perusal of Mortgage StratAegy should be enough to convince anyone that brokers are insufficiently re-munerated by lenders.
Indeed, lively discussions on the issue at Mortgage Strategy’s recent Mortgage Summit in Dubai highlighted the complexities of broker pay, confirming that the issue is a long way from being resolved.
Throw in the wrangling about the need for retention fees and you’ve got one hell of a debate.
Given that many brokers scoop lenders’ proc fees plus client fees or commission, the insufficient proc fee argument is a difficult pill to swallow for some. And even if brokers do consider themselves under-remunerated, surely this has as much to do with the way they charge clients as it does with the level of proc fees they receive from lenders.
As Mortgage Strategy columnist Sue Read, head of mortgages at Jobson James, has explored in her columns in recent months, brokers need to assess the value they add to their clients’ application processes and structure their commission fees accordingly and fairly.
This approach is perhaps overlooked by brokers who, according to most lenders, are only interested in maximising proc fees, rather than building a sustainable business model whereby lender fees feed into their remuneration rather than constitute its core.
Of course, many brokers have yet to fully embrace the fees over commission argument where clients are concerned, but let’s save that quandary for another time.
Increased competition has meant that distribution channels have be-come crucial to lenders’ profitability – even Nationwide has finally caught up with the times and is creating a team of business development managers to nurture its relationship with brokers.
This means lenders will be working harder to encourage brokers to sell their products, potentially offering financial incentives they deem necessary to help them achieve this, be it one-off incentives or more sustainable pay deals. Consequently, the potential for an increase in proc fees looks strong.
That said, competition has resulted in lenders’ profit margins being squeezed, meaning that if there is a po-tential move to increase proc fees on the horizon, it is unlikely to be in the foreseeable future.
“The proc fee debate is always a moot point because brokers forget that lenders also have the cost of regulation,” says Joe Rabbitt, head of intermediary development at Nationwide. “We still think our level of fee is reasonable.”
This is, of course, a belief held by most lenders. But before we look at fee levels, let’s step back in time to understand the evolution of the proc fees concept. Market forces, such as the fact that most clients don’t want to pay fees, has created a situation in which it has been taken as a given that brokers are entitled to commission, be it from clients or lenders.
Consequently, many brokers base their business models on commission, with lenders’ proc fees central to their structures. So what are proc fees and how do they work in practice?
Proc fees are the financial rewards paid by lenders to brokers for introducing business to them. They vary between lenders and usually between brokers, with levels typically determined by the business volumes brokers achieve for any individual lender.
Fee levels also vary according to lender, product and application type – that is, paper-based or online.
For example, Abbey pays 0.35% for online deals but only 0.3% for paper-based applications. BM Solutions pays 0.53% on self-cert but 0.63% on buy-to-let, while Dunfermline pays 0.38% on all products except its light adverse products, on which it pays 1.25%.
Meanwhile, according to Rabbitt, Nationwide pays 0.37% across all its product ranges – a modest fee compared with DB Mortgages, which pays a maximum fee of 2.75%.
This means that based on a £100,000 mortgage, a broker would receive £2,750 from DB Mortgages but only £370 from Nationwide. These figures are extreme, but of course Nationwide’s products are predominantly prime compared with DB’s offerings, which delve into the heavy adverse.
Product fees also vary depending on whether brokers use packagers. For example, brokers could earn 0.57% on BM Solutions’ buy-to-let products or a minimum of £150 on Coventry’s products through Pink Home Loans.
Many lenders stipulate minimum and maximum fees, such as Northern Rock. It will pay a minimum of £175 and a maximum of £5,000, compared with Skipton, which pays a minimum of £200 and a maximum of £1,500.
These figures comprise a cross-section of fees paid to a range of brokers, as trying to ascertain brokers’ fee levels is like getting blood out of a stone. Most brokers claim they are tied to confidentially agreements that prevent them disclosing this information.
This is a ridiculous argument given that proc fees are disclosed in Key Facts Illustrations. It smacks of the unprofessionalism displayed by lenders’ refusal to share client data with the brokers from whom applications originate, on the supposed grounds that it breaches data protection legislation.
Why the secrecy? Brokers can’t bang the drum about insufficient remuneration while refusing to disclose proc fee levels. As with every aspect of financial services advice – and as the Financial Services Authority reminds the industry time and again – transparency is key.
Proc fees are usually paid on completion of mortgage applications, that is when loans are paid into clients’ bank accounts. They are imbursed either by cheque or more typically via BACS, either directly into independent brokers’ accounts or those belonging to firms or networks if they are employed or appointed representatives.
