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Change is coming to the UK mortgage industry, whether we like it or not. We examine the EC directive and how it will affect all parts of the market.
Brokers and mortgage professionals could be forgiven for not having read the European Commission’s directive on the mortgage market. At 56 pages the document does not make for light bedtime reading.
For those in the mortgage industry it seems not a week goes by without the Financial Services Authority, the EC or some other body suggesting what needs to be done to cure the mortgage market of its ills. But if you are going to keep any regulatory proposals on your bedside table, the European directive should be the one.
What Europe is proposing will overshadow most of what comes out of the FSA and any other regulatory body. And unlike the Mortgage Market Review, the directive has a set timeline which is unlikely to change. It will become law by the end of this year and member states will have two years to put it into practice.
“This directive has been longer in its creation than many in the UK might have us believe and it’s not a first working draft,” says Robert Sinclair, director of the Association of Mortgage Intermediaries.
“It is not a consultation, but an attempt by the EC to deliver the finished article.”
Compiling the document has been no mean feat for the EC and if you thought the FSA has a hard job pleasing everyone in the UK mortgage market, just imagine the opposition the EC has received by trying to introduce its proposals to the 27 European Union member states.
Although the proposals will become law in all EU states some rules will be more definitive than others. Once the final proposals are out the EC will specify what parts of the directive are absolute and what rules countries can adapt to their own regulatory structure.
There is always the risk when trying to implement a ’one size fits all’ rulebook that it will disadvantage certain groups, whether this is at a national level or within certain countries.
There are already concerns that the directive is onerous towards UK brokers compared with staff working in lenders’ branches.
How brokers will be affected
“The directive leaves some alarming gaps in the requirements for mortgage intermediaries and direct sales forces,” says Sinclair.
Under the proposals brokers must have a clean police record or any other national equivalent in relation to serious criminal off-ences linked to crimes against property or financial activities. Brokers will not be allowed to have been declared bankrupt, unless it was discharged more than six years previously.
Professional indemnity insurance will be required, or other com-parable guarantee against liability arising from professional neg-ligence, unless such insurance or a comparable guarantee is already provided by a creditor or other undertaking on whose behalf the broker is working for.
All member states will also need to ensure that broker firms are authorised and continually monitored.
The way the directive is written suggests these measures will only be requirements for brokers and will not apply to those working in branches. It also stipulates that brokers will get their permissions revoked if they no longer fulfil the requirements under which authorisation was granted or they have obtained their authorisation through false pretences.
“If advisers in branches are claiming they are offering advice they should abide by the same standards as mortgage brokers,” says Andrew Montlake, communications director at Coreco.
But he says if branch advisers are offering mortgages on an information-only basis it would be acceptable for them not to have to undergo the same authorisation process as a broker.
But the lender would need to be clear about what it was offering.
“One of the biggest problems is that first-time buyers can take out a 95% LTV mortgage direct and think they have been offered advice,” he adds.
Montlake believes if branch staff do not have to jump through the same hurdles as brokers they should make it clear they are only offering information.
Changes to the advice process
Questions have been asked about whether the EC proposals will mean lenders can no longer offer advised sales.
The EC says creditors and intermediaries offering an advised service must present a sufficiently wide-ranging analysis of the products on the market, which could mean lenders will have to offer competitors deals if they are to say they offer advised sales. “Member states shall ensure that creditors and credit inter-mediaries consider a sufficiently large number of credit agreements available on the market so as to enable the recommendation of the most suitable credit agreements for the consumer’s needs, financial situation and personal circumstances,” the directive states.
This has been interpreted in many ways, with some believing it relates to the type of product being offered. For example, if one lender couldn’t offer an offset rate and that was the best advice for the consumer they would have to send them elsewhere.
Others have interpreted it as meaning lenders will need to con-sider other deals on offer, for example cheaper two-year fixes and ones that would offer a better deal for the borrower.
