Tag: Mortgage Underwriting

What The HEM Decision Means

The key question now is will the banks revert to their previous practices of doing little to validate household spending patterns as part of the mortgage assessment processes. Some are already saying “buy now” with renewed vigour.

The Royal Commission revealed last year that some lenders ignored household expense data favouring the automated HEM decisioning. But on the basis of the finding, they are now in the clear.

Banks of course need mortgage lending to grow to enable their profits to rise, and in recent times that has been a problem. New lending momentum has been pretty slow.

HEM standards were tightened in July, meaning that the minimum spending benchmarks were lifted especially for households on higher incomes. Some banks have been asking for painful detail and history in lieu of using HEM, and this has slowed lending decisions but around half of loans are still approved by HEM.

We also need to link this with the APRA loosening of the interest rate hurdle which gives lenders flexibility on their decisioning (within limits).

ASIC is currently taking evidence from the industry on potential changes to responsible lending, and has said we should expect some revisions by years end. Plus they have previously stated that even if they lost the Westpac case, they would still insist that while HEM is a useful too it is not necessary and sufficient to meet their requirements.

The trouble is the original ASIC guidelines were vague, and the “non-unsuitable” formulation left significant ambiguity. This needs to be changed.

The way through this is to use debt to income ratios, something which has been in place in the UK and NZ for some time, as we know the risks of loss are greater when the Debt To Income ratios are higher.

But then the question will become, how prescriptive should the regulators be, and of course in the current weakening economic environment there will be an attempt to push lending harder.

So, my expectation is there will be some loosening of underwriting standards (which is bad) while the Banks can assume class actions relating to responsible lending will be unlikely to proceed.

I expect households will be required to certify the accuracy of their expenses, but that banks once they have that protection will be will to lending within the HEM framework.

So the bottom line is, yes, I expect more credit will be offered, the question is will households lap it up – leading to rises in prices (as credit growth and home price growth are linked), or will the weak wages growth, high costs of living and home price momentum (or lack of it) reduce demand.

The finance and real estate sector will be spinning hard to try and entice people into the market. Just remember we have the biggest debt bomb ticking away.

But the banks are also on notice now.

Amidst the court proceedings with ASIC, Westpac updated its group credit policies “to enhance the way [it] captures customer living expenses, commitments, and verify documentation.”

A Westpac spokesperson said, “We recognise sometimes it can be difficult for customers to provide a complete picture of their expenses and the enhancement of our expense categories means our staff and brokers have the opportunity to prompt customers to remind them about particular expenses they may have forgotten.”

APRA Opens The Mortgage Lending Taps [Podcast]

We look at today’s APRA announcement and their changes to mortgage lending practice guidelines. What are the implications?

Digital Finance Analytics (DFA) Blog
Digital Finance Analytics (DFA) Blog
APRA Opens The Mortgage Lending Taps [Podcast]
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APRA finalises amendments to guidance on residential mortgage lending

The Australian Prudential Regulation Authority (APRA) has announced that it will proceed with proposed changes to its guidance on the serviceability assessments that authorised deposit-taking institutions (ADIs) perform on residential mortgage applications.

In a letter to ADIs issued today, APRA confirmed its updated guidance on residential mortgage lending will no longer expect them to assess home loan applications using a minimum interest rate of at least 7 per cent. Common industry practice has been to use a rate of 7.25 per cent.

Instead, ADIs will be able to review and set their own minimum interest rate floor for use in serviceability assessments and utilise a revised interest rate buffer of at least 2.5 per cent over the loan’s interest rate.

APRA received 26 submissions after commencing a consultation in May on proposed amendments to Prudential Practice Guide APG 223 Residential Mortgage Lending (APG 223). The majority of submissions supported the direction of APRA’s proposals, although some respondents requested that APRA provide new or additional guidance on how floor rates should be set and applied.

Having considered the submissions, Chair Wayne Byres said APRA believes its amendments are appropriately calibrated.

In the prevailing environment, a serviceability floor of more than seven per cent is higher than necessary for ADIs to maintain sound lending standards. Additionally, the widespread use of differential pricing for different types of loans has challenged the merit of a uniform interest rate floor across all mortgage products,” Mr Byres said.

“However, with many risk factors remaining in place, such as high household debt, and subdued income growth, it is important that ADIs actively consider their portfolio mix and risk appetite in setting their own serviceability floors. Furthermore, they should regularly review these to ensure their approach to loan serviceability remains appropriate.”

