Financial distress and mental health
A mental health perspective on financial distress
This month the FCA published an Occasional Paper asking whether we can predict which consumer credit users will suffer financial distress. The conclusion is, that while some financial distress is unpredictable due to unforeseeable life events like relationship breakdown or unemployment, the amount of debt a person has relative to their income (the ‘debt-to-income ratio’) is a strong predictor of whether a person will suffer financial distress. The higher the debt-to-income ratio, the higher the risk of financial distress.
These findings will undoubtedly be useful in helping financial services firms to prevent poor outcomes for consumers. Understanding the factors behind financial distress means firms can put in place better affordability assessments that help prevent unsustainable borrowing and subsequent financial distress.
“I took out a credit facility of £330,000 which was crack cocaine to someone who spends when feeling low. It seemed there was no limit to my ability to spend, ‘till it all went wrong.’”
However, for people with mental health problems, the debt-to-income ratio is an insufficient way of predicting and preventing financial distress, especially as mental health problems so often lead to a drop in income. One in four people in the UK experience a mental health problem each year. Much like divorce or unemployment, we can’t predict exactly if or when each of us will be affected. But our research suggests that patterns of potentially damaging financial behaviour during a mental health crisis a
re predictable, and this should make them preventable.
In our recent survey of people with lived experience of mental health problems, 93% said that during a period of ill health they spent more than usual and 59% took out a loan they wouldn’t otherwise have taken out. This crisis spending causes noticeable financial detriment and, reinforces the negative cycle between mental health problems and financial difficulties. While better affordability assessments may help to avoid some financial distress, we believe more sophisticated and thoughtful interventions will be required to predict and prevent financial distress among people with mental health problems.
Better analysis of data to understand financial behaviour
While there are many different psychological and emotional drivers of crisis spending, our research shows that there are observable common indicators that a person’s financial behaviour has changed. The clearest indicator appears to be a large increase in the number of transactions carried out over a short time. Another key indicator is increased spending late at night. Both of these could be used to identify possible crisis spending that could be indicative of a mental health problem.
Banks already monitor spending on accounts for financial crime activity, pre-arrears work and much more. This capability could be used to create meaningful interventions to prevent crisis spending by customers experiencing mental health problems. While the additional affordability checks explored in the Occasional Paper would help households avoid becoming overstretched, this will only go so far to help people with mental health problems who often fund crisis spending from their savings. Giving consumers with mental health problems help to monitor their financial behaviour offers a much better chance of reducing financial distress caused by crisis spending than affordability assessments alone.
Gaps in the affordability assessment process
While better affordability assessments by individual firms would undoubtedly help prevent consumers take on unaffordable debt, there are also system wide gaps that need to be addressed to help prevent people with mental health problems from suffering financial distress. Currently, people with mental health problems can put a note on their credit file explaining their situation and requesting they are not lent to, but there is no requirement for financial firms not to lend to them. What’s more, some credit providers, like logbook loan or guarantor loan firms, don’t even look at credit files and so would not see these notes at all, leaving customers with mental health problems unable to protect themselves from taking out these forms of high-cost credit when unwell. For these gaps to be filled there needs to be a consistent industry wide approach to assessing affordability and carrying out background checks.
These are just two of our suggestions to create an environment that gives people with mental health problems greater control over their finances and helps prevent financial distress. Our consultation on regulating spending during periods of poor mental health ‘In Control’, is open until October 10, and we would love to hear from you if you have any views or ideas on this topic.