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Wage advance schemes: Beneficial or damaging to workers?

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Workers making use of employer salary advance schemes to access wages before payday have been warned that relying on them could lead to problem debt, while others say they “do have a place” in the market.

The rising cost of living could lead more people to make use of the schemes, according to the regulator, the Financial Conduct Authority.

Salary advance schemes typically allow employees to access part of their monthly income before payday in exchange for a flat fee of around £1 or £2.

Specialist scheme operators such as Openwage, Fastpaye, FlexEarn and Wagestream are not currently regulated by the financial watchdog as technically they are not giving loans to employees using their services.

But the FCA observed early salary access is “often promoted as an alternative to high-cost credit”.

As part of its annual report, it stated: “When used in the right way, ESAS [Employer Salary Advance Schemes] can be a convenient way for employees to deal with unforeseen expenses and occasional short-term cash flow.

“However, growing demand for the product could increase in light of the rising cost of living, particularly from those consumers and employees who may have limited credit options.”

Peter Tutton, head of policy at debt charity StepChange, said if well-designed, early salary access schemes “have the potential to be of some benefit to those who might otherwise turn to more unsustainable forms of borrowing”.

But he added: “These products do carry some risks, including the lack of effective affordability checks, a lack of transparency about cost, potential harms associated with dependency and repeat use, a lack of credit information visibility and default priority that may not be in the borrower’s interest.”

Fluctuations in income and financial difficulty

Last year the FCA published the Woolard Review of change and innovation in the unsecured credit market, which concluded that given how small the early salary access market is, it would be disproportionate to introduce a bespoke regulatory regime.

The review did recommend this should be kept under review in the light of any emerging issues. And the FCA said that so far, it had not seen any evidence of harm emerging but is “monitoring this closely”.

Tutton said: “The risk of poor outcomes from using these schemes is higher for certain groups of employees, such as those with low financial literacy, those in or at risk of poverty, or those with a fluctuating income.

“Risks of poor lending outcomes appear highest where products are targeted at ‘gig economy’ workers whose income is unpredictable.”

He also warned that workers using wage advances were often unaware it would affect their Income Tax, National Insurance, and assessment of earned income for Universal Credit payments.

“It may prompt significant unexpected fluctuations in income that could cause or contribute to financial difficulty,” Tutton said. “Employers may not be effective in assessing the suitability and benefits of products, particularly if they have less strong connections with workers and employees.”

Not all employers offer early salary access schemes, although it is becoming a more frequent addition to company benefits packages in both the public and private sector, according to employee benefits consultancy Mercer.

Its recent Financial Wellbeing Index report found that employer support for more direct workplace financial support or debt solutions was an important and growing area, now offered by around one in three organisations.

Salary-deducted loans are currently the most common debt-related employee benefit, closely followed by access to salary or pay advances.

The report also revealed a clear trend between early access use and average salary.

“Firms that pay most of their employees approximately the median UK salary or less are much more likely to have implemented a debt solution than those with higher average salaries,” the report stated.

Jeremy Milton, a principal in Mercer’s wealth team, said: “From an employee benefit perspective, we know that some employers provide loans for season tickets, education, hardship and other reasons.

“If these are provided interest-free, they can be tax-free up to £10,000 so are quite an attractive benefit versus some of the alternatives.”

But he added that while he was “open-minded” about early wage access schemes, “when launched in isolation as a tactical solution they could, if not used correctly, potentially risk doing more damage than good or create new bad behaviours”.

How does early wage access work?

Access to salary or wage advance companies are facilitated by the employer, so employees can register or apply for an advance through a linked online portal or app to access part of their salary earlier in the month rather than waiting until their scheduled payday.

As an employee is effectively borrowing their own money, they are technically not loans and currently it’s not counted as traditional credit.

This means employees are not credit checked and there is no interest payable, although a flat fee of a few pounds is paid every time an advance is taken.

This may or may not represent good value as the cost of borrowing depends on the advance taken and the number of times it is used over a period, Milton warned.

There are limits on the maximum advance, usually 40% or 50% of the monthly wage level, with most schemes imposing a limit on the number of times it can be used in a certain period.

Milton said: “In general, our view is that while they can be beneficial to some employees on certain occasions, wage advance programmes are mostly targeting the symptoms of poor financial wellbeing and not helping to improve the root cause.

“Even though they are usually significantly cheaper than some other short-term high interest alternatives, they could be viewed as endorsing the behaviour of paying a small fee for early access to money.

“In the long-run, this behaviour will negatively affect employees’ finances through repeated payment of fees for small advances compared to arranging or using an interest-free overdraft with their bank.”

He added: “We have seen little hard evidence so far to prove they help people budget better over the long-term or effect real change, but we do acknowledge they have a place and are preferable to other possible solutions, such as payday loans.”

In its latest statement, the FCA noted that the main ESAS providers are developing a Code of Practice in line with one of the Woolard Review recommendations.

“We will continue to engage with the providers as the code develops,” it added.