All those offering advice, whether as a broker or working in lenders’ branches, will need to have sufficient knowledge of products offered by other lenders. This could prove costly for lenders if they need to train their staff on their own and competitors’ deals.
One of the other proposals to the advice process is scrapping the Key Facts Illustration and replacing it with a European Stand-ardised information Sheet. This will be given to consumers before the mortgage offer has been made. The EC says it wants to introduce the ESIS so borrowers can compare the different deals before they continue with the mortgage.
“The KFI is already lengthy and if the ESIS demands even more detailed information it is doubtful it will make things clearer for borrowers,” says Alison Beech, business relationship director at Spicerhaart and Valunation.
“Although the ability for consumers to compare products is essential, extra legislation may depress product innovation to the detriment of the market and consumers.”
Paul Broadhead, head of mortgage policy at the Building Societies Association, has already warned that replacing the KFI with the ESIS could cost the industry millions. He says this would force lenders to change their systems and bring extra cost at a time when the market is already fragile.
“The FSA has estimated that just one format change to the KFI would cost lenders £26m to change all their systems, so if they were forced to change the contract it would be a lot more,” he says.
How lenders will be affected
One of the biggest changes for lenders is the proposal for them to disclose their reasons for refusing customers a mortgage. The direct-ive says that when an application is rejected the lender must immediately give the consumer the reasons for the refusal without charge.
“Where the application is rejected on the basis of an automated decision or a decision based on method such as automated credit scoring, the creditor must inform the consumer immediately and without charge and that the creditor explains the logic involved in the automated decision to the consumer,” the directive states.
Customers should also have the opportunity to request the lender’s decision be reviewed manually. Where applicants have been turned down because the lender has consulted a database or credit agency, they must be told the name of the database and given the right to rectify any information held on it.
“While this might seem fair, most lenders have invested heavily in reducing processing costs and this manual intervention will inevitably increase overheads,” says Beech.
“Given that the directive states that the delivery of the explanation must be at no direct cost to the borrower, the cost will have to be borne elsewhere, potentially penalising all borrowers via an increase in rates.”
But some see it as a positive move for the broker market as it could help eradicate the ’computer says no’ mentality.
“You can get an application sent back that has a squeaky clean credit report with no reason from the lender as to why it has been refused,” says Dale Jannels, sales and marketing director of All Types of Mortgages.
This can lead to brokers carrying out numerous credit searches on an applicant because they have to reapply to different lenders.
“It would help to get a rough idea from lenders as to why an app-licant has been refused,” says Jannels. “Whether they will have enough manpower to do this remains to be seen and some of the lar-ger lenders might struggle if they have to employ more staff to manually underwrite the mortgage.”
Similarities and differences between the directive and the MMR
Unlike the MMR, the directive recommends that authorisation is only required at company level and not individually as has been suggested by the MMR. This has caused concerns that the FSA may backtrack on plans for individual registration of mortgage brokers.
In June 2010 as part of the MMR the FSA announced it would be extending the approved persons regime to include anyone who advises on or sells mortgages in 2011. It later delayed this until 2012/13 blaming the delay on an ongoing reprioritisation of work - particularly around the regulatory reform agenda.
“Authorisation is only required at firm level under the proposals and this could make it difficult for the FSA to pursue an individual registration regime as it could restrict the over-arching single market objectives of the EC,” says Sinclair.
A clearer picture will not emerge until the final rules are published and the EC is specific about what rules will be definitive for firms and where there will be room for manoeuvre.
In some ways the EC is less harsh than the UK regulator. Unlike the MMR it does not impose restrictions on self-cert mortgages or interest-only but it does say member states may impose limits on LTVs or loan-to-income ratios. When assessing a borrowers’ afford-ability the EC advises that factors such as the consumer’s income, regular expenditures, credit score, past credit history, savings, abil-ity to handle interest rate adjustments and other existing credit commitments should all be taken into consideration.
This echoes the views of the MMR and its recommendations regarding affordability.
