Both the National Consumer Credit Protection Bill and the Corporations Act (Financial Services Modernisation) Bill require that licensees (for consumer credit and margin lending respectively) comply with responsible lending conduct obligations.

Responsible lending will apply to brokers and previously unregulated lenders from 1 January 2010. It will apply to ADI’s and registered finance companies from 1 January 2011.

These obligations require licensees to make disclosure to consumers about the application and assessment process and prohibit credit providers from making loans which are unsuitable for borrowers.

And for the first time laws will regulate the credit assessment process by requiring lenders and brokers to make reasonable inquiries about a borrower’s financial situation and to verify information they receive.

The laws fall short of telling lenders how to assess and price risk but do set a minimum standard for credit assessment.

The UK Financial Services Authority conducted a Responsible Lending research project in 2007-8.

Its key conclusions were:

• lenders could have been more cautious in their approach to lending
• more stringent checks could have been applied to ensure customers had the ability to pay over the life of the term
• in determining affordability, more emphasis could have been put on checking customers’ general expenditure as well as expenditure on credit.

Whilst the reasons for the provisions (eg better identification of consumers in financial difficulty, reduction of high-risk lending) are well-known, what does this mean in practice?

For all regulated loans, lenders must be able to show they have taken into account a customer’s ability to repay. For a broker-introduced loan, both lenders and brokers have their own responsibility to consider whether the borrower can afford to repay the loan. Neither can pass on their responsibility to the other. Each must come up with their own judgment as to whether the loan is affordable: the lender cannot use the broker’s judgment as their own and vice versa. However, where it is reasonable to do so, each can rely on information passed to them to help them arrive at their own judgment.

Low-doc loans or loans reliant on borrower self-certification may not be able to be made unless a lender can independently verify the financial information provided. If tax returns are not available for self-employed applicants, can they provide BAS statements?

There will also be an impact on the term of loans if a loan ends post-retirement and there is no evidence of post-retirement capacity to pay.

For interest-only loans, what evidence is there that the borrower can repay the capital?

For low-start loans, what evidence is there that the borrower can afford the repayments after the honeymoon period ends?

Lenders will need to review their loan application forms and product terms to ensure the necessary information is collected.