Chapter 2The problem of home ownership and the current regulatory environment
2.1This chapter will provide a background to the issues around homeownership in Australia, including historical rates of homeownership and the recent decline in these figures, as well as the current state of the market.
2.2The chapter will then discuss the current financial regulatory framework for home ownership in Australia including:
developments in policy and legislation since the 2008 Global Financial Crisis (GFC);
the role of APRA, including its mandate and its role in establishing and enforcing prudential standards; and
the role of the Australian Securities and Investment Commission (ASIC), including its role in home lending under the National Credit Act and the responsible lending obligations.
Introduction to the problem
2.3Broad home ownership can contribute to social equity and cohesion, financial security, wellbeing, and the ability to manage living costs. As a range of submitters to this inquiry noted, home ownership remains an important goal for many Australians and is significant at all stages of life, from family formation, across a working life and into retirement and ageing.
2.4However, as the cost of housing has grown over recent decades, the path to home ownership has become increasingly difficult. Australian households are taking on greater amounts of debt to purchase more costly homes and this is impacting on the ownership prospects of would-be first homeowners.
2.5Indeed, the June 2024 CoreLogic Report found buyers need 50.3 per cent of a median gross household income to service a new loan on the median dwelling value, well above the previous decade average of 35.2 per cent. Housing affordability in 2023–24 was at the worst level on record, with the typical household earning $112000 a year only able to afford 14 per cent of all homes in Australia.
2.6In effect, mortgage availability has become heavily skewed towards high income earners and the wealthy. As a result, home ownership rates are declining, the share of Australians renting is increasing, and the share of Australians that have paid off their mortgage is falling.
2.7The fall in home ownership rates has significant consequences, not least for retirees who do not own their own home and are required to use their retirement income to cover rent. This undermines a key assumption that underpins Australia’s retirement income system, namely, that most retirees will have very low housing costs. In this way and others, the decline in Australian home ownership is a pressing policy challenge with profound social, economic and intergenerational consequences.
2.8The increase in house prices and the decline in home ownership is a complex matter. The supply of housing was cited by almost all inquiry participants as a key issue, with the completion of 172000 dwellings in 2023 being the lowest annual number in the past decade. Contributing factors included housing construction and associated structural obstacles, construction costs, and labour costs and shortages. Several aspects of taxation policy, immigration levels, zoning, demand factors, as well as broader macro-economic factors, were also raised.
2.9Submitters also raised a range of discrete matters around the financial regulatory framework as having a problematic impact on the ability of first home buyers to enter the housing market.
2.10There was broad agreement amongst submitters on the need for appropriate safeguards against bank losses that arise if loans are made to borrowers who ultimately lack the capacity to fully repay them. Submitters recognised that if loan repayment failure occurs, a bank may be unable to fully meet its own credit obligations and, depending on that bank’s importance to the financial system and the economy, the government may need to intervene.
2.11That being acknowledged, concerns were raised that the pursuit of an ‘unquestionably strong’ financial system has caused the banking sector to ‘eliminate much of the flexibility in the mortgage market that made home ownership accessible for households of variable credit quality’.
2.12Relatedly, it was also argued that overly restrictive home lending policy settings unnecessarily constrain valuable economic activity such as new home building without yielding any compensatory gain.
2.13Therefore, it is important to strike the right balance between the flow of credit into the economy while maintaining a stable financial system with adequate protections for prospective borrowers.
2.14This chapter sets the context for an exploration of whether the current home lending policy settings administered by APRA and ASIC are unnecessarily restrictive. The chapter begins by summarising current and historical rates of home ownership, the deposit gap, the mortgage market, and the supply of housing loan credit in Australia.
2.15The rest of the chapter then sets out relevant aspects of the current financial regulatory framework and the issues raised by inquiry participants. The following chapter considers potential changes to the financial regulatory framework relevant to home ownership.
