Are you ready for the Mortgage Credit Directive?Print publication
The Mortgage Credit Directive (the MCD) must be implemented into UK law by March 2016 and the Government has begun the implementation process. On 25 March, it made the Mortgage Directive Order, which provides the legislative framework for implementation and, on 27 March, the Financial Conduct Authority published Policy Statement PC 15/9, containing the final text of the Handbook material giving effect to the FCA. Both will take effect from 21 March 2016.
What is the Mortgage Credit Directive?
The MCD applies to first and second charge mortgages. Its aim is to ensure that all consumers who purchase a property, or who take out a loan secured against their home, are adequately informed and protected against the risks. It also introduces minimum harmonisation requirements on lenders across the EU.
The MCD, once implemented, will impose various requirements on lenders, including:
- assessing affordability – lenders must conduct an affordability test, looking at consumers’ income and expenditure to ensure that they can afford the mortgage. This requirement to undertake an affordability assessment is different from the requirements of the Consumer Credit Directive 2008 and will apply when a lender takes on an existing borrower from another lender or when advancing additional borrowing to existing customers; however, there will be no requirement for an affordability assessment where a borrower switches products with an existing lender unless there is an additional borrowing and/or changes to the terms affecting affordability
- providing advice – minimum standards must be applied when providing advice to consumers
- disclosure – lenders must provide a “European standard information sheet” (ESIS) to enable consumers to shop around. This will replace the existing “Key Facts Illustration” (KFI) which applies in the UK – firms will be able to continue to use the KFI document until March 2019 but may need to make “top-up” disclosures to meet the new requirements
- staff training – lenders will be under a duty to act fairly and professionally and must ensure that staff have the appropriate level of knowledge and competence.
There will be a new requirement to provide a borrower with a “binding offer”, which will prompt an entitlement to a seven-day period of reflection. Current practice is usually to make a conditional offer subject to further checks. The making of a “draft” or “indicative” offer will still be permissible provided that a binding offer is issued at a later stage. Binding offers may still contain conditions, for example, a material change in circumstances or fraud.
The MCD also contains provisions on early repayment and provisions on foreign currency loans (including a currency risk warning) and sets new levels of professional indemnity insurance. It also stipulates the methodology for calculating the annual percentage rate of charge.
The MCD rules will not apply to contract variations – only to new mortgage contracts entered into after the MCD is implemented. Credit granted pursuant to an agreement entered into before 21 March 2016 will be subject to the existing regime.
One of the biggest changes to be affected by the MCD will be the introduction of a new regime for the regulation of consumer buy-to-let (CBTL) mortgages, which will apply to “CBTL firms”, including those administering CBTL mortgages, credit intermediaries and advisory service providers. Arguably the biggest impact, however, will be on players in the second charge mortgage market.
Second charge mortgages
A second charge mortgage is essentially an alternative to remortgaging by which the borrower is able to use the equity in their home as security for another loan, on top of their main mortgage.
The MCD will entail the broadening of the definition of a “regulated mortgage contract” (RMC) in the Regulated Activities Order to include all mortgages on land, including for the first time second charge mortgages. Accordingly, second charge mortgages will be subject to the Mortgage Conduct of Business Rules (MCOBs) and not, as currently, the consumer credit regime. Transitional arrangements will ensure that some of the protections currently enjoyed by a borrower under the consumer credit regime, such as the right to rely on the unfair relationships provisions and the right to settle early, will continue to be preserved.
From 21 March 2016, there will be a “one size fits all” regulatory standard for those writing or advising on first and second charge mortgages. This means that the providers of second charge mortgages will be required to apply the same ‘interest rate stress tests’ to borrowers as first charge lenders and will be subject to the MCD’s obligations regarding the provision of advice and disclosure of information, etc.
Firms already active in the first charge market should be able to manage the transition reasonably smoothly. They will need to notify the FCA that they are undertaking second charge mortgage lending but will not need to make any changes to permissions as their current permissions will permit both first and second charge mortgages to be written. They will also be familiar with the MCOBs and the changes brought about by the Mortgage Market Review. Staff are likely to already have had the requisite training and the documentation should be capable of adaptation for second charge lending without particular difficulty, once the general principles of the MCD are embraced.
The same is not true for firms with no experience of the first charge market. First, they will need to apply for the appropriate mortgage permissions if they want to continue to write second charge mortgages after 21 March 2016. They will also to get used to the MCOBs, which is very different from the regulatory regime they will be used to. They will need to invest in staff training and qualification, a complete overhaul of suites of documentation, comply with new reporting obligations, face higher standards of affordability and, in general, get used to a substantially enhanced compliance burden, competing squarely with first charge mortgage providers.
Lenders will be able to adopt the new regime from September but will have to do so by 21 March next year.
The first step to address is authorisation and the approach to be made to the FCA, including the timing of the approach. The authorisation process differs according to the type of firm and in some cases plenty of time may be needed for the application to be approved. Second charge lenders who do not currently write first charge mortgages can apply from 20 April 2015 – early applications are to be encouraged. Successful firms will not become authorised until 21 March 2016 (as the MCD will not come into effect before that date) but firms with interim permissions can choose to apply the rules early. Firms already holding mortgage permissions will not need to vary their permissions in order to conduct second charge mortgage business from 21 March 2016.
All firms need to familiarise themselves with the new regime but it is second charge mortgage firms and CBTL firms who are likely to be most affected by the implementation of the MCD. If they have not done so already, these firms should start putting in place their arrangements to “transition” from the existing regime to the new MCD regime.
How we can help
Our Financial Services team specialises in consumer finance including mortgage regulation. We can:
- advise on whether an application for FCA-authorisation needs to be made and assist with the authorisation process
- offer practical advice to help you to achieve compliance with the new regime
- provide training to relevant staff
- review existing processes which will likely require adaptation
- review – and if necessary, draft or redraft – documentation to ensure compliance.