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. Last Updated: 07/27/2016

When Hidden Charges Are Legal

MTKonoplyov, left, and his partner Natalya Sofronova say they were unaware of the hidden fees in their bank loans.
Vasily Konoplyov was just an observer at Moscow's Basmanny District Court on Friday, but his emotions ran high. With his arms crossed tightly around his chest, he let his anger escape in small huffs and whispers as Russky Standart bank made its case.

The bank, which pioneered consumer lending in Russia, was accused of charging hidden fees on its loans. Experts and lawmakers say this practice is rampant in Russia, where customers can be duped into paying as much as 60 percent interest, after getting quoted a rate of 15 percent.

The problem arises because the laws are weak, the enforcement toothless, and the banks too good at pulling the strings of power when their profits are at stake, consumer rights campaigners say.

In recent months, however, as the State Duma elections get nearer, populist politicians have been drawing attention to this problem in a bid to win the votes of people like Konoplyov, 49, an engineer, who says he is a victim of Russky Standart's hidden charges.

In 2003, he said, he took on a credit card debt of 29,000 rubles ($1,000 at the time). Even though he has repaid the bank 52,000 rubles ($2,000) to date, the bills are still coming -- and so are the threatening phone calls insisting that he pay.

"They won't even tell me how much I still owe them," he said. "I've called every department, made written inquiries, everything I could think of. Three years on, I'm starting to feel like a slave to this bank."

Last year, like dozens of others in his situation, Konoplyov contacted the nonprofit consumer rights group Blokpost, which on Jan. 29 filed the class-action lawsuit against Russky Standart, the first suit of its kind against a Russian bank.

In cooperation with the Federal Consumer Rights Service, a state watchdog, Blokpost argued Friday that in addition to the 19 percent interest rate on a consumer loan, Russky Standart tacks on an additional fee for opening a special account with the bank -- a condition of the loan. In the course of a year, Blokpost said, the extra charge adds up to another 23 percent, more than doubling the cost of the credit.

"These charges are tied to accounts that the clients could not have known the nature of, and therefore could not have factored into their decisions to take out the loans," said the head of the Federal Consumer Protection Service's department for consumer protection, Oleg Prusakov, who represented the service in court Friday.

On these and other grounds, Blokpost and the service demanded that the right to charge for these accounts be revoked. "These charges are the most dangerous and ill-willed form of extortion," Yelena Frolova, the Blokpost lawyer, told the court.

The lawyer representing Russky Standart, Maxim Trubnikov, did not deny the existence of the extra charges or that they went unmentioned in some advertising materials handed out to clients. He argued, however: "All of the bank's services cost money, and the bank has every right to charge for them."

"These things are expensive for us," he said, adding that the law places no limit on charging for services rendered.

On Friday, the judge agreed with Trubnikov and ruled that Russky Standart's charges were legal.

Political Zeal

Currently, the only legal checks on consumer lending take the form of recommendations by the Federal Anti-Monopoly Service and the Central Bank.

These were issued to banks in May 2005, the result of a joint effort between the anti-monopoly service and Andrei Kozlov, the then-Central Bank first deputy chairman who was killed in a contract-style hit last September.

The recommendations asked banks to disclose the amount and duration of loans to their clients, as well as all the fees and interest rates involved. The last provision also states that if an advertisement reveals "even one kind of charge" for a loan, it should reveal all charges.

Out of the country's more than 1,000 banks, just 98 have complied with the recommendations, according to the anti-monopoly service's web site. Russky Standart was one of the first 15 banks to volunteer for compliance, said Artyom Lebedev, the bank's chief spokesman.

A common problem, however, arises when stores that offer on-site loans from Russky Standart publish their own advertisements. "You might get a pamphlet in the mail from a place like El Dorado, and it will claim 'zero interest' on our loans," Lebedev said by telephone Sunday. "This is of course not the case, and we do our best to keep [such companies] from distributing this kind of information. All of our own material discloses all the rates clearly."

Trubnikov told the court Friday that advertisements were not contracts, and were only intended "to attract clients to our bank."

Indeed, attracting customers for its credit products has become Russky Standart's strong suit. Its consumer loan portfolio is the biggest in Russia, worth $7.6 billion, with a total of 17.5 million clients, or more than 12 percent of the population. The bank also has the biggest network of on-site loan agents, mostly set up at stores where cell phones and household appliances are sold, and experts said the rate of expansion in this market, which has seen demand grow sevenfold in the last three years, tended to favor the ruthless pursuit of profit over honesty.