Current and historical rates of home ownership in Australia
2.16Australian rates of home ownership have fallen significantly in the last two decades. Between the mid-1960s and 2000, home ownership rates were around 70 per cent. However, that rate had fallen to 66 per cent in 2019–20.
2.17This four per cent fall in home ownership has had a substantial impact. For example, if home ownership rates had remained the same between 1999–2000 and 2019–2020, an additional 430000 households would be homeowners.
2.18Nevertheless, overall home ownership rates only tell part of the story. Home ownership rates for younger people have fallen substantially over the last 50years. In 1971, the home ownership rate for 25- to 29-year-olds was 50 per cent, falling to 36 per cent in 2021. In 1971, the home ownership rate for 30- to 34-year-olds was 64 per cent, falling to 50 per cent in 2021.
2.19The fall in home ownership has been accompanied by an increase in the proportion of the population renting from 27 per cent in 1999–2000 to 31 per cent in 2019–20.
The deposit gap in Australia
2.20The ‘deposit gap’ refers to the rapid growth in house prices outstripping the ability of would-be first home buyers to save a 20 per cent deposit.
2.21The Customer Owned Banking Association (COBA) submitted that the deposit gap is now a substantial barrier to home ownership, even for Australians working in relatively well-paid professional jobs:
The ability to demonstrate genuine savings and provide a significant deposit is an essential requirement for purchasing property in Australia, however, low wage growth relative to property prices combined with high rents which reduce the ability to save has resulted in an ever-increasing deposit gap for aspiring home buyers.
2.22The Finance Brokers Association of Australasia Limited (FBAA) identified several characteristics that make it more difficult for first home buyers:
They generally have lower deposits, having had limited opportunity to save or build equity from previous investments. They are typically younger and newer to their jobs or earlier in their careers, on lower incomes or working their way up the ladder.
2.23Similarly, ANZ noted the June 2024 CoreLogic Report found the increase in house prices meant the ongoing rise in the amount required for a house deposit presented an additional challenge for first home buyers. The CoreLogic Report estimated that, averaged nationally, it would take 10.6 years for a median gross income household to save a 20 per cent deposit, assuming a savings rate of 15per cent per year.
2.24The National Australia Bank (NAB) concurred that the greatest challenge facing the majority of first home buyers remains the ability to save for a deposit. NAB cited PropTrak data released on 21 September 2024 that, averaged nationally, indicated it would take 5.6 years for an average-income household to save a 20per cent deposit on a median priced home, assuming a higher savings rate of 20 per cent per year.
The current mortgage market in Australia
2.25In 2023, the ten largest mortgage lenders in Australia were banks, comprising over 92 per cent of the mortgage market. Non-bank lenders accounted for less than 5 per cent of the mortgage market in Australia.
2.26Mr Angus Sullivan, Group Executive of Retail Banking Services at CBA, stated that the Commonwealth Bank Group is the largest lender to home buyers and first home buyers in Australia. CBA advised that loans to first home buyers comprised 9.8 per cent of total home loans in the 12 months to 30 June 2024.
2.27NAB currently has over a million home loans on its books and typically issues around $80 to $90 billion of home loans a year, with a total book of around $340billion. New home loans account for about 12 per cent of total loans.
2.28ANZ provided the following information to the committee. First home buyers constituted 8.3 per cent of ANZ’s total pool of home loans, with an average loan size of $536141 by outstanding balance as of 30 September 2024.
2.29Westpac Banking Corporation (Westpac) advised that in the 12 months to 30June 2024, new home loans accounted for 13.5 per cent of total home loans with an average loan size of $492200.
2.30Mortgage brokers now dominate the distribution side of home lending, facilitating nearly 75 per cent of all home loans in Australia. In September 2023, there were 19872 mortgage brokers in Australia. Between September 2022 and September 2023, mortgage brokers facilitated $350 billion in home lending for Australian borrowers.
