Government reforms of consumer credit law in December 2021 have received widespread criticism and resulted in marked declines in loan approvals (see our previous article here). In response, the Government has undertaken a short period of consultation with the finance industry and, yesterday, issued details of proposed legislative amendments.
Although relatively modest in scale, the amendments offer at least partial clarity on certain aspects of the responsible lending regulations. The Ministry has invited submissions on the proposed changes by 20 April 2022.
Summary of the changes
As had been signalled in earlier Government announcements, there are four proposed changes, as follows:
- Removing 'savings' and 'investments' from the definition of expenses
Following the December 2021 amendments, the Credit Contracts and Consumer Finance Regulations 2004 (Regulations) require lenders, before approving a loan, to make a number of prescribed inquiries in order to ensure that a customer can afford to make their loan repayments. This includes making an initial estimate of a borrower’s expenses, including 'savings' and 'investments'.
In the draft amendments to the Regulations, the Government proposes removing savings and investments from the defined list of expenses. That reflects that those items are optional, and different in nature to a borrower’s outgoings or other necessary expenses. In other words, savings and investments do not need to be considered as part of the assessment of whether a loan is affordable.
- Qualifying the requirement for detailed expense information
The Regulations currently require lenders to ensure that the information used to make an initial estimate of a borrower’s expenses is obtained in 'sufficient detail to minimise the risk of relevant expenses being missed or underestimated to an extent that is material to the estimate.'
The draft amendments to the Regulations qualify that requirement so that it only applies where the initial estimate of expenses is “based on asking the borrower about their relevant expenses.' It would not apply where lenders make an initial estimate by other means (e.g. by using bank transaction records). In other words, lenders do not need to check multiple sources of information to verify customer expenses. The intention here is to simplify and shorten the time taken in the loan application process.
- Reducing the need for a 'reasonable surplus'
In order to ensure a borrower can comfortably afford loan repayments, even if their circumstances change, the Regulations require lenders to ensure borrowers have a 'reasonable surplus' after deducting expenses from income. There is currently no guidance as to what that surplus should be.
The Government has proposed amendments to the Responsible Lending Code (Code) – non-binding guidelines on consumer lending – to clarify that the required surplus can be reduced to account for any adjustments and buffers built into the lender’s estimate of the borrower’s income and expenses.
The draft Code further states that in some cases those buffers and adjustments may mean that no additional surplus is required at all. However, the consultation paper accompanying the draft Code warns that that is more likely for home loans (where a sensitised interest rate could result in “a substantial buffer”) than for other credit products.
In short, this recognises that lenders are often already conservative in their estimation of a borrower’s income and expenses, and do not need to include an additional buffer to an already conservative estimate.
- “Obviousness” exemption
The Regulations provide an exemption from the detailed requirements to estimate income and expenses where it is “obvious” that a borrower can make loan repayments without suffering substantial hardship.
Previously, the Code offered one, highly specific, example. The draft Code now replaces that single example with a four examples – although each of those examples is also highly specific (they include a scenario where joint borrowers, with combined annual income of $250,000, seek a home loan of $303,172 on a 30-year loan term at an interest rate of 5%).
In all four examples, the draft Code states the affordability of the credit is “obvious” but with little guidance as to what principles apply in reaching that conclusion. The draft Code does, however, make clear that credit scores and repayment history will not, in themselves, be “decisive” as to whether affordability is obvious for the purposes of the exemption.
The proposed changes are essentially narrow refinements to specific aspects of the Regulations, not wholesale changes, and the wide-ranging obligations introduced in December 2021 remain largely in place. It follows that in the majority of cases lenders will still be required to gather very extensive information in relation to borrowers’ expenses. Accordingly, the sorts of objections that borrowers have had about the length and intrusiveness of loan application processes are likely to continue.
Positively, however, the report indicates that the Government will continue to consider whether any further action is needed and the current proposals are described as an “initial round of changes.” This offers hope for further clarity in future. In the meantime, we expect that lenders will be keen to submit on the current consultation draft and capitalise on this opportunity for improvements to the regime. There is a narrow window for submissions on the proposed changes, which close on 20 April 2022.
If you have any questions about the matters raised in this article, or would like our assistance to prepare for or respond to the new changes, please get in touch with the contacts listed or your usual Bell Gully advisor.