This is a collection of case studies that have appeared elsewhere in this edition of the Circular. It includes the case studies from the FOS Approach series on responsible lending, which explains the way we consider disputes where a consumer says a financial services provider shouldn’t have given them a loan because they were never in a position to repay it. You can read more about our approach to this and other issues by visiting www.fos.org.au/approach. More case studies are available on our website at www.fos.org.au/casestudies.
Role of a broker
John wanted to purchase a new home. The real estate agent referred him to Sam, a mortgage broker, to obtain finance. Sam asked John to sign a low documentation (low doc) application. John subsequently accepted an offer from the FSP for a $430,000 home loan, secured by a mortgage over his home. He failed to make his loan repayments on time and the financial services provider (FSP) started legal proceedings for possession of his home. John lodged a dispute with FOS.
John said that the FSP should not have given him the home loan because he could not afford the repayments. After John signed the loan application, Sam changed information on the loan application so that it would meet the FSP’s servicing requirements. If the FSP had checked the details in the loan application with John, the FSP and John would have discovered the inaccurate information and the FSP would not have provided the loan to John.
We considered that the FSP was not responsible for Sam’s conduct. While the FSP did not have any agreement with Sam, it did have an agreement with a mortgage manager Sam was affiliated with. In that agreement, the mortgage manager acknowledged that it was independent and did not represent the FSP. Therefore, Sam did not have any actual authority to act as the FSP’s agent. There was also no information showing that the FSP had represented to John that Sam was its agent. Even though the FSP paid commission to Sam, we considered that the commissions were not enough to establish an agency relationship.
We also considered that the FSP was entitled to rely on the information in John’s loan application when assessing his ability to repay his home loan. There was no inconsistency in the loan application or other information provided to the FSP had which should have caused it to check any details with John or Sam.
We concluded that the FSP had acted responsibly when it granted the home loan to John.
How many years until Bill retires?
In 2006 Bill (aged 51) and Joan (aged 47) applied to the financial services provider (FSP) for finance to purchase an existing business with their son and daughter-in-law. The FSP offered Bill and Joan a $320,000 home loan to refinance their existing loan with another lender, a $270,000 variable rate interest only loan, and a $190,000 principal and interest loan. Their loans were secured by a mortgage over their home.
The business was not successful and had to close. Bill and Joan lodged a dispute at FOS, claiming that the FSP should not have given them the loans.
When we reviewed the FSP’s credit assessment, we found that:
- The FSP failed to comply with its lending policy as it did not obtain a balance sheet for the business, which was a requirement under its policy and was also consistent with good industry practice.
- The FSP had not analysed whether the business income was sufficient to cover all of the living expenses that Bill, Joan and their son and daughter-in-law would reasonably incur.
- Bill and Joan had borrowed heavily (in relation to their overall financial position) to buy the business and had no prior experience of running a retail outlet. The FSP should have more thoroughly considered and investigated Bill and Joan’s capacity to repay the loans .
- The FSP had concluded that Bill and Joan could afford the loans on the assumption that Bill would continue to work as a pilot. However, Bill and Joan had said in their business plan that Bill would not continue that job.
- The FSP should also have been aware that commercial airline pilots are generally unable to fly passenger planes after age 65. The $270,000 loan was for 30 years with the first five years being interest only. To repay a loan with that term, Bill would have had to work as a pilot until he was 82. Bill had $115,000 in superannuation, but that would only have been sufficient to repay their refinanced home loan until Bill turned 65, and Bill and Joan would have needed that money when they retired. Therefore, the only reasonable way for Bill and Joan to repay the $270,000 loan would have been for Bill and Joan to sell their home.
We concluded the FSP had not acted responsibly when it granted the loans to Bill and Joan.
Wayne’s car loan and his loss
In 2010, Wayne entered into a credit contract with the financial services provider (FSP) for $48,500. Wayne used the funds to purchase a Holden Commodore V8 car for $42,222 and to finance a consumer credit insurance policy and a shortfall insurance policy.
In 2011, Wayne was in financial difficulty and the FSP refinanced the credit contract. The new contract included finance for a shortfall insurance policy, but not for Wayne’s consumer credit insurance.
