The review will investigate compliance with the Consumer Credit Act and the OFT’s guidance on irresponsible lending.
The OFT is concerned that payday lenders may have been giving out loans to borrowers before checking they can pay them back.
It is also worried that lenders may be allowing customers’ debts to spiral by rolling them over so charges escalate and the loans become affordable.
Payday lenders will also be investigated for inappropriately targeting particular groups of people with clearly unsuitable or unaffordable credit, for instance students and those on benefits.
The OFT will focus on these issues when investigating firms and ensuring they are treating customers fairly.
The review will involve on-site inspections of 50 major payday lenders and surveys of industry and consumer organisations.
Leading up to the review, the OFT conducted a sweep of over 50 payday lending websites and wrote to the main trade bodies outlining areas where it considers advertising standards need to be improved.
In 2010 the OFT conducted a similar compliance review of the debt management sector which resulted in 43 companies surrendering their licenses and enforcement action against a further 13 businesses to revoke their licenses.
David Fisher, director of consumer credit at the OFT, said: “We are concerned that some payday lenders are taking advantage of people in financial difficulty, in breach of the Consumer Credit Act and not meeting the standards set out in our guidance on irresponsible lending.
“This is unacceptable.”
Fisher added that the OFT would work with the trade bodies to drive up standards but it would also not hesitate to take enforcement action, including revoking firms' licences to operate where necessary.
He said: “The payday sector has grown considerably since the OFT's high cost credit review in 2010. This, combined with the current tough economic conditions, makes it the right time for us to review the industry and improve protection for consumers.”
Norman Lamb, consumer affairs minister, said: “The OFT is right to launch a compliance review of its guidance in the payday lending market to make sure that companies are adhering to agreed standards and in particular to identify those practices which can harm vulnerable consumers.
'We look forward to seeing the findings which, where necessary, will be used to take further enforcement action and drive up standards within the industry. This includes improving consumer protections and having an open and transparent lending market.”