APRA originally introduced the serviceability guidance in December 2014 as part of a package of measures designed to reinforce residential lending standards.

Mr Byres said: “The changes being finalised today are not intended to signal any lessening in the importance APRA places on the maintenance of sound lending standards. This updated guidance provides ADIs with greater flexibility to set their own serviceability floors, while maintaining a measure of prudence through the application of an appropriate buffer that reflects the inherent uncertainty in credit assessments.” 

The new guidance takes effect immediately.

Copies of the letter and the updated APG 223 are available on the APRA website here.

Associations call for ‘clarity’ on expense verification

The MFAA and the FBAA have called on ASIC to provide the mortgage industry with greater guidance surrounding expense verification, but have urged the regulator not to adopt a “prescriptive approach” to responsible lending, via The Adviser.

The Australian Securities and Investments Commission (ASIC) has published submissions from its first round of consultation regarding its proposal to update its responsible lending guidelines (RG 209).  

In February, ASIC stated that it considered it “timely” to review and update its guidance (in place since 2010) in light of its regulatory and enforcement work since 2011, changes in technology, and the release of the banking royal commission’s final report.

ASIC added that its review of RG 209 will consider whether the guidance “remains effective” and will seek to identify changes and additions to the guidance that “may help holders of an Australian credit licence to understand ASIC’s expectations for complying with the responsible lending obligations”.

In submissions to ASIC, the Mortgage & Finance Association of Australia (MFAA) and the Finance Brokers Association of Australia (FBAA) called for greater clarification surrounding guidelines that relate to the verification of a borrower’s expenses (which was a key point of scrutiny during the royal commission).

The MFAA encouraged ASIC to provide “as much guidance as possible”, and lamented the lack of uniformity in the application of current guidelines.  

“An unfortunate side effect of these changes is that the requirements of individual lenders have changed from being reasonably consistent to being quite diverse,” the MFAA noted.

“This is causing significant cost, confusion and delay for consumers as well as for brokers.

“This is not a good consumer outcome because it has become very difficult for brokers to be familiar with the requirements of multiple lenders whose credit policies vary considerably.”

The industry association claimed that a disparity in the credit policies imposed by lenders may limit borrower choice by “resulting in brokers dealing with a smaller panel of lenders”.

“It is important that RG 209 provides as much guidance as possible, specifically dealing with the five most common finance types (home loans, residential investment loans, car loans, credit cards and personal loans – excluding small amount credit contracts) to assist consistency in consumer accessibility to these products while supporting the spread of credit access across the market through the enhanced clarity of regulatory expectation,” the MFAA added.

“We envisage that within each of these five loan types, RG 209 should specify ‘base’ inquiries and verifications because current industry standards are often quite similar across the product range.”

The FBAA agreed, calling for “some additional guidance to be provided around expense verification”, but has warned against a move to a more prescriptive approach to responsible lending.  

“Responsible lending is principles-based and intended to be flexible, adaptable and technology neutral,” the FBAA stated.

“There are genuine risks associated with guidance becoming too prescriptive. It would undermine the intentions of the responsible lending framework, stifle productivity and innovation and impede consumer access to regulated finance.”

Public hearing to be held in August

Last week, ASIC confirmed that it will host a new set of public hearings to further discuss its proposed changes to its responsible lending guidelines.

The corporate regulator has now confirmed that the hearings will take place in August and will be held in both Sydney and Melbourne.

ASIC stated that the hearings, which will be live streamed online, are aimed at “testing the views of stakeholders and providing greater understanding of business operations”.

“The responsible provision of credit is critical to the Australian economy,” ASIC commissioner Sean Hughes said. 

“We are taking this opportunity to test views to make sure our guidance remains relevant, clear and timely.

“Public hearings will provide a robust and transparent way to air issues and views raised in written submissions.”

The stakeholders invited to participate in the hearings will be drawn from the groups or individuals who provided a written submission to ASIC on the responsible lending guidance.

APRA changes “unlikely” to invigorate housing market

While APRA’s proposed changes to serviceability assessments for ADIs have been broadly celebrated, others have expressed doubt that the regulatory revisions will stimulate the housing market in as meaningful a way as is hoped. Via Australian Broker.

“While these changes are welcome and will help some borrowers that can’t quite access a mortgage currently to get one, it is unlikely to result in a rebound in the housing market,” said CoreLogic research analyst Cameron Kusher.