2.31Ms Anja Pannek, Chief Executive Officer at the Mortgage and Finance Association of Australia (MFAA), told the committee that mortgage brokers have improved home loan outcomes for home buyers. She argued that ‘a mortgage broker's ability to access dozens of lenders and hundreds of products drives choice and, importantly, competition in the home loan market’. She also argued that ‘lender net interest margins for new lending have fallen by 52 basis points in the past five years’ as mortgage broker market share has risen.
The current supply of housing loan credit
2.32Housing loan credit is the amount of credit extended by lenders to Australians seeking to purchase a home. Evidence to the committee indicated that the provision of housing credit is at or above the long-term average.
2.33For example, APRA stated that over the past year, housing credit grew by nearly 5 per cent, which was slightly stronger than in the year prior. Furthermore, ‘new lending to first home buyers remains in line with its long-run average share’.
2.34Mrs Therese McCarthy Hockey of APRA provided the committee with an overview of APRA’s mortgage lending data from August 2024:
…banks' housing loan commitments are tracking upwards, indicating that credit is flowing and accessible, including to first home buyers. Housing credit growth has increased over the past year and is currently in line with long-term averages. Similarly, first home buyers, in line with the long-term average, have continued to account for around one in five new housing loans.
Australia’s current financial regulatory framework and issues raised
2.35The remainder of this chapter provides a brief overview of legislative and regulatory developments in the financial regulatory framework following the GFC. It then summarises Australia’s twin peaks regulatory model and APRA’s mandate.
2.36The following sections then cover key elements of APRA’s prudential standards with respect to the home loan market as well as considering the issues raised with respect to these matters by submitters and witnesses. Issues raised include APRA’s serviceability buffer, loan to valuation ratios for home loans, and APRA’s role in specifying mortgage risk weights.
2.37The chapter then looks at ASIC’s role in the financial regulatory framework and considers the issues raised by submitters and witnesses with respect to ASIC’s perspective on the operation of the responsible lending obligations (RLOs).
Legislative and regulatory developments following the GFC
2.38Poor lending practices in the residential mortgage sector were at the centre of the Global Financial Crisis (GFC). After the collapse of several major financial institutions in the United States and Europe, various governmental authorities in the United States and Europe engaged in a series of massive bail outs to preserve the stability of the banking sector and prevent the contagion in the financial sector spreading to the wider economy.
2.39In Australia, government and regulators implemented a range of measures designed to strengthen the financial system. For example, in 2009, Parliament legislated the National Consumer Credit Protection Act 2009 (the National Credit Act). The National Credit Act includes the main regulatory framework governing home lending in Australia.
2.40A more recent amendment to the National Credit Act sets out a best interests duty for mortgage brokers. ASIC Regulatory Guide 273 Mortgage brokers: Best interests duty explains mortgage brokers are now required to act in the best interests of consumers when providing credit assistance. Further, if there is a conflict of interest when providing credit assistance, mortgage brokers are required to give priority to the consumer’s interests. Compliance with these obligations began from 1January 2021.
2.41Since the GFC, APRA has also taken measures to embed ‘unquestionably strong’ levels of capital in the banking system, aligned with Basel III, the internationally agreed set of measures developed by the Basel Committee on Banking Supervision. These measures aimed to strengthen the regulation, supervision and risk management of banks. In practice, APRA requires ADIs to have sufficient capital ratios of at least 10.5 per cent to meet the ‘unquestionably strong’ benchmark.
2.42In sum, due to these post-GFC changes, bank mortgage lending in Australia is now more highly regulated.
Australia’s twin peaks regulatory model
2.43Australia’s current financial regulatory framework originated with the 1997 Wallis Inquiry into the financial system. That inquiry set the foundation for Australia’s ‘twin peaks’ regulatory model consisting of two independent statutory bodies, APRA and ASIC.
2.44Under the twin peaks regulatory model, APRA is responsible for the prudential supervision of financial institutions and for promoting the stability of the Australian financial system. ASIC is responsible for financial market conduct and consumer protection for financial services.
