Much has been written about the Westpac responsible lending case. At risk of adding to the weight of those volumes, we attempt to provide a practical analysis of whether the judgment really is the win that many lenders consider it to be.
But first, we do need to paraphrase a few statements from the judgment
At para 82: The policy of the statute is that unsuitable loans should not be made - ss 131 and 133. No purpose is served by prescribing how a credit provider goes about the assessment process. That is the problem of the credit provider. A credit provider may do what it wants in the assessment process. What it cannot do is make unsuitable loans. ASIC's argument creates a whole new range of implied rules which appear altogether unnecessary.
At para 102: How the information collected is used cannot result in no assessment having been made. It would be an invalid assessment if lenders failed to ask the s 131(2)(a) questions. Once the questions are asked, how lenders go about answering those questions is a matter for them. it is not a contravention of s 128 for a licensee to make a wrong assessment because s 128 is not about being right or wrong.
If those statements survive appeal and legislative or regulatory amendment, the law is only breached if an unsuitable loan is in fact the end result.
What is vitally important in this case is there was no allegation that Westpac had made an unsuitable loan – only that there was a deficiency in the responsible lending process. As Justice Perram says, "This then is a case about the operation of the responsible lending laws without any allegation of irresponsible lending."
But would the outcome have been the same if it was alleged, and proven, that Westpac has in fact made an unsuitable loan? Would Justice Perram still have confirmed that the process was sound in the face of a consumer stating that the loan had caused them hardship?
The elephant in the responsible lending living room is the determination and verification of living expenses, and more specifically, discretionary expenses. Justice Perram made a number of remarks about Westpac's application of a HEM to determine consumer living expenses rather than using the consumer's declared expenses. He stated knowing consumers' declared living expenses does not assist in determining whether the consumer could only repay the loan with substantial hardship. This is because, as he noted, expenses can change and vary, and some expenses "...might be foregone by the consumer in order to meet the repayments".
Paraphrasing para46 and 76-77:
The only way that declared living expenses becomes relevant is identifying living expenses which cannot be foregone or reduced. But that minimum is an entirely different concept to declared living expenses of what the consumer actually spends. It is that conceptual minimum which drives the question of affordability.
The test for determining unsuitability is a consumer's inability to make repayments without substantial hardship. Current declared expenses, without additional information about whether the consumer could reasonably be expected to live on less, does not assist in the process of determining this. HEM is an estimate of the level of household expenditure that the consumer could reasonably be expected to spend to participate fully in society with a reasonable standard of living.
These comments support the proposition that substantial hardship does not equate to having to reduce non-essential discretionary spending but rather, it is significantly more serious. As such, a forensic analysis of a consumer's spending habits is unnecessary and does not assist with the assessment. Perhaps the question a lender should be asking is not 'What did you spend last month?', but instead, 'What amount do you need left over each month after you pay all your fixed expenses to live reasonably?'.
Justice Perram's comments seem to imply that consumers' expenses must be reduced to an absolute minimum before substantial hardship can exist. However, because there was no allegation that the loans were unsuitable in the Westpac case, this concept was not explored in any detail. Would the outcome have been different if there had been an identified consumer telling their story of hardship rather than a nameless theoretical consumer?
These matters remain uncertain. Adding to the uncertainty is ASIC's current consultation process for RG209, and their recent public hearings which have highlighted the many different methods industry uses for responsible lending, not to mention AFCA's interpretations of the law and fairness. As such, perhaps this decision is not the win for lenders that it appears at first blush as uncertainties remain.
A few possible rules (but the devil is in the detail and the 'how')
- Ask about and verify all fixed expenses.
- Ask about discretionary living expenses and use that information to stress test the reliability of the information, probably including against HEM. It is possibly not necessary to verify any of these expenses if they appear reasonable.
- If you collect additional information such as bank statements, it will be hard to argue that you're not on notice of the contents and so any material expenditure not declared should trigger further enquiry.
- Comprehensive (positive) credit reports will be valuable. Past performance of a consumer's ability and willingness to make repayments is valuable evidence.
- Lenders should be able to argue at AFCA and elsewhere that there is no such thing as systemic failure to undertake responsible lending unless there is a material failure to inquire and verify or a strong record of making loans which proved to be unsuitable.
- Product design, transparency of process, and good treatment of customers remain important. Remember, fairness is a significant consideration for AFCA.
- Remember to align your policies and procedures with what you actually do.
- Keep your fingers crossed and stay in touch with us for updates!
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