MMR up close

26 October 2009 | By Christine Toner

So there we have it. After months of speculation, rumour and gossip the Financial Services Authority has finally published its long-awaited Mortgage Market Review and the result contains few surprises.

As Mortgage Strategy predicted in its October 12 issue, the FSA wants to can self-cert mortgages. The buy-to-let sector is likely to be regulated and for many first-time buyers the dream of owning a home could remain just that, a dream.

The regulator says that there will be no read-across of the Retail Distribution Review to the mortgage market but it wants to apply the RDR’s adviser categories of independent and restricted. It argues that the current labels of whole of market, single and tied are not enhancing consumer understanding.

It has also identified that the irresponsible lending practices seen in the market until recently will be curtailed by the FSA’s existing work on capital and liquidity.

The review has been the hot topic in the mortgage market since its publication and has been met with widespread criticism. While some of the recommendations were inevitable and in some cases welcome, many of the ideas put forward by the regulator have led to a view by some that the FSA is not in touch with the market it regulates. But if the regulator’s aim was to get the market talking it certainly achieved that.

The FSA has recommended scrapping Initial Disclosure Documents and replacing them with suitability letters. It could also potentially cap the amount of equity home owners can withdraw from their property. The individual regulation of every broker is another proposal, along with responsibility for affordability being transferred to lenders. It is also looking at banning arrears charges and to extend its scope to buy-to-let and all lending secured on homes.

But the recommendation receiving the most heated responses is the banning of self-cert mortgages.

“Out of the UK’s 10 million residential mortgages, about one million, or 10%, were arranged on a self-cert basis and a large proportion of this minority of borrowers are at risk of being denied the opportunity to get another mortgage, even when conditions in the market improve,” says Ray Boulger, senior technical manager at John Charcol.

“Thus they will be condemned by the FSA to stay in their current home unless they are prepared to sell up and rent. They will also be denied the opportunity to remortgage and be left to the mercies of their current lender. For those who don’t want to move this will not be a problem in the short term as many will revert to a reasonable variable rate when their initial deal finishes.

“But when they want to switch to a fixed rate they will only be able to do so if their lender is prepared to offer them a product transfer rate,” he adds.

Boulger says many self-cert borrowers will have their mortgage with a lender that has exited the market and will have no choice but to stay on their SVR. If they are not able to switch to a fixed rate when they want to, purely because of the FSA’s ban on self-cert, this obviously increases the risk that their mortgage will become unaffordable if interest rates increase too steeply.

“If this results in them going into arrears and, worse still, being repossessed, the FSA will be culpable,” he adds.

Boulger’s figure of 10% of residential mortgages being self-cert is widely accepted, with the Council of Mortgage Lenders agreeing it would be near this number. But figures such as 40% and 50% have been bandied about the press, with FSA chairman Hector Sants quoting 50% on the Today programme.

An FSA spokeswoman explained that Sants meant non-income verified i.e. fast-track and self-cert. But Boulger says the FSA should have collected figures for self-cert and fast-track separately as pooling these together can be deceptive.

Boulger is not alone in his criticism of the proposal to ban self-cert. Kevin Paterson, sales and marketing director at Assurant Intermediary, calls it an over-reaction.

“Unless lenders accept alternative proof of income from the self-employed instead of the traditional requirements this will prevent a large percentage of the self-employed from borrowing,” he says. But some think there is merit in getting rid of self-cert.

 

“Are we surprised by this?” says Bob Young, managing director of Capital Homeloans. “The FSA has signalled to lenders for a while now that its research shows these products were sold to the wrong people. Sadly those who should have been sold the product and for whom it was appropriate are going to lose out.”

Another aspect of the review attracting much discussion is the decision to impose affordability tests for all mortgages and to make lenders responsible for assessing a consumer’s ability to pay.

“This is almost officially declaring that the public has had the chance to prove they can be responsible about how much they borrow and what they can afford to repay and they blew it,” says Katie Tucker, technical manager at Mortgageforce.

