The Office of Fair Trading in Scotland has ordered state-backed Royal Bank of Scotland to stop using "charging orders" to collect small debts.
The controversial practice allows a lender to make a claim against a borrower's home even if the debt was taken out on a credit card or loan.
A bank can apply to a court for such an order if a borrower fails to keep up with their payments on unsecured debts such as a credit card, a personal loan or hire purchase commitments. The charging order secures the debt against a home or other property owned by the debtor and means an individual could lose the home unless a payment is made, although a further application to the court would need to be made to do this.
In some cases the banks were using charging orders to secure disproportionately small debts as low as $7,000. The OFT said that it has concerns about RBS and Natwest's failure to consider customers' financial circumstances before asking the court to put a charging order in place.
David Fisher, OFT director of consumer credit, said lenders may use charging orders but should not do so to collect "relatively small amounts of debt."
A spokesperson for RBD Group said the bank is committed to "helping customers who find themselves in financial difficulty. We changed the thresholds for using charging orders ourselves in 2008. The cases reviewed by the OFT preceded these changes. We use charging orders only as a last resort."
Lenders increasingly turned to charging orders as a more effective way of reclaiming debt as defaults grew.
More than 111,311 orders were served in 2009, up from an estimated 49,000 in 2005. In 2010, an OFT investigation found a charging order was made for a little as £600. A handful of lenders were censured, including Alliance & Leicester, American Express, HFC Bank (part of HSBC) and Welcome Financial Services (part of Cattles).
An investigation by the OFT four years ago revealed four banks had told customers to pledge their homes against non-mortgage debt, advice that led to customers unknowingly putting their homes at risk of repossession.