It’s a Matter of Fairness – Disclosure of Conflicts of Interest

FORM 10 Borrower Conflict of Interest Form, British Columbia Mortgage Brokers Act

There is a new Form 10 pursuant to the British Columbia Mortgage Brokers Act, issued by the Financial Institutions Commission (FICOM) effective June 2011.  This form replaces the existing Form 10 with a much more specific set of disclosures related to conflicts of interest by a broker in relationship to his borrower clients. While the new form, and the discussion paper by FICOM, doesn’t specifically address conflicts of interest related to broker-lender relationships, some of the fundamental principals raised in the discussion paper do.

Why should a consumer care about disclosure regulations, and what exactly is a Conflict of Interest?

Consumers depend on unbiased advice from professionals.  One of industry’s dirty little secrets is that most financial advisers, including mortgage brokers, are paid by product or service providers[SJ1] .  Most residential mortgage finder’s commissions or fees are paid by lenders, except in those relatively less common situations where a broker directly charges the borrower a fee or commission.

Most of the time, when consumers get a mortgage through a broker, they assume that the broker is making a recommendation based solely on the client’s best interests– in other words, finding consumers the best mortgage for them, regardless of any potential financial benefits to the broker. 

While professional mortgage brokers do their utmost to put their own compensation out of their minds when arranging a mortgage, it is a truism that “he who pays the piper calls the tune.”  The simple fact that the lenders pay the broker creates a potential Conflict of Interest of sufficient import that regulators (like FICOM in BC) require disclosure of it.

The heart of the conflict of interest is the simple fact that brokers are most often paid by the lender.  If all lender’s commission structures were the same or similar, and there were no broker incentives to work with a particular lender, the potential conflict of interest would mostly remain just that – potential.  Any conflict of interest would be purely theoretical, since a broker would have no greater motivation to place a mortgage with one lender over another.

However, there are significant differences in compensation types, arrangements and commission amounts between lenders. On a single mortgage loan, a broker may earn anywhere from .25% to 2% of the principal amount as a commission. Various volume and performance bonuses range from 0% to .3% or even .4%.  These different types of compensation can also make a huge amount of difference in terms of how much the broker will earn over time from placing mortgages, and the payment by the lender may be in a different form than just cash.  Some lenders use points, which can be used for a variety of industry training programs, trips or promotional items. They may even be used to pay down the rate on a particular mortgage in order to offer a more competitive on price for a broker.

This means that deals offered to a client may vary if a broker is willing to forgo some of his commission to reduce the cost of the mortgage. The broker may even use points from previous deals to do this. 

Clearly, compensation to brokers from different lenders varies greatly.  One thing is common:  lenders compensate brokers in order attract their business, and lenders pay brokers a great deal more money to submit the majority of their business to themselves rather than to other lenders.  Brokers are strongly incented to place the majority of their loan applications with a small number of lenders in order to maximize their income from volume bonuses and other performance related compensation.  Furthermore, if a broker doesn’t submit enough business to a lender over a reasonable period, the lender may well choose to take the broker off his authorized broker list. 

A broker may not be able to submit a mortgage to the lender with the best rate, terms or conditions because the broker may not do enough deals in a year with that lender to be on their preferred broker list.

Brokers have a lot more to think about when placing a mortgage loan than simply which lender and which loan to recommend to the borrower.  The borrower’s best interest SHOULD always trump any other consideration, including contracts or other considerations with lenders or other parties.  Whether client best interest does trump broker self-interest is a matter of professionalism and experience.

The more experienced a broker, the less likely is he or she going to be influenced by lender incentives, at least on a deal by deal basis.  This is simply because experience teaches brokers that no particular deal will make or break them financially, and the small amount of financial incentive offered by differential commission structures is insufficient to motivate improper behaviour. However, with increasing pressure from lenders on brokers to place more and more of the business with their preferred lenders, there is unrelenting pressure on brokers to conform to the lenders’ objectives.