“Affordability testing would certainly reduce some problems but it’s vital that lenders retain the discretion to stipulate what documents they need and can be flexible down to a single bank statement if they wish.”

Tucker says we have shifted to a culture where as much of the process as possible is automated and over-regulation has left lenders and brokers pumping out paperwork to mitigate responsibility.

“This means that a lender can only go as far as the next one to underwrite manually before the cost loses them their competitive edge,” she says.

“Arguably the FSA should reduce the costly regulation it imposes on lenders so that they can afford to employ and train more specialist underwriters responsible for analysing borrower risk on an individual and qualitative basis.”

Paterson says the move could make lenders even less willing to lend.

“Affordability calculators do work and have been used by many lenders for a long time,” he says. “But imposing sanctions for lenders that fail to do this is unworkable and will further entrench lenders in their reluctance to lend.”

Rob Roberts, senior adviser at Chesterton Grant, says making affordability-based models mandatory could lead to increased costs for consumers.

“Affordability-based models, while more accurate than income multipliers, aren’t a perfect system,” he says. “For example, I had a couple of cases with Abbey recently where I produced payslips to show that the clients’ income on a salary of £x per annum is £y per month and Abbey has said that the monthly income is less than I have stated. It’s a confused system and it doesn’t know what it is doing most of the time.

“If the FSA wants to bring in this kind of mandatory assessment, lenders will need to be much more thorough in their processes and will have to revise systems and employ more staff. This will inevitably lead to increased cost to consumers.”

While few would argue that borrowers being able to afford their mortgages is key and no-one would want lenders to lend to those who cannot afford the repayments, there is a fear that tighter regulation will push first-time buyers further out of the market.

“It is essential that we look after the needs of first-time buyers, who are the lifeblood of any recovery, and the danger is that these changes are a prelude to more controversial policies of product regulation, for example introducing any limit on LTV levels or income multiples,” says Andrew Montlake, director of Coreco Group. “It is these types of changes that will take away sensible underwriting policies, which could be really damaging.”

The decision to make lenders responsible for assessing consumers’ ability to pay could have detrimental affects on the broker market. If lenders have to take the bulk of the responsibility anyway there is a danger they could opt to get rid of the middleman.

“Making lenders responsible for assessing borrowers’ ability to pay is perhaps a logical decision as it is their money,” says Bill Warren, managing director of Bill Warren Compliance. “That said, the big issue for brokers is the value they add to the process by speaking directly to borrowers and whether that will be considered important by lenders.”

Michael White, chief executive of Email Mortgages, says lenders should be allowed to use their discretion when making decisions.

“This is a lending practice that already exists and is unlikely to change in the near future,” he says.

“But the banning makes little sense. My experience of the last recession revealed how many good people were affected and the same will occur once again.

“The pressure of losing one’s livelihood is manifested in many ways and I am certainly not suggesting that products should be designed to cater for people who are both credit-impaired and are also at a high loan-to-income. An experienced lender should be allowed to assume lending risk, which can be mitigated by plausibility, price and security. It’s what they are meant to do, isn’t it?”

One proposal that will benefit consumers is the decision to ban arrears charges when a borrower is already repaying and ensure firms do not profit from those in arrears.

“This is a surprising recommendation as the high cost of managing arrears cases is well known,” says Warren. “That said it cannot be fair to penalise borrowers who are in trouble through no fault of their own and who are trying their best, when there are professional non-payers abusing the system.On balance it is a fair move for consumers, not so for lenders whose costs will remain the same, so ultimately all borrowers will pay through higher rates for the arrears management costs.”

The decision by the FSA requiring all mortgage brokers to be personally accountable to the regulator has received a positive response, with many arguing that it should have been done a long time ago. Gerry O’Brien, chief executive at Home of Choice, is in favour of the move and argues that individual registration will not frighten professional advisers.

“Only those who do not want to be found out would object to such a move,” he says.