Wayne lodged a dispute at FOS. He said he could not afford his new contract and the FSP had not acted responsibly when it agreed to the new contract.
FOS considered the FSP’s decision in 2010 to grant the initial credit contract (because the refinanced contract was only a variation of the old contract). We concluded that the FSP should not have approved the $48,500 loan.
We required Wayne to return the car to the FSP, and calculated Wayne’s loss to be:
- the $200 deposit he personally paid for the car
- his loan repayments of $18,214
- interest on his total loss of $18,414, which we calculated to be $1,973.
According to Glass’s Guide (a trade publication about used car prices), the current retail value of Wayne’s car – having travelled 50,000 kilometres –was $33,225. We therefore calculated that the benefit to Wayne of using the car was $8,997 ($42,222 minus $33,225).
We determined that the FSP must pay Wayne $11,390 ($18,414 loss plus $1,973 interest less $8,997 value of use).
Carol and Bruce want to keep their investment property
Carol and Bruce obtained a loan for $260,000 in 2007 from the financial services provider (FSP) through a broker. They used the funds to buy an investment property and they rented it out.
They later lodged a dispute at FOS. While they had made all of their loan repayments, they said they had only been able to make the repayments by not buying other little luxuries. Carol and Bruce also said that although they had provided their broker with correct information about their financial position, the loan application contained incorrect information about their income. They said they would not have bought the investment property if the FSP had not approved the loan, and they wanted the FSP to write off the outstanding debt (that is, not require them to repay the remaining debt).
The FSP said it had relied on Carol’s and Bruce’s tax returns and payslips which the broker had provided with their loan application. The FSP also said that it had seen statements for their existing home loan with another lender which showed that their home loan was being repaid.
Carol and Bruce did not want to sell their investment property. They wanted to keep it for their children to use when they went to university. They knew that their decision to keep the property might mean that they could not receive compensation for their claim, but they still wanted a review of the FSP’s credit assessment.
It was not possible to assess whether Carol and Bruce had suffered any loss, because they did not want to sell the property, and their loan repayments were up to date. Therefore, Carol and Bruce were required to continue making loan repayments in accordance with the terms of their credit contract and we closed our file.
Sally and Richard should have taken more care
Sally and Richard had an existing home loan of approximately $330,000 with another lender. In 2008, they asked the financial services provider (FSP) to refinance that loan and to lend them an additional $80,000. They offered to provide a mortgage over their home, which they estimated was worth $640,000. The FSP approved a loan for $410,000.
Sally and Richard failed to make their repayments, and they surrendered their home to the FSP in February 2011. The FSP sold their home in November 2011 for $410,000. Because of the interest which had been charged to the loan since 2008, there was still $189,989 outstanding on the loan after the sale proceeds were used to repay the loan.
Sally and Richard lodged a dispute at FOS. They said that the FSP should have known that they were in financial difficulty with their existing home loan. They also said that if the FSP had not granted the loan, they would have sold their home in 2008 and received proceeds of approximately $310,000 (after repaying their earlier home loan). They could not pay the shortfall in the loan and they believe they should not be responsible for it.
We reviewed the FSP’s credit assessment. The FSP had received copies of statements for Sally and Richard’s existing home loan, even though its policy did not require it to receive those documents. As it received the statements, the FSP should have considered the information in the statements. If it had done this, it would have realised that sometimes Sally and Richard were late in making repayments. Further, their existing loan was at a fixed rate of 7.36%pa, but they had applied for a variable rate loan at the FSP’s advertised rate of 8.98%pa This information should have alerted the FSP that it needed to make further inquiries about why Sally and Richard wanted to refinance their loan. Therefore the FSP had not acted responsibly in providing the $410,000 loan to Sally and Richard.
We considered Sally and Richard should not be compensated for the drop in the value of their home since 2008, because they chose to refinance their existing home loan in 2008 rather than sell it. Any amount that Sally and Richard lost because of the drop in the house value was not caused by the FSP’s lending decision; it was caused by their decision to refinance.
Sally and Richard’s loss on their refinanced home loan was the costs they paid to refinance the loan, and the difference between the interest and fees they paid the FSP and the interest and fees they would have paid their existing lender. They were still required to repay the $80,000 which they still owed on the loan. However, their loss included the interest and fees charged on that amount of the loan. In total, we calculated their loss to be $40,220.
