Each month we summarise the latest news and developments in retail mortgage lending and regulation
This month in summary:
Focus on Scotland
As December 2021 approaches, regulators and industry bodies are ramping up their communications and publications around the discontinuation of LIBOR, which will cease to be published at the end of 2021. The rate has been deemed to be an unsustainable benchmark because, despite a number of reforms, the rate often reflects major banks' assessments of the cost of borrowing as opposed to the actual cost of borrowing as determined by market transactions.
UK Finance has recently launched a guide aimed at helping business customers understand and prepare for the end of LIBOR. The guide covers the reasons behind the decision to end the rate, alternatives to LIBOR and steps to prepare.
UK Finance recommends that businesses take a number of steps as part of their preparations, such as:
This last point has also been picked up by the FCA. Edwin Schooling Latter, Director of Markets and Wholesale Policy, commented that the sterling RFR Working Group's target of Q3 2020 for the transition away from LIBOR will involve "significant infrastructure and documentation preparation" for some banks. Firms will need to prepare and ensure that their systems have all the enhanced functionality required ahead of the Q3 2020 target. It will remain to be seen whether this is an achievable goal.
Meanwhile, the derivatives industry has asked regulators for more clarity on the terms of the phase out. Many are calling for a mandatory "fallback" clause to be inserted into swaps contracts created before 2021 that still reference LIBOR, in the event that the rate ceases to exist after the deadline or was declared not to be "representative" before then. The Financial Stability Board (FSB) is at the forefront of this, asking the International Swaps and Derivatives Association (ISDA) in November to consult on wording for a clause to be used in advance of December 2021. ISDA's response stated that it needs further clarification around the publication of LIBOR following 2021. Following Edwin Schooling Latter's speech in November, it asked the FCA to confirm how long an unrepresentative rate would be published for and whether this period would be months or years.
It also asked that clearing houses give "definitive confirmation" that they will amend all of their cleared derivatives to one of the alternative rates if LIBOR becomes unrepresentative.
Once it has confirmation on these two points, it will consult again on the terms of a fallback clause to be used before the end of 2021. However, ISDA reported that it was on track to complete its fallback clause for the permanent end of LIBOR and launch it in the first quarter of the year.
Meanwhile ISDA recently published a supplementary consultation into the fallback provisions for EUR LIBOR and EURIBOR derivatives.
For the next steps in the transition from LIBOR, see TLT's insight.
According to Deloitte, lenders need to look beyond banking in anticipation of disruption to their industry in the next decade.
In its '2020 banking and capital markets outlook' report, Deloitte highlighted its forecasts for financial services in the next year and beyond. The broad prediction for the next 10 years is that of a consolidated industry, with fewer banks existing in ten years' time. The report also predicts that FinTechs will become mainstream players with the incumbents having to adjust their strategies to compete.
The report refers to the possibility of 'Japanification' or long term stagnation, low inflation or deflation and the possibility of near-zero or negative interest rates across several economies, particularly in Europe. This was the position that Japan found itself in after its financial bubble burst in 1990.
The report suggests the banks that lack scale could be seriously challenged and that they may have to consider forming new partnerships to offer services beyond banking in order to survive.
In addition, the report suggests that banks will have to be savvy and reimagine the possibilities for how banking is done to move forward through the next decade. For example, they should consider investing in technology, having a more holistic focus on customers' financial affairs and investing in talent.
One of the leading credit rating agencies, Moody's, has blamed Brexit uncertainty, low interest rates and increased mortgage market competition as some of the key factors responsible for the reduction of its outlook on the UK banking system from stable to negative.
It said that the uncertainty over Brexit has "reduced the country's growth prospects". In addition, the new regulations in relation to banks' liquidity has left HSBC and Barclays with billions of pounds that can only be utilised in the UK. This and the move to riskier lending by smaller banks have driven increased mortgage market competition. Profits have reduced, and it has been reported that Nationwide will reduce new mortgage lending in some areas as its profit margins have come under pressure.
Moody's maintains that the negative impact of Brexit is likely to persist even if the UK and EU reach a free trade agreement. Moody's predicts potential increases in banks' credit losses for loans expiring over the next year and a half. It also forecasts rising losses from unsecured retail loans such as credit cards and flags as a "source of additional risk" the industry's practice of offering interest-free credit for set periods of time to credit card customers who transfer balances.
The FCA has recently reflected on the importance of Open Finance and highlighted the significance it could have in the market. As the sector regulator, it is keen to engage with Open Finance opportunities and focus on the benefits it could deliver. The success of Open Banking has created a new opportunity for sharing consumer and business data. It is envisioned now that continued and expanded engagement with third parties sees the potential to create financial products, services and applications. Data sharing initiatives are being seen across the world. The FCA sees itself with the role of balancing consumer protection, market integrity and competition.
