The UK’s financial regulator is looking to overhaul its mortgage sales requirements so that brokers will need to explain why they have recommended a mortgage if it is not the “cheapest suitable mortgage”.
The Financial Conduct Authority (FCA), the UK’s financial services regulator, has launched a consultation on changes to mortgage advice and selling standards to “ensure consumers have the information and support they need to make informed choices about how they buy a mortgage, and help them get good value from advice”.
The consultation comes after the FCA undertook a Mortgages Market Study (MMS), which found that some of its advice rules were acting as “a barrier to the development of new tools to help customers choose and buy a mortgage”.
As well as looking at changing its rules to make it clear that tools that allow customers to search and filter available mortgages are not necessarily giving advice and that some forms of interaction “such as firms helping consumers with their applications”, do not require advice – it is also looking at bringing in a new requirement for brokers.
Given the fact that Australia has followed the UK in much of its broking legislation, it is notable that the FCA is also looking to bring in a new requirement for brokers around price considerations at a time when Australia is also reviewing the regulation around broking.
Reasons for the change
The FCA’s proposed changes come after the regulator found that around 30 per cent of consumers are overpaying on their mortgages, even in advised purchases.
According to the FCA, around 97 per cent of new mortgage sales are advised in the UK overall – while around 75 per cent of mortgages are written by the third-party channel.
However, the MMS found that around 30 per cent of consumers could have found “an identical suitable mortgage (or one with better features) that was cheaper than the one they bought”.
Moreover, it found that in 31 per cent of third-party originated loans there was a cheaper alternative available on the market for which the consumer was eligible and that in 13 per cent of intermediated sales, there was a cheaper alternative product available through that broker.
On average, the difference in borrowing cost for these mortgages sales where there was a cheaper alternative was around £550 per year (approximately AUD $1,022) over the introductory period of the mortgage.
While most customers receiving advice obtained suitable mortgages, the FCA said, their likelihood of overpaying was not affected by whether they received advice or used an intermediary.
“This might be contrary to expectation, given the training and experience of advisers and that intermediaries have a greater ability to search the market than consumers,” the FCA report reads.
The FCA found that intermediaries are “reasonably strong at picking a product that does not have a cheaper alternative among the lenders they know well. But they are less strong at picking better value mortgages among lenders they are less familiar with”.
“An intermediaries’ preference for familiar lenders could therefore lead to some of their consumers missing out on cheaper alternative mortgage products,” it adds.
As such, the regulator is now looking to require an adviser to explain their reasoning when they “recommend a mortgage which is not the cheapest of the mortgages that meet the customer’s needs and circumstances”.
It estimates that the benefits from purchasing “best-value mortgages” would provide an ongoing benefit to consumers of between £100.1 and £114.4 million a year (up to A$ 212 million).
While it acknowledges that there would be additional costs to the broker, it estimates that it would only take advisers an addition 15 minutes of time. Overall, it expects the ongoing costs of the “price checking and recording requirements to be £4.6 to £5.2 million a year (up to $9.66 million).
While the UK used to have in place a ‘safe harbour’ provision that meant that advisers recommending the cheapest suitable mortgage were found to have passed the “most suitable” requirement, this was scrapped in 2014 because it was too hard for firms to prove.
In the consultation paper, the FCA states: “We are not proposing to return to [this] position. However, given the level of overpaying identified in the market study, we think that we should require advisers to consider price as a factor in their recommendations.
“We propose to add a requirement in advised sales that, if the adviser is not recommending the cheapest of the suitable mortgages from their product range, they must explain why to the customer and record the reason.
“We think this approach reflects and builds upon good practice in the market. We are aware that many advisers already discuss price with their customers and if they are not recommending the cheapest of the suitable mortgages from their product range, explain why. We also consider that the proposed requirement is easier for firms to attain and prove,” the regulator said.
However, the FCA argued that as it does not want to incentivise advisers to “focus on price at the expense of recommending a mortgage that meets the customer’s other needs and circumstances”, brokers must first ascertain the customer’s needs and circumstances and identify the mortgages that meet these.
“In cases where the adviser does not recommend the cheapest of these mortgages, the adviser must explain why and keep a record of the explanation.”
As an example, the FCA said that a broker may recommend the second cheapest two-year fixed rate mortgage with no upfront fees if the cheapest of these is offered by a lender known to have a slow speed of service and the customer prefers an offer quickly.
“It is in these cases, that the explanation must be given and recorded,” the FCA said. “We think this gives the customer a chance to challenge the recommendation, as well as leveling up the quality of advice to the good practice already seen in the market.”
Christopher Woolard, executive director of strategy and competition at the FCA, concluded: “The mortgage market is working well for most customers but we have identified some areas where our rules are acting as a barrier to innovation.
“The changes we’ve announced… will allow firms to develop products and services which can truly meet the needs of customers.”
The FCA is consulting on the new rules until 7 July 2019 and will publish its feedback and final rules around the end of the year.
The changes are notable given the “very close relationship on supervisory and enforcement matters” between ASIC and the FCA and the fact that the banking royal commission has looked at whether Australian brokers should be held to a new “best interest duty”, and what that entails.