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Mortgage market review: the first in-depth reaction


Published: 17 January 2012 | Author: Bernard Clarke

The wait was longer than expected, but appears to have been worth it. Publication of the mortgage market review (MMR) consultation paper at the end of last year confirmed that the FSA has listened to industry concerns. 

The result is that borrowers should be able to get the mortgages they need, within a sensible regulatory framework. Consumers will be protected, but the regulator proposes to give lenders more flexibility about how they achieve compliance. Obviously, there are areas where we feel there could be more improvement, and helping to deliver it will be our task in the three-month consultation exercise. 

The timing of the FSA’s paper has meant a brisk start to the new year for the CML. We have an enormous document of more than 780 pages to work through, and there is still a huge amount of detailed work to do. Our response to the consultation will be exhaustive and, we are sure, exhausting. We want to hear the views of as many of our members as possible, and put together a response that reflects opinion across the industry. 

Our goal is to help build a more effective, better regulated mortgage market, in which there are opportunities for a variety of lenders of different types and size to deliver choice in meeting the needs of consumers. There is a lot to do before the 30 March deadline.

Initial views

In our immediate reaction to the FSA’s document, we said we were pleased that the regulator had heeded the CML’s arguments, and had recognised the difficulties that would have arisen from the proposals it published 18 months earlier.

We had sought to ensure that our arguments in response to the earlier document were supported by data and comprehensive analysis of – and research into – the market and causes of consumer detriment. In its latest document, the FSA has responded positively to our detailed evidence. It has also included a thorough cost-benefit analysis. 

In the press release accompanying the new consultation paper, the FSA said that it wanted "to put common sense at the heart of lending." We believe that its revised proposals have the potential to deliver this. On behalf of lenders, we will be working for the same "common sense" approach to the drafting of final rules, to the way in which firms are supervised and in seeking to avoid potential conflict and unintended consequences in the FSA’s proposals and the broader regulatory structure.

So, what does the FSA propose in some key areas, and where does it appear to have been most receptive to the arguments and evidence that we presented to it?

Income verification

  • On one of the key issues for lender and borrowers, the FSA maintains that income verification will be an essential requirement in all cases. Crucially, however, it has accepted that lenders should have more flexibility than originally proposed on how they do this. So, the earlier proposal for "human intervention in all cases" has been dropped. The FSA now accepts that the process can be paper-based or automated, and that lenders should be able to outsource the work to intermediaries if they wish to. But lenders will remain responsible for compliance.
  • The FSA believes lenders should be able to accept projections for future income for self-employed borrowers, as long as they are robust. Where a borrower has an uncertain income pattern, perhaps because of unpredictable overtime and bonus payments, the onus is on lenders to gather the appropriate information.
  • The FSA has revised proposals on lending into retirement. It is now proposing that if retirement is many years away, lenders will have to confirm that the borrower has pension provision. If the prospective borrower is closer to retirement, however, lenders will need to consider projections based on his or her pension statement. The consequences for lending are not completely clear, and we will be asking for further clarification in our response.
  • On the extent to which lenders should anticipate changes to borrowers’ income and expenditure, the FSA is now closely aligned to our position. Lenders will, however, be expected to take into account what they know, or should reasonably find out, through the disclosure of information by a borrower applying for a mortgage. So, the lender will need to make a reasonable assessment of the borrower’s ability to pay, while the borrower remains liable for making the payments.
  • The FSA’s views on the ability of borrowers to adjust their expenditure to changing circumstances now reflect the evidence we presented to the regulator, based on independent research. The FSA has accepted the research findings that borrowers succeed in prioritising mortgage commitments over other expenditure and are generally able to "flex" discretionary spending in order to meet their priorities. The regulator has therefore modified its earlier, over-engineered proposals, which required lenders to allow for different types of expenditure by borrowers and then to calculate "free disposable income."
  • The FSA is now less prescriptive in its approach to stress-testing a borrower’s ability to pay higher loan rates, while ensuring that an assessment of this remains a priority. It is proposed that lenders set their own rates against which to stress-test the loan, but take into account market expectations for interest rates over the next five years. 

The FSA says there should be a minimum requirement for stress-testing loans against a rate rise of 1%, even if market expectations are for lower increases in rates. Meanwhile, no stress-testing requirements are proposed if the borrower opts for a fixed-rate term of five years or more. Stress-testing is an area we will consider carefully with members as part of the consultation exercise.

