Mortgage Market Review

from an article published in Mortgage Strategy Magazine 9 Nov 2009

Two weeks after the publication of the Financial Services Authority’s Mortgage Market Review the most commented on article on Mortgage Strategy Online is one concerning the banning of self-cert.

From reading the comments on the piece it seems this issue has split the adviser world.

There are those who think the ban is unnecessary and will disenfranchise clients with existing self-cert loans while others feel it has been abused and lending should be based on a realistic assessment of whether borrowers can afford to repay loans.

What a shame so much energy has been wasted discussing this matter.

First, the FSA may be feeling rather smug for throwing a cat among the pigeons by suggesting the ban and waiting to see how the industry reacts – remember this is just a discussion paper which will lead to further consultation.

The second reason I believe the debate is premature is that there is a recommendation in the review that trumps the suggested ban – the requirement for mortgage firms to have a new controlled function, known as CF10 compliance oversight.

Let me explain my thinking. The compliance oversight function will be responsible for a firm’s systems and controls including compliance, internal auditing, outsourcing and risk.

So the buck stops with the person appointed within the firm to approve senior management arrangements as well as systems and controls risks, including the advice process.

If you were that person, would you be happy with your advisers advising on loans without making reasonable checks on whether customers can afford to make the mortgage repayments involved? Of course not.

In fact, if it were me I would insist that income and expenditure are automatically considered in the fact-find.

So the demise of self-cert will not be due to regulatory censure, it is destined to disappear anyway through measures brought about by the implementation of CF10.

In the industry debates surrounding self-cert – or fast-track for that matter – I have yet to see any suggestion of what a compliant non-income verified sales process would look like under a regime with an embedded compliance oversight function.

I would be delighted to see this issue debated as vigorously as the proposed ban has been.

Now, some might point out the obvious loophole in my argument – that the review is only a discussion document and not a policy statement.
True enough. Much of what is in the review is of the FSA’s making but the extension of the common platform for senior management to firms not covered by the Markets In Financial Instruments Directive – the requirement to have compliance and risk functions – is driven by the European Union and should have been put in place last April.

Few companies responded to that policy statement at the time so now the FSA has effectively announced compliance oversight to avoid any doubt.

Discuss, consult and comment as much as you like on this point but the regulator isn’t giving us much choice. In fact, it is playing its trump card.

So at last the Mortgage Market Review is out and the pundits have had a first frenzy of analysis and drama. We are still at discussion paper stage and my belief is that some things will budge – for example, some of the affordability assessment ideas are not fully thought through and have some gaps.  But there is a compliance area that I think will definitely be implemented without change: individual registration of advisers and the need for firms to have a ‘Compliance Oversight’ (CF10) role.

So far, these have not been well reported but have much more of an impact on firms than either the explicit ban on self-certification or the possible reintroduction of polarisation. Obviously for the latter, due diligence tests on individuals will take time and money.

The consequences of the Compliance Oversight role are not so obvious at first, but they probably have the most profound impact.

Under EU regulation intermediary distribution firms who have a compliance oversight role are responsible for their own risk assessments (including credit risk).  So the buck stops with the person appointed within the firm to approve the systems and control risks including the advice process.  If you were that person, would you be happy with your advisers advising on a loan without actually making a reasonable check as to whether they can afford to make the mortgage repayments?  Of course not.  If it were me, I would insist that income and expenditure were automatically considered in the fact find. So self-certification doesn’t actually need to be banned at all, it will disappear anyway because of the existence of the CF10, unless of course someone can describe what a compliant non-income verified sale under the new regime should be.  Please submit your suggestions here as comments.

This then opens up a whole new question: how will the credit market actually calculate affordability?  Most people I know ensure they pay the primary expenses (like mortgage and loan payments) and then work out how much left they have to spend on discretionary items – not the other way round. So is it really good enough to focus on income less historic expenditure, when behaviour patterns vary so widely between individuals, and circumstances?

Richard Farr

The reaction of the mortgage industry to the MMR will be closely watched and analysed by the FSA. So far most comments have been on the banning of self-certification, with some comments about disclosure.  But there is so much more in this Discussion Paper that refers to risk.  Any absence of reaction to this will be conspicuous to the FSA.

Let’s remind ourselves about how we got here.

Back in April 2007 the FSA announced that it would be looking into the effectiveness of the mortgage market in two stages, with the final report due in the first quarter of 2008. These findings were expected to impact on MCOB and would take into account the European Commission’s White Paper on mortgage credit.

However a parallel consultation, CP07/23, was running at the time – subsequently published as PS08/9 (the snappily named “Organisational systems and controls – extending the common platform”) in September 2008.  This required firms to reduce risk by having more robust systems and controls.  At the time this new requirement was deemed untimely due to market conditions – and the fact that there was a full mortgage market review underway already.

So the two were ‘merged’ with the outcome being delayed to Autumn 2009. The result is what we have now – CP09/23: the Mortgage Market Review.

And that’s why there is more about de-risking the mortgage market for the future than there is about MCOB changes. But this important fact seems to have passed most commentators by.

If the industry’s response is to be credible, it must recognise the need to fall in line with the extension of the EU regulations on SYSC to non-MiFID firms (ie in the form of a CF10 for mortgage firms) and to de-risk the market from falling into the same trap that has caused so much pain over the last 15 months.

We need to get past the attention-grabbing headlines and recognise that the MMR is mainly about risk.  If we don’t get on the front foot with this, we will only have ourselves to blame when the FSA takes action for us.

Richard Farr