2.45Authorised deposit-taking institution (ADIs) (banks) are prudentially regulated by APRA because they hold deposits. Non-ADI lenders do not hold deposits and are therefore regulated by ASIC. This division of regulatory focus is reflected in the way the two regulators seek to maintain sound housing lending standards. APRA focuses on the risk that poor lending practices could undermine the financial soundness of an ADI with potential impacts on the stability of the overall financial system. By contrast, ASIC focuses on financial market conduct and consumer protection.
APRA’s mandate and approach to prudential stability
2.46APRA has a mandate to supervise ADIs to protect the interests of depositors and promote financial stability.
2.47APRA submitted that ‘financial failures and instability can result in significant social and economic harm’ and that ‘credit risk—the risk of borrower being unable to repay outstanding debts—is the single largest source of prudential risk for the Australian banking system’.
2.48APRA submitted that its focus on home lending reflects the concentrated exposure of Australia’s banking sector to residential mortgages. In recent decades, banks in Australia have become much more exposed to housing. Residential mortgages now constitute over 60 per cent of ADI loan portfolios, a concentration that is high by both historical and international standards.
2.49Consequently, APRA explained that its interest in ensuring the quality of ADI mortgage portfolios is vital for maintaining the stability of the financial system because a build-up of risks in the residential mortgage portfolios of the banks ‘can present material risks to the financial system’. APRA therefore argued that it is crucial ‘that housing lending practices remain prudent through the cycle, and that capital requirements for housing loans are commensurate with their risk’.
APRA’s prudential standards
2.50The Banking Act 1959 sets out APRA’s powers to establish and enforce legally binding prudential standards for ADIs.
2.51Prudential Standard APS 220 Credit Risk Management (APS 220) sets out the key requirements that APRA imposes on ADIs to manage credit risk. APS 220 requires ADIs to:
…have appropriate oversight and governance structures, maintain sound lending standards at the point of origination and actively monitor the risk of borrower default until the loan is repaid.
…make a prudent assessment of a borrower’s ability to repay the housing loan they have applied for.
2.52APRA submitted the prudential requirements for a new housing loan would typically involve an assessment of whether a borrower had sufficient income to cover repayments, building in buffers, and taking account of existing expenses and debt commitments.
2.53APRA’s prudential standards are accompanied by prudential practice guides which set APRA’s expectations of sound practice. The key prudential practice guides for managing credit risk are:
Prudential Practice Guide APG 220 Credit Risk Management (APG 220); and
Prudential Practice Guide APG 223 Residential Mortgage Lending (APG 223).
2.54APRA also has various prudential standards that set minimum capital requirements for credit risk:
APS 110 Capital Adequacy;
APS 112 Capital Adequacy: Standardised Approach to Credit Risk; and
APS 113 Capital Adequacy: Internal Ratings-based Approach to Credit Risk.
2.55The following sections consider some of the requirements in APRA’s prudential standards relevant to home lending.
APRA’s serviceability buffer on all new home loans
2.56In December 2014, APRA introduced a serviceability buffer requiring lenders to apply a minimum buffer of 2 percentage points above the loan rate and a minimum interest rate floor of 7 percent regardless of product. In July 2019, APRA removed the minimum floor but required lenders to assess all new borrowers’ ability to meet their housing loan repayments against a 2.5 per cent buffer above the current loan product rate. In late 2021, APRA increased the buffer to 3 percentage points. While APRA regularly reviews the setting of the serviceability buffer, it has maintained it at 3 per cent since 2021.
2.57APRA submitted that the 3 per cent buffer provides ‘an important contingency for risks over the life of the loan, by requiring borrowers to have an income buffer against shocks’ that include ‘rising interest rates, a reduction in borrowers’ income or an increase in their expenses’.
