On 4 February, the final report of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry was publicly released, causing a whirlwind of pain for the broking industry. In the following pages, we review the recommendations from the report, what industry thinks of it and where we go from here.
More than 15 months after the letters patent outlined the remit of the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, the final report was handed to Governor-General Sir Peter Cosgrove on 1 December and publicly released on 4 February 2019.
Building on commissioner Kenneth Hayne’s findings from his interim report (released in September 2018), the final report brought to conclusion an extensive inquiry that involved reviewing more than 10,000 submissions from the Australian public, 69 days of public hearings and thousands of documents provided by entities, regulators and consumer advocacy groups, and thousands of phone calls.
Over the course of seven rounds of hearings, the royal commission inquired into matters where it considered conduct of financial services entities might have amounted to misconduct and looked into whether any conduct, practices, behaviour or business activities by those entities fell below community standards and expectations.
In his final report, commissioner Hayne outlined four observations that had concerned him through the course of the royal commission:
In a bid to reduce the underlying causes of misconduct, commissioner Hayne put forward to the Governor-General a total of 76 recommendations for the industry as a whole – with five recommendations specifically looking at mortgage brokers.
In his 1,000-page final report for the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry, Commissioner Hayne reiterated his concerns from his interim report regarding broker remuneration arrangements that “might” be conflicted and warned that lenders that pay value-based commissions to brokers may be breaching their obligations under the National Consumer Credit Protection (NCCP) Act.
The commission therefore called for a radical shake up of the mortgage broker model, particularly in regard to remuneration, so that it fits under Commissioner Hayne’s belief that
“the general rule that should apply throughout the financial services industry is that an intermediary who is paid to act as intermediary: acts for the person who pays the intermediary; owes the person who pays a duty to act only in the interests of that person; and ordinarily owes the person who pays a duty to act in the best interests of that person”.
The recommendations only apply to mortgage brokers – and do not apply to finance brokers.
Many in the industry had expected the commission to make such a recommendation on changing commissions (particularly given its commentary during the royal commission hearings), but not to this extent. Many had hoped that the commission would call for more qualifications of why commission was being paid, rather than a wholesale change (see page 28 for industry reaction and what is being done to ensure the right messages are being heard).
It is notable that commissioner Hayne came to these conclusions to shake up the mortgage broking remuneration model given that the ASIC Review into Broker Remuneration did not find any systemic problematic issues with the broker remuneration model, and that relatively few instances of broker misconduct were heard during the royal commission.
It’s also interesting as there seems to be very little evidence for consumers wanting a change to broker remuneration. When it comes down to community expectations and what a consumer thinks, the Momentum Intelligence Consumer Access to Mortgages Report shows that nearly 80 per cent of borrowers do not have an issue with the way brokers are paid. Further, the Momentum Intelligence report found that while two-fifths of respondents said they were willing to pay a fee, the vast majority were only willing to pay a nominal fee.
Just 11 per cent said they were willing to pay a maximum of $1,000 for a broker’s service, while 3.5 per cent would pay up to $2,000 and only 1 per cent would pay up to $5,000.
A common theme uncovered from the responses to this report was that while borrowers prefer to use a mortgage broker, they would be unable to afford to pay a fee-for-service if it were mandated.
Despite the royal commission’s recommendations, there has been promising commentary from Prime Minister Scott Morrison and Treasurer Josh Frydenberg that any move to a borrower-pays model needs careful consideration.
Following his address at the National Press Club on 11 February, Mr Morrison was asked about his stance on mortgage brokers and commissioner Hayne’s recommendations, to which he responded that the government “understand[s] the important role that [brokers] play in the community”.
“If you start turning that industry on its head, you just hand the power back to the banks,” he said.
“Now I don’t see how that achieves our objective, and that is why we have been extremely cautious on that point.”
The former treasurer-turned-PM continued: “These are tens of thousands of small and family businesses that help mums and dads get a good deal on their mortgage so they don’t have to just face the banks themselves.
“It’s a pretty important service. We want to make sure that Australians still have access to that service.
“Yes, the royal commission has recommended some changes that will need to be absorbed over time, and those businesses can absorb those over time if they are done in consultation and we work together. But I want to see as many mortgage brokers in this country five years from now, in fact, more than there are today.”
Mr Morrison concluded: “I don’t want to see this sector wither on the vine and be strangled by regulation that would throw them out of business, but more importantly, would deny choice and competition in the banking system.
“If there is one thing that we have learned through this process, it is that we need more competition. We need more options. We need more choices. Not fewer. And that is what the Treasurer and I are concerned about in terms of how we would go forward on that one recommendation [on broker remuneration].
“So, [brokers] have my pledge that I get how important they are to Australia, Australian families, and Australians who want to buy a home and we will work closely with them [so] that we deal with the things that we need to deal with.... But we will do it in a partnership way that makes the sector stronger, not weaker.”
Recommendation 1.2 – Best interests duty
The law should be amended to provide that, when acting in connection with home lending, mortgage brokers must act in the best interests of the intending borrower. The obligation should be a civil penalty provision.
