Sept/Oct 2010

By Amir Ghani

The Mortgage Market Review (MMR) remains a key priority for the Financial Services Authority (FSA).

In July, the FSA published the latest in a series of detailed consultations, this time focusing on proposals on responsible lending.

Industry and stakeholders have until the end of September to comment on the future of interest only mortgages and until November to respond to proposals on affordability and income verification.

On the whole, the FSA is consulting on some sensible and well intentioned proposals. However, it is questionable how well the proposals address the real problems faced by some consumers and I would question the timing of the FSA’s intervention in a very fragile market.

One of the key difficulties is that it is not very clear what problems the FSA are trying to fix. The FSA admits that the market has worked well for the majority of consumers. Of course, some consumers have found themselves with ill-suited products failing to meet their circumstances or have not been treated fairly and it is absolutely right that this is addressed. However, I am not convinced that the FSA’s plans for responsible lending really improve outcomes for customers or lenders.

The FSA has been clear since it launched the MMR last year that it believes income verification should always be provided, removing the ability for lenders to offer self cert or fast track loans. It therefore comes as no surprise that this stance has been maintained and on paper sounds logical.

But the picture is not clear cut. The prohibition of self cert could throw up problems for existing borrowers unable to prove their income. According to the FSA’s own figures, a potentially large number of existing mortgage customers may be unable to remortgage and access better deals.

More fundamental is the question exactly how important is providing proof of income? Mortgage lending is based on assessing risk. Lenders wish to know that the borrower has the ability to repay the mortgage. However, any correlation between non income verified loans and arrears is less than compelling, in fact many self cert and fast track loans perform very well. So any consumer benefit in that respect is likely to be minimal.
The FSA also focuses on affordability being at the core of the lending decision. I would argue that this is not new.

The FSA’s intention is that the lender is ultimately responsible for assessing the affordability of the mortgage. For most this will not mark a major shift. Many lenders conduct affordability checks, although some simply use income multiples or a hybrid of the two. Where this proposal may have an adverse impact is if lenders feel obliged to undertake very stringent and inflexible assessments, potentially ruling out many good quality borrowers.

The other contentious area being discussed is the future of interest only mortgages. Though the FSA are not proposing any action at this stage, the direction of travel appears to be to impose limits on this form of lending in the future, perhaps an outright ban. This will be very damaging – not only for many valid customer groups who benefit from interest only arrangements whilst posing no greater risk of default, but the mortgage market as a whole.

My main concern with the proposals is the risk of unintended consequences for consumers and the cumulative impact of rapid regulatory change.

The FSA has already enhanced its supervisory and prudential arrangements, and it is too early to assess the impact of these measures. Against this backdrop, the European Commission are also looking at responsible lending and their proposals may conflict with, and override those proposed by the FSA.

I am also disappointed that the FSA is not exploring in more detail how consumers can be encouraged to take greater responsibility for their actions. I do not agree
with the FSA’s assertion that consumers need to be protected from themselves, and would rather see action that helps raise financial capability and help consumers be better informed.

On balance I believe it is sensible for the FSA to consult widely on the proposals. They should then fully assess the impact of the supervisory and prudential changes that have been made, and only move ahead with rule changes that are targeted where consumer detriment persists.