2.58Mrs McCarthy Hockey of APRA expanded on this at the public hearing, explaining that the serviceability buffer was designed to take account of a broad range of unforeseen circumstances across several factors beyond just interest rates, including income and expenses, credit and leverage, and asset prices and lending standards.
2.59Dr Kohler of APRA also explained that the serviceability buffer is just one of several tools that APRA calibrates together to ‘mitigate the vulnerabilities and risks’ at the system level. She also noted that APRA regularly reviews the appropriateness of the calibration, including whether it is working as intended, and whether there are any unintended consequences. Factors considered in the reviews include credit flows, leverage, debt levels, asset prices, lending conditions, and indicators of financial resilience.
2.60APRA’s prudential standards also allow ADIs to consider exceptions to the standard serviceability test where appropriate. However, these exceptions to serviceability policy currently account for less than 5 per cent of new housing lending (4.7 per cent of new loans funded over the June 2024 quarter).
2.61Mrs McCarthy Hockey also made the point that APRA’s role is around access to finance as distinct from housing affordability.
Loan to valuation ratios for home loans
2.62A loan to value ratio (LVR) is the amount borrowed represented as a percentage of the value of the property being purchased. Loans with a LVR over 80 per cent of the property value are generally considered higher risk. The bigger a deposit a borrower has, the lower the LVR will be.
2.63First home buyers typically borrow a high share of the value of the property because of the challenges associated with accumulating a 20 per cent deposit. Indeed, APRA observed that over two thirds of first home buyers borrow at an LVR of 80 per cent or above.
2.64HIA submitted that the proportion of lending to home buyers with a loan to valuation ratio (LVR) of over 90 per cent (that is, a deposit of less than 10 per cent of the property value) has fallen substantially over the last 15 years. For example, loans with an LVR of over 90 per cent exceeded 20 per cent of new lending in 2009 but accounted for just 7 per cent of new loans in 2024. Further, lending to buyers with an LVR between 10 and 20 per cent fell from 20 to 15percent of new lending.
2.65HIA also observed that tighter regulations around mortgage lending means that the default risk of many high LVR loans issued to first home buyers is now underwritten by the Australian government through the government’s Home Guarantee scheme.
2.66APRA submitted that it has no formal limits on lending at high LVRs and therefore high LVR lending in Australia is ‘determined by banks’ collective risk appetites’.
2.67However, the Australian Banking Association noted that Attachment C of APS220 provides APRA with the power ‘to set limits on particular types of lending, including some, such as high LVR or high debt-to-income lending’.
Loan to value ratios and lenders mortgage insurance
2.68The Insurance Council of Australia explained that lenders mortgage insurance (LMI) ‘protects a lender against the risk of not recovering the outstanding loan balance if a borrower is unable to meet their loan payments and the property is sold for less than the outstanding loan balance’.
2.69Helia noted that the cost of the LMI premium is typically 1 to 2 per cent of the total loan amount. The lender usually passes the premium cost on to the borrower as a fee who can usually choose to spread the cost over the life of the loan rather than pay it upfront.
2.70To mitigate against the risk of a high LVR, lenders currently require home buyers with less than a 20 per cent deposit to pay LMI. Views differed on whether LMI inhibited or facilitated the entry of young and first home buyers into the housing market.
2.71COBA argued that LMI supports lending to first home buyers and can assist first home buyers with low deposits and high LVRs to enter the housing market ‘sooner than would be possible if they needed to save for a 20 per cent deposit’.
2.72COBA also pointed out that small banks ‘rely on the existence of an accessible and affordable LMI market to continue to provide first home buyers with high LVR loans while managing their own credit risk’. In contrast, COBA argued, the major banks have the scale and financial capacity to self-insure in the absence of a private LMI market.
2.73The Insurance Council of Australia also argued that LMI facilitates competition among lenders:
As the Productivity Commission has noted, LMI provides a way for smaller lenders to manage their risks and “makes them more willing to lend to higher-risk borrowers”, which can encourage them to “more fully compete in the home loan market.” Increased competition creates more loan options for home buyers at lower interest rates.