  • The FSA has dropped the proposal to assess affordability over 25 years, even when the borrower is opting for a longer term, and to apply an additional stress-test for credit-impaired borrowers.

Interest-only mortgages

In this area, the FSA has based its proposals on our response to the consultation paper it published 18 months ago. It says:

  • The affordability of all interest-only mortgages should be assessed on a capital repayment basis, unless the lender has evidence of a robust repayment vehicle. Where there is a repayment vehicle, the amount the borrower pays into it should be taken into account in assessing his or her commitments and ability to re-pay the mortgage.
  • Lenders’ policies on interest-only lending should specify the types of repayment vehicle it regards as acceptable, the controls it has in place for  assessing them, and the firm’s appetite for interest-only lending.
  • When assessing an application, the lender should obtain evidence of the repayment method and make an informed decision on the likelihood of it repaying the capital. Importantly, however, lenders should not be held responsible for the performance of the repayment method.
  • After the loan has been granted, the lenders should be required to check the continuing existence of the repayment method and its likely performance, at a single point in time. The FSA does not, however, specify when this should be. And where the borrower does not respond to the lender’s requests for information, the firm will not be held liable for the repayment plans or deemed to be in breach of the rules.

In requiring the lender to make a judgement at the outset about the borrower’s capital repayment plans, the revised measures go further than our suggestions in response to the FSA’s earlier proposals. But the regulator is now recognising that lenders cannot predict the future, and accepting that they should not therefore be responsible for the performance of the repayment method. This should mean that interest-only mortgages can play a niche role in the market.

Mortgage advice

A key proposal from the FSA is to remove the distinction between advised and non-advised sales. Under its new proposals, it wants communication with the borrower during the sales process to be considered to be advice.

We have argued that it is crucial for lenders to continue to be able to use scripted processes for telephone sales, as many borrowers prefer to transact by the phone. Helpfully, the consultation paper confirms that the proposed rules do not prevent firms from using scripted questions to get information from consumers about their needs and circumstances, and enable them to fulfil their advice requirements. We hope this will enable lenders to continue with similar arrangements to those many already use for telephone sales, and we will be looking carefully at the details of its proposals.

The FSA accepts that a small number of customers – high net worth borrowers and mortgage professionals – may not need advice and should therefore be able to opt for an "execution-only" service.  And even when borrowers are given advice, the FSA says they should be free to reject a product recommendation and opt, on an execution-only basis, for a different loan.


Proposals on disclosure remain broadly unchanged from the FSA’s earlier consultation paper. The requirement to provide an initial disclosure document has been removed but firms will still have to provide information at the initial stage, either orally or in a form that provides a permanent record for the borrower, depending on the sales process. Firms will also be required to provide a clear, fair description of the service they provide.


The final rules are not due to be implemented until mid-2013 at the earliest.

We think we can help make them work, but we need to avoid regulatory developments further down the track that create unintended conflict. We need to make sure that all the pieces of the wider regulatory and policy jigsaw fit together.

Although we will now continue to work with the FSA on finalising and implementing the rules, ultimately it is the new Financial Conduct Authority, headed by Martin Wheatley, which will assume responsibility for supervising the conduct of firms.

Separately, the Bank of England’s financial policy committee (FPC) will have an explicit responsibility for identifying, monitoring and acting to remove or reduce systemic risks. And the Bank will also oversee the work of the new Prudential Regulation Authority, with the sole objective of promoting the stability of the UK’s financial system. 

Just one example of the potential for regulatory conflict is in the approach different authorities may take to restrictions on loan-to-value ratios for mortgage lending. Helpfully, the FSA has accepted our arguments and decided not to use inflexible loan-to-value caps to try to regulate the mortgage market, despite having earlier mooted this as a possibility. But that is not the whole picture.

In the future, when more buoyant conditions return to the mortgage market, might the FPC see loan-to-value limits as a suitable tool for bearing down on what it sees as a potentially worrying over-expansion of credit? And, if it does, how might this sit, for example, alongside the government’s explicit policy objective of actively encouraging more 95% loan-to-value borrowing?

From this example alone, it is clear that there is still much to do for the CML. The workload extends beyond the immediate task of responding to this consultation, as we work towards introducing the right set of rules and supervisory approach, and seek to ensure a joined-up approach to regulation and policy. And that is before the industry’s main work begins, with individual firms turning the new rules into practice within their individual businesses.