What the new Form 10, and underlying policy statement, does, is make the disclosure of potential conflicts of interest more detailed and more fulsome.  There are many other potential and real conflicts of interest that FICOM is seeking brokers to disclose on the form, most notably when sub brokers, brokers or their employers have a direct or indirect interest in the lender making the loan.  They also require disclosure of all parties receiving compensation for any mortgage, such as a referring agent, co-broker or other party. [SJ2] 

I think that the intention of the changes in the FICOM Form 10 and the policy discussion that accompanied that form to the brokers in the industry is good, as far as it goes.  It’s really a matter of fairness in the marketplace and the consumer knowing and understanding anything that might influence the advice he or she is getting from their professional.  Full disclosure of fees, arrangements and other compensation doesn’t eliminate the potential for conflict of interest or ensure fair treatment of the consumer of mortgage loans.  It does, however, help level the playing field and give consumers the ability to ask relevant and penetrating questions about any mortgage loan recommended.

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Consumer Rules

I have just read the Annual State of the Residential Mortgage Market in Canada, published in November 2010 prepared for the Canadian Association of Accredited Mortgage Professionals by Will Dunning CAAMP Chief Economist. It’s a heavy tome, with lots of statistics of interest to mortgage professionals and consumers alike.

 

There is a couple of remarkable statistics which indicate a significant sea change in only a few years.

 

• For the very first time, more people obtained a new mortgage from a mortgage broker than from a bank. 40% from mortgage brokers, 39% from banks. Other lenders such as credit unions and insurance companies make up the rest of arranged mortgages. More people trust mortgage brokers to get their best deal than banks! That’s a pretty big deal, where up until recently people used mortgage brokers only when they couldn’t obtain a mortgage from a bank. So the industry has to be happy with this statistic, although we shouldn’t rest on our laurels too much. There is still 60% of the market using other people to arrange their mortgages, but it is a good start. 
• Canadians have a peculiar belief that everyone except themselves has too much debt... the author writes: 

1. In particular, Canadians largely agree with the proposition that “As a whole, Canadians have too much debt”.
2. On the other hand, among Canadians who have mortgages, few agree that they “regret taking on the size of mortgage I did”.
3. These answers portray opinions that other people have taken on too much debt, but as individuals most are comfortable with the debts that they have taken on. It does appear that at a macro level, Canadians have taken on too much debt, but at a micro (individuals) level, the evidence is less clear. CAAMP’s previous research on mortgage indebtedness has found that Canadians – both borrowers and lenders – have been prudent with regard to mortgages.
4. It might be that the fearful opinions about overall debt have been influenced by statements in the media, more so than by the actual behaviour of Canadians.

 

• 40% of Canadians own their homes without mortgages. Canadians own approximately 50% of the equity in their homes.
• Canadians still believe that real estate is a good long term investment in the future.

Canadians have a lot more faith in real estate and their ability to handle mortgage debt than do our politicians.  Also, those people who think that the sky about to fall are simply out of touch with the mood of the public in Canada.

 

 

 

Your Action list to Gain More Referrals Immediately

With many thanks to Gary Mauris, President of Dominion Lending, and his presentation called "Build a Killer Business by Referral"  Dominion Lending University for brokers I attended yesterday.

 Update Facebook Status Each Week
         Use the "Facebook Status Examples" Script

Facebook is "The" social networking application of today's young adults between 25 and 40 years old.  This just happens to be the target demographic for new home purchasers.  Who is it that mortgage brokers want to reach?

 Add to Your Database Every Day

Your database is your basket of opportunity.  Without anything in your basket your business cannot grow, and you cannot make a living without potential clients.  The fundamental job of sales is prospecting for new business.

 Send Out Letter to Database
          Use a "Letter to Database" Script

If you don't talk to your prospects and suspects on a regular basis, how do you expect them to know to call YOU instead of your competitor when they need our services.


 Master the Killer Elevator Pitch
          Use a "Develop a Killer Elevator Pitch" Script

Don't be shy.  Tell everyone you know what you do, how you do it, and why it should matter to them.

 Make 4 Calls Every Day
          Use a "Good News" Script

Personally I think 4 calls is much too few.  However, better 4 than none.  Most sales people who fail, fail because they never actually get to work at all.

 Send Out 20 Sincerity/Coffee Cards Each Sunday
          Use "Sample Handwritten Scripts"

Sincerity/Coffee Cards are a great idea for improving your sum of positive karma in the world.  These aren't actually about getting business.  They are about thanking the universe for all of its gifts to you.