2.74The Insurance Council of Australia also drew attention to another important role played by the LMI industry in protecting financial system stability by transferring risk outside the banking and non-bank mortgage lending sectors:
LMI provides a significant independent layer of capital supporting credit risk default for home lending. Without LMI, lenders would be required to either carry more risk on their balance sheet or reduce their loan book. LMI capital is available during times of increased mortgage defaults, which typically occurs during economic downturns. The deployment of LMI capital reduces losses incurred by lenders and helps to smooth the impact of economic cycles. This reduces losses incurred by lenders, so they remain strong and able to continue to provide credit during economic downturns.
APRA’s role in specifying mortgage risk weights
2.75Under its capital framework, APRA requires ADIs to maintain higher amounts of capital against higher risk loans. APRA submitted that higher LVR loans ‘have historically had a higher probability of default than loans with lower LVRs’ and that ‘in the event of default, losses for banks are also higher, given that borrowers have smaller equity buffers’.
2.76Mr Mott, Founding Partner of Barrenjoey, noted that the banks' capital models are based on a mathematical formula signed off by APRA with different weightings on different risk categories. He pointed out that before the 2014 Murray financial system inquiry, banks held around 12 to 14 per cent capital. The Murray inquiry recommended an increase in the amount of capital the banks hold to a 25 per cent risk weight on average.
2.77In answers to questions on notice, APRA advised that the industry average risk weight for mortgages is approximately 26 per cent as at June 2024. For owner occupiers with principal and interest loans, the average risk weight was approximately 23 per cent. For all other mortgages, it was approximately 30percent.
2.78For low-deposit loans, different risk weights are applied depending on the risk-mitigating strategy employed by the borrower. In its submission, Helia provided the following table showing the risk weights attached to a $600000 mortgage with a five per cent deposit (that is, having a 95 per cent LVR) depending on the low-deposit strategy used (see figure 2.1 below).
Figure 2.1Risk weights for $600k mortgage with different low-deposit strategies
Source: Helia, Submission 19, p. [4].
2.79Dr Sean Carmody, Executive Director of Policy and Advice at APRA, explained that APS 112 and APS 113 specify the credit risk weightings, that is the capital requirements for different credit risks across different classes of lending. In answers to questions on notice, APRA provided an extract of a table from APS 112 setting out the risk weights for standard residential property loans.
2.80In effect, APRA’s standards set out risk weights where a given dollar of exposure will be weighted by a factor based on relative risk. For example, DrCarmody noted that ‘mortgage lending, being a type of secured lending, is relatively low risk compared to credit cards, which attract higher risk weights’.
2.81APRA also recognises that the government’s Home Guarantee Scheme reduces the risk to banks’ financial safety. APRA’s capital requirements for these loans are therefore ‘materially lower than for those without a guarantee. For example, a first home buyer that is borrowing 95 per cent of the property value would be treated as if it were an 80 per cent LVR, for capital purposes.’
2.82In answers to questions on notice, APRA provided the following figures on the amount of capital allocated by banks against mortgages:
Across the banking system, $137 billion of capital are estimated to have been allocated by banks against mortgages as at 30 June 2024 (estimated by pro-rating total capital with the share of mortgages in risk weighted assets). This capital should be considered relative to the total credit exposure to mortgages of $2.6 trillion, and includes not just minimum capital requirements by APRA, but also various buffers individual banks decide to add.
2.83Dr Carmody also noted that, all else being equal, banks will, on average, apply higher margins to loans subject to higher risk weights ‘which ultimately is a pricing of risk’.
2.84Mr Ben Nicholls, Executive of Portfolio Management at NAB, explained the mechanism behind capital risk weight models used by the bank:
…a capital risk weight model is calculated by the loan balance multiplied by the probability of default—how likely that customer is to go into arrears and ultimately default on that loan— multiplied by the loss that we may have as a result of that customer going into default.
