Why the Aussie Banks Let You Lie
Another day, another development in the Royal Commission into banking.
To date, the ‘revelations’ have been rather dull.
So far we’ve heard about some pushy sales staff hawking bank products…a few dodgy documents…some fraudulent loans…and a handful of financial advisers being behind on their training requirements.
But then we got a real doozy…
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The one thing the Royal Commission into banking won’t change
One of the more interesting ‘revelations’ to come from the Royal Commission is how banks assess day-to-day living costs for mortgage applicants.
As reported by The Australian:
‘The royal commission discovered that when it came to living expenses, a vast number of loan applications had been approved without a detailed examination of each borrower’s actual costs.’
The report adds that the Royal Commission is ‘shocked’ to discover the standard formula of assessing ‘living costs’ is used by most banks.
Rather than calculating an individual’s expenses, banks use the Household Expenditure Measure (HEM) benchmark, altered for state of residence, number of children and lifestyle assumptions.
Banks reckon that the average two-income family with two kids has a ‘basic’ cost of living anywhere from $32,000 all the way up to a ‘lavish’ $58,000. If you have two kids, you’ll know that annual living costs of $58,000 are anything but lavish.
Regardless, the standard banking formula for assessing living costs isn’t new. It’s a staple credit procedure — a pre-determined cost automates the credit process for both the applicant and bank.
Dare I say it, but if Commissioner Ken Hayne is truly ‘shocked’ at the use of automated cost assumptions, I’d suggest he isn’t really that familiar with banking practices in Australia at all…
Yet just like the fraudulent loans, dodgy documents and pushy staff truth bombs, banks had the PR spin ready for the HEM revelations.
Westpac Banking Corp [ASX:WBC] was the first to crack, announcing they’ll introduce tougher ways to assess potential debtors, with the ABC reporting:
‘From next Tuesday, the bank will increase the number of expenses categories from six to 13, getting customers to provide much more detail about what they spend money on in an effort to ensure they do not neglect to declare various regular expenses.’
Notice Westpac didn’t say they’ll be getting rid of the HEM benchmark. Rather, they’ll just add a few more expense categories to get a broader spending picture.
Shortly after that statement, a Westpac spokesperson noted:
‘Our staff and brokers have the opportunity to prompt customers to remind them about particular expenses they may have forgotten, for example, pet insurance, gym membership fees or media streaming service costs.
‘We are also introducing a new financial acknowledgement form, which customers will need to complete as part of their loan offer documentation.
‘This will confirm the information customers provide us with about their income, expenses and liabilities.’
Going forward, Westpac will have loan applications sign the ‘financial acknowledge form’. The bank claims that it’s a way to remind people about any forgotten expenses.
Way to put a band aid on a flesh wound… That will be just another piece of paper to sign on top of the 30–40 pages an applicant signs…it’s hardly going to jog anyone’s memory.
And here is the crux of the problem:
For now, Westpac is basking in their ‘don’t worry, we are responsible lenders’ approach to the problem.
Yet it will do very little to change anything, and achieve even less in the long run.
That’s because we live in digital times. As cash use continues to decline, more people pay for coffee with cards and phones, to say nothing of more expensive purchases.
Daily expenditure shows up in our bank statements. Grocery shopping, loan repayments and bills are generally paid for electronically.
Your leisure time leaves a digital footprint too. Your bank knows if you prefer eating out or going to the movies for fun.
We have digitised our spending habits. At no other point in history has this information been so accessible. Which means that a bank statement would profile you better than any automated cost of living assessment ever could.
But the banks choose not to use this.
Banks are lending machines, not just places to store your savings. If banks stop lending, they go broke.
Until now the banks didn’t really care too much about actual spending habits. Rather, the theoretical cost of living was more important.
You see, if banks start analysing the real cost of living for an applicant, their in-house formulas would reject the loan applications of many would-be borrowers.
After all, banks have to find the sweet-spot between credit worthiness and risk.
If they ask just enough questions to ensure that borrowers were human with an income and ‘intent’ to repay…that’s enough for them.
Banks write many loans knowing fully well that some will go bad. They’re banking on most of the debts being paid off with only a small percentage of defaults along the way.
Knowing the truth about applicant personal finances could drastically affect how much lending takes place.
As far as banks see it, a few defaults are worth the risk for maximising lending.
The Royal Commission won’t change that.
Bank have access to detailed information on your cost of living, but they don’t use it. Nothing can get in the way of lending money. Not even the truth.
Editor, The Daily Reckoning Australia