Limiting possessions?

In the 1990s lenders typically required borrowers to resume payments in full and pay a proportion of the arrears each month – often up to a third – or face possession.

Contact with borrowers was limited and the overall approach was one of ‘pay or possess’, even though possession could lead to substantial losses for lenders.

Since the introduction of statutory mortgage regulation (MCOB) in 2014, lenders are required to ‘treat customers fairly’, including customers in arrears, with the expectation that forbearance would develop and become more commonplace. But studies conducted in 2016 and 2018 concluded that the regulation had had little impact.

Today, the situation is different. Although the lenders’ objective is still to restore the full monthly payment plus something towards the arrears, they are prepared to take time to achieve this and to use a much wider range of tools to do so. These include payment holidays, capitalising the arrears, converting capital and repayment loans to interest only, extending the mortgage term and concessionary payments below the contractual amount for a limited period of time.

One lender who was interviewed summed up the changes by saying: ‘Recovery practice [in the past] was largely calls, letters and litigation but [we] can’t [just] do that now.’

Some lenders are adopting more innovatory approaches. For example, waiving early redemption charges for borrowers on high fixed-rate loans allowing them to re-finance at the current variable rate. One or two are undertaking pre-emptive credit risk assessment of borrowers not yet in arrears but deemed at potential risk (perhaps because of other credit commitments) with selective approaches to such borrowers encouraging them to overpay while interest rates are low.

Others are developing direct partnerships with advice agencies and, with borrowers’ agreement, passing them straight through on the phone to an independent adviser, particularly where there are multiple debts. Such lenders also appear more willing to accept the judgement of these advisors as to the level of sustainable arrears repayment (often lower than the initial request). The shift is marked from the 1990s where advisers were seen as part of the problem to seeing them now as part of the solution.

Why change?

The research shows that aspects of the housing market, the mortgage market and government scrutiny are driving lenders current response. They constitute a strong business case for more forbearance and fewer possessions. Figure 1 sets out the key influences:

Lenders report that a high proportion of accounts in arrears are on properties in negative equity. Taking possession of these properties only serves to crystallise losses, and further depress a difficult market. In this context, some income – and potential recovery – is better than no income and a loss. This is reinforced by the retreat from mortgage indemnity guarantee insurance, which covered lenders for a percentage of any loss while post-possession debt recovery from borrowers is costly and uncertain. Thus the economics of the balance sheet currently deter widespread possession.

One lender identified the current rationale as follows: ‘It is preferable to have some servicing of the loan rather than nothing, and the psychological contract with the customer is improved if the lender has agreed to something like reduced interest rates or a payment holiday where none existed in the contract.

‘The borrower feels more committed to do something to maintain mortgage payments in return. Other approaches often attract negative reactions from borrowers who don’t pay. [They] go to possession or declare themselves bankrupt, which is no gain for the lender.’

Outside these financial imperatives, regulation, and particularly the introduction of the pre-action protocol in October 2018, requires lenders to demonstrate that borrowers have been treated fairly, that all reasonable re-payment requests from borrowers have been considered, as has the potential of a wide range of forbearance options.

Regulation, alongside the balance sheet concerns has shifted lenders’ forbearance strategies from ‘pay or possess’ to ‘managed forbearance’. This is also a cultural shift as lenders have had to change their attitudes and practices to support borrowers in ‘rehabilitating’ their accounts. Equally, managed forbearance, where it cannot be established or fails, provides a firmer basis for seeking possession on the grounds that home ownership is no longer sustainable.

Government intervention

The government has intervened earlier and more extensively – while arrears are still comparatively low – than was the case in the 1990s, when intervention was late and limited. The access criteria for income support for mortgage interest, now called support for mortgage interest (SMI) have been relaxed, a mortgage rescue scheme and a homeowners support scheme introduced.

Lenders welcomed SMI, and mortgage rescue but had reservations about the homeowners mortgage support scheme (HMSS) which was seen as top-down, complex, requiring new data collection, and overlapping with existing forms of forbearance. There was also scepticism as to whether the 58,000 homeowners the three schemes were expected to assist would actually come forward.

Lenders recognise they are under greater scrutiny and pressure to increase forbearance and limit possessions. But questions remain about how well founded and sustainable the current approach will prove to be.

Emerging issues

Current forbearance is contingent on the particular characteristics of the housing market and on fiscal policy. Both are likely to change in the medium term, raising questions about the continuing containment of possessions. Government initiatives are time limited – or capped – also raising the question of their longer term impact.

A boost in house prices and transactions is likely to prompt a reconsideration by lenders of their current approach as potential losses reduce and they have the opportunity to rid themselves of the most risky borrowers. A market improvement will tip the balance of interest towards lenders taking a more stringent assessment of the extent and reality of borrowers’ recovery. A spike in possessions could then follow.

Lenders noted that, after two years, borrowers benefiting from SMI and HMSS may still have arrears as great if not greater than currently. Depending on the state of the market in 2011–12, lenders may be unwilling to continue to forbear in these cases, adding to possessions.

There is no discussion currently about any exit strategy on the part of government. Thus the initiatives carry with them considerable uncertainty – and while there is a longer term guarantee to lenders in respect of HMSS, there is no similar limitation to losses for borrowers.

Falling interest rates have been key to the prevention of arrears for many borrowers and an important means of repaying arrears for others. The predicted rise in interest rates will challenge the process of arrears recovery for many, and potentially tip marginal borrowers into arrears. The use of interest-only mortgages as part of forbearance (often a requirement of access to the government’s initiatives) creates its own problems as interest rates rise or borrowers are returned to more expensive capital and interest mortgages.

But there are factors working in the opposite direction. One consequence of the recession is likely to be a further reduction in the size of the home ownership sector, tighter criteria for mortgages and greater competition for borrowers. Borrowers with arrears may be considered differently in this context. Where recovery is ‘on track’, however slowly, lenders may, on business grounds, see a case for retaining such borrowers taking a longer term perspective on the costs and benefits.

Lenders have often talked about cradle to grave relationships and services but the market has often encouraged the opposite. A post-credit-crunch mortgage market might lead to a different attitude to those whose problems are clearly temporary while further restricting access to more marginal new entrants.

This housing recession has demonstrated again the poor performance of the current safety-nets for home owners. The changes to SMI (ISMI) are an acknowledgement of this, but as noted above, these changes are, so far, time limited.

Private insurance (MPPI) is a safety-net for some people but its take-up has been falling due to cost and mis-selling. The problems have been well documented, but policy makers failed to address the fundamental question of ‘whether, and if so, what and how’ support should be offered to homeowners who find themselves unable to meet mortgage commitments. This major policy issue should not be sidelined again.

Janet Ford and Alison Wallace are from the Centre for Housing Policy at the University of York. Shelter’s research paper – Uncharted Territory? Managing Mortgage Arrears and Possessions – can be downloaded in full at www.shelter.org.uk/unchartedterritory