Is Lite Doc™ Lending Responsible?
It is always interesting to see how consumer protection groups, regulators and the press, wrestle with the idea that mortgage products, like all services, evolve over time but some innovations when made by lenders - to assist genuinely needy or marginalised borrowers - may have the appearance of entreating borrowers to take up loans that they cannot otherwise afford just because of the associated marketing or the ease with which all lenders now seem to make finance available.
Mortgages however are treated with a higher reverence by all concerned and we felt that in the current over-crowded market and the now broad adoption by Australian lenders and brokers of more US style mortgage product innovations - such as reverse mortgages, high loan-to-valuation loans, it is important to outline why we at La Trobe Financial believe that our Lite Doc lending program, remains sound and responsible.
Full Doc, Low Doc or No Doc!
The main point of differentiation of any low doc loan program is that the borrower applicant is not required to provide traditional methods of substantiation as to their income or capacity to repay the loan requested.
Traditionally a borrower would have been asked to provide a letter of income and employment, and/or copies of pay slips, or a completed and recent Taxation return. Low Doc loans waive this standard paper based verification methodology of proving a borrower's capacity to repay a loan; which was in turn used to calculate a simple ratio of the proposed loan repayments to borrower income - a commitment ratio - which was not to exceed a certain percentage of a borrower's income, (traditionally 30% joint applicants and 35% single applicants).
However Low Doc loans, if utilized correctly by a lender, should check the capacity of a borrower in different ways to maintain their responsible lending to the borrower to make a sound lending decision. Low Doc loans, when made prudently, ensure capacity of the borrower to repay the loan is verified by other means such as:
- An independent of borrower, sourced credit bureau report of borrower's past borrowings and history of repayments with other lenders;
- Borrower's declaration as to income ("stated income"/ self certification and taxation return lodgement status) which can be verified by calling the relevant employer by telephone when applicant is PAYG; and /or
- when self employed an Accountant's declaration may be obtained;
- name search of the lender's own database records of borrower's previous dealings (La Trobe Financial has a data base of over 93,000 individuals and previous history) to ensure no previous adverse record;
- requirement that all self employed applicants be registered for GST and hold an ABN;
- for refinance applications (REFI's), statements from the previous lender as to repayment history for up to last 12 months, (La Trobe Financial require 6 months statement from APRA regulated lenders (banks) and longer unrecognised non bank lenders);
- full statement as to assets and liabilities, so the applicant's asset position is reviewed and an opinion is formed as to financial capacity given the age of the applicant (asset accumulation for age); and
- a reasonableness test applied to the application so that the loan amount should never be greater than 3-4 times the stated income.
Character testing of the borrower through employment and residential address stability, credit bureau reports confirm this.
La Trobe Financial also use the following warning on all declarations made by low doc borrowers or their accountants: Warning: You are applying for finance and La Trobe Financial is relying on the declarations that you have made above in making its credit decision. Please make sure that the declarations are correct. Obtaining finance by deception, fraud or dishonesty (which includes making false statements as to income) are crimes which may be punishable by imprisonment.
Interestingly the soundness of such loans was tested by the national banking regulator, APRA, in late 2003, which found that whilst the arrears rate (default ratio) of such loans was roughly 2 to 3 times higher than the Banks' equivalent Full Doc (Prime) loans, the loss severity ratio (actual losses sustained) on Low Doc loans was the same as a Full Doc loan; that is very little losses sustained in practice.
Because the APRA review was conducted soon after the Banks had commenced lending on a Low Doc basis APRA decided as a precaution to what they had perceived as an over heated lending market, changed the capital required to be held by a Bank to support such loans to a 100% risk weighting for loan >60% LVR that did not carry Lenders Mortgage Insurance ($8 for every $100 advanced) rather than the 50% normally applied ($4 for every $100 advanced). However in recognition of the infancy of such Bank lending and the early juncture of this imposition, APRA in its September 16th 2007 release - AGN112.1 - decided further that such Low Doc loans are to be weighted 50% once the borrowers' ... have had substantially met the contractual loan repayments continuously over the last 36 months' (3 years).
Overstatement of Income by Borrowers
The Australian Taxation Office (ATO) also examined Low Doc loans on a limited sample basis since June 2004, against claims in the press of fraudulent over statement of income by applicants using low docs to borrow. According to the ATO's own press release, the ATO only examined 350 loans, although their review received wide press coverage as to the frauds occurring under low doc programs. They stated that the ATO found a high incidence of overstatement of income in the low doc applications or a failure to lodge tax returns.
