As late as the 1990s, banks employed bank managers who knew their communities so well that they not only greeted locals by name, but were intimately acquainted with their work, family, and financial histories.
When it came to assessing their ability to borrow and repay money, it was a fairly straightforward calculation. Loans were applied for, not sold, and these bank employees received wages, not commissions.
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In the three decades since, the banks have embraced the sales-driven culture that Kenneth Hayne mentioned and criticized in the final report of his royal commission. What we used to understand as the role of an old-fashioned bank manager has been undermined.
The banks’ own staff, as well as third-party mortgage brokers, receive incentives and bonuses, often based on the number of loans issued and their size rather than what is in the best interest of customers.
Among his four general comments, Mr. Hayne stated that customers could assume that the person acting between them and the entity providing the financial service or product was acting on their behalf and in their best interest.
“But in many cases, the intermediary is paid by and can act in the best interest of the provider of the service or product,” he notes.
“If the intermediary (banking staff or broker) does not act for the provider, the intermediary may only act in the intermediary’s interest.
Mortgage brokers replace bank staff
In recent years, the four major banks have cut thousands of jobs as they scrambled to cut costs. At the same time, mortgage brokers have replaced the banking workforce as the greatest writers of home loans.
In nearly 60 percent of cases, banks now spend the time and effort involved in arranging a home loan to a mortgage broker, who does much of the legwork for them. In return, the banks pay mortgage brokers an upfront payment (usually a percentage of the loan amount) and an ongoing “delinquent” commission, also based on how much has been borrowed.
But the royal commission has recommended that the borrower, not the lender, pay the mortgage broker a fee for arranging a loan, to ensure that the broker works for the client and not the bank.
Ongoing commissions are ‘money for nothing’
It’s that lingering commission that Royal Commissioner Kenneth Hayne has called “money for nothing.”
Of the 76 recommendations in his final report, Mr. Hayne suggested banning trail commissions.
On Twitter, Ian Armstrong – who spent 36 years at a number of major banks, much of that time as a relationship manager helping clients with loans – said he agreed with the royal commission’s findings.
That model extends to mortgage brokers, through the commission system.
Mr Hayne concluded that “the current system of mortgage brokers’ compensation is a contradictory reward”. The payment, he said, is one that “can reasonably be expected to influence the choice of financial product recommended to customers.”
In that system, loans are sold for commission rather than as part of the day-to-day work of the old-fashioned bank managers, who received a salary and were eager to please their loyal customers by looking after their interests.
The royal commission’s report found that “providing a service to customers was relegated to second place. Sales became the most important thing. Those who interacted with customers became salesmen.”
This change in banking culture that has emerged in recent decades could help explain why Australian household debt as a percentage of household disposable income has risen from about 60 percent in the late 1980s to about 200 percent today.
According to the Bank for International Settlements, Australia’s household debt is now the second highest in the world after Switzerland.
Brokers fight back with big ad campaign
The Mortgage and Finance Association of Australia (MFAA), which represents more than 13,500 brokers, has launched an ad campaign claiming that shutting down the mortgage brokerage industry will limit competition in the home loan market, limit customer access to credit and increase will lead to interest rates. .
Labeled “Don’t Kill Competition,” the ad tells viewers that fewer mortgage brokers means less competition, which translates to fewer options for customers and higher costs.
A Commonwealth Treasury entry in response to the royal commission’s interim report also warned that removing brokerage commissions could lead to fewer brokers entering the market, which could then threaten competition.
Among its responses to the recommendations of the Royal Commission, the Customer-Owned Banking Association emphasized the importance of the brokerage channel for many small lenders.
COBA expressed concern at the idea of shifting the burden of paying mortgage brokers from banks to customers.
Would the recommendations lead to less competition?
Despite all the competition mortgage brokers claim to help promote, the four major banks still dominate the $1.7 trillion mortgage market. Westpac, the Commonwealth Bank, ANZ and NAB control more than 80 percent of all owner-occupied loans and 85 percent of investment mortgage loans.
Since our homes are our biggest financial obligation, it doesn’t feel so hard to spend a day or so looking around and comparing all the different lenders to our individual circumstances.
Seven months before Kenneth Hayne gave his verdict on financial services, the Productivity Commission had released its own report on competition in the Australian financial system.
In the home loan markets, it found that “mortgage brokers that once reinvigorated price competition and revolutionized product delivery have become part of the banking system.”
Like the Hayne report, it also recommended banning trail commissions.
And like Kenneth Hayne, it wanted an advocacy — but not just for brokers, but also for bank staff selling loans.
“All brokers, advisers and lenders’ employees who provide mortgages to customers must have a clear legal interest obligation to their customers,” the committee report said.
Would the royal commission’s recommendations lead to more credit?
Since Mr. Hayne began investigating financial services more than 12 months ago, banks have systematically become more cautious.
The royal commission coincided with a crackdown by the lending standards regulator by APRA, as well as ASIC’s enforcement of responsible lending rules, including an ongoing lawsuit against Westpac.
These tighter credit conditions coincided with a decline in house prices, particularly in Sydney and Melbourne.
The Council of Financial Regulators recently reaffirmed its view that tighter credit standards had “strengthened the system’s resilience”.
Better justifying a customer’s ability to repay a loan and moving away from a commission-driven sales culture is part of the culture change Kenneth Hayne wants to see at the banks.
The Royal Commission’s repeated calls for more ‘responsible lending’ will inevitably lead to less access to credit, well beyond the effects of a new approach to how mortgage brokers are paid.
In its ad campaign, the MFAA asks, “What would a world without mortgage brokers look like?”
Perhaps it would be a bit like the 1980s, when retail banking was more about service than selling.
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