2.85Mr Andy Kerr, Executive of Home Ownership at NAB, concurred that changes in capital ultimately flow through to pricing, driven by risk weights and final losses. He also noted that if APRA directed the banks to hold less capital against one class of mortgages, it would be unusual not to offset that against other segments of lending, potentially leading to higher prices for those customers. Mr Sullivan advised that for CBA, a change in one class of mortgage risk weights may not necessarily affect other classes of mortgages.
2.86HIA argued that recent changes imposed by APRA have resulted in ADIs increasing ‘their capital as a share of total risk-weighted assets from around 10.5 per cent to as high as 18.5 per cent’:
The riskiness of a bank’s loan portfolio dictates the amount of capital the bank must hold – a riskier portfolio of assets requires a bank to hold more capital in reserve. Recent changes imposed by APRA mean that lending in segments of the market that are perceived to be risky required banks to hold more capital in reserve than they had in the past.
2.87HIA also stated that because residential mortgages are now deemed riskier than prior to the GFC, mortgage lending has become more capital intensive. The result is that the cost of lending and borrowing has increased as lenders price-in these additional costs.
2.88In a supplementary submission to the inquiry, Barrenjoey stated that it had run modelling of modest changes of risk weighting for first home buyers. This modelling indicated that this would lead to increased borrowing capacity for first home buyers of between one and three per cent, while having a minimal impact on ‘the entire mortgage book, which would stay at around 25 per cent, consistent with the Murray Financial System Inquiry.’
ASIC’s regulatory role in home lending under the National Credit Act
2.89ASIC has responsibility for administering Schedule 1 of the National Credit Act which contains the National Credit Code as well as chapter 3 of the National Credit Act that deals with responsible lending conduct, commonly referred to as the responsible lending obligations (RLOs).
2.90RLOs apply to all individual loan approvals and require all authorised ADIs and non-ADI credit providers to have an Australian credit license and comply with various obligations.
2.91According to ASIC’s Regulatory Guide 209: Credit licencing: Responsible lending conduct, the main concept of the RLOs is that ‘credit licensees must not enter into or assist a consumer with a credit product that is unsuitable for them’.
2.92While ASIC’s regulatory guides are not legally binding, ‘industry generally complies’ with the guidance. Further, AFS licensees have general obligations ‘to provide efficient, honest and fair financial services’ and comply with any conditions on their licences and the Corporations Act 2001.
2.93The Australian Banking Association noted that under ASIC Regulatory Guide 209, banks are required to undertake a range of assessments to understand whether a consumer is suitable for credit:
This includes the bank making reasonable inquiries about the consumer’s requirements, objectives and financial situation, and taking reasonable steps to verify the consumer’s financial situation. This includes, among other things, having a detailed understanding of income and outgoings to determine whether a consumer has the capacity to repay their debt.
…
A bank must obtain information about the amount, frequency and source of income, and changes that are reasonably foreseeable to income, including enough information to understand whether the income is consistent and likely to remain at the same level over the period of the contract. Where there are foreseeable reductions to the amount or frequency of income, banks must gather more information to determine the potential lower amounts of income.
…
Banks must also assess the outgoings of a borrower to understand how much of a person’s income is likely to be available for meeting new financial obligations. This includes:
Existing debts and liabilities, being commitments that a consumer cannot choose to reduce or eliminate, such as repayment obligations for other credit and HELP debts, including HECSHELP and FEE-HELP.
Essential items, such as housing, rental, food, clothing, transport, health and education.
Non-essential expenditure due to lifestyle, such as private schooling, insurance, memberships and subscriptions, and whether this expenditure can be reasonably reduced or foregone by the borrower.