Imagine one app that shows you your current account, mortgage and predicted pension pot. Consumers could see themselves equipped to make more responsible financial decisions. Businesses also stand to benefit with more transparency and greater access to lending and products.
Challenges are anticipated and there are lessons to be learned from Open Banking. The FCA has created an advisory group of industry experts, consumer and business representatives, academics and members of the government. It has published a Call for Input, which is accepting responses until the 17th of March 2020.
In recent years there has been a rise in the number of “robo advisors” - automated online platforms that use algorithms to guide consumers about certain financial decisions and products. These are seen as a positive step to fill the advice gap in the market, but FCA economists continue to see resistance from consumers. There is a concern that these so-called "robo-refusers" may be the people who need it most.
A sample of 1,800 individuals' attitudes to robo advice was taken and, notably, more than half of the decisions offered by robo advisors were rejected. As expected, younger consumers were more likely to accept the advice than the over-55s, but the strongest correlation was centred on trust. Those who trusted the large corporations were significantly more likely to accept robo decisions than those who expressed distrust.
The sample may not be entirely representative, and there will always be those who will refuse all robo advice and those who will always accept it. However the findings do suggest robo advice has a long way to go before it becomes widely accepted and a trusted part of the financial landscape.
The Senior Managers and Certification Regime has applied to the banking and insurance sector since March 2016. The aim is to reduce harm to consumers and strengthen market integrity by making individuals more accountable for their conduct and competence. From December 2019, it has been extended to almost all FSMA authorised, and a further 47,000, firms, including very small firms (sole traders and limited permission consumer credit firms) and branches of non-UK firms with permission to carry out regulated activities.
It contains three parts: the Conduct Rules, the Senior Managers Regime and the Certification Regime. By 9 December 2020, firms will have been expected to ensure:
Culture and governance of firms is a priority for the FCA. It hopes the changes will be a catalyst for driving cultural transformation and lead to a "healthy and fulfilling environment for employees in which diversity and inclusion is the norm".
The civil justice statistics, covering the period of Julyto September 2019, showed that it took 38.1 and 59.4 weeks on average for small claims and multi/fast track claims to go to trial. This waiting period has gone up by around 3 weeks in comparison to the same period in 2018.
Campaigners against court closures argue that the closing down of approximately 90 courts between 2010 and 2019 is responsible for the increased court delays. In support of this opinion, in November the House of Commons Public Accounts Committee criticised the HM Courts and Tribunals Service for not being well informed about the impact of its reforms on tribunal and court users before implementing them. These reforms risk affecting the outcomes of justice.
At the end of last year it was announced that products from Santander for Intermediaries and NatWest Intermediary Solutions will be piloted on a new FinTech platform, Mortgage Engine.
Mortgage Engine uses Application Programming Interfaces (APIs) to connect the back office systems of lenders and distributors to create a single, accessible digital platform that will facilitate a seamless end-to-end mortgage application process. As well as providing fully-functioning, two-way API connections, the platform will offer the first multi DiP proposition in the UK mortgage market. This will mean that intermediaries will be able to source several decisions in principle from multiple lenders at the same time.
The platform will save intermediaries considerable time by eliminating unnecessary duplication of customer data, allowing the intermediaries more time to focus on advice-giving and improving the customer experience.
It is thought that at the product launch with NatWest and Santander, 22% of the mortgage market will be connected, with Mortgage Engine looking to integrate 80% of the market by the end of 2020.
Brad Fordham, Managing Director of Santander for Intermediaries said, "The mortgage market has been calling for technological innovation for some time. Mortgage Engine will play a vital part in shaping the industry's future. This time next year we will be wondering how the sector existed without it".
Cloë Atkinson, Managing Director at Mortgage Engine said, "Our platform has the power to transform the mortgage application process for everyone… Mortgage Engine is designed to improve efficiency at every stage and ultimately make the process faster and more effective for lenders, intermediaries and customers alike".
In addition to offering products through Mortgage Engine's platform, NatWest, as part of a consortium, is in the process of building a new mobile banking app for mortgages.
The app will be built by Coadjute (formerly IPN), which is the company that was part of the first test property sale in the UK that was carried out using blockchain. The consortium's ultimate goal with the app is a decentralised network that uses distributed ledger technology to connect all members of the consortium to share information (Dezrez, Redbrick Solutions, eTech, Search Acumen, Conveyancing Data Services and LMS). The aim is be able to provide a seamless conveyancing process.
From the consumer's perspective, in future they will be able to use the app to submit their mortgage application, obtain approval and then monitor the rest of their property purchase from offer to completion. While Coadjute is still in the early stages, CEO and founder John Reynolds says it "has connected up 12% of the mortgages market, 1,000 estate agency brands, 4,000 conveyancers, and 80% of all property valuation instructions". It is planning to release a product this year.
A recent rise in the number of buy-to-let properties being repossessed has been linked to a recent tax shakeup that abolished mortgage interest tax relief for landlords.