One of the biggest talking points from the paper surrounds the decision to regulate buy-to-let mortgages. The buy-to-let market has been under the microscope since the start of the recession. In the boom time, lending rules were relaxed and once the crunch hit the sector was one of the worst affected.

Before the publication of the review, even the British Property Federation, which represents property investors, was calling for buy-to-let mortgages to be included in the FSA’s remit to ensure more prudent lending. The FSA’s decision to do so has provoked mixed views.

Borrowers would benefit from FSA protection and the clarity of Key Facts Illustrations for single buy-to-lets,” says Tucker. “But it might help to differentiate between professional landlords and people with one or two buy-to-lets, drawing a line based on whether it is a risk as a personal investment or a commercial venture.”

Young thinks the government has gone too far.

“I understand why all lending on homes should be covered by one body, i.e. the FSA, but a buy-to-let property is not a home to the borrower,” he says.

“Buy-to-let is a commercial proposition that involves a residential property and this is the main reason why buy-to-let should not be covered. How on earth is the FSA going to calculate affordability, bearing in mind the borrower is also likely to have a mortgage on their home? Then again, thinking through the problem rationally has not stopped this government from making some howling mistakes, so why should it change now?”

The mortgage market has never been opposed to change - indeed it is one of the most innovative sectors in financial services. And since the credit crunch hit it has been more open to change than ever, so any measures that could help fix this mess were welcome.

But if the general consensus is anything to go by, the Mortgage Market Review is not the solution. While it has prompted some heated discussions the one thing the industry seems to agree on is, once again, that the FSA has missed the point.

The industry now has until January 30 next year to respond to the regulator on which reforms it thinks will not work. Let’s hope the FSA listens.

Proposals could result in higher costs for lenders and consumers

Lee Gladwell
Director of Sales & Propositions
Platform

The Financial Services Authority’s Mortgage Market Review was finally announced last week, the impact of which could have been more drastic on the industry. But we think the FSA’s approach is good news given the fragile position of both the economy and the housing market.

We fully support the underlying aims of the regulator to safeguard consumers, brokers and lenders alike. But we are not convinced that the proposals have entirely addressed all the issues.

Following reports in the media in the week leading to the release of the paper, it came as no surprise that there were proposals to introduce income verification on all mortgages, effectively putting an end to fast-track and self-cert mortgages.

We understand the concerns around income verification requirements. But we also believe that the industry must recognise that some self-employed people can have different circumstances and cannot always provide the normal proof of income documentation required. That is why we took the approach of using our underwriting expertise together with tight process and product controls to enable us to stay in the market, while most other providers withdrew.

We are now in the process of assessing the full impact of the review in detail and will be seeking feedback from our intermediary partners to determine how we can develop a solution that meets the requirements of this market within the FSA’s guidelines.

Affordability had to be included because it is clearly important in protecting consumers. Therefore it is only right that the FSA should introduce more clarity here too. We have been advocating the need for lenders to invest in developing strong underwriting capability for some time so that lenders can fully evaluate risk.

But we do question an approach which is too prescriptive around expenditure and affordability. We think that the industry has already taken steps to tighten its approach to affordability and has moved forward with more sophisticated credit scoring techniques.

As a result we have concerns that the processes outlined in the paper could result in significantly more administrative costs to lenders, which in turn could be passed on to borrowers in the form of higher mortgage pricing.

The financial crisis and subsequent impact on the mortgage and housing markets has highlighted the need for the industry as a whole to become more responsible. We support this idea and believe it is in everyone’s interests for the market to give more protection to consumers, without being to their detriment through a narrower or less competitive market.

 

More debate is needed on practicalities of ditching self-cert loans

Alan Cleary
managing director
Exact

No doubt like me many have been reading the much anticipated Mortgage Market Review. The 118 pages covered a multitude of sins that the FSA believes caused or at least contributed to what is now infamously known as the credit crunch. Starting at the top the discussion paper proposes the banning of self-cert and fast-track mortgages by making lenders responsible for verifying borrowers income. Many pundits have been quick to rebel against this proposal stating that borrowers already in this type of product will be unable to move house or remortgage to a new product in the future.

