A large number of municipal workers are taking home a fraction of their pay due to unethical practices around so-called payroll loans.

In one case, a mother of two children, with an unemployed husband, had total loan deductions of R5 000 off her basic salary of R10 000. She had over R200 000 of debt with the credit providers.

Her sister approached the payroll officer of the municipality where she worked to question how the situation had occurred.

“The payroll officer said she had a very good relationship with the credit provider. She showed me pages of employees’ names from whose salaries the credit provider had instructed her to deduct payments. My sister’s was among hundreds of names.”

This started an investigation into how widespread this practice had become. It appears it is rampant, especially among municipal workers, so lenders know that the income is secure.

This information was handed to the Stellenbosch University Law Clinic, which then undertook an in-depth investigation. Last month, it issued its findings and recommendations to the National Credit Regulator and the Department of Trade, Industry and Competition.

The findings are damning. They uncover unethical practices and reckless lending, and raise questions about the motives of the employers and unions that enter into these agreements with credit providers.

The investigation found that lenders are bypassing the new, more onerous laws related to emolument attachment orders (garnishee orders), which include limiting the amount that can be deducted from an employee’s salary to a maximum of 25%.

According to senior attorney Stephan van der Merwe of the Stellenbosch University Law Clinic, “creditors pivoted to alternative methods to keep expanding their lucrative business enterprises by extending reckless loans while continuing to reap the benefits of wage garnishment.”

In its investigation, the Law Clinic found that some payroll deductions claimed more than 50% of a person’s monthly wages, leaving them with insufficient means for maintenance. In some cases, employees received zero income.

The report showed that credit agreements were not always accompanied by affordability assessments. Where affordability assessments were done, there seems to be some questions about the thoroughness and veracity of information that they contained, including failing to provide for reasonable living expenses.

It also found that there was lack of clarity around the fees and interest charged on these loans. The actuary involved in inspecting the statements was unable to accurately replicate the figures provided in some statements.

According to the report, when debtors default, the creditors determine what the outstanding balance entails and what amounts should be deducted. There is no third party involved or any way to confirm what the outstanding balance and deductions should be. This means the worker could find themselves paying in perpetuity.

In some cases, the loan deductions were disguised using union codes. “For example, a deduction on the salary slip of a debtor who is a member of the SA Municipal Workers Union (SAMWU) is identified as ‘X Finance SAMWU’, while the particular creditor had no affiliation to said union.”

It appears that the lenders are recycling the loans. A worker is granted a loan that is already unaffordable. Once they start to struggle to meet repayments, the payroll officer suggests that they take out a consolidation loan with the same, or another, credit provider and the term is extended.

“Creditors whose loans are settled in this manner (by receiving payment of the full due amount from another creditor), eagerly extend more loans to the same debtor,” said Van der Merwe.

This is despite the fact that the debtor was already over-indebted on the first loan. “Further loans were therefore granted, despite debtors’ struggles to meet existing responsibilities. This information was available to the creditor, who arranged for the settlement of the previous outstanding loans.”

Unethical practices extend to credit insurance

The report found that credit providers were overcharging on credit insurance.

“The actuary found that the cost of the credit insurance, added to these loans by creditors, is based on the full initial loan amount and not the decreasing outstanding balance. As a result, the total insurance premium is excessive relative to the size of the loan – R32 000 insurance cost for a loan of R97 000. Had the premiums been based on the decreasing outstanding balance of the insured loan, the total cost would be R19 000 instead of R32 000.”

As Van der Merwe points out, when loans are granted on a reckless basis, debtors are likely to default on payments. The unethical practices of these credit providers set people up for failure.

“Debtors seem to be lured into debt traps from which they are unable to escape as outstanding loans are simply incorporated into new loans, which opens the way for yet more loans to be extended to these debtors.”

He said this was only possible by using the unregulated payroll deduction mechanism. He concludes that legislation needs to change to put a stop to these unethical practices.

“The mechanism should not serve as an incentive to unscrupulous creditors to gain financial windfall by inflating reckless loans with disproportionate costs, based on, inter alia, high rates, initiation fees, monthly service fees and credit insurance. The prevailing lack of regulation in this regard is quite simply irresponsible.”

The Credit Ombud is still investigating this issue.

This article first appeared in City Press.