“”And needless to say the XXX Bank can kiss my business goodbye in 1995.”
This is voice of many consumers over the past month angry at being hit with huge, unexpected fees when wanting to sell their homes.
The history of it shows how the best laid plans and intentions go astray.
When Stephen Martin, MP, brought down his report into banking in November, 1991, one of a dozen or so recommendations attracted little limelight.
In an attempt to relieve consumers from heavy fees for early loan repayment, Mr Martin recommended that banks recover only actual costs. That was in 1991, before the Treasurer dropped interest rates, substantially and rapidly.
Mr Martin’s recommendation is resulting in consumers being hit unexpectedly with huge costs if they want to pay their mortgage out early.
Before the Martin inquiry some banks hit customers with fees for early payout, which in the prevailing high-interest environment could not be justified. In line with his other recommendations, the Martin committee recommended a change in philosophy for consumer banking: consumers should earn when they deserve it and pay when the use it.
This meant an end to little, old, ignorant pensioners having 3 per cent savings account paying on the minium monthly balance, when they deserved much higher interest paid on the daily balance. It meant an end to banks charging higher fees on some clients to cross subsidise other clients.
It also meant an end consumers engaging in transactions free from service fees.
Credit cards, however, came under state law so it was impossible to impose user pays on them. State law prevents a service and transaction fee for owning and using a card. The only charges can be interest. To compensate, the banks charge higher interest so their card business as a whole makes a reasonable profit. But this means people who cannot pay their monthly account end up subsidising those who do _ the very thing the Martin committee objected to.
In nearly all other areas of banking, however, the banks were able and, to their credit, did follow his recommendations, including setting up the banking Ombudsman, though some smaller banks have not joined the scheme.
The banks also changed to a user-pays earner-earns philosophy. There is little difficulty with this when interest rates are fairly stable. But when they fall rapidly after a period of high interest rates, some unexpected results follow, especially to average suburban clients.
This is what happened:
From about mid-1989 high interest rates were driving people out of the housing market. They could not afford to borrow to buy their first homes. By 1990 the banks were recovering from the excesses of the mid-1980s and had funds to lend. But people did not want to borrow at the high interest rates, especially if, as experience had showed them, they might go higher. At the same time the smaller banks were seeking market share. What better enticement than to offer people fixed-interest loans at a lower rate than the going variable rate?
Thus the advertisements appeared: 15.5 per cent fixed for five years, when the going rate was 17.5. How could the banks off such a good deal? Why couldn’t they bring the rate down generally to 15.5 per cent?
The banks were prepared to make less profit (or even perhaps a loss) on some of these loans to secure market share. But more importantly smarter, wealthier and far bigger players than first-home buyers, second-house investors, or even the banks themselves, provided the money for these fixed-interest loans. The big players know about the inevitability of the business cycle. They knew in 1990 that interest rates would ultimately come down. They did not guess how quickly or by how much, but they knew the rates would fall. Thus they were happy to lend banks money at the current high rate for five years in the knowledge that rates would fall and that, on average, over the five years the flexible rate would be lower than their fixed rate they were getting.
So the banks borrowed the money at the lower fixed rate so it could pass it on at a profit to its customers.
It is now a couple of years down the track.
Interest rates have gone down. The banks say if they allow people to pay out these loans early they in turn have to break their deals with people they borrowed from at higher rates, or they have to reinvest the paid-out loan money at a lower rate. This means the banks make a loss.
And what did the Martin committee say? The customer who causes the loss must pay for it; it must not be spread among other customers. So the banks calculate their loss. It is 15 per cent of the balance, less the current rate times the time remaining of the fixed loan. If you have a typical $75,000 loan fixed till mid-1995 that can add up to more than $12,000.
Because interest rates have come down so much, it is a bad time to pay out fixed loans. Maybe customers should never have taken them out. Maybe they would not have taken them out if they had been told of the future possibilities.
Most customers do not deny they should pay something, but none thought it would be so much.
It gets worse. Clive Williams, who has been posted overseas, said: “”I recently aborted the sale of my house (after having paid out more than $2300 in auction fees) when I discovered that the bank was going to impose a penalty of nearly $10,000 for early payout.”
Dennis and Linda Fisher, of Isabella Plains, got hit with a penalty of $4319. They were lucky their rate was fixed for only three years. They say that at the time of signing their bank (one of the smaller ones) told them the fee would be about two months’ interest.
The trouble is that the law goes to the signed document, and it is exceedingly hard to get out of what you have signed. Besides, lawyers will chew up $10,000 in costs before breakfast, so a court challenge is self-defeating.
The signed mortgage documents are rarely if ever read by the people who sign them. They may as well be written in Swahili. Banks will not use plain-English documents. Maybe that’s what Mr Martin should have recommended: no interest or fees can been enforced using mortgage documents written in gobbledegook.
Consumer Affairs and the Banking Ombudsman have had many complaints over fixed-rate loans. Hayden Park of the National Australia Bank, which did not heavily market the loans, rather colourfully said fixed-rate mortgages will be the new foreign-loans debacle. The smaller banks went for them.
On pay-out nearly all banks use the dreaded formula, though the Commonwealth said it would charge about $2000 on a loan that would attract $11,000 by the formula.
You can tell by the strength of customer outrage that the banks did not fully explain these loans, no matter what their exact legal entitlements are. The fixed-rate loans were a clever device mainly by smaller banks to attract market share. It has now back-fired. The very market those banks sought to capture has turned against them. As Mr Williams said: “”Needless to say the bank can kiss my business goodbye in 1995 when I pay out my loan.”
A further fall-out from the Martin Committee has been the way the banks charge fees. Michael Munday’s story is a sorry one. The upshot of it is that he has been stung $3700 in fees to get a loan. He got $6300 in cold hard notes, but owes the bank $10,000. It has been a litany of bureaucracy and lawyerisation.
He had an investment house with an investment mortgage to St George. He wanted to convert it to a residential loan for him and his fiancee with some extra money to do some work on the house. That is not an unusual circumstance. But the bank said he would have to change the house to join names and negotiate a whole new loan. The farnarkling fees involved in that were: stamp duty, lawyer’s fees to transfer to joint name, lawyer’s fees to discharge existing mortgage and lawyer’s fees for the new one, new insurance on the new loan and a some bank fees, including a valuation. And a whole lot of government taxes that apply whenever large sums of money move about.
This was for seven thousand bucks. Mr Munday should have taken out a few Bankcards and different banks. Even at 21 per cent he would have been much better off.
The transaction has caused huge paperwork aside from an inordinate amount of shuffling about from one office and person to another.
All the time, of course, the bank is holding the title deeds to this house in its safe so Mr Munday cannot head off to Brazil with the $6000.
Mr Munday is still negotiating.
People are getting sick of unnecessary banks fees, incomprehensible paperwork and lawyers that charge excessively on standard-form transactions.
The transaction costs (or as I call them, farnarkling fees) are destroying competition between the banks. Faced with them, how can anyone change their mortgage to another bank? Only the extremely aggravated can tell a bank to kiss their business goodbye. It is a remarkable achievement that some banks have managed it.