Brokers, bank staff and anyone who directly interacts with and offers or recommends a home loan to a borrower should be held to a new “best interest” obligation, the Productivity Commission has told the government.
In its 686-page final report titled Competition in the Australian Financial System, which was released on Friday (3 August), the commission outlined a swathe of changes to the way the broking industry works, including changes to remuneration and a new best interests obligation.
According to the Productivity Commission (PC), the “interests of providers who match borrowers to home loans are not always aligned with those of their clients”.
The PC stated: “Our primary concerns about broker remuneration, from a competition perspective, include that recovery of such payments by lenders (for example, through higher mortgage interest rates across their portfolios) may be imposing additional costs on all home loan borrowers, and that current structures are at times highly likely to motivate brokers (and possibly lenders) to act in ways other than in the consumer’s interests.
“Unlike in wealth management (a similar advisory business, involving serious financial cost), mortgage brokers are not presently obliged by law to act in the best interest of the customer. And as we have seen with wealth management, a shift in that law may not be sufficient — CEO or board-level interest in its application is needed.
“The best place to start is simpler and open remuneration structures aligned as far as practical with customers’ best interests.”
Currently, brokers are legally obliged to ensure that borrowers are in a loan product that is “not unsuitable” for their needs, but the PC noted that “the mortgage broking industry trades on a belief that broking services are provided with the interests of the borrower at the forefront”, and that “many brokers hold themselves out as acting in the best interest of their clients”.
“As a result, many borrowers put their trust in brokers to do so, and make decisions about their home loan in reliance of the recommendation they have received from their broker. The introduction of a clear, positive obligation owed to the client would ensure that the legal obligations of brokers align with customer’s beliefs,” the report said.
What the best interest duty would look like
The PC recommends that the new best interest obligation be implemented through the National Consumer Credit Protection Act (the Credit Act) and cover licensees that provide credit assistance services in relation to home loans (i.e. all mortgage brokers either directly or as representatives of a licence holder, as well as lenders who provide the same services).
This means that brokers that are ACL holders would be directly responsible for meeting the obligation, while aggregators would be responsible for those working under their licences.
It would also be imposed on credit providers and other types of credit service providers. Again, these licensees will be responsible for compliance by their representatives (such as staff).
“For borrowers, this could reduce confusion around whether the person they are speaking to about their home loan is under a best interest obligation or not,” the PC said.
However, the PC said that it expected that “the bar that lenders would need to meet in order to discharge their obligations would be lower”, partly because it would be “infeasible to require lenders (and their staff) to provide information about or recommend the loans of their competitors”.
“As a result, the laws that implement the best interest obligations may need to have provisions for lenders specifically,” the commission said.
Mortgage broker obligation
The report outlined that the best interest obligation would govern the process through which mortgage brokers prepare recommendations for their clients and comprise several elements, including identifying and considering:
- the client’s needs and objectives — including the amount to be borrowed and the term of the loan sought
- the client’s priorities and preferences over different products — including preferences relating to the price of the loan, the level of customer service offered by the lender and product features such as offset accounts or bundled products
- the client’s personal circumstances and financial situation, to the extent that they could affect the suitability of different products
- whether the broker has the expertise or ability to make a recommendation that meets the client’s needs, objectives, priorities and preferences
- whether the broker has access to mortgage products that meet the client’s needs, objectives, priorities and preferences
- which of those mortgage products best meet the client’s needs, objectives, priorities and preferences
The duty would also entail certain disclosures being made, the PC said, such as:
- disclosures about the role of mortgage brokers in matching borrowers with home loan providers
- the types of products offered by different lenders (including white label loans and which lender provides the funding for them)
- why a particular loan was recommended, including the methodology used to identify that loan (such as computer software)
- real or potential conflicts of interest, including remuneration arrangements and any ownership relationships between lenders and aggregators
- that the broker is under a duty to prioritise the interests of the client, in the event that the interests of the client and the broker conflict
- features associated with different loans
- the types of products that will not be considered by the broker (for example, if a broker cannot recommend a specific product because the lender sits outside their panel, they should inform the client of that)
The PC’s report added that the new obligation is not intended to “reduce or replace” any of the existing requirements upon providers, but rather represent a “step up” in terms of the obligations owed to borrowers, and “fill a gap in the current regime by providing for a clear positive obligation owed to consumers”.
Further, the commission said that such an obligation is “not intended to represent a fundamental departure from the existing regulatory framework that governs the mortgage broking industry”, but instead “build on existing laws”.
It argued that such an obligation would help “safeguard against both real and potential conflicts of interest”.
The report reads: “Understood this way, there is a role for a best interest obligation, even if lenders do not currently attempt to influence broker behaviour through ownership or remuneration arrangements. The obligation is designed to deter lenders’ attempts to do so in the future.”
Speaking of the recommendation, the Mortgage & Finance Association of Australia (MFAA), said that while it agreed that "more can be done" with regards to having a “positive duty” to act in the customers’ interests, it did not agree that a best interests test, like that now used in financial advice, would be "appropriate".
"Given the significant size of aggregator lender panels, imposing a best interest test is impractical. It could also produce excessive contingent risk resulting in brokers limiting their number of accreditations which would restrict new lender entrants and diminish competition and choice for consumers," it said.
"The MFAA would be supportive of a priority of interest duty that puts the customer’s interests ahead of the industry participants’ interests," the association added.
The PC’s final recommendations are expected to be considered by the government alongside ASIC’s review of broker remuneration, and the findings of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, before the government makes any decision on the recommendations.