“Regulation has to catch up with Innovation”
Henry Paulson, U.S. Secretary of the Treasury
Kenya has been at the forefront of financial innovation since the launch of mobile money transfer systems in 2007. In the last few years, digital lending in Kenya has grown exponentially because of high mobile phone penetration, adoption of mobile money transfer, and ease of use and convenience.
Because digital lenders typically offer unsecured loans to customers, the high risk is usually paired with high-interest rates and massive hidden costs which strain the ability of borrowers to repay and thereby plunge them into a debt trap. In addition, digital lenders have taken to unconventional debt recovery mechanisms, such as debt shaming.
To compound this problem, majority of the digital lenders are unregulated, unlike some of the pioneer digital lenders which are regulated under the Banking Act. This meant that measures such as the Interest rate cap passed in 2015 did not apply to most digital lenders- since the measure applied only to deposit-taking financial institutions.
Furthermore, attempts from within the subsector to self-regulate have met various challenges, chiefly, insufficient uptake. This wild west phenomenon has led to a proliferation of obscure digital lending platforms that operate on the fringes of the law.
To cure this problem, on 7th December 2021 the President signed into law the Central Bank of Kenya (Amendment) Bill. The principal object of the Bill is to amend the Central Bank of Kenya Act to provide for licensing of digital credit service providers, who are not regulated under any other law. As such, the Central Bank will have an obligation of ensuring that there is a fair and non-discriminatory marketplace for access to credit. The Act, which came into force on 23rd December 2021, mandates the Central Bank to publish regulations governing non-deposit-taking digital lenders by 23rd March 2021.
“Regulations force people to do better”
To this end, the Central Bank promptly released the draft Central Bank of Kenya (Digital Credit Providers) Regulations, 2021 and invited interested members of the public to provide comments for consideration before the finalized Regulations are published.
The draft Regulations require, among other things, that:
i. Digital lending may only be conducted by licensed digital credit providers.
ii. Existing unregulated digital lenders must have been licensed by the Central Bank before 23rd September 2022 to continue in operation.
iii. Applicants for licensing must have a registered office in Kenya.
iv. Applicants for licensing must disclose to the Central Bank the source and evidence of their funds.
v. Applicants for licensing must submit a credit policy, code of ethics and market conduct.
vi. Applicants for licensing must obtain a Certificate of compliance with the Data Protection Act.
vii. Applicants for licensing must prove compliance with Part VII of the Consumer Protection Act.
viii. Applicants for licensing must present detailed internal data protection policies and procedures.
ix. Significant shareholders, directors and the CEO of a digital credit provider must meet the Fit and Proper criteria spelt out in Schedule 3 of the Regulations.
x. All Licensing decisions by the Regulator must be made within 60 days of application.
xi. A digital credit provider shall practise sound corporate governance principles based on ethics and integrity, good reputation and legitimacy, sound risk management and compliance with the law.
xii. A digital credit provider shall ensure the confidentiality of customer information and transactions.
xiii. A digital credit provider shall not advance digital credit to a customer unless it has first taken reasonable steps to satisfy itself on the customer’s ability to repay the credit facility.
xiv. A digital credit provider shall not in the course of debt collection engage in any of the following conduct against the customer or any other person—
a. use of threat, or violence or other criminal means to physically harm the person, or his reputation or property;
b. use of obscene or profane language;
c. make unauthorized or unsolicited calls or messages to a customer’s contacts;
d. improper or unconscionable debt collection tactic, method or conduct.
e. any other conduct whose consequence is to harass, oppress, or abuse any person in connection with the collection of a debt.
xv. A digital credit provider shall establish a complaints redress mechanism, including a channel for communicating customer complaints and shall ensure proper communication of this mechanism to its customers. Further, a customer complaint shall be addressed within thirty days of a customer reporting a complaint to a digital credit provider.
xvi. A digital credit provider may not increase charges or limits or have a provision in the credit agreement that purports to vary credit terms without the customer’s consent.
xvii. A digital credit provider may not change its pricing model or parameters without the prior written approval of the Bank.
xviii. A digital credit provider may not collect deposits from customers.
xix. The Central Bank will be required to publish an annual list of digital credit providers.
In addition to the above, the draft Regulations also provide for Consumer protection, procedures in credit information sharing, anti-money laundering and combating the financing of terrorism, conditions and procedures for suspension and revocation of licence.
The Regulations also prohibit false advertisement and place a limit on interest recoverable from non-performing loans, including a provision that the interest recoverable may not exceed the outstanding principal.
The effect of these amendments
The Central Bank has been handed wide powers to license and supervise digital lenders in much the same way as it supervises banks, and is slowly but surely becoming a Super Regulator for the financial sector.
For customers, this means that there will be avenues for redress of grievances as they won’t be dealing with shadowy overseas entities.
For the digital lenders, it means that they will now have the official recognition they have been operating without for years. With the publication of an annual list of licensed digital lenders, the industry will streamline, and will likely see some consolidation, whereby some of the over 400 mobile lending apps available to Kenyans will shut down altogether or reorganize to continue operating under the new regime. The industry is also likely to see more foreign direct investment, for instance from tightly regulated pension funds, due to the enhanced certainty in the legal environment.
Whereas the draft Regulations address substantially the societal concerns surrounding digital lending, they may also be construed as having gone too far. It remains to be seen what feedback will be received from stakeholders, who had welcomed regulation but cautioned against overreach. The Digital Lenders Association of Kenya (DLAK), for instance, had stated shortly after the signing of the Bill that digital lenders coming under CBK regulation is a win for consumers and the Fintech community. During the public participation stage of consideration of the Bill, however, various stakeholders stated very strongly that prudential requirements should not be imposed on digital lenders since prudential requirements exist to protect customer deposits and the funds used by digital lenders are not coming from customer deposits, but rather investors’ capital. Conversely, the Regulations are big on customer consent requirements for procedures such as information sharing but lite on addressing the real issue of duress by a dominant party when requiring this consent; indeed digital lenders already seek consent from the customer for procedures they undertake, which the customers are obliged to accept due to desperation.
What all this means for your business
If you are in the business of offering credit to Kenyans via digital channels, you must apply to be licensed by the Central Bank in order to continue in business from 23 September, 2022. It is therefore prudent to kick-start the process by reviewing/auditing your existing business model, practices and procedures against the Regulations and re-aligning your business accordingly.
It may also be of interest to submit a memorandum to the Regulator pinpointing the regulations that you think should be relooked.
The team at TripleOKLaw LLP is uniquely equipped to guide the process of licensing application and compliance. For more information, please reach out to our Real Estate and Banking practice team, through partner Tom Onyango, MBS.