Tax Tips: How to fix credit rates

At long last the Department of Trade and Industry (DTI) is taking a serious look at the regulations which prescribe the way in which mortgages are promoted. Last month the DTI published a consultation paper, "Clarification and Simplification of UK Consumer Credit Law".

If the proposals are introduced, it will end years of confusion for the consumer. The concept of the annual percentage rate of charge, more commonly known as the APR, was introduced in 1974. It was designed as a yardstick representing the true cost of credit including, for example, any arrangement fee and the cost of taking legal charges to secure the borrowing.

In 1980 regulations were introduced requiring the APR to be shown in all credit advertisements featuring an interest rate. The message was clear and precise: because lenders "must calculate their APR according to the same special rules, you can compare one type of credit with another". In a nutshell, "the lower the APR, the better the credit deal".

In 1989 these regulations were "simplified and modernised". Sadly, there was no attempt to cover new products - mainly fixed mortgages - and there was a complete disregard for the new ways in which credit was being promoted. Looking back, it is incredulous Westminster, the DTI and the OFT did not recognise that promoting credit on TV is different from advertising in the written word.

With no guidelines as to how to promote fixed-rate mortgages the industry devised its own method. It was decided to base the APR on the fixed rate for the period that the rate was fixed, followed by the lender's standard variable rate for the rest of the mortgage term. This had the blessing of Lacots, the organisation of the nation's Trading Standards Officers (TSOs).

All went well at first. Then one or two lenders argued that a fixed mortgage could be followed by another. They therefore based the APR for their fixed-rate mortgages on the fixed rate for the entire term of the mortgage.

NatWest was one of the lenders who took this new approach. A TSO in Devon took exception and successfully brought a prosecution, but this was overturned in June 1993 by the High Court. The nation's TSOs were shell-shocked, especially as their counsel warned that this method could result in some lenders securing an advantage by offering a very low rate of interest for a short period and calculating its APR on that basis for the entire loan.

Despite its concerns, Lacots issued a statement to its members suggesting that it would be acceptable for lenders to calculate the APR for credit offers where there was an initial period of discount, on the basis that the discount applied to the entire period of the loan.

Enter the period of deeply discounted mortgages - only 1.49 per cent (APR 1.5per cent) for first 12 months. As the rate would revert to the borrower's variable standard rate after a year, logically the yardstick should have been nearer APR 9 per cent.

The DTI is now proposing that there should be consistency, with lenders basing their APR on the discounted rate for the period of the lower rate and on their standard variable rate for the remainder of the time.

The DTI is to be congratulated on its proposals. However, its consultation should be extended to also cover the way credit cards are promoted. Currently, it takes a genius to decide which piece of plastic is the better buy. Let's have a level playing field for all forms of credit - not just part of it!