The Royal Commission is currently undergoing its final round of hearings with CEOs and Chairmen of the major banks and ASIC appearing. The Commission’s final report is due to be released in February next year. There are a number of concerns about the direction the commission has taken and how it may have significant consequences on competition in lending.
Any reduction in competition is likely to result in higher costs for the borrowing public.
Threat to competition
During the course of the Royal Commission (RC) much has been made of the manner in which mortgage brokers are paid with many discussions on the prospect that brokers should charge a Fee for Service rather than receive a commission from lenders. Most lately, the CEO of the Commonwealth Bank suggested that such a model would be their preference.
This assertion is now well documented as self-serving and designed to restrict competition through a deliberate attempt to remove (or at least restrict) the broker channel and, in so doing, restrict the activities of smaller lenders with more competitive pricing structures. The borrowing public needs to be very wary of such an outcome – especially given the behaviour of these banks (and CBA in particular) so explicitly revealed during the hearings.
Prior to the rise of the broking industry the provision of home loans was dominated by the major banks – now known as the “Big 4”. Smaller banks and other lenders had little to no way of distributing their products outside of their immediate sphere – location, industry etc. This meant that the margins being charged by the major banks (the difference between their cost of money and the rate they lent the money out at) were very large – four to five percent.
Through competition, brought about by brokers, this profit margin has been reduced to around 2% - yet they still produce record profits each year.
What do brokers bring to the table
Firstly, brokers act as your advocate - they work for you and therefore have your best interests at heart. Their business depends on it.
Over 55% of all home loans written in Australia are now written by mortgage brokers indicating overwhelming public acceptance of this model. Brokers provide wide choice to consumers and usually have 20 to 30 lenders on their panel to enable them to deliver the most appropriate product to their clients.
The broking industry has provided many lenders (that do not have a wide branch network) with a distribution channel across Australia. It has enabled these lenders to compete on a level playing field and, through this competition, has put downward pressure on interest rates. Estimates of the reduction in rates created by this competitive force are in the region of 2% to 3% p.a. This equates to around $300,000 over the 30-year life of a $500,000 home loan.
It would be naïve at best to believe that the elimination of commission paid to brokers would enable a reduction in interest rates. Firstly, we have the past behaviour of the banks. If they return to a more dominant position it would be foolish to assume that they won’t begin to edge interest rates up over time.
Furthermore, the additional and significant costs of taking the vast amounts on work that brokers do back in house will need to be recovered.
Current fallout and what should I do?
In response to some of the concerns raised in the RC lenders have begun to apply more restrictive lending policies and far greater scrutiny of loan applications – not always such a bad thing. However, some of the things that impact on an applicant’s borrowing capacity are worthy of greater exploration. In particular, the scrutiny being applied to expenses.
Of course, it always important when assessing borrowing capacity to ensure that ongoing expenses are fully and correctly disclosed and identified. However, lenders’ new practice of reviewing 1 – 3 months bank statements to verify and apply an ongoing expense situation fails to take into account the sacrifices home buyers traditionally make to purchase their first (or upgraded) home. Entertainment and holiday costs, for example, are often curtailed in favour achieving the home ownership goal.
Scrutiny of bank statements and application of expenditure identified therein fails to take these curtailments into account and many applicants are finding that they no longer qualify for the loan they want or need.
I would suggest that in the current environment that if you anticipate applying for a home loan you review every item of expenditure through your bank and credit card statements – rest assured the bank will. This is the time to eliminate or reduce your discretionary spending.
It will no longer be acceptable to take the view that “when I get the loan, I’ll reduce my spending” because you may not get the loan. Make the reductions now so that you can demonstrate what your ongoing expenses will be based on recent experience.
If you’d like any additional information on the ongoing lending landscape and how it may impact you please feel free to contact me at any time. My details are:
David Harris
Professionals Finance
e: dharris@pgfin.com.au
p: 0411 235954
If you have any concerns about the potential restriction of competition, I would urge you to visit keepcompetitionalive.com.au.
Disclaimer: The content of this article is general in nature and is presented for informative purposes. It is not intended to constitute financial advice, whether general or personal nor is it intended to imply any recommendation or opinion about a financial product. It does not take into consideration your personal situation and may not be relevant to circumstances. Before taking any action, consider your own particular circumstances and seek professional advice. This content is protected by copyright laws and various other intellectual property laws. It is not to be modified, reproduced or republished without prior written consent.