Kusher referred to ANZ’s recent investor update to the market to elaborate on his stance.

The update from ANZ attributed reduced borrowing capacity to three factors: changes to HEM accounting for 60%, the servicing rate floor responsible for 30%, and income haircuts causing the remaining 10%.

Kusher pointed out that, according to this data, 70% of the reduction in borrowing capacity is unrelated to the current serviceability assessment model. Even if APRA were to change its current guidelines, it will likely continue to be much more challenging to get a mortgage than in the past.

Roger Ward, director of Champion Mortgage Brokers, agrees that the current 7.25% assessment rate is just one of six lending standards that have contributed to the credit squeeze.

Drawing from his 25 years in the banking and finance industry, Ward outlined the remaining five challenges to lending as:

  • Banks considering borrowers’ capacity to repay for the full 25 to 30 years of a mortgage term, despite most loans now only lasting seven to eight years
  • A one-dimensional and inaccurate approach to identifying spending habits and current costs of living
  • Changes in credit reporting providing data on the last 24 months’ payment history on credit cards, with one late payment sometimes enough to be declined by a bank
  • LVR changes and limitations, especially those impacting investors
  • Tiered interest rates dependant on the size of the original deposit

While allowing lenders to review and set their own minimum interest rate floor will undoubtedly help some borrowers access previously unreachable mortgages, the housing market will require stimulation from elsewhere in order for dwelling values to begin their rise.

According to Kusher, “[APRA’s] proposed changes, in conjunction with the uncertainty of the election now behind, will potentially provide additional positives for the housing market. [They] would potentially slow the declines further and may result in an earlier bottoming of the housing market.

“Despite that prospect, it will remain more difficult to obtain a mortgage than it has done in the past and we would expect that if or when the market bottoms, a rapid re-inflation of dwelling values is unlikely,” he concluded.

APRA Property Exposures Highlight Risks

APRA released the latest quarterly property exposures data today to December 2018. The new loans flow data shows that owner occupied lending is still running at a pretty good clip, while new investor loans are sliding – and the share of all loans interest only, have dropped considerably.

The mapping between investment loans and interest only loans is probably more than coincidence, as we know the bulk of IO loans are for investors, but APRA does not [conveniently?] split them apart.

We can look at IO loan approvals by lender type. Major banks had 16.3% of their loans interest only, well down from their peak of 40%.

Mortgage brokers are still originating a significant share of new loans (even if volumes are lower). Foreign banks have the largest share via brokers, the majors are at 48.6%.

The proportion of investor loans being written has fallen, with major banks writing about 31% for investment purposes. Still a big number!

Loans outside serviceability are still high, reflecting tighter standards. Major banks are at 5.5% outside serviceability, down a little from past couple of quarters, but still a significant issue. Tighten the rules, then break the rules!

Finally, we can look at high LVR lending, important seeing as in some areas of Sydney prices are now down more then 20%. Over 90% LVR loans are still being written – 7.2% of all loans by major banks (so if prices fall another 10% ALL of these will be in negative equity. Also the trend is higher, especially for mutuals.

And the 80-90% LVRs are at 14.8% of all new loans from the major banks. Foreign banks are higher.

So a further fall of 20% would put more than 22% of new loans underwater.

These results suggest the banks are still lending excessively in the current environment. Expect more trouble ahead.

US Agencies Seek To Weaken Mortgage Underwriting Standards

Three US agencies, the Board of Governors of the Federal Reserve System, Federal Deposit Insurance Corporation and Office of the Comptroller of the Currency have released a proposal seeking to lift the property value at which a full appraisal is required.

The three federal banking agencies announced they are seeking public comment on a proposal to raise the threshold for residential real estate transactions requiring an appraisal from $250,000 to $400,000. The appraisal threshold has remained unchanged since 1994, and the agencies believe an increase would provide burden relief without posing a threat to the safety and soundness of financial institutions.

All three agencies have approved the proposal, with the FDIC and the OCC acting on November 20. Comments will be accepted until 60 days after publication in the Federal Register.

Rather than requiring an appraisal for transactions exempted by the threshold, the proposal would require the use of an evaluation consistent with safe and sound banking practices. Evaluations provide an estimate of the market value of real estate but could be less burdensome than appraisals because the agencies’ appraisal regulations do not require evaluations to be prepared by state licensed or certified appraisers. In addition, evaluations are typically less detailed and costly than appraisals. Evaluations have been required for transactions exempted from the appraisal requirement by the current residential threshold since the 1990s.

