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Loans & Credit

Interest rates on loans hit nine-year high

Interest rates charged on personal loans have hit a nine-year high as banks continue to shy away from unsecured lending, research showed today.

The average rate for a £5,000 loan repaid over three years is currently 12.4 per cent, despite the Bank of England base rate being at a record low of just 0.5 per cent, financial information group Moneyfacts.co.uk said.

The last time loan rates were this high was in 2001, when a comparable deal averaged 12.5 per cent, but the base rate was 12 times higher at 6 per cent.

Interest rates on loans have been forced up by a combination of a lack of competition in the sector as banks become increasingly reluctant to do unsecured lending, and higher pricing for risk in the face of rising default rates.

Three-quarters of banks now restrict personal loans to their existing customers only, and nearly all of them employ so-called risk-based pricing, under which the rate charged is tailored according to the borrower's creditworthiness.

The stagnation in the personal loan market is illustrated by figures released by the Bank of England today, which showed that borrowing through both loans and overdrafts contracted during all but one month of 2009.

Michelle Slade, spokeswoman for Moneyfacts.co.uk, said: "Banks don't want to lend on personal loans as, unlike on a mortgage, there is no security that a loan debt will be repaid.

"They are pricing that risk into their rates and they are trying to deter people from taking them out.

"In such a risk-averse market, lenders are only offering loans to the most creditworthy applicants and then at a premium."

The best buy rate offered on a personal loan is also at a nine-year high of 8.9 per cent, offered by Alliance & Leicester on a loan of £5,000 taken out over three years.

This compares with a rate of just 5.7 per cent in 2006, and is the highest rate to top the tables since Northern Rock was leading the field with a deal of 9.4 per cent in 2001.

Moneyfacts said the lack of competition in the market was highlighted by the fact that the usual post-Christmas "loan sale", when lenders discount their rates to attract borrowers, failed to happen this year.

It urged borrowers thinking of taking out a loan to shop around, as the difference between the current best buy rate of 8.9 per cent and the worst deal available of 19.9 per cent, would cost £1,055 over the three-year term of a £5,000 loan.

But it warned people to be wary of making too many applications, as the credit searches lenders do to assess borrowers could reduce their chances of being accepted by other banks.