Banking Royal Commission & Mortgage Brokers

The Banking Royal Commission and Mortgage Brokers

New Business Loans MurdochThe findings of the Banking Royal Commission, conducted by Commissioner Hayne, were made public on 4th February 2019. The report contains 76 recommendations, 5 of which are directly in relation to mortgage broking.

In particular, the Commission recommended that “trailing” commissions paid to Mortgage Brokers by Banks (and other lenders) should first be prohibited, and after 2 to 3 years all commissions should be prohibited (including Upfront commissions). Further it was recommended that commissions be replaced with “fees for service” paid by borrowers.

The Commission argued that the practice of commissions being paid by Banks and lenders to Mortgage Brokers creates a conflict of interest as brokers are incentivized to write as many loans as possible, rather than to act in the best interest of the Borrower. The Commission argued that a focus on volume leads to dishonest (“cowboy”) conduct.

Mortgage Brokers in Australia

The great majority of Mortgage Brokers are small businesses or contractors who earn all their income from commissions paid by lenders. A small number of Mortgage Brokers are owned by Banks or lenders – Aussie Home Loans is owned by the CBA for example. There are some 16,000 brokers in Australia who collectively employ over 27,000 people.

How commissions work

There are 2 types of commission paid by lenders to Mortgage Brokers – Upfront and Trail. Commission arrangements vary between lenders, and there may be individual arrangements (such as bonuses) with specific lenders or brokers.

Upfront commission

An Upfront commission is a one-time fee, paid a month after a loan is settled by the lender.

Upfront commissions are calculated taking into account various factors such as the loan amount, the Loan to Value Ratio (LVR), and the overall quality of loans submitted by the Mortgage Broker (based on the level of arrears and defaults).

The Upfront commission is usually in the range of 0.65% to 0.7% (+GST) multiplied by the loan amount.

For example, the Upfront commission on a home loan for $250,000 at a commission rate of 0.65% is $1,625.

Trail commission

Trail commission is a fee paid monthly for the life of the loan (once settled).

The Trail commission is usually in the range of 0.15% to 0.275% (+GST) per annum multiplied by the outstanding loan amount.

For example, the monthly Trail commission on a home loan for $250,000 at a commission rate of 0.15% per annum is $31.25 per month.

Factors affecting commissions

Several factors affect the ongoing payment of commissions;

  • If a loan is fully repaid early (ie before the contracted loan term) the Trail commission is no longer paid.
    In addition, if early repayment occurs within 12 months of settlement, the Upfront commission is “clawed back” by the lender (ie it is repaid by the broker to the lender).
    If repayment occurs between 12 and 24 months, 50% of the Upfront commission is clawed back.
    In some cases a further 25% may be clawed back in the third year.
  • If a loan goes into arrears or default the Trail commission is no longer paid and the Upfront commission will be clawed back as described above.
  • The Trail commission falls with the loan principal.

Also note that on average home loans are repaid or refinanced in 7 years, so the Trail commission on a loan will cease on average in 7 years.

Do borrowers pay any fees or commissions?

Generally Borrowers don’t pay any fees or commissions to Mortgage Brokers. In some instances however a fee may be charged, for example;

  • Complex situations (which require additional time and effort)
  • Small value loans, typically under $300,000 (where commissions are very low)
  • Commercialor business loans (which require additional time and effort)
  • Loans that repaid or refinanced within 2 years

Why are commissions paid?

Upfront commissions compensate Mortgage Brokers for the work required to establish a home loan by;

  • Understanding and assessing the Borrower’s personal circumstances
  • Reviewing the available alternatives – there are literally hundreds of home loans types and variations available from numerous lenders
  • Preparing application documentation and collating supporting materials
  • Answering lender questions and requests for further information

Trail commissions recognise that a Mortgage Broker will monitor the loan for its ongoing suitability and whether better alternatives may have arisen. Many brokers will conduct an annual financial health check at no cost to the borrower.

Mortgage Brokers also incur substantial indirect costs service such as administration and loan processing costs, licensing, compliance costs, professional insurance, ongoing education and office costs.

Are Mortgage Brokers conflicted?