Mr Hayne wrote: “[T]he first, and in my view essential, step to take is to bring the law into line with what consumers expect. They expect brokers to act in their best interests. Brokers should be obliged to do so…
“I consider that the law should be amended to provide that, when acting in connection with home lending, mortgage brokers must act in the best interests of the intending borrower… Imposing this obligation would give statutory recognition to what borrowers currently expect of brokers.”
Recommendation 1.3 – Mortgage broker remuneration
The borrower, not the lender, should pay the mortgage broker a fee for acting in connection with home lending.
Commissioner Hayne wrote: “Changes in brokers’ remuneration should be made over a period of two or three years. I would begin with trail commissions. There should come a time within about 12 or 18 months (no greater precision is possible) when lenders are prohibited from paying trail commission to mortgage brokers in respect of new loans. Existing trail commissions would stand unaffected…
“Within a further 12 to 18-month period, lenders should be prohibited from paying any other commissions to mortgage brokers. Lest there be any doubt about it, my intention would be that the fee payable to a broker in respect of advising about, procuring or negotiating loans after that date would be payable by the borrower, and, if the lender agrees, could be paid out of the principal sum advanced to the borrower under the loan agreement. How the fee is fixed is best left to the market to determine. It could be a fixed amount, a stepped fee, a value-based fee or some combination.”
Recommendation 1.4 – Establishment of working group
A Treasury-led working group should be established to monitor and, if necessary, adjust the remuneration model referred to in Recommendation 1.3, and any fee that lenders should be required to charge to achieve a level playing field, in response to market changes.
“The working group should pay particular attention to: the effect of the changes on interest rates; the effect of the changes on competition between lenders; the effect of the changes on competition between lenders and brokers; and developments in the residential mortgage market that mean that the changes that I have proposed should be re-evaluated,” Commissioner Hayne added.
Recommendation 1.5 – Mortgage brokers as financial advisers
After a sufficient period of transition, mortgage brokers should be subject to and regulated by the law that applies to entities providing financial product advice to retail clients.
The commissioner wrote: “I know that doing this would bring with it the requirement to provide written statements of advice. I know that it would bring with it the educational requirements expected of other financial advisers.
“But what reasonable answer can be given to the observation that the special and distinct treatment of mortgage brokers is no more than yet another carve out from, or exception to, generally applicable rules stated in the law because they are seen as necessary to the proper conduct of provision of financial services in Australia? None is evident to me.”
Recommendation 1.6 – Misconduct by mortgage brokers
ACL holders should:
Commissioner Hayne wrote: “It is necessary in principle, and better in practice, for lenders and aggregators discovering misconduct by a broker to make whatever inquiries are reasonably necessary to determine the nature and full extent of the broker’s conduct. Where there is sufficient information to suggest that a broker has acted poorly, any customer affected by that misconduct should be told and remediated promptly.”
*Recommendation 2.7 - All AFSL holders should be required, as a condition of their licence, to give effect to reference checking and information-sharing protocols for financial advisers, to the same effect as now provided by the ABA in its ‘Financial Advice – Recruitment and Termination Reference Checking and Information Sharing Protocol’).
** Recommendation 2.8 - All AFSL holders should be required, as a condition of their licence, to report ‘serious compliance concerns’ about individual financial advisers to ASIC on a quarterly basis).
***Recommendation 2.9 - All AFSL holders should be required, as a condition of their licence, to take the following steps when they detect that a financial adviser has engaged in misconduct in respect of financial advice given to a retail client (whether by giving inappropriate advice or otherwise): make whatever inquiries are reasonably necessary to determine the nature and full extent of the adviser’s misconduct; and where there is sufficient information to suggest that an adviser has engaged in misconduct, tell affected clients and remediate those clients promptly.
A NOTABLE SUGGESTION
Commissioner Hayne also put the suggestion that as broker remuneration changes, so too should aggregator remuneration.
Ceasing payment of commissions from lenders to aggregators
“Under the proposed model, this form of remuneration should not continue. If brokers value the service provided to them by an aggregator, they should pay the aggregator a fee for that service. If lenders value the service provided to them by an aggregator, they too should pay the aggregator a fee for that service. The market should determine those fees. The Treasury-led working group should monitor the activities of aggregators under the new model,” Commissioner Hayne wrote.
With a federal election just around the corner, many politicians have been coming out with their official positions on the broker recommendations and outlining what they would implement should they gain power. Here’s what some of the main political parties have said so far.
The official government response to the royal commission final report reads: “The government agrees to introduce a best interests duty for mortgage brokers to act in the best interests of borrowers. The best interests duty will not change the responsible lending obligations for broker originated loans.
“The government also agrees that a breach of the best interests duty should be subject to a civil penalty. The government agrees, following the implementation of the best interests duty, to further align the regulatory frameworks for mortgage brokers and financial advisers.”
The official response went on to outline that the government agrees to “address conflicted remuneration for mortgage brokers”.
