One of the royal commission's main concerns is how lenders and brokers inquire about and verify borrowers' living expenses
Ensuring that lenders and brokers are practising due diligence to find out if a borrower can and will be able to afford a loan into the future is one of the royal commission’s focuses.
According to the interim report, “the fact that so many home loan applications proceed by the lender assuming that the borrower’s living expenses are equal to the HEM measure, not as the borrower declares them to be, can lead only to the conclusion that in many of those cases the broker has not taken any effective steps to inquire into, or verify, the expense information supplied by the borrower”.
The royal commission found that while the major banks “took some steps to verify the income of an applicant … the evidence also showed that much more often than not none of them took any step to verify the applicant’s outgoings”.
Home Loan Experts managing director Otto Dargan told MPA that there are several lessons the industry, government, and regulators can pick up from the report regarding checking living expenses, including how brokers can do it better. Here are his tips:
The first thing Dargan suggests brokers do is analyse their current method of investigating living expenses to see how they can create a better customer experience. In his anecdotal experience, customers often feel like it’s an invasion of privacy, so brokers need to get the balance right. However, in cases where a customer spends significantly more than necessary, a frank discussion is highly important to reduce his or her expenses or loan amount.
“So my question is, how, as an industry, can we fix this pain point for customers while making sure that we have a meaningful discussion with people living outside their means?” Dargan said.
- Complexity vs. risk
According to Dargan, the process of inquiring into and verifying living expenses is very complicated and time-consuming. Dargan suggests coming up with two strategies: one method for analysing living expenses that can be applied to higher-risk clients, such as those with significant credit card debt and who will be well above the HEM benchmark, and a second simplified method for the rest.
“As a manager it isn't enough to tell your staff what they must not do. You must also tell them what they should do instead,” Dargan said.
He believes the industry needs more regulatory guides like those created by ASIC, and the ability to engage the regulator if they have questions. And there are many unanswered questions around living expenses, he said.
For example, if a customer has living expenses of $5,000 per month and his or her loan only services living expenses of $4,500 per month, what do brokers need to inquire about and verify to be able to show that the customer has reduced his or her expenses? Is a letter from the client sufficient? Should brokers wait three months to see a new bank statement?
The industry needs to reach an agreement with the ASIC on what is expected so there is a uniform standard of compliance that meets community expectations and protects borrowers, he said.
The issue of clarity is one Dargan believes extends beyond living expenses. “What is best practice for a Preliminary Assessment? If a customer is approaching retirement age then what is a responsible approach and what isn't? We need to be able to engage ASIC and reach an agreement on how things should be done,” Dargan said.