 Ask for Referrals Daily
         
Be proud of what you do.  Ask people to refer others to you so that you may be of service to them.  Never be shy about the value of what we do.  Remember, we touch people where they live.  What we do matters, when we do it right.

 Reward Referral Behaviours Not Results Immediately

Be generous.  If someone sends you a referral thank them immediately and generously.  Remember, you are not incentivizing them to make you money, but rather to allow you the opportunity to provide service to others.  Whether you make a dime or not on providing a service doesn't diminish the value of the referral, and the implicit trust implied by it.   Send Out an Article From the Media Twice a Month

Keep in touch with your database with relevant and useful information from the media.  This will reinforce your authority as an expert, and as someone who is determined to provide meaningful value to your contacts even before they have bought anything from you.
         
 Meet Clients Face-to-Face

Meeting clients face to face is simply good business, where possible, and it eliminates most of the people who are simply rate shopping.


 Give Excellent Service

If you aren't in the business to provide excellent service, then you're not really in the business.

Mortgage Market Turmoil

It’s been a while since I spent any serious time talking about recent mortgage developments in Canada. As mortgage brokers we are most concerned about being able to give our clients the best possible advice in these rapidly changing times.

This blog is designed to be a bit of a primer on major changes for home buyers, and some implications for our clients going forward.

The single biggest element that is changing is the end of the road of ultra cheap mortgages, whether for residential owners or for commercial property owners. While higher interest rates appear to be negative for the average residential consumer there is some potentially good news underlying the rising cost of money. Interest rates increase on positive economic news regarding productivity gains, employment gains and growth in the overall economy.

Ultimately, money is a commodity, especially when it comes down to the international trade in debt, represented by the Bond Markets, and increasing demand for debt both by governments and non-governments alike, represents a higher demand for it. Supply and demand are managed, to a degree by central banks around the world, with several explicit goals – first among those goals the prevention of run-away inflation as was experienced in the western world during the 1970’s and 1980’s.

During the recent recession starting a couple of years ago caused by the US housing meltdown, another major priority shifted the focus of central banks from inflation to the prevention of economic collapse and a potential worldwide depression. This resulted in central banks lowering the cost of debt by reducing the prime rate to historic low levels, .25% in Canada, for example, but also led governments to spend substantially more money than they have coming in from taxes from all sources, leading to ever increasing amounts of debt. However, all that debt has been slowly increasing the demand for debt capital by the same governments that have been overseeing the decline in interest rates designed to stimulate the economy.

Supply and demand have both been profoundly affected by government policies in Canada, and in our major trading partners. The world governments have been radically increasing their demands for debt capital and therefore putting increasing demand on the available capital. All of this demand is now showing up on the bond markets, forcing up the cost of debt to everyone, including consumers, business and governments.

Interest rates are going up. Most economists are expect them to rise around 2.25% in the next couple of years. What does that mean in regards to mortgage rates? This is a more complicated question than it appears, because mortgage interest rates are a consequence of a variety of forces in the marketplace rather than simply a function of supply and demand on the bond markets. The Bank of Canada prime rate is .25% right now, and most think it will rise in June or July by some amount. Nobody is guessing by how much it will rise, but my guess is that it will rise by about .5% in July and another .5% sometime this fall. But of course I could be completely wrong, or even way too low.

What I am correct about at this point is that the general trend in interest rates is up, both for fixed rates and for variable rates, both for consumers of residential mortgages and others. Assume that rates will rise to levels at or near the average rates for the past ten years or so, ever since the government first established inflation as the number one priority for the Bank of Canada.

Prudent advice would be to anticipate as much as a 3% interest rate increase over the next 18 months to two years. For most consumers this would suggest that locking-in fixed rates would be a sound policy, unless you have a lot of flexibility to deal with substantially increased monthly expenses for mortgage payments.

Also, don’t buy more than you can reasonably afford. Normally this would seem like elementary common sense, until you realize that 60% of new mortgages last year were variable rate ultra cheap mortgages, which could easily double or triple in cost for the next two years. Anybody who bought a house based on being able to keep his interest payments to around 2% is in deep trouble, and I hate to think about what these means to thousands of home buyers who bought very expensive homes at very cheap rates.

http://www.canadianmortgagetrends.com/canadian_mortgage_trends/2010/04/banks-see-275-rate-hike-in-19-months.html

This brings me to the second major issue facing borrowers, changing mortgage rules by governments and mortgage insurance companies. On April 19 a new regulatory regime has been imposed on mortgage insurance back mortgages.

