By alleging that Westpac failed to properly assess borrowers, ASIC has thrown into doubt interest only loans, which are popular amongst home buyers and investors.
What has ASIC (Australian Securities & Investments Commission) done?
On 1 March 2017, ASIC filed an Originating Application in the Federal Court of Australia against Westpac Banking Corporation, seeking declarations and pecuniary penalties for contraventions of the National Consumer Credit Protection Act 2009 (Cth) (the Act).
ASIC is seeking declarations in respect of seven specific home loans, which are interest only loans, with this profile: the repayments during the first 5 years / 10 years / 15 years are interest only, and the repayments for the remainder of the 30 year term are principal and interest.
ASIC alleges that Westpac’s practice of using automated systems for assessing home loans by reference to the Household Expenditure Measure Benchmark for living expenses did not comply with the Act, and says that the borrower’s actual living expenses should have been used.
The home loans were advanced in the period December 2011 and March 2015.
S 128 of the Act requires a lender to make an assessment in accordance with s 129 - whether the loan would be unsuitable for the consumer if entered into; and to make inquiries in accordance with s 130(1) about the consumer’s financial situation and to take steps to verify the consumer’s financial situation.
Ss 131 and 133 of the Act require a lender to assess whether the consumer’s financial situation was such that the consumer would be unable to comply with, or could only comply with the loan obligations with substantial hardship.
ASIC alleges that Westpac failed to make reasonable inquiries in its assessment process. In particular:
- the loans were approved according to the Household Expenditure Method Benchmark, without reference to the borrower’s declared living expenses
- if the declared living expenses had been used, the borrower’s ability to repay the loan would be affected because it would show a monthly deficit
- Westpac did not consider the effect that the increase in repayments at the end of the interest only period would have upon the borrower’s ability to repay
- Westpac did not consider the effect of the additional interest costs payable under an interest only loan, compared with a principal and interest loan for the full term
The Originating Process and the Concise Statement filed in the Federal Court can be downloaded from ASIC’s media release 17-048MR ASIC commences civil penalty proceedings against Westpac for breaching home-loan responsible lending laws
What led to ASIC taking this action?
ASIC’s action came after a lengthy investigation.
In December 2014, more than 3 years after the Act commenced, ASIC took an interest in interest only loans – see media release 14-329MR ASIC to investigate interest-only loans
ASIC looked at the lending practices of 11 lenders to assess how they were complying with responsible lending laws in relation to interest only loans. ASIC issued a report (REP 445) in August 2015 – see media release 15-220MR Lenders to improve standards following interest-only loan review. It was during this investigation that ASIC collected information from which the loans the subject of these proceedings were selected.
For my commentary upon the report, and a summary of the review findings and recommended actions, click on ASIC recommends improved lending standards for interest only home loans
In September 2016, ASIC issued a follow up report (REP 493) – see media release 16-307MR ASIC reports on mortgage brokers' responsible lending practices in relation to interest only home loans which states:
Australia's home loans industry has improved its performance over the past year, adopting better 'responsible lending' practices, an ASIC review has found, though there is still room for improvement.
ASIC has an interest-only mortgage infographic on its MoneySmart website, with these statistics:
- 1 in 4 loans to owner-occupiers were interest only (survey 2015)
- 2 in 3 loans to investors were interest only (survey 2015)
- Total amount borrowed in interest-only mortgages increased from $88.7 billion in 2012 to $153.8 billion in 2015
- The average interest-only mortgage amount was $430K in 2014
- The additional interest payable on a $500,000 loan where it was interest-only for 5 years was $37,200, and for 10 years was $80,500, compared with a principal and interest loan
What are the likely consequences of ASIC’s action?
Westpac has announced it will defend the proceedings. In reality, it has no choice because any finding that ASIC has contravened the Act in relation to the loans that ASIC has included in the proceedings, will apply to all comparable loans on its loan books.
If ASIC succeeds, the borrowers will have a legal basis to ask for a variation of those loans. The possible loan variations will depend on the circumstances, but most likely, they will be that repayments will not increase as much as specified at the end of the interest only period of the loan.
And it is not only Westpac loans, but interest only loans advanced by the other lenders which were surveyed by ASIC that are susceptible. In the Senate Estimates Committee on 1 March 2017, ASIC’s chairman Greg Medcraft said:
“The issue is deterrence, and when you lodge a case it’s not just for that party, it’s to send a message to the broader sector”
ASIC’s action targets lenders which use a servicing model to approve loans automatically by reference to a standard for living expenses, such as the Household Expenditure Measure Benchmark or the Henderson Poverty Index. If ASIC’s action does nothing more, it should lead to interest-only loans being assessed only by reference to actual living expenses.
It appears to be unfair to Westpac that ASIC has taken the action upon its loans up to March 2015, given that Westpac has improved its lending practices since that time. Westpac has released a statement “the loans identified by ASIC are all meeting or ahead on repayments”.
But ASIC is undeterred. In the Senate Estimates Committee, ASIC’s representative said:
“Despite the fact that they [Westpac] stopped the practice … we’ve decided to bring this action because of the importance of the issues it raises,”
The first directions hearing is on 21 March 2017.