* This article is by Kym Dalton, principal of CreditEd
The present focus on low doc loan "frauds" pre-GFC masks a continuing issue present in Australian banking and mortgage lending.
Undoubtedly, there was some fraudulent activity regarding low docs by both mortgage applicants and mortgage brokers in the excessively exuberant period up to 2008. It is the deals from this period that have featured in articles in The Australian and a report by the ABC's 7.30 program this week. The Australian
stirs the pot once again today in a report on FirstMac and its unwillingness to produce copies of loan applications.
I don’t believe that strict fraudulent activity extended to the staff of lenders to any material degree.
I do believe, however, that lenders were guilty of "suspending disbelief" during this period, and failing to exercise a degree of "responsible scepticism" when presented with income declarations on low-doc loans.
Of course, the existence of no doc loans in the 2000s, when only a statement of affordability was required, didn’t even demand that a reality check be conducted.
No-docs have withered away under the impetus of case law (including the 2006 Khoshaba case in the Supreme Court of New South Wales), and then a national credit law.
So, while low doc or stated-income loans continue to be written, but using more stringent income verification criteria, there’s a general sense among the lending community of "what’s done is done" – lessons have been learned, so let’s get on with business.
What this attitude masks is that the root cause of the previous excesses still remains.
Up to 40 per cent of mortgage production for banks and other lenders comes from mortgage brokers.
Brokers are paid by the lenders via a mixture of up-front commission and trail payments.
With upwards of 20,000 brokers active in Australia there is bound to be a small number for whom the lure of a commission payment is irresistible.
When confronted with an event such as the fracas over low-doc loans the focus inevitably falls, mainly, on the activities of small numbers of fraudulent brokers, or at least that is how most industry commentators have spun the issue in discussions in the media.
This focus is misdirected and fails to take into account the complicity of some in the lending chain.
The aggressive sales culture of mortgage lenders – which is directly related to their remuneration structures – continues to promote a culture whereby brokers are "coached" on how to submit applications that may comply with the letter, but not the intent, of lenders’ policies, procedures and responsible lending guidelines.
This is as it was with low docs prior to the GFC. The staff of lenders at the time did not actively commit "fraud" – they simply had greater scope to coach brokers (and borrowers) on how to obtain credit.
Brokers continue to be coached on how to structure applications and submit supporting documents that "get loans on the books" by "getting the deal past credit" without due consideration for responsible lending substance over form.
I have witnessed subtle instances of "coaching" personally and have been provided with more overt examples by responsible members of the mortgage-broking industry.
The tension between "sales" and "credit" in banking is entrenched and likely to remain so. Properly managed and supervised, such tension is healthy and promotes the efficient flow of mortgage credit to the economy.
My opinion is that the "sales activities" of some lenders are not properly supervised.
The disaggregation of the lending process, allied to the prominence of the broker channel, has meant that effective supervision of all links in the lending chain is made more difficult, and responsibility for the conduct of responsible lending is diffused.
The roots of this irresponsibility are the compensation structures inherent in mortgage lending, not merely in the types of products on offer.
To avoid further scandals, the industry needs improved supervision, additional performance metrics, a serious commitment to increasing financial literacy, and, importantly, a system-wide and fundamental change in its mind-set, so it recognises that a mortgage is not "a product" that can or should be "sold". Such changes would go a long way towards helping avoid more scandal.