There is a common misconception in the market that the National Credit Code regulates all individual credit loans or leases.
This is not necessarily the case, so we have put together some basic tests to determine whether or not a transaction is regulated by the National Credit Code.
The starting point in the analysis is section 5 of the National Credit Code.
1. The entity test
The code only applies to the provision of credit to a natural person or strata corporation.
The expression "natural person" means just that – a person, whether acting in their own capacity or as trustee for another person.
The expression "strata corporation" refers to the type of entity established to hold and deal with common property in land-related transactions.
If the person to whom the credit is provided is not a "natural person" or a "strata corporation", then the code does not apply to the provision of credit.
This means that loans to public and private companies and companies limited by guarantee will not meet the "entity test" and will therefore not be regulated by the code.
Even where the loan to a company is secured by a mortgage or guarantee given by an individual, the loan is still not regulated by the code. The determining factor for the entity test is the identity of the "borrower".
We mentioned "trusts" above. A loan to a trust may or may not be regulated by the code – it all depends on whether the trustee is a natural person or acorporation. If the trustee is a natural person, then the transaction passes the entity test and provision of credit can be regulated, as long as the transaction also meets the "purpose test". If the trustee is a corporation (other than a strata corporation) then the provision of credit will never be regulated.
With a self-managed superannuation fund, if the trustee is an individual the loan will pass the entity test, and if it also passes the purpose test it will be regulated. If there is a corporate trustee, the loan to the SMSF will never be regulated.
2. The purpose test
Not every provision of credit to a natural person or strata corporation will be regulated under the National Credit Code.
Before the provision of credit will be regulated the transaction must also pass the "purpose test".
For the purpose test to be satisfied, a majority of the credit must be provided or intended to be provided for one of these three purposes:
1) for personal, domestic or household purposes
2) to purchase, renovate or improve residential property for investment purposes
3) to refinance credit originally provided for residential investment purposes
Credit provided for investment purposes is exempt – unless of course the investment is in residential housing.
There are many loans to individuals that will not be regulated by the code by virtue of the "purpose test". Some examples include:
- a loan to an individual to purchase a motor vehicle for work purposes
- a loan to an individual to purchase shares for investment
- a loan to an individual to purchase equipment for use in a business
- a lease or hire purchase agreement for business equipment
3. Other tests to determine if the code applies
The entity test and purpose test aren’t the only hurdles that have to be jumped. Section 5 of the code also mentions two other conditions for the provision of credit:
- a charge is made for providing the credit
- the person providing the credit is doing so as part of a business
Private lenders often try to avoid application of the code by asserting that they are not providing credit as part of carrying on a "business". That argument meets with mixed success. The consequences of getting it wrong are severe.
4. Presumption that the code applies
There is a presumption that the code applies to the provision of credit unless the contrary is established. A business purpose declaration goes some way to proving to the contrary.
5. Credit to which the code applies
The code applies to provision of credit. That includes:
- consumer leases (subject to certain exceptions)
- sale of land by instalments
- sale of goods by instalment
6. Exemptions from the code
Section 6 sets out certain types of credit that are specifically exempt from the provisions of the National Credit Code.
The regulations also exempt certain transactions and organisations from operation of the code. These exemptions are generally contained in Part 7.1 of Chapter 7 of the National Consumer Credit Protection Regulations 2010.
When considering whether or not the National Credit Code applies to the provision of credit, it is important to remember both the entity test and the purpose test and also have regard to the other extensions, exemptions and qualifications in relation to whether or not the National Credit Code applies to a particular transaction.
Richard Williams, partner, Hunt & Hunt
Richard is a partner in Hunt & Hunt's National Banking & Finance group. He has been practicing banking law for over 25 years with particular emphasis on consumer credit, compliance and government relations.
Richard consults on compliance and legislative issues, which has given him a unique view of the industry, the issues, banking law and government relations.
He also provides advice on lending, recoveries, legislative change, compliance and general corporate matters. He has particular expertise in consumer credit, privacy law, anti-money laundering, finance broking and other legislation affecting financial institutions.
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