2.94The Australian Finance Industry Association (AFIA) also noted that lenders assess a borrowers' capacity to repay a loan based on the borrower's income and expenses, collateral such as non-financial assets and property location, capital such as financial assets, including a deposit, and broader market and economic conditions.
Responsible lending obligations
2.95There appeared to be general agreement amongst the banking, mortgage lending, and finance industry that the RLOs in the National Credit Act were scalable and principles-based, and therefore allowed a lender flexibility in their assessment processes so long as the lender took ‘reasonable steps’ and did not make unsuitable loans. It appears that most within the industry viewed the National Credit Act and specifically the responsible lending obligations as fit for purpose.
2.96For example, the MFAA considered the RLOs approach to be non-prescriptive and scalable as it:
…allows lenders and mortgage brokers to tailor their policies to the specific circumstances of each borrower, considering factors such as the complexity of the credit product, the benefits it offers to the consumer, and the potential risks involved.
2.97However, views differed significantly over ASIC’s interpretation of, and approach to, the RLOs in its regulatory guidance.
2.98On the one hand, the MFAA considered that ASIC Regulatory Guide 209 (RG 209) further reinforces the flexible approach in the National Credit Act by emphasising scalability:
It specifies that the extent of inquiry and verification that is reasonable for a credit provider to undertake should be proportionate to the complexity of the product and the associated risks. This principles-based framework ensures that lending practices can adapt to the diverse needs of consumers and the varied nature of financial products, fostering an environment where in our view, consumer protection and access to credit are balanced effectively.
2.99By contrast, AFIA was of the view that since the introduction of the National Credit Act in 2009, ‘the concept of responsible lending and how it has been enforced by ASIC has become increasingly prescriptive’:
The regulator has placed heavy emphasis on lenders being able to prove that any proposed borrower has current capacity to service a loan at the time the loan was advanced.
The regulator’s approach has been quite inflexible.It does not support lenders making many assumptions about changes a borrower may make to their spending habits after taking out a loan or to recognise that incomes increase over time as workers become more experienced in the workforce.
2.100AFIA also submitted that ASIC has maintained an inflexible approach to the RLOs despite losing a case and its appeal on the matter in the federal court. AFIA argued that ASIC’s restrictive approach has had significant consequences as ‘lenders often discount a prospective borrower’s income and inflate (buffer) their expenses’ to safeguard against accusations of irresponsible lending:
The 2019 Federal Court case of Australian Securities and Investments Commission v Westpac Banking Corporation (Liability Trial) [2019] FCA 1244 was hailed as a landmark judgment providing strong support for the sensible administration of responsible lending. His Honor Justice Perram observed that it is reasonable for a lender to make reasonable assumptions about future changes in a borrower’s circumstances and it would not be a breach of responsible lending laws to do so.
Despite appealing the decision and losing the appeal, ASIC made little change to its regulatory guidance and still favours a restrictive view about what a lender must do to prove that it has met its responsible lending obligations.
Many lenders seeking to avoid the wrath of ASIC continue to make conservative assessments on a consumer’s capacity to service a home loan. Lenders carry all the risk of making assumptions. For example, if a lender were to make a reasonable assumption that a recent university graduate starting out in the workforce would advance in their chosen career and earn higher income in future years and were to advance a loan against that assumption, it would be at risk of breaching its responsible lending obligations. Extending a higher amount of credit would result in the borrower committing a higher amount of their current income to servicing the loan. If the borrower did not advance in their career or lost their employment, the lender would be accused of breaching responsible lending obligations. To protect themselves, lenders err on the side of caution.
2.101In a similar vein, FBAA argued that the RLOs favour borrowers with higher capacity and equity and ‘works against first home buyers accessing loan amounts sufficient to help them enter the market’. This is because ASIC’s definition of the RLOs prevents over-extension despite many first home buyers and new entrants needing to extend themselves to purchase their first home.
Next chapter
2.102The next chapter of this report considers potential changes to the financial regulatory framework to help facilitate higher rates of home ownership.