The Financial Conduct Authority (FCA) is to consult on new guidance on the treatment of customers with mortgage arrears.
This guidance covers remediation for mortgage customers who may have been affected by the way firms calculate these customers’ monthly mortgage payments.
The regulator says it has identified that some mortgage firms (lenders and administrators) have automatically included customers’ arrears balances within their monthly mortgage payments which are recalculated from time to time, for example when an interest rate changes. The FCA considers this practice to be ‘automatic capitalisation’ and a likely breach of the FCA’s rules.
The FCA said that effectively, because firms have not extinguished (reduced to zero) the arrears, they are collecting the arrears over the remaining mortgage term through a higher monthly payment and, also continuing to pursue the arrears through their collections processes treating them as immediately payable.
The automatic inclusion of arrears balances in customers’ mortgage payments lacks transparency and can lead to harm. For example, it can take a customer longer to repay their arrears and may lead to inappropriate fees being charged in relation to the arrears.
When customers do meet the higher mortgage payments and also separately clear their arrears they are making overpayments to their mortgage account which can result in them repaying their mortgage account more quickly than would otherwise be the case.
The FCA has written an example ‘John’s Story’, this case study shows how the practice may affect customers.
In June 2010 the Financial Services Authority introduced a rule saying that firms must not automatically capitalise a payment shortfall where the impact on the customer would be material.
The purpose of the rule is to stop automatic capitalisations without consideration of customers’ individual circumstances. Historically the practice included adding the arrears to the mortgage balance owed; extinguishing the arrears (i.e. clearing the arrears balance to zero) and recovering the arrears through an increase in monthly payments.
Capitalisation is permitted, when the individual circumstances of the customer are considered and with the customer’s agreement.
A number of firms in the mortgage industry have identified this issue within some of their mortgage books. Firms are impacted by this issue to different extents, for some it may affect most of their arrears book and for others a small subset.
The FCA’s work indicates that the financial impact on the majority of affected customers may have been relatively small with estimated remediation (where appropriate) likely to be in the low hundreds of pounds per individual.
It has not been possible for the FCA to determine the number of customers affected by this issue across the industry. However, through its work with an industry working group (which represents around 66% of the market share based on outstanding mortgage balances) the FCA has identified approximately 750,000 affected customers. Due to the Bank of England base rate change in August this number may now be greater as the rate change may have led to further recalculation of some customers’ mortgage payments.
The FCA has developed a remediation framework with input from an industry working group, in order to provide a proportionate, fair and timely remediation option that firms can use. Use of the framework will not be mandatory; the FCA expects firms to determine a remediation approach to achieve fair outcomes for affected customers, the framework is one option.
Jonathan Davidson, director of supervision – retail and authorisations at the FCA, said: “Even if inadvertent, automatic capitalisation of arrears can lead to poor customer outcomes and firms need to put this right, and make sure the practice stops.
“Customers do not have to take any action at this stage, as firms will contact them directly. Firms should start identifying affected customers immediately and not wait until the finalised guidance is published.
“To prevent similar issues to this one occurring in the future firms need to ensure that all systems are reviewed when considering the implications of a rule change.”
The FCA will monitor the work carried out by firms to determine whether customers have suffered as a result of firms’ approach to remediation, and the FCA will reserve the use of formal interventions such as enforcement action to deal with any unfair firm behaviour.
Paul Smee, the Council of Mortgage Lenders’ (CML) director general, said: “Those lenders who used the arrears calculation methodology now identified as problematic did so in good faith, believing that they complied with the rules and were acting in customer interests. They are fully committed to delivering fair outcomes for all customers, past and present.
“Customers do not need to do anything. Once lenders have digested the regulator’s consultation and determined the most appropriate way to undertake the expected remediation, they will be in touch directly with affected customers.”