The Financial Conduct Authority (the “FCA”) has published its Finalised Guidance on dealing fairly with interest-only mortgage customers who risk being unable to repay their loan (the “FCA Guidance”). The FCA Guidance is primarily aimed at residential mortgage lenders and third-party administrators and relates to the “back book” of existing residential interest-only mortgages. In essence, the FCA Guidance sets out what the FCA expect firms to do in order to ensure that their customers are treated fairly when faced with an inability to repay the capital sum due on their mortgage at the end of the mortgage term.
In May 2013, the FCA launched a consultation on how firms should treat clients who may be unable to repay interest-only mortgages at maturity and how to minimise the risk of non-repayment through early and effective engagement with customers. The FCA carried out a thematic review of eight lenders’ (representing approximately 40% of the UK interest-only residential mortgage market (i.e. excluding buy-to-let mortgages)) strategies, policies and practices in order to understand the risks which consumers face when interest-only mortgages reach maturity and they are unable to repay the balance due.
The FCA Guidance
The FCA Guidance confirms that customers remain responsible for repaying their mortgages and that repayment of the capital sum due at the end of the mortgage term is a contractual requirement. However, whilst the FCA Guidance acknowledges that firms are not obliged to offer options to their customers in relation to repayment of their loans at maturity, firms “must pay due regard to the interests of its customers and treat them fairly” by acting in accordance with Principle 6 of the FCA’s Principles for Business. As such, so for a firm to act in line with Principle 6, the FCA Guidance encourages firms to take action to minimise the risk of non-repayment through early and effective engagement with their customers throughout the mortgage term. In order to help firms achieve this, the FCA Guidance focuses on what firms are expected to do in terms of governance and communications with their customers.
In relation to governance, the FCA expects firms to:
• have a written strategy, setting out the firm’s policy and procedural framework for managing loans that may not be repaid in full at the end of the contractual term;
• consider what options can be offered to interest-only customers, either during the contractual term or at maturity, including setting out the reasons why certain options are or are not offered;
• provide sufficient procedural training, monitoring and guidance to front-line staff on how to execute the firm’s policy so to ensure consistent and fair outcomes to interest-only customers; and
• collate enough management information to enable the firm to monitor its interest only back book and review the performance of any mitigation actions taken during the contractual term or after maturity.
In relation to the steps which firms should take in order to protect their customers, the FCA expects firms to:
• communicate with customers early and frequently, prioritising high risk customers and those reaching the end of their contractual term, as well as ensuring any options agreed with a customer are followed up in writing;
• provide customers with enough time to consider the maturity options being offered to them (particularly if the firm’s range of options is limited or if customers must meet specific criteria to be eligible), thereby taking into account how much time customers have to take action and ensuring that any options available at maturity are clearly communicated to the customer;
• assess the affordability of any variation to the mortgage terms where monthly payments are materially increased or where the term of the loan is to be extended into a customer’s retirement;
• consider the treatment of customers who are unable to change their mortgage provider or vary the terms of their existing mortgage and be able to show that the firm has complied with Principle 6 of the FCA’s Principles for Business (for example, a firm should not unfairly charge such “trapped” customers a higher rate of interest than other customers to exploit the fact that they are unable to exit the mortgage);
• only exercise a unilateral right in favour of the firm under the contractual terms of the mortgage documentation to change the mortgage from an interest-only to a capital repayment mortgage once reasonable steps have been taken to contact and agree this action with the customer and, further, to consider whether the customer can afford any increased payments; and
• in accordance with Principle 6 of the FCA’s Principles for Business, proceed with repossession action as a last resort and only once a customer’s circumstances have been assessed and all available options which a firm is able to offer have been considered.
The FCA Guidance can be welcomed by lenders who are facing the prospect of shortfalls on maturing interest-only mortgages, as it clearly states that the responsibility of repaying such loans at maturity remains with their customers as per the contractual requirements.
However, the recommendations set out in the FCA Guidance highlight that lenders must continue to treat their interest-only mortgage customers fairly and not exploit those who are in difficulty. With the FCA stating that it expects almost half of those homeowners whose interest-only mortgages are due to mature over the next 30 years to have a shortfall when their loan matures, lenders should ensure that their practices and procedures dealing with interest-only mortgage customers are adapted as soon as possible, so as to implement the recommendations set out in the FCA Guidance. Lenders should also have regard to the forthcoming implementation of the Mortgage Market Review on 26 April 2014 which will introduce new mortgage conduct of business rules, including the strengthening of responsible lending requirements.
For further information, please contact Owen Rafferty or the Partner with whom you usually deal.