The directive does not cover the buy-to-let market, only the mortgage and secured loan markets and to some extent bridging.
“Bridging finance where it is providing temporary financing between the sale of one property and the purchase of another will be caught, but those transactions not depending on the sales of a specified property may not be caught,” says Sinclair.
Also, in what is contradictory to the work of the MMR, Sinclair argues that interest-only loans could be exempt from the proposals.
“Some interest-only loans appear to be exempt as the directive does not apply to credit agreements which will eventually be repaid from the sale of the property,” says Sinclair.
But he points out that the directive could allow member states to include products into the fold that it does not already cover, such as those in the MMR.
“What we need is the FSA to give its response to the directive and say which aspects it will and will not be adopting, but I don’t think we are going to get that any time soon,” says Bill Warren, managing director of Bill Warren Compliance.
“It has the potential to cause even more confusion in the mortgage market as it stands, as some of the suggestions around affordability do not correspond.
The Council of Mortgage Lenders has also voiced its concerns about a lack of joined-up thinking.
“For the UK at least, there is likely to be confusion of competing draft rules at a national and European level that will keep legal advisers gainfully employed for some time to come,” says Michael Coogan, director-general of the Council of Mortgage Lenders.
“As the largest mortgage market in Europe, the UK stands to bear significant financial and implementation costs, which means that a convincing case for EU level intervention is needed if the UK is to support it. That case does not appear self-evident at present.”
Mortgage brokers and trade bodies may fight tooth and nail to keep additional regulation at bay, but the industry will need to face up to the inevitable - change is on the way.
John Heron, Chairman, Intermediary Mortgage Lenders Association
Wrong time, wrong objectives
This draft directive comes at the wrong time for the UK mortgage market and with the wrong objectives. It aims to create an efficient and competitive single market for consumers, creditors and credit intermediaries. While this objective is laudable, let’s get real - Europe is not a single, homogenous market. It has a myriad of idiosyncratic housing and mortgage markets and cultures.
Individual markets are still so distinct that no individual lender has the possibility of introducing processes, products and systems that fit across all member states. It is abundantly clear that this will do nothing to encourage cross border competition and it is not necessarily needed in the first place.
Brokers will also be able to operate across borders if they meet certain requirements, but who is realistically going to do this in the current environment, or indeed when market conditions return to more normal levels? Intermediaries have enough on their plate dealing with domestic issues to go marauding into a European market they have little knowledge or experience of.
The timing is also questionable. This draft directive has been in development for a number of years, long before the credit crunch that has so drastically changed our market and our outlook to mortgage regulation. It fails to reflect that we now operate in a different environment, where lender and consumer confidence is only just starting to recover and needs to be nurtured.
I would also echo what the Council of Mortgage Lenders said in response to this draft directive. There is already an unholy confusion of competing draft rules at a national and European level and this directive simply throws more confusion into the mix. It appears to restate much, if not all, of the regulatory framework that exists, or will be introduced as a result of the Mortgage Market Review.
The UK mortgage market is the largest in Europe and, while it has some obvious flaws that need to be addressed, also the most sophisticated. We already have stringent rules that are designed to protect consumer, most of which go beyond what Europe is proposing. The European Standard Information Sheet is the clearest example of this - a requirement that will burden the industry with millions of pounds worth of costs.
The main targeted beneficiary of this directive is the consumer, but does it meet this objective? The answer is clearly no.
What consumers need is better choice and value, and that can only be delivered by a healthy and competitive mortgage market that encourages innovation. This can only be delivered via an appropriately balanced regulatory regime, yet the directive only appears to be delivering increased costs and regulatory layering.
Paul Broadhead, Head of Mortgage Policy, Building Societies Association
One rulebook for EU member states will prove costly and unworkable
Following the platter of MMR appetisers served up last year by the FSA which were swiftly returned to Canary Wharf by the industry for being overcooked, we now have a main course served up from Brussels. The aims of the proposed directive are two-fold - to create an efficient and competitive single market, and promote financial stability by ensuring that mortgage credit markets operate in a responsible manner.
