Mortgage code short on muscle

YOUR MONEY; An effort to improve the lot of borrowers misses out on key areas, says Jean Eaglesham

A "MAJOR step by the mortgage industry to ensure that the services provided to borrowers are fair and clear" - as lenders would have you believe - or an emperor's-new-clothes triumph of presentation over content?

However borrowers come to view the draft Code of Mortgage Lending Practice (see table), published last week by the lenders' trade association, the Council of Mortgage Lenders, they will find that it offers little help with one key area: comparing mortgage deals on offer.

The current rules covering the way that mortgage costs have to be shown in adverts and brochures are condemned by most independent advisers as often being misleading. Ian Darby, of mortgage broker John Charcol, describes the situation as "a farce ... a joke as far as borrowers are concerned", while Olive Thompson, mortgage editor of the rate-monitoring company Moneyfacts, says the rules are an "absolute mockery".

The new code of practice does not address advertising. According to Sue Anderson of the CML: "We'd love to sort out the rules [on how costs are shown] - the current situation is crazy - but a voluntary code can't override legislation."

However, new legislation is unlikely in the near future. The Department of Trade and Industry, which has been consulting on these advertising rules for more than three years, now plans a further round of consultation.

Moreover, the CML has ignored demands from consumer bodies that its new code should mirror the requirement for investment advisers to give "best advice". In fact the code has gone the other way, saying: "Frequently lenders or intermediaries do not recommend a particular mortgage product but simply give borrowers information to enable them to make their own choice." It suggests borrowers sign a disclaimer, saying no recommendation was given.

So borrowers are largely on their own when choosing between the deals on offer. Here are the problem areas to watch out for:

q Misleading rates. The annual percentage rate (APR) is designed to give borrowers a way of comparing the costs of loans. With a huge variety of mortgage deals on offer, and with different up-front costs, such a common benchmark should be invaluable. Indeed, under the current rules on mortgage adverts, the APR is deemed so useful that lenders must give it at least as much prominence as the actual headline interest rate.

So would you rather have a mortgage with an APR of 1.4 per cent or 6.7 per cent? In fact, the two rates refer to the same Halifax mortgage offer: a discounted rate of 1.39 per cent until 30 April next year.

The first, heavily advertised, APR assumes that borrowers pay this 1.39 per cent rate for the full 25-year term of the mortgage. The second, calculated by John Charcol, assumes that borrowers will switch to the society's standard 7.49 per cent variable rate at the end of the discounted period. Since this is in fact what will happen, the second approach might seem the most helpful one.

Not so, according to a 1993 legal ruling. The prosecution of two lenders by Devon Trading Standards Department backfired badly when the Appeal Court ruled that there was nothing wrong in assuming when calculating the APR that a low fixed or discounted rate applied for the whole of the mortgage term, even if it patently did not.

As a result, most advertised mortgage APRs are, at best, meaningless and, at worst, actively misleading.

q Inconsistent cost examples. Given that APRs and headline interest rates are of so little use, the next logical way of comparing deals is to use the typical examples of mortgage costs that lenders are required by law to include in their adverts.

However, if you do succeed in deciphering the impenetrable reams of small print that contain this information, you will find that the examples are (quite legally) quoted on inconsistent bases and are therefore effectively impossible to compare.

Take, for example, two recent adverts from Alliance & Leicester and Abbey National. The A&L deal, offering an initial rate of 1.99 per cent, quotes a total cost over 25 years for a pounds 40,000 loan of pounds 60,262 before Miras. The Abbey deal is for an initial rate of 4.79 per cent and quotes a total cost for a pounds 40,000, 25-year loan of pounds 88,092 after Miras.

The examples both ignore the fact that their discounts are for a short period only: the A&L discount lasts until next spring; the Abbey deal until 1998. Build in this fact to the quoted costs and the figures look very different. The total cost for both deals comes out at around pounds 113,000 (before Miras), almost double the figure quoted in the A&L advert.

q Incorrect figures. Lenders are liable to prosecution if they give wrong information in adverts. But a quick check of some adverts in the national press found a serious mistake in a Halifax ad. The Halifax, which is responsible for around one in five of all mortgages, quotes an example in the advert of a pounds 60,000 mortgage with monthly repayments of pounds 53.40 calculated at the initial interest rate of 1.49 per cent. In fact, the starting repayment in this case would be more than pounds 60.

A spokeswoman for the Halifax said that it was "a human error, not a deliberate attempt to mislead", and the society is now running adverts showing the correct figures.

q Hidden and omitted costs. If you want to borrow more than, typically, 75 per cent of the value of your home, you will have to pay the lender for a mortgage indemnity policy (insurance that protects the lender, not you). But many quoted examples miss out this cost.

A recent NatWest advert quotes costs for a mortgage of pounds 50,000 on a house worth pounds 67,000. Conveniently, this works out as 74.6 per cent of the house's value. Borrow more, and you will hit an additional fee - a loan from NatWest of pounds 60,000 on the same house would cost you pounds 595 in indemnity fees.

In addition, adverts often do not show the redemption costs - the fee you will be charged if you switch lenders within, typically, five years of taking out the new loan. Given that most of the cheap fixed-rate and discounted mortgage deals are for much shorter periods than this, borrowers should keep a wary eye on this potential trap or risk being locked into uncompetitively high variable rates.

q Jean Eaglesham works for 'Investors Chronicle'.

Improving mortgage lending

Issue

The quality of advice that borrowers are given. Lenders have, for example, been heavily criticised for overselling endowment mortgages.

Not encouraging borrowers to get too deeply into debt. This is particularly a problem with deals that have very low initial interest rates but then rapidly increase payments.

Repossession and, more generally, the treatment of borrowers who fall behind with their mortgage.

Complaints by borrowers. The Insurance Ombudsman said this week that ''a comprehensive system for dealing with mortgage complaints is long overdue''. For many seeking compensation ''it's the courts or nothing''.

Controls on lenders to ensure they act responsibly and fairly.

Proposal*

Lenders should give borrowers detailed information on the various mortgage choices. If they make a recommendation, they will confirm it in writing.

Lenders will ''help customers understand the financial implications of taking out a loan''. In judging whether to lend, they will ''take account of information which may include the borrower's ability to repay a loan''.

Lenders will consider cases of hardship sympathetically. They will give practical information and

''subject to normal commercial judgement will try to help''.

The CML is looking at setting up a scheme to cover lenders who are not in any ombudsman scheme. It has provisionally concluded it will not set up a scheme to cover mortgage brokers and other intermediaries.

The code will be monitored by a committee which also oversees the Banking Code of Practice. This committee's sole sanction is to publicly rebuke a bank for a breach of the code.

Conclusion

A cop-out. Consumer groups have argued that mortgage advisers should have to recommend products that best suit the individual borrower.

In effect, this shifts the responsibility entirely on to the borrower. The code ignores a previous Government proposal that lenders should have to provide an illustration showing the rise in repayments for each 1 per cent rise in interest rates.

Echoes of an existing CML statement of practice - offers borrowers nothing new.

No help for anyone with complaints about one of the now numerous mortgage brokers.

Feeble controls and sanctions compared to the investment watchdogs and their powers, which have been used to fine or expel member firms. Underlines the code's voluntary nature. *Proposals taken from draft Code of Mortgage Lending Practice, from the Council of Mortgage Lenders.