Banking Royal Commission Prediction #1: Mortgage Brokers will require a full AFSL

An opinion piece on the Banking Royal Commission and Predictions on Mortgage Brokers

Duty of the mortgage broker

Mortgage brokers currently require an Australian Credit Licence. This comes with the requirement to ensure that products are “suitable” for clients. How do you know if a product is suitable? You play with semantics and say that it’s “not unsuitable.”

By contrast, under an Australian Financial Services Licence there would be a positive duty to act in the best interests of the client. There would also be a requirement to take a fixed fee, not commission, and to obtain a minimum level of education.

The industry’s open secret

The open secret in the mortgage broking industry has been the hefty commissions paid by the banks based on the size and duration of the loan. This can create a serious conflict of interest.

The public expectation is that the broker will look at all the products in the market and find the “best” one for the customer. Furthermore, because the broker is a specialist professional, the customer believes that the broker can find a “secret” deal that is not available to the general public. The reality is that brokers are accredited by individual lenders, thus they do not represent the whole market, and many borrowers could achieve a similar (or better) outcome by jumping on a comparison website.

The mortgage broker’s hustle

Here’s my own experience. In 2016, I sold an investment property, released a good chunk of equity and was keen to reinvest. I approached my financial advisor who referred me to a mortgage broker who was “one of the best.” Now, as it happens, your blogger is a 25+ years experienced finance professional with a Masters degree and an HP-17B. I knew exactly what I wanted: $1.5 million property, $1 million borrowing (67% LVR), interest only, variable rate lifetime tracker for ten years. An offset was a nice to have but not a must have.

The broker’s advice? Well it went along the lines of “we’ll put you in for the max.” In my case this was $2 million of debt for 20 years. What to do with the surplus cash? Put it in the offset. Would it be a problem that I am “of a certain age” and would carry this debt into my retirement years?   Apparently not a problem for the loan approval … but how about my overall personal finances?

Was this advice suitable? Debateable. Was it in my best interests? Absolutely not! First, the full borrowing would be on my credit file. Second, as my own research at the time showed, and Canstar research has recently confirmed, home loan products with an offset can be 15-30bp per year more expensive than those without. My trusty HP-17B computes the present value differential to be in the tens of thousands of dollars.

I suspect internal mortgage specialists at banks have similar conflicts in terms of hitting their monthly performance targets. When I approached my bank, it was a similar story in terms of “going for the max.” (Sadly, there was also an obvious KYC fail between my risk profile and the relationship manager’s subsequent offer but I’ll save that for another blog.)

With Sydney prices roaring, and rental yields compressing, I decided to put my nest egg into an SMSF before the non-concessional contribution limits were lowered from 1 July 2017. What did my SMSF invest in? Equities.

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