OFT investigates payday loans
Payday loans and door step loans are to be investigated with the Office of Fair Trading (OFT) launching a review into the 'high cost credit sector'.
It is estimated the areas of high interest loans is worth £35 billion a year.
Loans tend to be for small amounts and for short periods - at very high interest rates.
Customers also tend to be on low incomes and have little access to credit elsewhere.
The investigation was kicked off by the government's consumer white paper today, which is looking at providing greater consumer protection.
John Fingleton, OFT chief executive, said: "Low income consumers struggle to access credit and frequently have to resort to expensive, high interest options, and this has increasingly been an issue during the economic downturn.
"These consumers are vulnerable to exploitation. This study will look at the way this sector works to examine whether they get a fair deal, and whether outcomes in the market might be improved."
The payday loan industry defends its high charges as it offers loans for a matter of days. This creates a situation where APRs can even be as high as 2000 per cent, but the loans are never provided over a whole year.
Typical payday loans can see £80 borrowed and £100 paid back.
Tim Moss, head of loans and debt at moneysupermarket.com, warned against measures to cap the level of interest rates on loans.
"The white paper completely misunderstands the concept of APR, and we now need to accept that APRs are not fit for purpose when comparing the cost of loans," he said.
"Many of the smaller and less traditional lenders will charge a monthly or even weekly interest charge with the understanding that the loans are not a long term debt, but APR is a yearly calculation.
"We need to understand that it is pointless to compare the cost of a payday loan with, for example, the cost of a bank overdraft - as the type of consumers who use payday loans don't have access to mainstream banking and overdrafts."
The OFT investigation will look at competition in the market and whether firms are truly competing to offer the best deals - or happy to maintain high rates as the recession increases demand for quick credit.
The review will also see if consumers have the appropriate level of protection and are given the information they need to make well-judged decisions.
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