- the regulatory distinction between ‘consumer leases’ and ‘credit contracts’ used in the National Credit Code is flawed and has created opportunities for regulatory arbitrage (defined below) which has harmed consumers.
- the authors propose a different distinction, based on whether a consumer lease can be considered a ‘true lease’ or a ‘finance lease’.
- the introduction of the Consumer Credit Legislation Amendment (Enhancements) Act in 2013 should have significantly reduced the opportunities for regulatory arbitrage by consumer lease providers. However, it has also created two parallel sets of regulation to govern credit and lease transactions which are substantially the same.
A flawed distinction – right or obligation to purchase the goods
The National Credit Code (the Code)[i] regulates both ‘consumer leases’ (such as rental of white goods and furniture) and ‘consumer credit contracts’ (such as home loans and credit cards), though they are regulated differently. The Code distinguishes between these two products based largely on whether a consumer has a right or obligation to purchase the goods. If the consumer has a right or obligation to purchase, the Code regulates the transaction as a credit contract. If there is no right or obligation to purchase, the Code treats the transaction as a consumer lease. Consumer credit contracts are more heavily regulated than consumer leases.
The authors argue that this distinction is flawed and that it has created opportunities for regulatory arbitrage—that is, an opportunity for businesses to manipulate the structure of their contracts to exploit a difference between the substance of the transaction and its regulatory treatment. In this case, the regulatory arbitrage is that lease providers have designed contracts which are in substance credit contracts but are only regulated as consumer leases (or may not be regulated by the Code at all). This has ‘led to numerous instances of lessors actively misleading consumers about whether they would obtain ownership of the goods at the end of the lease’ (pp 241-243).
Regulatory arbitrage and consumer harm
The article explains a number of methods lessors have used to ensure that consumers can effectively accrue a right to own the goods being leased (like a credit contract), but still be regulated as a consumer lease. For example, lessors may provide that the consumer has a right to purchase ‘similar’ goods to the ones being leased, or that consumers can request that the goods be given as a gift to their spouse. Lessors may also try to avoid regulation altogether by structuring their lease as an ‘indefinite’ or ‘short term’ lease, which is exempted from regulation under the Code (264-5).
The authors explain that, while regulatory arbitrage is not always harmful (p 262), in this case, it has led to consumer detriment and higher costs:
‘…lessors could in effect, contract out of the higher costs associated with more heavily regulated leases… In addition, the substantially lower disclosure requirements applicable to consumer leases and the absence of those requirements in the case of exempt leases significantly impeded the ability of consumers to ascertain the cost of those types of leases and, consequently, to compare leases with alternatives. This very likely led to consumers paying more under their leases than they might otherwise have been prepared to do … It is unsurprising that consumer leases are relatively expensive for consumers and have generated significant returns for lessors (pp 266-7).
A better definition – true leases and finance leases
The authors propose that the Code should abandon the ‘right or obligation to purchase’ distinction and instead distinguish between ‘true leases’ and ‘finance leases’ (p 243-5):
- In a ‘true lease’, the business providing the lease retains title to the goods as well as most risks and benefits incidental to ownership. True leases are of a short term compared to the useful life of goods, as they are intended to be returned and leased out again to other consumers. Typically the amount paid for lease will be less than the value of the product.
- In a finance lease, the lease provider retains title to the goods, but the lessee shoulders the risk, including depreciation. Finance leases usually last for the whole or a major part of the useful life of the goods, and the consumer pays an amount in excess of the value of the goods. This being so, the consumer is in substantially the same position as a person buying the goods on credit except that they do not obtain title.
The authors propose that finance leases should be regulated in the same way as credit contracts, and true leases should not be regulated by the Code at all. This would ensure regulation focuses on the substance of the transaction rather than its form and avoids having parallel regulation for different finance leases depending on the arbitrary distinction of whether or not they provide a right or obligation to purchase (pp 250, 260-1). The exemption of ‘true’ leases from regulation under the credit code is effectively already in place, because the Code doesn’t regulate leases where amount paid by the consumer is less than value of goods (p 245).
The authors find that the introduction of the Consumer Credit Legislation Amendment (Enhancements) Act in 2013 should have ‘significantly reduced the opportunities for regulatory arbitrage’ (p 268) by largely harmonising the regulation of consumer leases and credit contracts. The key differences remaining are that consumer lease providers are not subject to pre-contractual disclosure or to caps on cost that apply to many credit products (p 260-1).
But given the Enhancements Act changes accepted that similar regulation should apply across consumer leases and consumer credit,
‘it is difficult to argue that [consumer leases and credit contracts] are in some way so different… that they are deserving of separate regulation … A simpler and more efficient solution to regulatory arbitrage and the consumer harm flowing from the disparate regulation of consumer leases and credit contracts might have been to treat consumer leases as credit contracts, rather than now erecting two parallel—and largely equivalent—regimes to govern them separately’ (pp 260-1).
[i] The National Credit Code is Schedule 1 of the National Consumer Credit Protection Act 2009