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FSA/PN/095/2005
6 September 2005

The Financial Services Authority (FSA) said today that its review of compliance by small mortgage brokers with requirements on selling and advising in the sub-prime market had revealed both good and bad practices. But overall, there were too many cases where firms were unable to show that they had followed the required procedures relating to suitability when advising on these mortgage contracts.

And three firms were identified as potentially assisting customers to obtain a mortgage where their income would not meet the lender's criteria, for example by possibly inflating income on the application form. These firms have been referred to enforcement for further investigation.

The review was the latest in a series conducted by the FSA (see Notes to Editors 4) to establish how the industry is settling into the new statutory mortgage regulation – and the mixed findings mirror some of the outcome of the earlier work. The FSA visited 31 small brokers active in the sub-prime market and looked in detail at 210 case files to assess whether advisers were taking reasonable steps to ensure that recommendations to take out sub-prime mortgages were suitable to the needs and circumstances of the customer.

On practice that goes beyond what FSA rules require, the visits found that 58% of firms intended to review a customer’s sub-prime product at some point in the future once their credit profile had been rehabilitated and 65% said their practice was to issue suitability letters outlining the reasons for a recommendation.

However:

• in 60% of cases, insufficient information was obtained about the customer in key areas relating to the sale of sub-prime products;
• in 80% of cases, there was lack of evidence to show how the recommended sub-prime product met the customer's needs and circumstances; and
• in 67% of those cases which involved debt consolidation, firms could not demonstrate that they had taken account of the additional requirements related to debt consolidation mortgages and thus it was unclear whether the recommendation was appropriate.

Andy Watson, FSA Head of Mortgages & Credit Union Department, said:

"Sub-prime is a growing area of the mortgage market and we have identified it is a priority area for our mortgage supervision. We are publishing examples of good and bad practice in a Briefing Note going up on our Website today and we will be working with firms to raise the standard of sub-prime sales and advice. It is difficult to establish the level of consumer detriment or potential mis-selling as many of the failings related to poor record-keeping and brokers could provide more detail when challenged, but we will be looking for better evidence of compliance with our requirements in future.

"Where we find examples of possible inflation of incomes, we will make further enquiries which may lead to referrals to enforcement"

A further review of small firms active in the sub-prime market is planned for the first part of next year.

The FSA is also currently conducting a review of small mortgage firms' practice with regard to the self-certification market and plans to publish its findings on this in the autumn.

Notes to editors

1. The Briefing Note is available on the FSA Website in our Mortgage Firms section.
2. Sub-prime mortgages are those which do not conform to standard or prime lending criteria and cater for customers with adverse credit histories. The FSA's rules relating to debt consolidation can be found in MCOB 4.7.6 in the FSA's Handbook of Rules and Guidance. This sets out that where a customer is consolidating existing debts, firms must consider the additional costs associated with increasing the period over which a debt is to be repaid. This consideration goes to inform whether the contract is appropriate to the customer's needs and circumstances. Firms should also consider whether it is appropriate for the customer to secure on property a previously unsecured loan.
3. The FSA took on statutory responsibility for mortgage regulation on 31 October 2004.
4. Reviews of mortgage regulation conducted by the FSA earlier this year include work to police the perimeter, the quality of Key Facts documents and whether these are being given to customers at the right time, the standard of advice given in connection with equity release business and a post authorisation review of higher-risk small mortgage firms. More details of these is set out in FSA Press Notices 21/2005, 46/2005, 50/2005, 54/2005, 55/2005, 60/20005 and 89/2005.
5. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000: maintaining market confidence; promoting public understanding of the financial system; securing the appropriate degree of protection for consumers; and fighting financial crime.
6. The FSA aims to promote efficient, orderly and fair markets, help retail consumers achieve a fair deal, and improve its business capability and effectiveness.