But our analysis carried out on over £4bn of non-conforming mortgages is that the majority could verify their income if they needed to, that is to say they did not lie on their application for a loan.

The majority of those who cannot verify their income arguably should not have been granted a mortgage in the first place.That being said I do concede that some self-employed borrowers through no fault of their own will be adversely affected by the FSA’s proposal and there should be further debate about the practicalities of implementing this rule.

Next on the list is that lenders will assume ultimate responsibility for borrowers’ ability to repay loans.The paper states that this is best achieved by scrapping old-fashioned income multiples which should be replaced by affordability models.In principle I have no issue with this and to a large extent most good lenders already adopt this approach.

Banning loans that carry a number of toxic characteristics, i.e. high LTV, self-cert or credit impaired, have been squarely placed as a problem caused by non-bank lenders or high risk lenders as they are called in the paper.I believe this view is inaccurate, as the majority of loans in this category were actually originated by deposit-taking lenders such as Northern Rock, Bradford & Bingley and HBOS.

The point is nonetheless accurate that arrears rates among this type of borrower are unacceptably high and as such is a sensible target for specific product regulation.

Regarding the proposal to regulate buy-to-let loans, I have been supporting this view since 2004 based on a simple belief that if you leave a part of the market unregulated it will cause a sub-class. In this case the result was amateur landlords who borrowed more than they should have and as a result cannot afford the loan repayments.

I have seen cases of postmen with exposures of over £1m on buy-to-let deals - this just can’t be right. Borrowers, lenders, brokers, developers and house builders among others have all benefited from the buy-to-let bubble but we all collectively failed to properly assess the risks. This is something we must not repeat.

AMI’s work is paying dividends

Robert Sinclair
director
Association of Mortgage Intermediaries

The Mortgage Market Review shows that the early work done by the Association of Mortgage Intermediaries board is paying dividends. Our representations have helped ensure that we have retained commission as a key option for brokers in remuneration, we have managed to prevent the limiting of product offerings by banning higher LTV and loan-to-income type products and our arguments on the potential detriment caused by those offering non-advised solutions have gained traction.

We have also persuaded the FSA that higher exam standards are not required despite the pressure applied by the professional and examining bodies.

These are significant wins but even bigger mountains to climb. There can be no argument against the claim that the relaxation of credit standards and the introduction of high LTV loans to consumers with poor payment histories was detrimental as the market grew in 2005/06.We all played a part in stripping away the need to prove income and relied on others to measure affordability.

But putting the genie back in the bottle will be much harder. Consumers now have the houses they want, based on the loans they needed. In its review, the FSA admits to a number of failings in its previous regulatory regime, both in policy and supervision.We have to trust that the changes made in personnel and the proposed alterations to policy recommended will deliver the required results.

AMI argued for individual registration in 2003/04 so we support this change. But we are not as supportive of a plan to employ the Professional Standards Board for that purpose, which is yet to be defined. Brokers’ responsibility for assessing affordability is being taken away and given to lenders, the same lenders that contributed so fatally to the market failure we are now addressing.

We need to debate what role brokers will have in a new world. To ensure we give appropriate advice we will still need to assess income and expenditure.In this regard firms will need to actively engage with the lending community how we see this working in practice.This could involve brokers assessing new concepts of free disposable income and consumer borrowing capacity on behalf of lenders. What will lenders want to see presented to them and what liability might we hold if this is not accurate?

AMI is concerned that the review proposes that new financial capability work should focus on promoting the concept that renting is good for large parts of our society. As the FSA governs mortgages and not the property rental market, this appears an interesting development in policy.

Customers have always looked to brokers for advice and we must ensure the new structures still allow that to happen. Being an AMI member will help your voice is heard during this vital period.

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