Other fee structures include trail fees, whereby brokers are paid anupfront fee plus an ongoing, lesser fee for the life of the mortgage sold.
A similar approach is the profit share model adopted by Basinghall Finance, which launched last year. It offers brokers a share in the profit of the loans they arrange.
“The fee is paid on a quarterly basis in arrears,” says Tony Ward, chief executive of Home Funding. “We don’t know what profit we’re going to make on loans – we make estimates of what brokers are going to earn.”
Alternatively, lenders may adopt an indemnity model, although this model is not available to UK brokers. It pays an upfront lump sum, just like an annuity paid on retirement.
But it is clawed back if clients re-deem their mortgages in the first few years of the loan. And how can brokers possibly prevent clients remortgaging? They can’t.
So which fee structure should brokers choose? They shouldn’t – product choice should be based on client fact-finds, not fees and their structures.
“I look at lenders and their products, make recommendations and then look at the fee,” says Read. “In the unlikely event of two identical deals I would look at the proc fee, but it’s the final comparison I make.”
Read says she considers product rates, structures such as whether lenders are offering free valuations or legal fees and service above proc fees.
Similarly, Rob Roberts, a mortgage adviser with Chesterton Grant, says proc fees never come into his thinking when sourcing products. Hence his dismissal of a recent marketing ploy by Halifax, which offered a £150 bonus for each application submitted within a given timeframe while increasing its proc fee for mainstream remortgage business from 0.3% to 0.34%.
“I deleted the email because it was a crap selling idea,” says Roberts. “Good service gets my business, not good pay. If there’s a deal with a 1% proc fee that takes six weeks to go through compared with a deal offering a 0.3% fee which only takes three weeks, I’ll take the latter because it’s in the interests of my clients.”
So given that proc fees are paid for introducing business to lenders, why are they such a taboo subject? It’s an age-old issue and one that brokers and the financial services industry in general struggles to overcome – it boils down to professionalism, or the perceived lack of it.
Rightly or wrongly, and despite the introduction of statutory regulation in 2004, mortgage brokers aren’t regarded as professional. Accordingly, lenders are reluctant to acknowledge the value that brokers add to their business.
But why? Brokers play a critical role in mortgage applications – from sourcing and nurturing clients to hand-holding them through the fact-find, recommendation, application and completion stages – all the while generating business for lenders. Clearly they provide value for money.
“Brokers are instrumental to clients getting a mortgage or not,” says Chris Cummings, director-general of the Association of Mortgage Intermediaries. “They make decisions based on their deep understanding of lending criteria that is well beyond that of the consumers who benefit.”
In short, lenders need brokers and this business-to-business service re-quires financial rewards, just like any other service. The reward only be-comes an issue when brokers allow it to determine their product selections.
The situation is, of course, not helped by lenders’ incentives.
You only have to read theLetters pages in the April 23 issue of Mortgage Strategy, in which senior mortgage consultant Brian Melling said that “Paymentshield would not have received the many hundreds of policies” that he and his team wrote over the past six years “without the promise [of trail commission]”, to see the power of such incentives.
And given the range of lender incentives, it is easy to see how less scrupulous brokers can become misguided.
According to one source, there is also the issue of cascading system manipulation whereby some lenders allegedly switch off the ‘up’ functionality on their cascade system, forcing brokers to select sub-prime rather than near-prime or prime products for their clients, to make more money. Profit margins on sub-prime business are far higher than on prime.
This could indeed compromise brokers’ regulatory requirement to take a whole of market approach to product selection.
But there are many difficulties with this requirement, not least because the lender universe is defined by clients’ requirements, as Jim McCook, managing director of Robert Sterling, points out. This makes the whole of market approach a misnomer.
For example, prime product sourcing generally produces the same lender choices time after time – Halifax, Abbey and Northern Rock, to name but three – which are clearly not whole of market in the literal sense.
McCook says upfront proc fees should be scrapped.
“Fees generate a feeling of shorttermism – they’re always about short-term products that require constant review,” he says.
He believes an alternative should be considered, although not for longer term products, which many brokers would be reluctant to sell because of the loss of potential business through their inability to rebroker deals in the foreseeable future.
Instead, he suggests the increased use of trail fees to encourage longer term relationships between brokers and lenders. But, as he points out, how do you cross the bridge from upfront fees to trail fees?
A key determiner for a change in proc fee structure depends on whether brokers see their firms as new business engines or whether they want to build embedded value into their models, says Cummings.