Latest figures from UK Finance showed that around 800 buy-to-let mortgaged properties were taken into possession in the third quarter of 2019, which is 40% up year on year. The Intermediary Lenders Association warned that there could be a "watershed" moment during 2019 as landlords started to feel the effects of the changes.
Before the changes, landlords could deduct all mortgage interest payments from their tax bills, which meant they were taxed on profits not turnover. The rule changes meant that tax relief on mortgage interest would be phased out and instead, landlords would receive a tax-credit based on 20% of the interest payments.
Landlords who are looking to sell but struggling to do so have also been considered as a reason for the increase in repossessions. As a result of their difficulty in selling within a stifled market, they have unoccupied properties that are accruing arrears, and lenders are left with little option but to begin repossession proceedings.
Lack of knowledge/understanding of the tax changes, as well as landlords' lack of preparation have also been touted as factors behind the increase in repossessions.
In April 2018 the Government introduced a database that allows local authorities to share information on rogue landlords and property agents who have been convicted of banning order offences (ordered by the First Tier Tribunal for offences such as licencing breaches, gas safety failures and unlawful evictions). A consultation was carried out in late 2019, which sought views on expanding the range of offences as well as widening access to allow tenants to utilise the database. Some lenders are calling for access to be given to them. The report is awaited.
With the strength of the private rented sector population in the UK, the database could have a far-reaching positive impact and extending access to lenders would be great progress. John Heron, Managing Director of Mortgages at Paragon Mortgages, commented "while the database will take time to establish […], it will undoubtedly become a valuable resource". He further observed that lenders already consider the wider profile of a landlord and their portfolio during the underwriting process for buy-to-let mortgages.
Allowing lenders access to the rogue landlord database would be an important step in strengthening both the underwriting process and protection in the private rental sector. Heron notes that granting lenders access would act to restrict rogue landlords' access to finance and prevent them easily expanding their portfolios where they have been criminally sanctioned and are evidently unfit. This fits in with the current focus on improving the regulation and protection of private rental sector tenants.
Lenders should await the outcome of the 2019 consultation. Continuing expansion will strengthen protection in the private rental sector and may ultimately provide a useful tool to lenders in years to come.
On 12 December 2019, the Telegraph reported that 487,000 people have raised finance through releasing equity from their properties since 1991, with equity release loans surging in popularity over the past five years. Equity release enables property owners over the age of 55 to borrow cash against the value of their properties, which is later repaid upon the death of the property owner.
The rise in equity release has been fuelled by an aging population who have benefitted from an increase in so-called 'property wealth'. Equity release is being utilised to supplement inadequate pension income, pay for personal care and to assist younger generations to get a step on the property ladder. Historically low interest rates have also been credited for the increased number of homeowners seeking to raise finance through equity release.
While equity release may be viewed by many as a solution to cash flow issues in later life, it does come with its pitfalls. Property owners who decide to release equity from their homes will be unable to leave the property to their children or to other beneficiaries. History has shown that equity release is an area of finance in which customers are vulnerable to mis-selling, with some property owners being faced with possession proceedings after unscrupulous third parties paid for equity release with funds borrowed from unwitting third parties. The increase in equity release has attracted the attention of the FCA, which has recently confirmed that it is undertaking "exploratory work" into lending in later life.
However, as property wealth continues to rise amongst over 55s, along with the death of the final salary pension, it is likely that a demand for equity release in the UK will continue. To avoid allegations of mis-selling, lenders in the UK that offer these products need to ensure that the consequences of equity release are thoroughly explained and understood by customers who wish to use this service.
Financial education forms part of the compulsory national curriculum in England and Wales. However, the London Institute of Banking and Finance (LIBF) has found that 87% of young people would like to understand more about how specific financial products work, such as mortgages, credit cards, savings accounts and pensions. Despite forming part of the national curriculum, three quarters of young people say most of their financial education comes from family members.
Catherine Winter, MD of LIBF, is calling for greater regulation of financial education and explains that "financial education should be included in the OFSTED inspection framework – effectively making it compulsory – and ideally taught as a standalone subject". She also says the subject requires "regular classroom time, with clearer guidance for teachers on what they need to cover". When students were asked about how they would like to learn about financial education, 60% also agreed that they would like it to be taught as a standalone subject.
TLT’s Douglas Gourlay has written a guide to lending and taking security in Scotland. The guide covers the main trends and developments in the market in Scotland over the past 12 months with a focus on its reaction to the continuing uncertainty both politically and economically and the ramifications of Brexit. It also provides an overview of different types of assets over which security can be granted, from property to intellectual property, and it includes a section on problem assets.
For more information see the guide, reproduced with permission from Practical Law.
This publication is intended for general guidance and represents our understanding of the relevant law and practice as at January 2020. Specific advice should be sought for specific cases. For more information see our terms and conditions.