Why we’d be better off without mortgage brokers

Mortgage brokers represent the epitome of marketed credit, which has become Australia’s greatest economic scourge.

Mortgage Brokers Key

Unexpectedly, the most controversial and disruptive bit of the Hayne royal commission’s final report is about mortgage brokers.

The paragraphs naming and shaming NAB were life-changing for Ken Henry and Andrew Thorburn, of course, but the most surprising thing about the royal commission is that, as the dust settles, and we await any criminal charges that may be brought, the whole thing has turned into a worthwhile debate about mortgage brokers.

Everyone else, apart from the aforementioned NAB gents, pretty much dodged the bullet, so far at least.

The question before the house is whether destroying the business model of mortgage broking – for that is essentially what Hayne proposes - would be a good idea or not.

Mr Hayne is in no doubt: “The present system of remunerating mortgage brokers is conflicted remuneration” And: “The chief value of trail commissions to the recipient, to put it bluntly, is that they are money for nothing.”

I agree with him, but not about his suggestion that borrowers, not lenders, should pay mortgage brokers, which would be end of them, since only lenders, not borrowers, get a valuable service from mortgage brokers.

Shopping around for the best interest rate is easy and bankers are just as nice and accommodating as brokers, on the whole, and very helpful in filling in forms.

The real clients of mortgage brokers are the banks, since they pay them, and the idea that borrowers are the clients is just marketing bullshit. And what’s the service that the banks are buying? Persuasion.

Why would banks pay mortgage brokers a percentage commission, both upfront and trailing, as opposed to a spotter’s fee in dollars or (horror of horrors) a salary? Because they want the broker to persuade the borrower to close the deal and, preferably, to borrow a bit more.

And that is my problem with mortgage brokers, and why I think the world would be better off without them (sorry, Bruce, I know that sounds harsh, but hear me out).

I don’t think mortgage brokers are crooks, or at least not many are, and I’m not too worried about the conflict of interest that so exercises Kenneth Hayne. Anyone who goes into a broker’s office thinking they’re getting unconflicted advice that is in their best interests really must have come down in the last shower.

There is a grey area when it comes to mortgage brokers who are also financial planners, because it can be hard to remember which hat is on the head – is it the unconflicted remuneration homburg for financial advice, or the white trailing commission Panama number for loan advice?

And I would be more persuaded that mortgage brokers help small banks compete with the majors if the big four didn’t have a stranglehold on the market that had been unchallenged by the activities of brokers until the royal commission rather dented the banks’ reputations.

Mortgage brokers provide a service to banks, not borrowers, and it is banks that should pay them – Mr Hayne is wrong about that.

What’s more, it is quite rational for banks to pay them percentage commissions, if they’re allowed to, and to pay a trail to stop the broker switching the borrowers to another bank in five years to snag another upfront, although I can’t see how that would work since they all pay trails.

The trailing commissions are really just a form of superannuation for brokers: a trails book allows a broker to sell their business for 4-5 times revenue when they retire, instead of 1X if it were paid once for each loan.

The real problem as I see it is that mortgage brokers represent the epitome of marketed credit, which has become Australia’s greatest economic scourge.

Loans didn’t used to be sold, they were applied for, and household debt was a small part of the economy. It was only the corporate types who borrowed too much.

The switch to regarding mortgage credit as a product to be marketed and sold like cars, with marketing strategies, advertising budgets and commissioned sales people, has led us, and the banks themselves, astray.

Household debt has gone from 30 per cent to 125 per cent of GDP over the past 40 years, and it really took off after 2000, when the banks took over wealth managers like BT, MLC and Colonial and learned all about marketing and sales commissions.

Marketed credit is why house prices went too high and the regulator had to step in and impose a credit squeeze, which is now having a drastic effect on the housing market and which is being transferred to the wider economy through the “wealth effect”.

Last week, in the midst of the royal commission hoo-ha, the Reserve Bank started suggesting that the next move in interest rate could be down … from the lowest level in history already!

And marketing credit is one of the main reasons the banks lost their way – it fundamentally corrupted their sense of duty and risk. It is simply not possible to maintain a sense of responsibility to customers and proper risk assessment if you’re desperately trying to sell something to them and earn a commission to feed your family.

In short, paying sales commissions for loans is a shocking idea and should never have been allowed.

But I don’t agree with Mr Hayne that mortgage brokers should be paid by borrowers, instead of lenders. Borrowers simply won’t do it – the service isn’t valuable enough for brokers to earn a living from it.

They should be a paid a salary, and be called bankers.

Alan Kohler is Editor in Chief of InvestSMART