We considered that Sally and Richard should have taken more care to protect their own best interests. They knew they were having difficulties making their existing home loan repayments, but they decided to refinance with the FSP for a larger loan and at a higher interest rate. They did this because they did not want to sell their home. Therefore, it was fair and reasonable that they accept some responsibility for their decision. We determined that the FSP was required to compensate them for 50% of their loss, which was $20,110. This amount was to be deducted from the remaining debt. Sally and Richard were still liable for the rest of the outstanding loan.
Obligations under the National Consumer Credit Protection Act (NCCP)
Will was 20 years old, lived at home and had a job at the local supermarket. He found a car he wanted to buy at a Prestige Cars dealership and applied through the dealership’s finance broker for a loan for $50,000 from the financial services provider (FSP). That amount covered the purchase price of $40,000 plus comprehensive insurance and consumer credit insurance. The FSP approved a seven year fixed interest loan which required Will to make monthly repayments of approximately $800.
Will struggled to make his repayments. His mother lodged a dispute at FOS on Will’s behalf, in which she said that the FSP:
- failed to take into account the high operating costs of a high performance car
- failed to make any enquiries about whether Will had any upcoming significant expenses
We considered the dispute and found that the FSP had relied on the information in Will’s loan application and on its own generic data to determine his living expenses. The application stated that Will was employed, he already owned a car worth $6,500, he owed $10,000 in “other loans” and he had no savings.
We concluded that the FSP had failed to meet its NCCP obligations to lend responsibly because:
- The FSP had not contacted his employer or made any enquiries about Will’s requirements or objectives (except for his obvious desire for a high performance car). If the FSP had contacted Will’s employer, it would have learned that he was employed on a casual basis, and he earned more from irregular incentive payments than his casual wage.
- Before the loan, Will owned a car worth $6,500 and owed $10,000 in personal loans. After Will bought the car, he increased his overall debt to $50,000 without the FSP making any enquiry about his potential employment opportunities or other ways he could repay this substantially larger debt.
- The FSP also failed to consider Will’s future expenses if he moved away from home, which was a reasonable consideration given his age.
- Given that Will had no savings, it was obvious that his living expenses were greater than the FSP’s estimate allowed, and there was no reasonable basis to presume Will could afford a further liability of $800 per month.
Good industry practice
Doris and Bill obtained a $200,000 line of credit from the financial services provider (FSP) which they used in their business. Their business went into liquidation. Doris and Bill lodged a dispute with FOS, claiming that the FSP should not have provided the line of credit.
The FSP said that FOS did not have jurisdiction to consider their dispute because:
- the line of credit was not a regulated credit contract under the NCCP and the NCC
- the credit contract was not a financial product under the ASIC Act
- there was no relevant case law which applied to a lending decision which required the FSP to meet any standard of care in assessing Doris and Bill’s loan application
- it was not a subscriber to any industry code which imposed responsible lending obligations
We said that we would consider Doris and Bill’s dispute, because our Terms of Reference state that we can consider a small business dispute, and that we are not limited to considering only regulated lending under the NCCP or NCC. Our jurisdiction is broader than a court because we not only consider legal principles but also how the FSP should conduct itself to comply with good industry practice. Even though the FSP was not a subscriber to any industry code, we still apply the guidelines of relevant codes when we consider if an FSP has followed good industry practice.
Bruce and Barbara had loans with another lender that totalled approximately $263,400. In December 2006, they accepted the financial services provider’s (FSP’s) home loan offer for $284,000 to refinance their existing loans. This amount included additional funds of approximately $20,600.
In November 2007, Bruce and Barbara found a block of land they wished to purchase. They made a low doc loan application to the FSP for $240,000 to assist in their purchase. In their application, Bruce declared that he earned $200,000 per annum from his crash repair business.
Bruce and Barbara had planned to build a new family home on the block of land. However, there were delays for over five years in getting their plans drafted and approved by the local council. They had difficulty making repayments on their total debt of $524,000.
In 2012, Bruce and Barbara lodged a dispute at FOS, claiming that the FSP should not have provided them with the $240,000 because they were not able to service their total debt. In 2013, while we were considering their dispute, Bruce and Barbara refinanced the two loans with another lender. After 2013, the land dropped in value.