Regrettably the ATO did not undertake a similar review of a test group of loans on a Full Doc basis and reference same to the taxation returns supplied by the Full Doc borrowers. One would expect that on a similar sample basis Full Doc loans would also exhibit some overstatement of income compared to the taxable income declared to the ATO by the borrowers; that is Low Docs do not in themselves exclusively cause misrepresentation of income by borrowers to lenders ... this has been going on since 'Adam was a boy'. Importantly the ATO recognise that borrowers of Low Doc loans are not using same for purposes of aggressive taxation planning.
What happens to Low Doc lending under Anti-Money Laundering Laws
Under the Anti-Money Laundering Laws, lenders must properly identify the low-doc customers. The Federal Government would be rightly concerned about lost tax revenues from people who have not submitted tax returns but are applying for low-doc loans. The Australian Taxation Office (ATO) revealed that at least half of the low-documentation borrowers surveyed in late 2004 had not submitted a tax return for an average of three years. The ATO had accumulated AUS$23 million in taxation payable and penalties from an audit of 140 low-doc consumers. It was anticipated that the threat of a full-scale ATO investigation would curb incidents of tax avoidance. The investigation may however only prompt future regulatory compliance such as the requirement that all low-doc borrowers' Tax File Number (TFN) details are submitted to the ATO at time of loan application.
Is Low Doc lending an endangered species? Do I need to fear Low Doc applications? In short, 'no' and 'no'.
Following ASICs release of Regulatory Guide 209 - Credit licensing: Responsible lending conduct ("RG209") back in February 2010 (reissued March 2011) many brokers thought the days of Low doc lending were numbered, or that Low doc applications now carry too great a risk for them; this is certainly now not the case.
We have had robust policies and procedures in place since 1952 that ensure we comply prudent practices. La Trobe Financial pioneered the first Lite Doc™ product back in 1990, and we continue to assist self-employed borrowers to meet their finance needs with multiple Lite Doc loan options - we are no stranger to this type of lending and are the home of Lite Doc™.
Credit licensees and credit assistance providers are simply required to adhere to the responsible lending guidelines set out in RG209, which call for reasonable enquiries about the consumer's financial situation, in addition to their requirements and objectives in relation to the credit contract being sought. Lastly, and this is the one causing most uncertainty for brokers regarding Low doc loans, the guide states that you are required to take 'reasonable steps to verify' the consumer's financial situation.
How do you take reasonable steps to verify a consumer's financial situation for Low doc applicants?
It is important to outline why our Lite doc lending program at La Trobe Financial remains sound and adheres to the responsible lending requirements imposed in RG209.
Our enquiries of the consumer's financial situation, along with their requirements and objectives remain the same regardless of whether the loan is fully verified or forms part of our Lite Doc™ program. However, for the self-employed applicant, we understand that providing traditional methods of substantiation as to an applicant's income or capacity to repay can be difficult.
We ensure that the capacity of the Lite Doc™ applicant to repay the loan is verified by:
- obtaining an accountant's declaration from the applicant's accountant confirming lodgement of most recent tax returns and knowledge of the borrower's stated income; and how long they have acted as the borrower's accountant and a certification of no conflict of interest; and
- obtaining a declaration from the applicant as to their income and ability to service the proposed loan without substantial hardship;
In addition to this we also:
- conduct a credit bureau enquiry requesting details of defaults;
- require all self employed applicants to hold a registered Australian Business Number, and be registered for GST (where applicable);
- obtain a full statement as to assets and liabilities, reviewing the applicant's asset position to form an opinion as to financial capacity, along with reasonableness test given the age of the applicant (asset accumulation for age);
- obtain statements from existing lenders to verify the borrower's existing repayment history (refinance applications);
- conduct a customer interview call with the applicants to explain the details of the credit contract and confirm that it meets their objectives and requirements and will not cause substantial hardship;
- apply a reasonableness test to the application in its entirety weighing up all factors relating to whether the credit contract is 'not unsuitable'.
Choose one of our flexible and competitive Lite Doc™ products below for your self-employed clients:
If you require any further information relating to our Lite Doc™ products, please call our experienced underwriting team or your dedicated BDM on 1800 707 707
If you would like a copy of ASIC's guide RG209: Credit licensing: Responsible lending conduct, or ASIC Report 262: Review of credit assistance providers' responsible lending conduct, focusing on 'Low doc' home loans, you can access them from the links below:
ASICs guide RG209
ASIC Report 262
But Lite Doc™ is not all we have. Full product suite available.
It’s amazing how broad La Trobe’s product offering truly is, emphasising our flexible and innovative approach for brokers.
If the features of these products do not match your individual client requirements, please call us and we will assist in finding a solution to suit your client's needs.