FOS, COSL and ASIC’s de facto foreclosure moratorium

On 2 December 2011 ASIC released a consultation paper seeking feedback on Regulatory Guide 139.77 which reads:

Where legal proceedings that relate to debt recovery proceedings have already commenced and a complainant or disputant takes their complaint or dispute to an EDR scheme, the Terms of Reference must require the member not to pursue the legal proceedings.

Many in the lending industry, including the Australian Banking Association, have raised grave concerns about this. It appears to constitute an open invitation to borrowers facing default to make a complaint, in order to indefinitely freeze all enforcement against them.

Throughout Australia lenders have experienced enforcement of mortgages grinding to a halt, due to what Abacus (which represents credit unions and mutual building societies), calls “strategic complaints”.

Despite the great concern of lenders, and the freezing of all mortgage enforcement, ASIC is unrepentant, writing in the consultation paper:

We are of the view that the current requirement in RG 139.77… is appropriate and does not require change at this time. This is because we have no reason to believe that this scheme jurisdiction is not working as intended—that is, to assist Australian consumers who may need hardship assistance, often urgently.

Thus it seems that the purpose of the enforcement freeze is to assist borrowers in financial difficulty—not to address complaints about lenders. This represents a quite alarming mission creep for the EDR scheme. Instead of existing to resolve complaints about members, it is “intended… to assist Australian consumers who may need hardship assistance.” Using a system for a purpose for which it was not intended is known in the law as an “abuse of process”– however in this instance it seems to have been given the stamp of approval by ASIC.

ASIC’s move in implementing a de facto foreclosure moratorium has parallels to a de facto foreclosure moratorium tried by regulators in the United States. In the wake of the GFC, Bank of America, JP Morgan Chase, PNC and GMAC Mortgage were all forced to freeze foreclosures on the grounds they had used “robo-signers”—people who signed thousands of affidavits without properly reviewing them during their mortgage foreclosures. These “complaints” were in effect only a pretext, the real goal was made clear by the regulators—it was hoped that the freeze would allow housing prices to stabilise and allow time for borrowers to refinance loans, or reach agreements with lenders. Instead it caused an accelerated slide in property prices from which the Obama Administration quickly distanced itself, announcing that it did not support calls for an official nationwide foreclosure moratorium.

As the experience of the Great Depression proved, the problem with foreclosure moratoriums is that they do not address the underlying problem—homeowners stuck in loans which they cannot afford. In the current market a borrower who is in serious default on their home loan will not be able to refinance even if given a reprieve. For one thing the NCC would not allow it, for another, lenders are currently only interested in strong applicants. They are still purging their books of non-performing loans, in many cases seeking to recapitalise, and bracing for the fallout of EU sovereign debt crisis.

Like all other such schemes, ASICs national foreclosure moratorium will cause further slides in the property market as investors sit on the side lines and wait it out. Investors will realise there is a ballooning backlog of forced sale inventory, they will realise the market has not reached equilibrium and that it will go lower, and they will delay making purchases.

The other effect that will soon become apparent is the exit, from the market, of smaller lenders. One group of elderly investors whose superannuation funds have been frozen for over 12 months in an unresolved “hardship” complaint were told earlier this year by FOS:

Our aim is for financial difficulty disputes to be resolved by agreement being reached between the parties, through negotiation or conciliation wherever possible, with the power to vary being used as a last resort.

When the investors complained that they anticipated a shortfall and sought a quick determination of the dispute they were told:

Arrears on a facility or eroding security will not in itself warrant prioritizing the dispute over other disputes which were lodged prior in time. In the interests of fairness to all users (and not just your investors), my office processes each dispute in the order in which they are received.

Those particular investors will not lend again. Once financial planners and mortgage fund managers realise what is happening, they will be forced to disclose the risks of the moratorium to investors. This will effectively dry up non-bank and non-securitised mortgage lending in Australia. Larger lenders, who can afford to take a longer view, will nonetheless be more reluctant to lend when they realize that the exit of smaller lenders has reduced the refinance options of their prospective borrowers. This in turn will cause a further tightening of credit.

There is also the issue of the ratings agencies. As the number of loans in default for more than 90 days skyrockets the ratings agencies will likely downgrade Australian mortgage-backed bond issues. This will make funding more expensive which in turn will increase interest rates.   

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