Lenders paying value-based upfront and trail commissions to mortgage brokers could be in breach of their legal obligations, according to the interim report of the financial services royal commission.
In the interim report of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, Commissioner Kenneth Hayne has claimed that lenders paying value-based upfront and trail commissions could be in breach of section 47(1)(b) of the National Consumer Credit Protection Act (NCCP).
Section 47(1)(b) states that licensees must “have in place adequate arrangements to ensure that clients are not disadvantaged by any conflict of interest that may arise wholly or partly in relation to credit activities engaged in by the licensee or its representatives”.
Commissioner Hayne pointed to conclusions reached by the Australian Securities and Investments Commission (ASIC) in its broker remuneration review and by Commonwealth Bank (CBA) in its submission to the Sedgewick review.
The commissioner stated that such reports suggested that value-based commissions were “reliably associated” with higher leverage, and that loans written through brokers have a higher incidence of interest-only repayments, higher debt-to-income levels, higher loan-to-value ratios and higher incurred costs compared with loans negotiated directly with the bank.
“Those conclusions point towards (I do not say require) a conclusion that the lenders did not have adequate arrangements in place to ensure that clients of the lender are not disadvantaged by the conflict between the intermediary’s interest in maximising income and the borrower’s interest in minimising overall cost,” Commissioner Hayne said.
However, Commissioner Hayne claimed that breaches of section 47 “are duties of imperfect obligation in as much as breach is neither an offence nor a matter for civil penalty”.
He continued: “Instead, breach of the general obligations may enliven ASIC’s power under section 55 to cancel or suspend the licensee’s licence.
“Hence, to refer this issue to ASIC would be to refer a matter that could not lead to any enforcement action other than cancellation or suspension of a licence.”
The commissioner added that any consideration of changes to the way breaches of section 47 are enforced would be “overtaken by any industry-wide change to remuneration structures”, noting that “where the failure (if that is what it is) is industry-wide, it would not be the occasion to consider cancellation or suspension”.
Commissioner Hayne concluded: “For these reasons, I go no further than noting that continuing to pay intermediaries a value-based upfront and trail commission after the deleterious consequences of the practice had been identified might have been a breach of Section 47(1)(b) of the NCCP Act.”
[Related: Royal commission releases interim report]