For residential mortgages there are a number of new rules including a need to qualify for the Ban k of Canada Five Year Posted rate to any mortgage with a term shorter than five years, or for any variable rate mortgage. Applicants for five year term or longer mortgages will need to qualify on the basis of the contracted rate. This is a major change from current practices, and is in response to the high percentage of Canadians obtaining variable rate mortgages in these times of extremely low interest rates. The concern by the government is that people are taking out these ultra cheap mortgages without any ability to support them when the variable rate rises to historically more normal rates in the future. By forcing people to qualify at the higher rates it will reduce the exposure of the marketplace to a meltdown caused by a lot of people having to sell their homes because they can’t afford their mortgages as a result of rising interest rates.

Refinancing a home will also now be restricted to 90% Loan to Value instead of 95%, in an effort by the government to discourage Canadians from draining all of the equity out of their homes to pay off consumer debt. The general feeling is that if you have more equity in your home you will be less likely to default on your mortgage.

These two changes are both substantial, and in the author’s view, necessary, although not necessarily on the basis of any technical evidence supporting the policy change. Defaults in insured mortgages in Canada show no evidence of weakness or increasing defaults. However, it is prudent given the likeliness of rate increases to reduce the exposure of ordinary Canadians to default through bank loans.

Implications for revenue property borrowers and commercial borrowers will follow in my next blog.

Marketing the “expert” sale

Mortgage experts like to think of ourselves as professionals, that is, providing a value added service to the business of helping our clients obtain mortgage financing for their homes and businesses. Most spend a lot of time in professional development, learning new skills , keeping up with the changing face of the mortgage loan industry, and keeping an eye on the constantly evolving economic reality faced every day by our borrowers (and our lenders).

But many of the people who work in our industry, if pressed, would agree that the single most challenging aspect of our work is ensuring that we have a sufficient flow of new business opportunities, so that we don’t run out of clients just about the time we become knowledgeable enough to be of real service to them.

Somehow the idea of prospecting for new business seems incongruent with being a professional adviser, a little like getting our hands dirty when we really want to appear to be above the fray, and beyond the need to market ourselves and our services.

Far from it! Getting out there in front of people and winning their attention is precisely the mark of a professional. A true professional knows that he/she has something valuable to share with the borrowing public, and that the public will never get the benefit of that value if he/she doesn’t grab their attention.

So it’s not that professionals shouldn’t promote themselves, or market themselves aggressively. But rather how they should do so, rather than if they should.

So here are a few points to improve both effectiveness and the professionalism of your marketing efforts:

1. Share your skills, knowledge and expertise freely with potential clients. As mortgage experts we know a lot about mortgages, financial planning and debt. Most of the time the only time we talk to potential clients is when they are looking to buy a house or remortgage a property. In order to be the expert relied up at decision time, you need to be the adviser they trust in regards to these subjects even prior to the need being expressed. Instead of sending out messages asking for business to your potential marketplace, try asking people how you can help them achieve their goals through what you know and do.

2. Become a genuine expert on your potential client. It is more important than ever to know your client. Inside and Outside. Front to Back. Lenders will tell you that it is important because then your applications are far more likely to be funded, because you will provide accurate and sufficient information for a lender to make a mortgage loan offer to your client. It will improve your credibility with your lenders as well, as you become a mortgage expert they know that they can rely upon. You will make it worthwhile for them to invest the time and money in underwriting your deals. Even more significantly, however, knowing your client will demonstrate to that client that you actually care enough about them to provide them with comprehensive and caring advice. They will know that you aren’t just plugging applications into the system and hoping for the best.

3. Don’t hesitate to reach out to new prospects. In fact, dedicate a substantial part of your day every single day to reaching a specified number of new prospective clients, and then adding them to your database of people who know you as a mortgage professional. When I was a young man just learning the ropes in the life insurance business, more than thirty years ago, my sales manager insisted that I make 25 telephone calls every single day, before noon, and not quit calling new prospects until I had made at least 2 appointments to meet with potential clients.