This proposal responds, in part, to comments the agencies received during their recent review of regulations that the current exemption level for residential transactions had not kept pace with price appreciation.

Additionally, the proposal would incorporate the appraisal exemption for rural residential properties provided by the Economic Growth, Regulatory Relief and Consumer Protection Act and similarly require evaluations for these transactions. In addition, the proposal would require institutions to appropriately review all appraisals required by the agencies’ appraisal rules to ensure their compliance with appraisal industry standards.

ANZ “Enhances” Verification Requirements

ANZ has announced that it will implement a swathe of changes to its home and investment lending policy., via The Adviser.

ANZ has informed brokers that it will introduce enhanced home loan verification requirements, effective from 20 November.

Key changes include the following:

PAYG income: Brokers are required to obtain three months’ bank statements showing salary credits in order to verify income (in addition to payslips).

For casual, temporary and contract employees, six months of continuous employment is required, supported by six months of bank statements showing salary credits.

Overtime, bonus and commission income: Brokers are required to make inquiries of customers as to whether any of their income is comprised of overtime, bonus or commission, and record the overtime/bonus/commission amounts in the Statement of Position, adding that brokers should also include an explanation of the income in their submission/diary note.

In line with current ANZ policy, any income from bonus, commission or overtime needs to be removed from the income calculation and shaded in accordance with credit policy (currently 80 per cent), before being added back to the customer income, using the ANZ Toolkit.

However, the bank noted that if the overtime/commission/bonus amount cannot be identified from the customer’s payslips, or the customer has chosen to provide six months’ salary credits rather than salary credits and payslips, further payslips may be required in order to verify the amount of income that is derived from bonus, overtime or commission payments.

Casual, temporary or contract employment: Where a customer is in casual, temporary or contract employment, the customer will need to provide evidence of six months of continuous employment via salary credits through either ANZ transaction history or OFI bank statements.

In order to satisfy the continuous employment requirement, customers cannot have a gap greater than a total of 28 days (either continuous or cumulative), which ANZ said is measured by the pay period start/end dates on payslips or the number of salary credits available on ANZ transaction history/ OFI bank statements.

Additional checks by ANZ for irregular income: An additional check will be performed by ANZ to confirm if a customer’s income is irregular. If the assessor cannot satisfy themselves of the reasons for irregular income via the documents provided, the Statement of Position and any relevant diary notes, then they will contact the broker for further information.

OFI home loan: Three months of statements are required (even if the home loan liability is not being refinanced) to confirm monthly repayment amount and that the account conduct is satisfactory.

Where the loan account is less than three months old, a copy of the Letter of Offer (LOO) or the loan transaction history (showing balance AND at least one repayment) is considered acceptable provided the above conditions are also met.

Rental expenses: Three months of bank statements showing rental payments made by the customer will be required, or a lease agreement to verify the ongoing rental expense.

Additional commentary regarding customer’s financial situation

Brokers are required to make adequate inquiries with customers about their financial situation and provide additional commentary to explain any material differences between verification documents (for example, bank statements) and customer-stated income or expense figures in the Statement of Position, as well as any potential indicators of financial hardship.

ANZ stated that indicators of financial hardship may include adverse account conduct (e.g. overdrawn, excess, late payments, arrears), regular overdrawing of an account due to gambling transactions, and payday lender transactions.

Brokers have also been asked to include any additional commentary/explanation in a diary note, which the bank said will form part of ANZ’s assessment.

Changes to Broker Interview Guide:  Also effective on 20 November, ANZ has also announced that it will change questions in its Broker Interview Guide in relation to inquiries into a customer’s future financial circumstances, which will apply to all home and investment loan applications.

Key changes include: More detailed information required from customers who have stipulated a significant change to their future financial circumstances including the requirement for supporting documentation in some instances.

More detailed information required from customers who are approaching retirement including the requirement for supporting documentation in some instances.

The Sheep and the Goats

Intelligence suggests that some interest only loan borrowers are being encouraged to change lenders as their loans come up for review, across a number of banks.

This video summarises our research, based on feedback from 13 individual borrowers, who have confidentially  messaged me over the past couple of weeks.  Three respondents did not know they had an IO loan, so it came as a bolt from the view.  They have a month to consider their alternatives.

I cannot independently validate their situations, but I ask whether this could be the start of a trend in the months ahead.