Of course, the Association of British Insurers’ bid to scrap financial adviser commissions may spill over into the mortgage market. This will force brokers to reconsider their overall remuneration structures, so it’s perhaps worth considering sooner rather than later under duress.
That said, this is not a given since as Cummings highlights, the FSA is not an economics regulator. Nevertheless, he warns that brokers should be mindful of their remuneration policies.
“There needs to be sensible remuneration policies in place, not ones based on sales but on factors including quality of sales and the number of received complaints,” he says. “It’s as much about why as how brokers balance hard and soft pay metrics.
“Over-remuneration is an advisory firm’s responsibility, which should be addressed in its conflicts of interest policy,” he adds.
For now, the consensus among lenders is that they should work with brokers to develop relationships and to enable the latter to offer clients the best potential service.
But surely a more fruitful long-term goal for both parties would be to work together to quantify the value brokers add to lenders’ businesses and structure their proc fee models in a more transparent and fairer way.
After all, it’s as much about the quality of business brokers introduce to lenders as it is about quantity.
But, as Mortgage Strategy’s BDM column often reveals, it is brokers’ business volumes that determine the frequency of many BDMs’ visits. This is an approach just as likely to apply to the level of proc fees they pay too, regardless of the quality of the business or relationship. l
Proc fees make mis-selling accusations a certainty so they must goRetention fees are killing brokers softlyAlan Cleary is managing director at edeus Proc fees were first paid in the 1980s, when lenders without a high street presence emerged in the UK mortgage market. They had to find ways to sell their products and proc fees provided them with a way to develop distribution channels.
They also rewarded brokers for their work, as back then they were unable to charge clients fees. As the mortgage market evolved, loans were made available to higher risk borrowers and specialist lenders were prepared to pay higher proc fees for the extra work involved. Then, not so long ago, the UK mortgage market saw another milestone in the evolution of proc fees, when a clever marketer at a lender had the idea to offer fees for both purchases and remortgages.
As opposed to other people in the industry who say the reason for retention fees is treating brokers fairly, I believe the real explanation is that lenders are not making enough money out of short-term deals.
One must keep in mind that product modelling assumes a seven-year average life for mortgages, otherwise today’s prime market would not exist. By paying retention fees, lenders can extend the length of time borrowers stay with them and turn the cheap rates they initially offer to new clients into profit without offering their best rates again.
However, I agree that when lenders’ retention products are the best option in the market and brokers have rightly advised clients on them, they are being rewarded for the work involved. As long as brokers shop around and find out that retention deals are the best product, then proc fees reflect the work done – needless to say the fee paid should never influence brokers’ advice.
The only catch is that in most cases retention products aren’t the best deal for clients – market dynamics over the past few years have made the market competitive, with thousands of deals available. So retention fees are a tactic that some lenders employ to generate profit while brokers take the blame for bad advice and potential mis-selling under Mortgage Conduct of Business rules.
The long-term effect of retention fees is even more worrying. Six months ago the Council of Mortgage Lenders published data that showed that remortgaging has hit its lowest level for five years – slowly but surely, the remortgage market is being destroyed.
HBOS forecasts a 75% reduction in remortgage volumes over the next four years. This equals approximately 50% fewer mortgage brokers – the broker market is being destroyed too.
There is another unpleasant effect. The longer clients stay with the same lender, the easier it is for the lender to claim ownership of that relationship. They can then cut brokers out of the picture altogether.
Lenders may say they have a statutory obligation to contact borrowers when their deals come to an end, but what they are really doing is taking over relationships that belong to brokers while drastically slashing the remortgage market.
Instead, why couldn’t the solution be to offer the same attractive products to everyone – then you don’t need to worry about brokers remortgaging clients away. In the end, the future of the market is important to us all.
Uniform fees would stop greedy brokers and nip mis-selling in the budKeith Butler is a mortgage analyst
I suppose the question that we need to ask is this – are the days of proc fees numbered? While brokers must be paid, proc fees leave them wide open to accusations of mis-selling.
After all, the theory is that brokers will interview clients, assess their needs and recommend a suitable product and company. On this basis, any given customer should be directed to any given product, regardless of whether proc fees are paid or not.
If any mis-selling claims are made in the future, any case where proc fees had been paid, particularly if above the normal level, would inevitably taint the public’s impression of what had happened.
