Borrowing money for a mortgage? Tighten your belt
You can forgo the wagyu and shiraz lifestyle, when you take out a mortgage, and make do on "much more modest fare" if you want a new home, according to Judge Nye Perram, who handed down his judgement in favour of Westpac's lending processes this week.
If your spending has been extravagant, explains Perram, you can always tighten your belt. It is up to the lenders to assess your spending patterns when you apply for a home loan. And now it seems they can do that whichever way they like.
The question for borrowers, however, is can you trust a bank or mortgage broker to lend you a suitable amount of money for a home loan that matches your financial circumstances? Or will crippling monthly repayments financially overstretch you? The current legislation exists to avoid hardship, but there can be much financial discomfort before hardship.
These are crucial considerations for anyone taking out a mortgage. Often consumers rely on the bank to assess their ability to repay the loan, rather than working it out for themselves.
The royal commission exposed irresponsible lending by banks, with borrowers who should not have had their loan approved being financially devastated by repayments beyond their capability.
In these cases, the process used by banks to assess the capacity to repay loans was the culprit. About 80% of bank loans used the Household Expenditure Measure (HEM), a tool that calculates a borrower's expenses and ability to manage repayments, which then helps determine how much they can borrow.
But critics of the HEM say it seriously underestimates a person's living expenses, potentially leaving them on struggle street and unable to meet their repayments. Another issue is the borrower's lack of understanding of interest-only loan periods, and the subsequent sharp rise in interest-and-principal repayments after the interest-only time frame has ended.
In many cases, a bank's loan assessment, the royal commission found, is not a reflection of a borrower's ability to repay the loan.
Regulator ASIC accused Westpac of lending irresponsibly to 261,987 customers of Westpac-branded home loans from December 12, 2011 to March 2015.
ASIC believed the banks' borrower assessment process didn't meet the responsible lending legal requirements for lenders to work out whether or not a loan is suitable for consumers. Using the HEM didn't take into account actual expenses, alleged ASIC. Also in assessing home loans with an interest-only period, ASIC alleged that Westpac failed to regard the higher repayments at the end of the interest-only period, as required.
Originally Westpac was forced to pay a $35 million settlement to ASIC in September last year but Perram rejected the settlement and forced the case to go to trial.
ASIC, however, was dealt a blow in the Federal Court when Perram dismissed ASIC's case against Westpac on Tuesday.
Perram found that a lender "may do what it wants in the assessment process".
For the time being, banks are officially off the hook when it comes to what process they use for assessing mortgages and can make their own assessment about whether a borrower can repay the loan. That is until ASIC tightens the rules around responsible lending, which it is in the process of doing, with new hearings on responsible lending guidelines.
However, Westpac customers who have joined the class action against the bank, run by law firm Maurice Blackburn, still have a case. Perram doesn't rule this out. Instead he says that other provisions of the Consumer Credit Protection Act impose penalties if lenders approve unsuitable loans as a result of the process.
So if the Westpac agent didn't accurately take into account your finances and you were entered into an unsuitable loan, you may still have a case. Banks are free to squeeze your financial comfort as they see fit, providing you stay out of hardship. The law is there for when they cross that line.