According to the Debt Advisory Line’s Jim Rowley, new rules proposed by the Financial Services Authority (FSA) to reduce risky lending could mark an important step forward towards a safer housing market – and make for important indirect bankruptcy protection. Should the proposals by the FSA be implemented, a variety of currently popular but ultimately insecure financial products would be banned, eliminating self-certification loans and interest-only mortgages, among others. The FSA also stressed the need for a more detailed analysis of prospective buyers’ financial status as well as their ability to cope with economic shocks. Rowley said: “We welcome the FSA’s plans as paving the way for a more healthy and risk-aware housing market. Without any doubt, these rules should yield tangible results and a more controlled debt level in the not too distant future“.
Although the FSA’s report takes a detailed and far-reaching approach, there are three core elements to the proposal:
1. Mortgages and loans should henceforth merely be available to those who can prove that their repayment capacity does not rely on future hikes in house prices. This is to be checked by means of an affordability assessment. Implicitly, this rules out self-certification loans, which don’t require a buyer to provide documentation of his income.
2. As part of assessing a potential buyer’s financial stamina, the test should include a scenario of rising interest rates. If the loan can only be repaid if rates remain stable, it should not be awarded.
3. If a buyer would like to take out an interest-only mortgage, it should be evaluated whether he or she is capable of repaying it out of capital resources without house prices having to rise. If this is impossible, the mortgage should only be offered on a repayment basis.
In a statement issued alongside the proposal, the FSA’s chairman Lord Turner explained the motivations behind the new rules: “We believe that these are common sense proposals which serve the interests of both lenders and borrowers. While the excesses of the pre-crisis period have largely disappeared from the current market, it is important to ensure that better practice endures in future when memories of the crisis recede and the dangers of poor practice return. The three key proposals are, we believe, the most effective way to tackle the problem of risky lending. But it is essential that we understand what their impact would be – how many consumers would be protected from the distress of arrears and repossessions, and, how many consumers who could have afforded a mortgage might have to take out a smaller mortgage or to delay their purchase. The estimates are inherently uncertain, but they suggest that the new rules would have only a marginal effect in current market conditions – and particularly so for first time buyers – but would act as a significant constraint if market practice were in danger of returning to the 2005 to 2007 pattern.“
Jim Rowley agreed with Turner, but he also urged the FSA not to forget about those facing the consequences of bad loans in the past: „Although the proposals put forward by Lord Turner and the FSA constitute a considerable improvement over the status quo, those who fell victim to risky loans in the past should remain a top priority. While many of them may need to apply for bankruptcy, sensible debt management plans and advice may still be able to put many of them back on the road to recovery. “