Big changes come as regulators turn gaze to high-risk mortgage lending
Two eye-catching moves from two of Australia’s largest mortgage lenders suggest the golden era of a popular investment strategy is coming to an end.
This Friday, Commonwealth Bank announced that it will only lend to trusts and companies where the guarantor has an existing relationship with the bank of at least six months.
While a seemingly innocuous move, it has substantially reduced the ability for brokers to write new loans with the bank for property investors who prefer dealing through company and trust structures.
It is understood that the changes specifically apply to broker-introduced applications, while customers with a lending product for six months plus can still apply through all channels.
It follows Macquarie Bank’s decision to pull the plug on company and trust lending entirely, citing concerns over the way it was being used by certain brokers and buyers agents.
Company and trust lending: What is it?
Under the popular strategy, debt is held by the trust, not the individual, meaning borrowers can potentially skirt serviceability rules to take out bigger loans.
While this favoured strategy among sophisticated property investors comes with tax and serviceability perks, it can also lead to dangerously overleveraged positions for borrowers when not properly administered.
“When utilising trusts, property investors can get creative and find ways to ensure that any existing debts inside that trust often aren’t stressed tested at all,” Redom Syed of Flint Group said in a LinkedIn post.
He explained: “When obtaining a loan in a new trust, the bank checks whether the borrower is meeting repayments today in any 'existing trusts', not whether they can survive a stress-tested environment.
“Borrowers can thereby 'recycle' trusts here, opening a new one when they are tapped out, and find ways to circumnavigate the 3% mortgage stress test on their existing trust.
“The risk here is investor borrowers are not adequately 'stress tested' and can push themselves too far.”
Syed told MPA that CBA’s latest move “all but confirms that these changes are regulator driven”.
It is an assumption that aligns with the Australian Prudential Regulation Authority (APRA)’s rising concerns over high-risk mortgage lending.
Just yesterday, APRA, in its latest review of financial system risks noted that, while overall housing lending standards remain sound, there are “signs of higher risk lending picking up".
The regulator highlighted a recent uptick in high debt-to-income (DTI) loans, as well as a broader increase in investor participation in new mortgage lending.
Neither CBA nor Macquarie have cited regulatory pressure as a factor behind their policy changes.
A dangerous loophole
While a personal guarantee from directors or trustees is usually required when taking out a loan via a trust or company, lending treatment, documentation and risk assessment differ from bank to bank.
Banks should theoretically assess the person behind the entity, but Macquarie reportedly allowed directors and trustees to ‘self declare’ their financial positions.
Numerous industry experts told MPA that some brokers and buyers agents used this loophole to write large volumes of potentially risky loans for borrowers. This can also potentially be considered unlicensed financial advice depending on the ‘spruiker’.
Macquarie itself cited “the emergence of strategies on social media aimed at maximising lending through trusts and companies” when announcing its decision to scrap company and trust lending.
Macquarie also cited “upcoming AML Tranche 2 regulations, which will require additional verification steps for trust and company loans, making the origination process more complex and time-consuming for banks, brokers, and customers”.
All major Big Four banks still allow lending to trusts and companies, but it requires rigid assessment and compliance oversight. However, CBA’s decision to tighten its policies suggests there were some practices the bank was unhappy with.
“I believe the regulators may be increasing the risk weightings for trust and company lending, which is why the major banks have tightened their policies to align with their lending risk appetite,” suggested William Xin, founder and director of Xin Mortgage.
“Looking ahead, I expect trust and company lending to follow a similar path to SMSF lending – gradually becoming a preferred segment for non-bank lenders,” added Xin.
A ‘prudent’ move
It is unknown how much of Macquarie’s overall home lending volumes came through companies and trusts. While likely not negligible, given the bank is known for its low risk appetite and preference for low-LVR mortgages, it was probably not substantial either. Company and trust lending is also understood to be a small share of CBA’s overall lending volumes.
However, a broker suggested to MPA that once Macquarie pulled the plug, these volumes shifted across CBA, forcing CBA to take action to keep its risk profile in check.
MPA has asked CBA if it has seen an uptick in volumes following Macquarie’s decision to scrap company and trust lending.
Whatever the reason, Troy Phillips (pictured right), managing partner of FirstPoint Mortgage Brokers, called it a “prudent” move on behalf of CBA.
“The way the strategy has been used in the past is now how it’s meant to be used. It’s actually good to see the banks actually clamping down on loose behaviour,” said Phillips.
Attention now turns to whether more banks will follow in Macquarie’s and CBA’s footsteps.
