Why the FSA's reforms make good sense
By
MoneyWeek editor-in-chief
Merryn Somerset Webb Oct 26, 2009
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Much fuss this week about the Financial Service Authority's (FSA) review of the mortgage market. The effect of the reforms it proposes, said its critics, will be to lock a million households out of the mortgage market, to force house prices down and to destroy the property ladder ambitions of the nation's first-time buyers.
Sounds like pretty draconian stuff, right? Well, it isn't. The two proposals causing concern are straightforward.
The first is that lenders should take responsibility for checking, via investigations into disposable incomes, that borrowers can actually afford to repay the money they ask for.
And the second is that they shouldn't lend money to anyone without making sure that they really earn what they say they earn.
The main complaint about these plans has been that they will mark the end of the self-certification mortgage – or "liar loan" – whereby mortgage borrowers tell lenders how much they earn and lenders, without the tiniest fragment of back-up documentation, profess to believe them.
If the self-employed aren't able to do this any more, say the pressure groups, how will they ever get a mortgage?
The answer to this? They will just have to prove their past income, like the rest of us. None of us can prove what we will earn in the future, but the self-employed can surely prove their past incomes almost as easily as the employed.
We might have our payslips, but they have tax returns and accounts – which, to a sensible mortgage lender, should be just as valid. One mortgage broker laments that "those who cannot quantify their income will not be able to get a mortgage". But who are these people who cannot quantify their income?
One anti-reform press release suggested taxi drivers. But surely they, too, produce some kind of tax return, or can show accounts or a few years' bank statements? I can't see how you can't find a way to prove your income unless you aren't declaring your income.
With that in mind, surely the only people who will really suffer from the end of "self-cert" will be tax dodgers and liars. How is that a bad thing?
The FSA could have gone in a lot harder, by putting in place rules for maximum loan-to-value ratios or salary multiples – for example, saying that no-one is allowed to borrow more than 90% of the value of their house, or no more than four times their annual salary.
I'm glad they didn't. Given the massive differences in people's financial circumstances, looking at long-term affordability – as the FSA review suggests – makes much more sense.
Say someone earns £25,000 and wants to borrow £125,000. If that someone was a 53-year-old coming up to retirement, you might not fancy it much. But if he was a junior doctor whose peak earning years were still ahead of him – and for whom £125,000 was soon likely to be a matter of 12 months' work – you probably would.
You might also want to lend less to a designer-clad working woman about to have her second child (women having a greater tendency to give up work or go part-time after their second child than their first) than to a woman with children of school age and excellent promotion prospects. You might lend more to someone who has been debt-free and in the same job for a decade than one with a fluctuating income and a dodgy credit rating. And so on.
Responsible lending can be complicated. There is a view that asking borrowers intimate questions about their lifestyle and expenditure is, as one message board visitor put it this week, "frankly insulting".
Maybe it is. But, on the other hand, defaulting on loans is pretty rude, too. So why shouldn't a lender be expected to do its best to make sure that you don't?
The upshot of these reforms – on the assumption that the FSA turns out to be capable of enforcing them – should be simple: if you can afford a mortgage, you will be able to get one (just as you can now); and if you cannot afford one, you will not be able to.
This seems, to me at least, to be an entirely reasonable premise on which to base a lending market.
So, on to house prices. Will the reforms make any difference to them? In the short term, probably not.
Post-crash, the mortgage market is already self-regulating. There are few, if any, self-cert mortgages available at the moment; the 100%-plus mortgage is already seen as a relic of the bubble; and if you want the best deals on the market, you had better have a 40% deposit in your pocket.
However, over the longer term – again on the assumption that the new rules are enforced and that our clever bankers don't find a way around them – they will have an effect.
After all, if fewer people can get mortgages they can't really afford, there will be fewer buyers around to bid up prices. With a bit of luck, that should keep prices more stable than they have been for far too many years – which can only be a good thing.
• This article was first published in the Financial Times
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