We considered the FSP’s credit assessment and concluded that the FSP had failed to make adequate enquiries. While it was appropriate to provide a low doc loan to Bruce because he was self-employed, the FSP should also have taken into account the information it already had about Bruce and Barbara from their existing $284,000 loan. Bruce and Barbara’s transaction account statements showed that they received Family Tax Benefit Part A payments, which are not available to a family whose principal income earner makes $200,000 per annum. The FSP should have made more enquiries with Bruce and Barbara about the difference between Bruce’s declared income and Bruce and Barbara’s receipt of family tax benefits. If the FSP had made those enquiries and had asked for tax returns for Bruce’s business, those tax returns would have shown a net income for the financial year of only $23,527.
As the FSP failed to make those enquiries, we concluded that it had not acted responsibly in providing the $240,000.
Bruce and Barbara’s loss was the amount of money they contributed to the purchase of the land, repayments they made on the $240,000 loan, and holding costs they paid for the land (such as council rates). However, their loss did not include the costs of refinancing the loan with the new lender, or the interest they paid to their new lender. This is because it was Bruce and Barbara’s choice to move to the new lender instead of selling the land. Bruce and Barbara’s loss also did not include the drop in the value of the land, because the land’s value had not changed between 2006, when they purchased the land, and 2012, when they refinanced their loan with another lender.
Broker’s conduct and consumers’ conduct
In 2008, Mike and Felicity asked for advice from a mortgage broker about the best way to borrow $30,000 to help Felicity develop her business. At that time, they already owed the FSP $50,000 for a home loan. The broker advised them to apply to the financial services provider (FSP) for a loan to purchase an investment portfolio and for a line of credit for the business. The broker advised them to mortgage their home to provide security for the loans.
The broker completed their loan application with incorrect details. In particular, the application stated that:
- Mike’s income was $75,000 and Felicity’s income was $50,000. However, Mike’s true income was approximately $16,000 and Felicity’s true income was $14,000.
- Felicity contracted as a child care centre provider and Mike was a locum teacher.
The FSP provided Mike and Felicity with three loans totalling $342,000 and Mike and Felicity provided a mortgage over their home as security for the loans.
Mike and Felicity later lodged a dispute at FOS. They said:
- They had signed three pages of the application and had not seen any other pages of the application. They did not see the other pages of the application until the FSP provided them with a copy of the application after they lodged the dispute at FOS.
- The broker encouraged them to sign blank documents. When they signed the income declaration in the application, it did not state their incomes, it only stated the amount of the loans.
- The FSP did not check their income with their accountant.
- They had taken legal action against the broker and recovered $80,650 in compensation.
- They used one of the loans to make repayments on the other two loans. When there were no remaining funds in the first loan, Felicity used a pension from her superannuation funds to make loan repayments.
In responding to the dispute, the FSP said:
- Its low doc lending policy did not require it to verify their income.
- It had relied on information provided by Mike and Felicity’s broker.
- Mike and Felicity’s repayment history on their existing home loan was satisfactory and their credit reports were clear.
When we considered their dispute, we noted that Mike and Felicity’s age was a “red flag” because they were both 60 years old when they applied for the loans. The FSP had made further inquiries with the broker about Mike and Felicity’s ability to repay the loans, and the broker told the FSP that Mike and Felicity had $450,000 equity in their home and $360,000 superannuation which they could use to reduce their debt when they retired. The FSP also knew that Mike and Felicity were currently working and that the loans were for investment purposes, which could be expected to create additional income and possible capital gains.
We could see that the FSP had complied with its low doc lending policy when it approved the loans. There were no “red flags” which might have alerted the FSP to the false information in the application, so it was entitled to rely on the information in the application to assess whether Mike and Felicity could afford the loans.
We analysed Mike and Felicity’s ability to service the loans based on the information in the application and the FSP’s knowledge of their existing home loan. We concluded that Mike and Felicity could afford the loans.
Although the broker may have done the wrong thing, the FSP did not know and had no reason to suspect that the information the broker provided was inaccurate Also, the broker was Mike and Felicity’s agent, not the FSP’s agent. For those reasons, the FSP could not be held liable for the broker’s conduct.