Home buyers face much tougher risk tests

Borrowers will face mortgage affordability tests under plans for "more intrusive" regulation of the sector proposed by the City watchdog today.

The Financial Services Authority is also calling for a ban on self-certification mortgages and loans which combine high-risk lending characteristics.

The regulator also wants to bring buy-to-let lending and second-charge mortgages, which enable people to take out loans secured on their property, under its scope.

The FSA said the measures were part of a shift to a "more intrusive and interventionist" style of regulation.

But its chief executive Hector Sants admitted the move would mean some people who were able to obtain mortgages during the boom years would no longer be able to do so.

Under the proposals, lenders would be ultimately responsible for assessing a consumer's ability to repay their loan, taking into account their monthly disposable income.

There would also be a ban on mortgages that contained "toxic combinations", such as lending a high proportion of a property's value to people with impaired credit histories.

But the regulator stopped short of putting forward an outright ban on mortgages with high loan-to-value ratios or ones which lent high multiples of borrowers' income.

It said this would be a "blunt approach" for tackling the problems in the mortgage market, while there was no evidence that borrowers taking on a mortgage with only one of these characteristics suffered higher levels of arrears.

However, it warned that it had not ruled out imposing caps if its initial proposals did not have sufficient effect on the market.

Firms will also have to verify all borrowers' income, under the proposals, putting an end to both self-certification mortgages, which were aimed at self-employed people with irregular incomes, and fast-track mortgages, under which people did not have to prove their income.

Self-certification mortgages were initially introduced as a niche product, but at their peak during the lending boom they accounted for just under half of all advances.

However, the proposed ban is likely to have only a limited impact on the market, as the majority of lenders have withdrawn from the sector since the credit crunch struck, and there is currently only one firm offering the deals.

The review of the mortgage market comes after the FSA blamed the rapid expansion of mortgage lending in the UK for being a key factor in triggering the current financial crisis.

Tighter controls on lending practices should also help the housing market avoid the booms and busts seen in the past, when lax lending practices helped to inflate house prices.

Britons currently owe £1.23 trillion in mortgage debt, with mortgage lending accounting for 70% of all credit.

At the height of the mortgage boom there were more than 15,000 different mortgage products available, including a vast range of products for people with impaired credit histories and those unable to prove their income.

Mr Sants told BBC Radio 4's Today programme: "In the past, the prevailing regulatory philosophy - and one the FSA was operating - was definitely based on the idea that banks would behave properly and not put themselves at risk and not put consumers at risk.

"We just have to recognise that both firms and consumers don't always make the best decisions.

"They don't always act in their best interests or indeed in the collective interest of society, so we need a new approach to regulation, which is what the FSA is carrying through."

But any changes to mortgage regulation are not expected to be introduced quickly, as firms have until January 30 to comment on the proposals, with an FSA feedback statement due in March, which could be followed by further consultation papers.

The regulator said it would be publishing specific proposals toughening up the rules on the way firms handled customers who were in arrears in January.

But it said these would include a ban on administrative charges for borrowers who were on a repayment plan to ensure that firms did not profit from people in arrears.

It added that five mortgage firms had been referred to enforcement for the way they handled people who have fallen behind with their mortgage and for levying excessive arrears charges.

The FSA's proposals received a broad welcome from the mortgage industry, charities and consumer groups.

But there were concerns about how the measures would be implemented, and the impact of a ban on self-certified mortgages on people who were self-employed and had irregular incomes.

Paul Broadhead, head of mortgage policy at the Building Societies Association, said: "While much of the detail in the paper is sensible, we have significant reservations about the possible unintended consequences of some of the ideas expressed.

"We need a sensible balance between appropriate regulation and allowing people to buy their own home when they can afford to do so."

Consumer groups also called for the changes to be introduced as quickly as possible to protect consumers from over-borrowing.

Peter Vicary-Smith, chief executive of consumer group Which?, said: "We're pleased that the FSA is looking to take a more robust approach to regulating the mortgage market, although we would like to see tougher measures such as a ban on mortgages over 100% and the naming of lenders that mistreat their customers.

"Mortgage providers are already responsible for assessing affordability, so why is the FSA only getting tough on it now? Many borrowers are suffering the consequences of irresponsible lending."

The National Landlords Association expressed concern that the regulation of buy-to-let mortgages would mean increases in the costs of borrowing for landlords.

It said that although increased protection for smaller, less experienced landlords may be welcome, professional landlords who treated their lettings as a business did not require the same level of protection.

Peter Bolton King, chief executive of the National Association of Estate Agents, said: "Much of the extreme lending being done pre the credit crunch, was clearly not sensible.

"However, with the market picking up alongside a shortage of lending we need to be careful not to deter consumers nor give banks an excuse not to lend money.

"We are unsure on how these new procedures will roll out, yet in light of the demise of the stamp duty holiday and the inevitable rise in VAT we must take a sensible interpretation of these guidelines and find the right balance.

"If these guidelines take us to the opposite end of the spectrum they could do untold damage to the housing market, which is currently showing promising signs of recovery."