Whether you agree with the first aim largely depends on your political standpoint, although this is something that the UK has signed up to. The second objective is on the money so presumably this intervention from Europe should be welcomed.
Regular readers of my comments will not be entirely surprised to hear that that isn’t my standpoint. Much of the proposed directive makes sense, who could argue that consumers should not have sufficient information before taking out a mortgage or that a broker should not be properly qualified and registered or that the advice process should be clear and easy to navigate. I couldn’t construct a valid argument against any of that, nor would I wish to.
What I would argue against is the need for a single rulebook across all member states, particularly in terms of a European Standardised Information Sheet. In the UK we already have a Key Facts Illustration and to change this would cost millions of pounds for little benefit.
Now I would say that wouldn’t I, given that much of that cost would be imposed on the lending community. But consider that for all of this additional cost, some of which will ultimately be borne by consumers, this new, expensive document will give consumers less information.
Then there is the issue of advice. The way to encourage responsible lending and borrowing is to promote the availability of suitable advice and information. Existing UK regulation does this already in my view.
The European Commission wants lenders and brokers who offer advice to consider a sufficiently large number of credit agreements on the market. I’m not sure what a suitable number will be nor exactly what on the market means. Many lenders offer a range of products, and I believe that it is right that they should continue to be able to offer advice on their own product range to consumers who choose that service. Any suggestion that lenders may be required to consider a competitor’s products is unworkable.
It is difficult to assess what the impact of the proposed directive will be on our market as there remain many unknowns, particularly the level of harmonisation. How prescriptive the EC will be in terms of making member states implement the regime in the same way is still unclear. My fear is that if the primary objective is to encourage a single market and increase cross-border activity, this could lend itself to a more prescriptive approach.
Ray Boulger, Senior Technical Manager, John Charcol
Directive is an invitation to operate in UK but meet only minimum standards
The most basic tenet of European Union policy is to harmonise everything that moves, and much that doesn’t. That is the premise for the draft mortgage credit directive, the prime objective of which is to increase cross-border lending. However this is putting the cart way before the horse. Until legal processes, including Land Registry procedures, in every EU country are harmonised and credit reference agency data can be supplied to lenders in the same format this directive will do nothing to increase cross-border lending.
Some EU countries don’t even have a credit reference agency and even in those where Experian or Equifax operate, the information they collect and who can share it varies from country to country.
The reason many English and Welsh lenders will not lend in Scotland is because it has a different legal process. If England and Scotland, despite the Acts of Union between the two countries in 1707, haven’t managed to harmonise their legal processes in 300 years I doubt the 27 EU countries will do so. For these reasons the prime objective of this directive is doomed to failure.
However, it does include a few sensible suggestions such as the requirement for lenders to provide a reason for declining an application rather than not doing so by hiding behind the Data Protection Act, although the proposed mandatory requirement to manually review all computer rejections is not sensible.
I was pleasantly surprised to see the directive includes a requirement that after five years the European Commission must review its effectiveness and appropriateness.
I could save the EU and consumers a lot of time and money now by telling it that a genuine and robust review will deem the directive to have failed in its principle objectives.
Those wanting to engage in cross-border lending can already do so. Any new lender to the UK would set up a UK branch or subsidiary and comply with our regulatory requirements. But under the passporting arrangements in the directive lenders from other EU countries need only comply with the regulatory requirements of their home country.
One of the most onerous requirements a lender from elsewhere in the EU currently has to meet before engaging in UK mortgage lending is obtaining FSA approval. The UK currently has more mortgage regulation than any other EU country and those countries with little regulation will not be required by this directive to meet all current UK consumer protection standards.
Do our politicians want to provide an incentive for a new mortgage lender which wants to operate in the UK but meet only minimum standards to base itself in one of the lightly regulated former Eastern European EU countries?
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