It reads: “The government recognises the importance of competition in the home lending sector and will proceed carefully and in stages, consistent with the recommendation, with reforms to ensure that the changes do not adversely impact consumers’ access to lenders and competition in the home lending market.
“From 1 July 2020, the government will prohibit for new loans the payment of trail commissions from lenders to mortgage brokers and aggregators. From that date, the government will also require that the value of upfront commissions be linked to the amount drawn-down by borrowers and not the loan amount, and ban campaign and volume-based commissions and payments.
“The government will additionally limit to two years the period over which commissions can be clawed back from aggregators and brokers and prohibit the cost of clawbacks being passed on to consumers.”
The government has said that it will also ask the Council of Financial Regulators, along with the ACCC, to review in three years’ time the “impact of the above changes and implications for consumer outcomes and competition of moving to a borrower pays remuneration structure for mortgage broking”.
The government agrees to apply information sharing and reporting obligations to Australian Credit Licence holders in respect of misconduct by mortgage brokers, including requiring licensees to make whatever inquiries are reasonably necessary to determine the nature and full extent of misconduct.
Australian Labor Party
In its official response to the royal commission final report, the Labor Party said it had “listened to experts including the Productivity Commission and the governor of the Reserve Bank of Australia, and we recognise that moving to a customer-pays model in mortgage broking poses real risks to competition in the banking sector”.
“Labor notes that in Recommendation 1.4, Commissioner Hayne was clear that there could be competition impacts if Recommendation 1.3 was fully implemented hastily,” it said.
Labor has said it will therefore:
Shadow treasurer Chris Bowen commented: “Labor will deal with the royal commission’s key concerns with mortgage broker remuneration, namely conflicted remuneration and incentives that drive higher average loans sizes that may not be in the consumer’s best interests.
“We will impose a fixed percentage upfront fee for brokers that will eliminate the conflict of interest that comes from different lenders offering different commission rates while ensuring this upfront commission can only apply to the amount drawn down by the borrower.”
The Australian Greens
“Accepting all of these recommendations will go some way towards improving the system, but the system needs more than a tweak, it needs a complete shakeup,” leader of the Australian Greens senator Richard Di Natale said.
“The Greens welcome the thrust of the recommendations, and are particularly pleased to see some of the Greens’ recommendations adopted, including:
“However, the Greens proposal to fix Australia’s banking sector would:
“The ones who are really collateral damage from the royal commission are mortgage brokers, and the commission’s targeting of them will only serve to wreck one industry and further profit the banks,” said Australian Conservatives leader senator Cory Bernardi.
“Overwhelmingly, I use a mortgage broker because they make my life easier, and if the legislation in reaction to the commission’s recommendations destroys the mortgage broking industry, ordinary Australian consumers will be worse off in terms of choice and convenience.”
Mr Bernardi added: “But if you are asked to pay $5,000 upfront for that [service], I don’t think people will. You will send them to the wall and what will happen they will have to deal with the banks, they will pocket the cash, you will never get a better deal, and it will make it harder.
“It has squibbed the big deals. What they should be doing is breaking the banks up into deposit and loan making institutions, taking away their foreign exchange trading, their punting with everyone else’s money. If they have a government guarantee on their deposits then should stick to their knitting, which is taking deposits and making home and business loans.”
“Commissioner Kenneth Hayne’s recommendations in his final report into misconduct in the banking industry has immediately jeopardised the survival of more than 17,000 small businesses across Australia,” One Nation Leader Pauline Hanson said.
“That’s the number of mortgage brokers providing loans to mums and dads, who rely on upfront and trailing commissions paid by the lender to survive. Take those commissions away and make the borrower pay, and you will decimate the industry.
“That’s tens of thousands of jobs, millions of dollars in tax revenue and much less competition for the big banks.
“The recommendations have also jeopardised more than 100 small lenders in Australia – lenders that have shifted into regional areas to partially fill the void left by the big banks moving out. Those small lenders, including regional banks and credit unions, rely on mortgage brokers to reach customers.
“The consequences of Hayne’s mortgage broker industry recommendations will be far-reaching for small businesses, consumers and our economy. And they won’t be positive.
“If mortgage brokers become unviable, so too do dozens of lenders. Market power shifts back to the big banks and interest rates will go up. Customers lose out.”
Ms Hanson concluded: “Hayne has these recommendations wrong. The government and Labor are blindly walking into a huge trap by abolishing trailing commissions. Bill Shorten and Scott Morrison need to consult with the industry before making these sweeping changes or they risk enormous fallout.”
Annie Kane is the editor of The Adviser magazine, Australia’s leading magazine for mortgage brokers.
As well as writing news and features on the Australian mortgage market, financial regulation, fintechs and the wider lending market – Annie is also the host of the Elite Broker podcast and regulator contributor to the Mortgage Business Uncut podcast.
Before joining The Adviser team at Momentum Media in 2016, Annie wrote for a range of business and consumer titles, including The Guardian (Australia), BBC Music Magazine, Elle (Australia), BBC Countryfile, BBC Homes & Antiques, and Resource magazine.
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