4. Educate. Educate. Educate. Provide resources and important information to your prospective clients, on subjects they want to know more about. How do you know what they want to know more about? Ask them. And then do your homework to provide them with information that helps them achieve their objectives. Every time you make yourself useful to someone else, you gain their respect and likely, their future business.

Changes in Mortgage Rules is an Attack on Renters

The Canadian government came out swinging today against renters in an effort to slow down a rise in housing prices caused by owners of rental properties. Up until now well qualified rental property owners could purchase homes to rent to tenants with as little as 5% down payment, which has meant that many relatively ordinary Canadians could participate in the rental marketplace as owners and landlords, ensuring a solid supply of rental housing in a market where home ownership has become increasingly difficult to achieve.

By deliberately restricting access to mortgage financing by non-owner occupied buyers even further the government has made it significantly more difficult for revenue property owners to finance their properties.

Of the 12.4 million households in Canada, more than 8.5 million, over two-thirds (68.4%) owned their home, the highest rate since 1971. At the same time, the proportion of Canadian households that rented their home slipped from 33.8% in 2001 to 31.2% in 2006. About 3.9 million households rented their home in 2006. Canada Statistics 2006

As a whole Canadians are home owners, with nearly 70% of Canadians owning their own homes, according the last Canadian Census report on the subject in 2006. What is hidden in the statistics, however, are the very real limitations on revenue property ownership, which were increased by the Federal Government’s announcement today.

According to both the Minister of Finance and the Bank of Canada Governor there is no housing bubble in Canada right now, despite record low interest rates. So today's changes in mortgage rules, which include the restriction on revenue property borrowers, are a preventative measure designed to ensure that a housing market bubble doesn’t occur. If it does it will not be as a result of speculative buying by revenue property owners funded by CMHC insured mortgages - at least that is the logic of the government's position.

Not that this will necessarily prevent a housing bubble from happening, as there were recently great fears that a housing bubble was developing in China, where there has never been high ratio mortgages available, either for homeowner occupied buyers nor for investors. So limiting access to high ratio mortgages doesn’t actually prevent an overheated marketplace from getting out of control, it merely slows it down a little.

In the meantime today's changes will make it harder for landlords to increase their housing stock, putting significant upward pressure on the existing housing stock, particularly in Vancouver and Victoria in BC. This will make it easier to increase rents. Since rental vacancy rates are already extremely low, any upward pressure on prices will make availability that much more difficult.

The move to restrict investment mortgages to 80% LTV or lower was window dressing, according to most economists. But it is window dressing that has potentially disastrous consequences for renters, especially and including those on the margins of society, where the cost of housing has increasingly led to homeless in the past few years.

Comfy, Complacent and Content

Why the CMHC insured mortgage borrower feels morally superior to the “orphaned” homeowner facing foreclosure because of the credit crunch.

Lenders ask federal government to back special billion-dollar fund

Records obtained under the Access to Information Act show that a lobby group representing these lenders has warned the federal government that, unless taxpayers offer help, they will be forced to foreclose on as many as 30,000 homeowners over the next three years.

These “orphaned mortgages,” as the industry is calling them, are held by customers who have impeccable payment histories.

But they can't be renewed because the credit crunch has shut off the funding pipeline of non-bank lenders, the lobby says.

This wave of forced sales and evictions will hit its crest this coming year when nearly half of these mortgages – most of which were issued during the real estate boom of 2007 – will not be renewed, the mortgage companies say.

An article in the Globe and Mail last week revealed that the government of Canada is being asked to create a mortgage guarantee that will allow lenders to renew millions of alternative and subprime mortgages coming up for renewal in the next three years. The government is being told that if they don’t step up to provide a fund or guarantee, these homeowners will lose their homes to foreclosure because the lenders involved can no longer source funds from their traditional bond marketplace due to the collapse of the international mortgage backed securities marketplace.

There has been a lot of comment in various mortgage blogs and articles about these alternative and sub-prime mortgages with the following comments being made by various mortgage brokers and mortgage borrowers who either serve the “A” mortgage marketplace, or who are themselves “A” quality borrowers. I have read the following comments –

These “orphaned” borrowers, as they’re called, don’t qualify for a mortgage. They must be doing something wrong. In actuality, they don’t qualify because their loan-to-value is too high, or their income/debt ratios are poor, or their credit is shoddy, etc.

