provide a powerful pathway to financial autonomy for the traditionally underbanked workforce.

Marina Theodosiou is head of decision science at SalaryFinance.

This article was provided by SalaryFinance.