A pox on both your houses: ASIC, mortgage brokers and conflicts

Our primary objective is to produce a clear picture of mortgage broker remuneration structures and trends in Australia. We are currently finalising the scope of our review, and we will be consulting widely on this issue in the near future.
— Peter Kell, Mortgage Innovation Summit 2016

As any financial planner or risk adviser can attest, indirect or conflicted remuneration has come under increasing scrutiny from a Regulator certain of a causal link between commission and bad advice.

If you're a Mortgage Broker or Credit Licensee, you're probably familiar with the contrary arguments; Remuneration models such as commission (or indirect remuneration) should not concern the Regulator because commission :

These are all popular arguments but they're falling before a more entrenched legislative view, reflected in the Productivity Commission's Draft Report that commissions are "a black box for [the mortgage] industry". 

ASIC's sustained interest in the mortgage broking industry - it's practices, standards and remuneration models - is entirely understandable once you understand that loan and investment advice is the second most common type of financial advice sought by consumers (and approximately 1/4 of industry revenue for 2016-17).

For those of you playing at home, the Royal Commissions Background Paper 6 lists the most popular topics of financial product advice as:

  1. Superannuation and retirement advice (1/3 of industry revenue for 2016-2017)
  2. Loan and Investment advice (1/4 of industry revenue for 2016-17)
  3. Self-managed superannuation fund advice (1/5 of industry revenue for 2016-17)
  4. Other services (1/10 of industry revenue for 2016-17)
  5. Tax advice (almost 1/10 of industry revenue for 2016-17)

The Regulator has proffered innumerable examples demonstrating how, in financial planning, commissions lead to sub-optimal results for many consumers. While mortgage brokers assiduously worked to differentiate themselves from financial planners, their efforts may have been undermined by ASIC's observation that:

loans obtained through the mortgage broking channel .. were ‘on average larger’ in dollar terms and had a ‘higher loan-to-value ratio’ .. than loans originated directly from lenders.
— ASIC Report 516 "Review of mortgage broker remuneration"

Simply expressed, ASIC believe, and CBA admit, that mortgage broker customers pay more on their loans. 

Clearly, there are alternative explanations for this outcome (apart from contesting the validity of the observation) but it's unlikely to divert regulatory, and legislative, attention from the 'conflicted' remuneration models embedded in the system. APRA are not the only body concerned about lending practices, and ASIC's concerns are reasonable given their understanding of who uses mortgage brokers. 

Extracted from RC Background Paper 2 "Some features of the Australian mortgage industry"

Extracted from RC Background Paper 2 "Some features of the Australian mortgage industry"

In fact, ASIC's concerns seem validated by industry responses to their observations.

Commonwealth bank of Australia, owner of Aussie Home Loans and a shareholder of Mortgage choice, "admitted the commissions it pays to mortgage brokers can incentivise them to sell risky mortgages to CBA customers" (but won't change their approach unless, or until, other banks do too). Westpac CEO, Brian Hartzer, has called for greater transparency and has urged the industry to move to a fee for service structure removing commission all together.

NAB, in contrast, seem to emulating King Canute by insisting that  the payment of commissions to brokers “do not lead to poor customer outcomes”.

Interestingly, they don't even suggest that the payment of commissions to brokers "leads to good customer outcomes"

ASIC's focus on mortgages has certainly increased recently, and with the Royal Commission in full swing, public scrutiny will only increase the pressure and rate of change. In our view, ASIC will soon become uncomfortably intimate with a number of mortgage brokers and SMSF advisers. 

We think the Royal Commission is likely to recommend greater due diligence is required for banks to comply with Responsible Lending Laws.
— - UBS economists George Tharenou and Carlos Cacho

ASIC's Review of mortgage broker remuneration (Report 516)

ASIC's Report 516 has increased the pressure for reform of the mortgage broking industry but it's important to recognise that, in our opinion, ASIC's broad focus (and comparative assessment against the United Kingdom, Netherlands and New Zealand) was the result of parliamentary interest.

Report 516 is well worth reading and the scope of their analysis is, in our opinion, too substantial to be ignored. 

(c) ASIC

(c) ASIC

Unfortunately, ASIC's findings did not represent a strong endorsement of the mortgage broking industry; consumers are generally worse off as a result of the advice they received (or at best off as if they went direct to the lender).

It's not productive to question the sampling, or debate the reasons why consumers might choose to borrow more or have an increased LVR, because it's more productive to anticipate regulatory change and understand the reasons for it. 

(c) ASIC

(c) ASIC

We'll address the specific conflicts (beyond remuneration) concerning ASIC in our next article but we want to leave you with a clear understanding that, in our view, mortgage brokers (their models, practices and conduct) will be a high priority for ASIC in 2018. 

If you're a mortgage broker or Credit Licensee, be alert (and a little alarmed).

Take the chance, now, to consider how prepared you are for changes or refinements to the regulatory environment. Expect more scrutiny on the conflicts that ASIC believe lead to poor outcomes for most consumers. 

If you need assistance preparing for increased regulatory scrutiny, we're available to help you. 

While broker remuneration practices may have an impact on home loan choice, ASIC recognises that a range of other factors influence which home loan products are purchased, and that the purchase experience may vary across purchase channels — such as through a broker, compared to directly from a lender.
— Michael Saadat: Senior Executive Leader - Deposit Takers, Credit & Insurers