When the FSA published CP98 over 12 months ago there was an enormous outcry over the products that would be left out of regulation of the mortgage market.
Commentators expressed concern over secured loans (second charge mortgages), buy-to-let mortgages and home reversion plans not being covered by the regulatory powers.
There are not many occasions when you feel some sympathy for the FSA but here, all it could do was shrug its shoulders and say that it was not within its remit to regulate such products. Consequently, responses to CP98 and the follow-up CP186 that mentioned such products would have fallen on deaf ears.
Nevertheless, the clamour from consumer organisations and other parties finally convinced the Treasury to review the matter of home reversion plans. On June 5 it announced that a consultation paper would seek views on whether HRPs should come within the scope of FSA regulation.
The government's intention is to look at options to create a level playing field for the regulation of equity release and HRPs to protect consumers and make the market work better. The consultation paper, Regulating home reversion plans, has now been published with the objective of arriving at a more in-depth analysis of the costs and benefits of regulating the plans.
The paper explains the background of the equity release market. Lifetime mortgages already fall under the FSA regime. Under an HRP, a homeowner sells part or all of the home in return for a lump payment (usually 30-65% of the property value) and the right to remain in the house until they die or move home. As this transaction does not involve any type of loan or credit facility it lies firmly outside the regulatory regime for mortgages coming into effect after October 31 next year.
Both types of equity release scheme are aimed at the same market: older consumers who have paid off their mortgages (or have substantial equity notwithstanding a mortgage) and require additional income or a cash lump sum which may be used to supplement pensions or to meet expenses such as home repair or maintenance, or long-term care.
Complete and accurate information on the size of the home reversion market is difficult to obtain with the Treasury saying that it has only able to trace 41 firms currently operating in the equity release market, these being 23 lenders for lifetime mortgages, five lenders for HRPs, two lenders that cover both markets, five brokers specialising the lifetime mortgages and six that specialise in HRPs.
Trade body Safe Home Income Plans estimates new equity release business lending in 2002 was £852m of which 75% was accounted for by lifetime mortgages and 25% by home reversion sales.
In 2001 the Council of Mortgage Lenders estimated that total lending by 2008 on lifetime mortgage would amount to £50bn. With new lending in 2002 being about £600m, this would assume a growth rate of nearly 100% each year between now and 2008 with new lending in that year amounting to £25bn or so.
In talks with the government earlier this year the stakeholders provided no evidence of consumer detriment in the home reversion market. However, there were concerns about a projected rapid expansion of the equity release market and the potential for consumer detriment if reversion plans were to remain outside the FSA regime.
The overall risk assessment first of all looks at the risks of not subjecting HRPs to FSA regulation and identifies mis-selling, adverse pricing and the regulatory boundary.
Mis-selling could arise where the consumer is being advised to take out one sort of equity release plan when they would be better off trading down to a smaller or cheaper property or taking out another type of equity release plan.
Adverse pricing might occur if the consumer is being sold a HRP on an unfairly low value, due either to a low valuation of the property or to a low proportion of that value being offered as the reversion price.
Regarding the regulatory boundary consumers may not understand the difference between the regulated and unregulated parts of the market, particularly as FSA regulation will require lifetime mortgage providers and advisers to consider both lifetime mortgages and HRPs. Firms selling only HRPs will not be caught by regulation. Consumers may also be confused by the differences in redress arrangements.
Moving on to the risks involved in regulating HRPs the paper recognises the possible stifling of a growing and innovative market that is providing a good service – and one where there is no existing evidence of consumer detriment.
Other risks include the waste of resources of the FSA regulating a market where it is not needed and additional compliance and conduct of business costs for firms. The FSA could also be setting a precedent for the regulation of other sale and purchase arrangements and other non-financial services activities.
The estimated costs to broker firms are shown in the box. These are the first year costs only and do not allow for FSA annual fees or the additional costs of the Financial Ombudsman Service and Financial Services Compensation Scheme that would apply to HRPs – the mechanisms for consumer redress. These are incremental costs applying to a firm that is already regulated by the FSA at the time of application to extend its permission to include the sale of HRPs.
The consultation paper asks seven questions with a response deadline of February 13, 2004. The Treasury says that if as a result of the consultation the decision was made to regulate HRPs, it could bring them into the scope of FSA regulation in the same way as lifetime mortgages. It would then be for the FSA to determine the detailed regulatory regime following its own consultation process and cost benefit analysis.
No timescales are mentioned but the FSA can only start its own consultation process when it is given the remit by the government. Assuming this happens by April 2004 and the FSA consultation process starts by mid-2004, then it is highly unlikely that regulation would take place until mid-2005 at the earliest.
In any case, the FSA will have enough to occupy its time in 2004 when it is expecting around 20,000 applications for authorisation from mortgage and insurance firms.
What regulation could cost you
Estimated cost of regulation of HRPs (first year costs only)
Cost of completing application £238
Application fee payable to FSA £600
IT system spend £500
Training and competence £2,500
Management and supervision £2,000