There are many existing safeguards in place to protect Borrowers from inappropriate or unethical behaviour.

Mortgage Brokers must hold an Australian Credit Licence (ACL) and adhere to the protections set out in the National Consumer Credit Protection Act 2001 (NCCP Act). In particular, a broker must not recommend a product that is unsuitable based on reasonable enquiries of the Borrower’s financial situation.

Additionally, the structure of commissions is such that there is no incentive to promote unsustainable or unaffordable loans as both Upfront and Trail commissions are discontinued in the event of loan arrears or default.

The Bottom Line

Studies by the Banks have demonstrated that increased commissions do not result in increased loan volumes. Rather the drivers of higher volumes are competitive interest rates, loan product features and borrower service.

Mortgage Brokers promote strong competition between lenders and provide a valuable, transparent service to borrowers – any lessening of that competition will likely have the effect of increasing loan rates and lessening services provided to borrowers – the opposite outcome to that intended by the banking Royal Commission

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Quick Guide to Refinancing your Home and Investment Loan.

Quick Guide to Refinancing your Home and Investment Loan

Refinancing Home Loan - WinthropWith competitive deals on offer, low interest rates, and a fresh official cash rate cut, refinancing your home and investment is easier now more than ever. If home loan refinance is on your “to do” list this year, it’s imperative that you become conversant with the entire process. Our brief guide contains some helpful information that’ll help you familiarize yourself with some important aspects about refinancing a home and investment loan.

5 Steps to Take when Refinancing your Home

When considering refinance as an option, there are certain steps that you need to take. They include:

  1. Determine the features you want

You have to think of the reasons as to why you want to refinance. The main reasons for refinance include:

  • To access equity
  • To get a lower interest rate
  • To switch to a different product presently not provided by your current lender
  • To consolidate a number of loans to one lender

Depending on your reason for refinancing, you have to think of the features that you want with your new loan. Determine whether you want to offset, split, redraws, etc in order to make more value out of your mortgage. Do you want a variable rate instead of a fixed one? Do you want to lengthen or shorten the loan term? All of these are the things to consider beforehand.

  1. Choose an ideal type of refinance option

There are basically two types of loan refinance options to choose from. The first one is the internal finance option, which basically involves switching your loan with a new one while still staying with the same lender. The second one is an external refinance option, which involves switching your loan from an existing lender to another lender.

If your current lender is capable of offering the features that you’re looking for, then internal refinancing might be an ideal option. If your current lender doesn’t offer the product you’re interest in, or can’t allow consolidation of all the loans you have, then seeking external refinancing may be in order.

  1. Find the best deal

The whole point of refinancing is to find a better deal than you’re already having. So, you’ve to compare the current home loan with other home loans. Once you find a home loan that seems like a good deal, proceed with the following important step.

  1. Do the math

One important aspect for comparison between the old and the new loan is the interest rate. You are probably opting to refinance so that you can get to pay a lower interest rate. In this regard, there’s one piece of the puzzle that you must solve. You have to determine the effect the lower interest rate (promised by the new lender) has on the total cost of your new home loan.

You have to note that a lower interest rate may translate to lower monthly payments, but it doesn’t necessarily mean that the new loan is cheaper. Therefore, it’s important to check whether the lower interest rate comes with a longer loan term. This will prevent you from choosing a new loan that increases the total cost of your home loan.

If the total cost of your new home loan is lower than that of the current loan, then you can consider yourself to have found a better deal. You can also go ahead and compare your new found deal with other deals to ensure that it’s indeed the best on the market.

  1. Explore the costs involved

Following the 2011 eradication of mortgage exit fees, borrowers are no longer burdened by the obligation to pay penalties such as the deferred establishment fees when refinancing. Nevertheless, there are other costs that you must explore beforehand. Depending on the new lender’s policy, certain fees may be applicable. Therefore, you have to determine what upfront costs you have to pay in order to establish the new home loan

Conclusion

The decision to refinance your home and investment loan should come after establishing that the benefits of the new loan by far outweigh both the benefits of the existing loan and the costs of the new loan. Hiring a mortgage broker can be a smart move to ensure that you choose the most ideal refinancing option.