And it surely won’t take much for accusations that brokers are chasing the biggest fees at the expense of customer service to emerge. For example, when Alliance & Leicester’s net mortgage lending in Q4 2004 slumped to almost zero, its then chief executive Richard Pym stated publicly that he believed the reason to be that other lenders were paying higher proc fees to brokers to secure business.
The fact that a lender chose to blame someone else for its poor performance came as no surprise. A&L’s stated policy at that time was to be an internet bank with a high street presence which, to me, didn’t appear to leave too much room for introduced business. So the fact it chose to blame introducers was also unsurprising.
However, what did surprise me was that Pym’s comment went unchallenged. You would have thought that such a statement would be something that the relevant authorities would have wanted to investigate.
The fact that nobody chose to investigate it implies there is a general belief that this is what happens. As long as such a belief remains I think the days of proc fees must be numbered.
So what are the alternatives? One possibility would see proc fees standardised so that every lender pays the same amount. Presumably there could be different bands depending upon the level of work the broker does in practice.
However, as long as it was clear that the fee paid would be the same no matter which company the business was directed to would go a long way towards alleviating any conflict of interest concerns.
I do not see how any lender could argue that standardised fees would challenge its ability to compete without admitting that it believes that higher proc fees do in fact influence brokers’ recommendations. This would be tantamount to an admission of mis-selling.
Another alternative would be for lenders not to pay fees at all but for customers to stump up instead. So in addition to the one-off, upfront fee that accompanies so many mortgage products these days, there would also be a one-off charge to pay brokers for their time.
Clearly, the obvious risk of this would be that customers might then prefer to go directly to lenders rather than pay an additional fee to brokers.
But this is precisely why the question of proc fees needs to be looked at now and taken seriously. Existing proc fee arrangements, with all the connotations of mis-selling that go with them, simply cannot be allowed to continue.
If this issue just drifts, brokers may find the eventual outcome is unpleasant.
Paul Suchet is proprietor of MoneyPlus Proc fees hover constantly between just reward and an invitation to greed.
They should never be more than 0.4%. Just like the base rate, we should have a proc fee rate. Anything above 0.4% and brokers’ minds can become clouded, anything less and the time they spend researching products is not adequately compensated.
I use the word client rather than customer. This is because we as mortgage brokers provide a service often more valuable than that provided by respected professionals such as accountants and solicitors. Yet high proc fees can stop us from treating clients fairly.
It is the advent of the sub-prime market that has given rise to ridiculously high proc fees and spawned a flood of so-called brokers constantly searching for products that service not the customer but their own needs.
Let’s remind ourselves that sub-prime products became popular because:
l We slavishly follow US models – think of Pizza Hut, Kentucky Fried Chicken and McDonalds. How good are they for us? And what is the state of the US sub-prime market? Equally bleak.
l Huge interest rate hikes in the 1990s led to the creation of County Court judgements and the sub-prime market due to the narrow mindedness of conventional lenders. Incidentally, these prime lenders are now jumping on the sub-prime bandwagon.
l Sub-prime should be a mechanism to assist in the credit rehabilitation of clients who suffered in the 15%-plus interest rate era. Therefore, high proc fees paid under the guise of higher interest rates and completion fees, to name but two, are not consistent with the Treating Customers Fairly initiative.
Self-cert within prime lending has made the justification for choosing sub-prime lenders more difficult. But brokers with two years of experience behind them know how to deal with this situation.
Hypothetically speaking, they will submit cases online to up to three lenders. But they can answer questions in a way that prompts lenders’ credit scoring mechanisms to ask for, say, a bank statement.
There is nothing sinister about this request in itself, but brokers will now telephone lenders and ask if their case is being declined.
“No,” says the lender. “This is just a request for additional information.”
But if the client cannot provide a bank statement, the lender will decline the case. “Well, yes,” replies the lender.
“In that case, please email me,” the broker says.
The lender obliges. The broker now has the evidence to show clients and steer them towards sub-prime lenders that won’t ask for bank statements. Surprise surprise, they pay proc fees up to three or four times higher than prime lenders. The emails go on file in case of a Financial Services Authority inquiry and TCF has been followed to the letter – if not the spirit – of its guidelines.
The above hypothetical instance was only used to illustrate a point, but uniform proc fees would stop this kind of mis-selling.
Who is responsible? Primarily lenders that are typically backed by US money looking for a new home because of the problems within that country, and unethical brokers blinded by greed. We are, after all, only human.
High proc fees are an encouragement to flout TCF principles and lead to even more repossessions, which according to the Council of Mortgage Lenders are on the march again. Interest rates are also at a six-year high. The writing is on the wall.