It’s important to remember that, when a subprime borrower gets an 11% mortgage (a rate quoted in the article), it’s supposed to be temporary.

You’d be nuts to pay that rate for long. The idea is to pay it for a year, get your act together (settle up debts, get new credit, establish repayment history, etc.), and then refinance with a prime lender.

Mortgage broker, Vince Gaetano, thinks that much of this really boils down to “a predatory lender who has earned an 11% yield and a mortgage broker who has been paid handsomely” and may have provided “bad advice.”

In the end, the hard truth is that some disasters can be avoided…and not everyone deserves to be a homeowner.

These comments are contained in a blog at Canadian Mortgage Trends, a blog written (usually well written) on December 10th, 2009 following a business story in the Globe and Mail which was written by Greg McArthur and Jacquie McNish in a story about how the sky is falling, again, in the Canadian mortgage and housing business.

The responses to the blog are even more expressive, if that’s possible, given the highly emotive nature of the original blog, but here are some of them –

"Makes you wonder how healthy they are if the borrowers can’t re-qualify."

Some people should be renters for their own good.

Are these lenders the top tier banks, life insurance companies? I thought that Canada was supposed to be the envy of the internation lending community. Why should they need government intervention?

Great job on analyzing this story. I read the story in the paper and wanted to know a real analysis and here it is! Not every person should be homeowner is the key. It is not an inherent right to "OWN" a home and in many case renting is much better financially. The government should NOT be bailing these people out.

In response to Monty's post, these lenders were NOT banks, life insurance or trust companies. They were mortgage companies only in most cases, and not operating under the bank act. They would fund these mortgages and in most cases sell them as asset backed commercial paper. Well, when the bottom fell out of the ABCP Market and there was no investor appetite for these products, most of these lenders folded, left the Canadian market or tried to pass themselves off as Prime lenders (hint ~ starts with an X).

At any rate, because they were not operating under the Bank Act, these mortgages did not have to be insured, so they could take any borrower that they wanted at any LTV and charge handsomely for it. And one of the worst of the bunch is the one lobbying now for government support.

Wendy you're right in the case of GMAC, but that doesn't change things. It's still not the government's job to bail out people who don't qualify for a mortgage.

Hopefully you can get your credit back above 600 by renewal.

What is wrong with these comments? Aren’t they just stating the obvious? Aren’t subprime borrowers basically bad people who made stupid decisions, or people who are just plain “crazy”as suggested by the original blog? Who says that the government should “bail out” these irresponsible people anyway?

What’s wrong with the whole tone of the conversation is that it perpetuates a point of view so common among lenders and brokers, and among high Beacon score individuals, which is that qualifying for an insured mortgage is morally superior. “People who don’t qualify for this insurance shouldn’t be allowed to own houses at all”, according to this perspective.

This point of view is similar to the old Calvanist idea that prosperity is next to Godliness and poverty is evidence of evildoing, and badness. Being unemployed is evidence of inferiority. Even self employment (which disqualifies many from getting insured mortgages) is inferior to wage employment where someone else takes responsibility for providing a wage.

In Victorian England the equivalent statements basically led to children from poor homes being rounded up and put into poor houses, and men and women going to debtor prison for an inability to pay their debts.

Recent changes in bankruptcy laws in Canada may reinstate these old laws, it now being much tougher to go bankrupt.

Middle class Canada, and their bankers are having a field day at the expense of those poor unfortunates who didn’t take good enough care of themselves, and now risk losing their homes and their financial futures.

And this is good?

My next blog will talk about how all those people who don’t have insured mortgages are subsidizing all of those self satisfying people who do, and whose tax dollars support CMHC and the National Housing Act while they themselves gain no benefit from programs that were initially set up for the sole purpose of providing affordable housing to people who otherwise wouldn’t be able to buy a home. Also, how a facility specifically designed to distribute wealth to the less fortunate has actually transferred billions of dollars into the hands of the upper middle class and the wage earners.

Poor people be damned, and self employed, commission based, or otherwise contracted employees as well.