Anatoly Aksakov
"If I'm a banker working in a country where there are no rules of fair play, and I want to openly disclose pricing, that leaves me susceptible to unfair competition from other banks that don't want to be so open," said Paul Tucker, director of emerging market equity research at Merrill Lynch in London.

Leveling the playing field will take a clear set of laws, not recommendations -- and last month the government began to signal that these laws were on the way.

At a roundtable discussion in the Duma earlier this month, Alexei Savatyugin, the head of the Finance Ministry's financial policies department, proposed a bill on consumer credit. In its current form, the bill calls on banks to disclose all interest rates and fees, give their clients the right to repay a loan early without penalties, and limit the charges a bank can exact.

Duma deputies gave the proposal a hearty welcome, and officials have of late been vying to join the vanguard of consumer rights. The consumer service's head, Gennady Onishchenko, the government's chief epidemiologist who is known for banning food and drink imports from Georgia last year, has taken up the issue as his personal project, the service's web site said.

But Tucker warned that too much political zeal could be dangerous for the country's fast-growing credit market. "This kind of legislation is really uncharted territory in Russia," he said. "Interest rates have to be allowed to reflect a loan's risk. Setting a cap on them will drive riskier borrowers out of the banking system, because no bank will be able give them a loan."

"I'm all in favor of transparency," Tucker said, "but not in favor of too much enforcement."

'Cheap Populism'

The man caught in the middle of this debate is Anatoly Aksakov, the Duma deputy who organized the roundtable. Though he speaks partly on behalf of his constituents, who may re-elect him this year, he is also the president of the Association of Regional Banks, which is up in arms about Savatyugin's proposal.

"All of the provisions that protect the borrower are good," he said in a recent interview. "Even though I expect the credit system would have moved toward these changes itself, I support the proposal. But there are still many questions on protecting the creditors."

His association is now working to amend the bill, creating a "balance of interests" to ensure banks do not face massive defaults and dropping margins as a result of the law, Aksakov said. A key amendment will allow collection agencies to force non-paying borrowers into bankruptcy, a practice that is common throughout the West. Other amendments, including some on mortgage lending, were not yet clear, he said.

It will take at least six weeks for the bill to be drawn up, Aksakov said, and a first reading will take place in the current session of the Duma. There, he expects the opposition to be fierce.

"Already we are seeing the political interests backing this project. It has begun, this cheap populism, and it is hurting the position of credit organizations," he said.

Oleg Vyugin, head of the Federal Service for Financial Markets, has also voiced concern about political overreaction. If the clamor around the issue grows too loud, the public will lose faith in the financial system, leading to a decline in growth among potential customers and defaults among existing ones, he said. "I am worried that through the judicial system, both the government and the Central Bank are encouraging non-payment of loans," Vyugin told Ekho Moskvy in a recent interview.

Passing on the Cost

These worries seem premature, however, as Russians have one of the best records of loan repayment. For two years running, only about 1 percent of all Russian loans have been delinquent, three times less than the average for emerging economies, according to a Merrill Lynch report released this month.

A disproportionate number of the country's non-performing loans come from the portfolios of Russky Standart and the country's second-biggest consumer loan provider, Home Credit and Finance Bank, a Czech company that was found guilty this year by a Russian court of charging hidden fees. According to Central Bank figures, the two lenders together account for 80 percent of Russia's overdue credit.

A recent UBS report found that bad debt now accounts for 4.1 percent of Russky Standart's total loan portfolio, up from less than 3.5 percent in 2005.

Tucker said banks pass on the cost of these defaults to their customers, who in turn refuse to pay when these costs get too high.

"Unfortunately, it's true that we have delinquent borrowers who do not pay back their loans, and a bank has to account for that," said Trubnikov, the Russky Standart lawyer.

This cycle may have been exacerbated by Russky Standart's active securitization of its debt. Securitization is the process of packaging a group of consumer loans, or some other part of a lending portfolio, into a product that outside investors can buy. Russky Standart's total securitized debt reached $3.25 billion last year, according to UBS.

"In some cases, the cost of securitization gets factored into the rates a bank will charge its customers," said Irina Penkina, a structured finance associate at Standard and Poor's.

But wherever the costs are coming from, Blokpost is going to fight to keep consumers from having to foot the bill.

"Of course we're going to appeal the decision," said Andrei Vyugov, head of Blokpost. "What these banks are doing is sheer robbery. We plan to take this to the Supreme Court if necessary."

As for Konoplyov, he appeared determined to continue the struggle.

"I realized from the start that the suit would be a long, hard story, but we will try our best to get our point across," he said after the hearing. "We are just tired of being tricked."