The Royal Commission was a sideshow compared to this

The Royal Commission was a sideshow compared to this
  • The real threat to Australia’s banking system
  • What’s four more zeros to a compensation claim?
  • Albert and Rose are more important than Hayne

The most important fallout from the Royal Commission began this week.

Borrowers have launched a class action lawsuit against Westpac. They argue that Westpac’s usage of the so-called HEM (Household Expenditure Measure) is irresponsible lending. And that entitles the borrowers to hundreds of thousands in compensation each. This could cost Westpac ‘tens of millions of dollars’, according to the ABC.

Now, I don’t know who is doing the maths here. The Sydney Morning Herald reported the following figures late in 2018:

For about 50,000 of those loans it received, but didn’t use, consumers’ actual expense information that was higher than the HEM and for a similar number of loans with an interest-only period it used the incorrect method of assessing the customers’ capacity to repay the loan at the end of the interest-only period.

50,000 loans at hundreds of thousands in compensation is tens of billions, not tens of millions of dollars…

Add in the other questionable approvals and practices of Westpac, and things escalate fast.

But let’s stick with HEM for now — using artificially low expenses in mortgage applications to get them past lending standards. About 55,000 home loans were written per month in Australia in 2017. UBS estimated that in 2017, 70% to 80% of all home loans in Australia used HEM.

That gives us a potential compensation claim close to $100 billion, per year. According to the lawsuit, the practice went on for about five years. I know it went on for more than a decade. We’re talking a trillion dollars…for HEM-based lawsuits alone…

Now, these are big figures. But if I’m right, they’re nothing compared to what’s coming. Because the Royal Commission carefully avoided exposing the real problem lurking on Australian bank balance sheets. To uncover that, we have to go back more than a decade.

In 2006, two members of Sydney’s Assyrian community took on their bank. They claimed that their mortgage broker had changed things on their loan application paperwork without their knowledge. And that this entitled them to write off their debt but keep their home.

They won the court case. And courts since, as well as the Financial Ombudsman, have upheld this precedent. Borrowers who can prove their loan application was fudged by their broker or banker can cancel their debt but keep their home.

Think about what that means for the banking system. Losing the value of the debt, without gaining the property to sell off and recover losses.

It’s a frightening loss. Worse than anything that happened during America’s subprime mortgage crisis or Europe’s housing bubble. Banks in Europe and the US at least managed to get their hands on people’s houses and sell them. In Australia, that’s not the case.

This makes the potential losses worse by an order of magnitude. Worse than paying out that compensation claim we started with.

If Australians start asking for their loan application paperwork, and discover it is filled with ‘errors’, they might be able to join the list of borrowers with a house and a cancelled mortgage.

We’re talking about wiping off such a large chunk of the bank’s assets that it would easily wipe them out. Overnight. Insolvent. Gone.

But how are borrowers going to discover how riddled with ‘errors’ their loan application paperwork is? Well, it should be part of the process that the lawsuit I mentioned earlier has begun. Because the HEM is part of that paperwork.

In other words, if the lawyers discover the true secret of the Australian lending industry, the banks are in real trouble. The lawsuit that tries to cancel Australian mortgages en masse is coming.

Now that you know how Australia’s banking system will implode, you might be a little more interested in the Khoshabas and the precedent they set in 2006.

Here’s what I wrote to my Australian subscribers back in 2012, when I first uncovered the story:

Twelve years ago, rumours of an incredible investment opportunity were making their way around the Assyrian community in Sydney. Karl Suleman of Karl Suleman Enterprizes Pty Ltd promised 100% returns. All you had to do was invest in his supermarket trolley collection venture.

Mr Ubert Rashed told his long-time friends, Albert and Rose Khoshaba, about the opportunity. He was already earning $2,500 a fortnight from his investment. Even the local bishop encouraged people to invest.

Albert and Rose decided to take the plunge alongside many people in the Assyrian community. But, being pensioners, they had no money to invest. That wasn’t a problem according to Karl Suleman’s associates, who told the pensioners they could “fix it”.

The Khoshabas were directed to Combined Home Loans Pty Ltd, which helped them mortgage their home to raise money for the investment. $100,000 of the $120,000 loan went to Karl Suleman Enterprizes. The Khoshabas were in business.

But not for long. Just months later, Karl Suleman Enterprizes collapsed. Karl Suleman himself was sentenced to seven years jail. But Albert and Rose Khoshaba were left owing $87,572 on their mortgage with nothing to show for it. They were financially ruined.

What they did next blazed a trail of hope and opportunity for thousands of borrowers, which could include you.

Albert and Rose decided to challenge the validity of the loan in court. Their claim was based on what seemed like nothing more than bureaucratic technicalities on an unimportant piece of internal bank paperwork. But it was enough to get Chief Justice Spiegelman of the Supreme Court of New South Wales’ Court of Appeal to agree with them. The final decision saw their loan reduced by almost $60,000, putting them back on track financially. That’s how the Khoshaba Precedent was born.

The Royal Commission was just the beginning of exposing Australia’s mortgage scandal. And the worst is yet to come.

Readers, if you own bank shares, you’re asking for trouble. The Australian dollar is about to plunge too.

Until next time,

Nick Hubble Signature

Nick Hubble,
For The Daily Reckoning Australia