Beware of payday advance promises
High energy and food prices are particularly bad for people who live from payday to payday. Around 22% of adults in the UK have less than £100 in savings, according to a government-backed survey. In the United States, around 20% of households say they could only cover their expenses for two weeks or less if they lost income, according to the consumer protection regulator.
In this context, many employers want to do something to help their staff become more “financially resilient”. An increasingly popular idea is to partner with companies that offer “earned wage access” or “early wage advance plan” products. These companies connect to an employer’s payroll to allow employees to pre-debit a portion of their upcoming salary.
Companies usually charge a fee per transaction (usually between £1 and £2 in the UK) which is paid by the employee or employer. The products are largely unregulated as they are not considered loans. They are proliferating in the UK, USA and a number of Asian countries like Singapore and Indonesia.
Revolut, the UK-based banking app, has also entered the market, telling employers it’s a way to “boost the financial wellbeing of employees, at no cost to you”. Data is sparse, but research firm Aite-Novarica estimates $9.5 billion in early paychecks in the United States in 2020, up from $3.2 billion in 2018.
In a world where many employers no longer offer one-time employee advances, these products can help staff deal with unexpected financial emergencies without having to resort to expensive payday loans. Some of the apps like UK-based Wagestream, whose funders include charities, combine it with a suite of other services like financial coaching and savings. There is also value in the clear information that some of these apps provide to workers about their earnings, especially for shift workers.
But for businesses that don’t offer these broader services, the question arises as to whether payday advances actually promote financial resilience. If you deduct from the next paycheck, you may miss again the following month.
Data from the Financial Conduct Authority, a UK regulator, suggests users take advances between one and three times a month on average. While data shared by Wagestream shows that 62% of its users do not use the payday advance option at all, 20% use it once or twice a month, 9% use it four to six times. and 9% tap it seven or more times.
In addition to the risk of being trapped in a cycle, if you pay a flat fee per transaction, the cost can quickly add up. The FCA has warned that there is a “risk that employees may not appreciate the true cost” over interest rate credit products.
On the other hand, Wagestream told me that frequent users were not necessarily in financial difficulty. Some users are part-time shift workers who just want to be paid after each shift, for example. Others seem to want to create a weekly pay cycle for themselves.
Wagestream users on average transfer lower amounts less often after a year. The company’s “end goal” is for all costs to be covered by employers rather than workers. Some employers already do this; others are considering doing so as the cost of living rises.
Regulators have noticed the market but have yet to get involved. In the UK, the FCA’s Woolard study last year “identified a number of risks of harm associated with the use of these products”, but found no evidence of “crystallization or widespread harm for consumers”. In the United States, the Consumer Financial Protection Bureau should reconsider whether any of these products should be treated as a loan.
A good starting point for regulators would be to collect better data on the scale of the market and how people are using it.
Employers, on the other hand, should be wary of the idea that they can offer “financial well-being” on the cheap. Companies that believe in the value of these products should cover the costs and keep tabs on how staff are using them. They might also offer payroll savings plans to help people build a financial cushion for the future. Nest, the UK state-backed pension fund, has just concluded an encouraging trial of an opt-out approach to employee savings funds.
If employers don’t want to go down this road, there is a very valid alternative: pay staff a living wage and let them do it.