Second Charge Lending
“Second-charge lending” is the term used to describe a loan which is secured on a borrower’s property by a charge which is subordinate to any loan secured by a first (and thus higher-ranking) charge. It is currently regulated by the Financial Conduct Authority under the FCA’s CONC rules: with effect from 21 March 2016 it will come within the FCA’s MCOB rules.
A second charge loan will currently come within scope of the Consumer Credit Act (CCA) unless:
• it is made to a limited company or a partnership of more than 4 individuals;
• it is made to an individual or a partnership of fewer than 4 individuals for an amount exceeding £25,000 and is wholly or predominantly for a business purpose. (Loans to small businesses for amounts over £25,000 will be covered provided the purposes is only partially for business.);
• it is made to an individual or a partnership of fewer than 4 individuals for an amount less than £25,000 and is wholly or predominantly for a business purpose and is a “Green Deal” plan;
• the amount secured on land exceeds £62,500 (€75,000);
• it is made to a high-net-worth borrower (defined as being someone with an annual income of £150k or assets of at least £500m) who has signed a declaration agreeing to an exemption from CCA protection.
If any of the circumstances above applies, the loan will be exempt from regulation.
Responsibility for regulating second-charge loans
Responsibility for regulating the CCA transferred from the Office of Fair Trading (OFT) to the Financial Conduct Authority (FCA) on 1 April 2014. On that date, a new chapter of the FCA’s Handbook – the Consumer Credit Sourcebook, or CONC – came into effect. Chapter 15 of CONC sets out rules relating to second-charge lending.
The European Mortgage Credit Directive (MCD) is due to come into effect on 21 March 2016. The Mortgage Credit Directive Order (SI 2015 No 910) was made in March 2015, giving the FCA power to make rules for implementing the MCD in the UK. The MCD does not distinguish between first- and second-charge mortgages, so the FCA had consulted in 2014 (CP 14/20) on proposals for bringing second charges into the MCOB (Mortgage and Home Finance Conduct of Business) sourcebook. The feedback Policy Statement, including final rules (PS 15/9), was published in March 2015. It confirmed the majority of proposals with regard to second-charge lending which had been set out in the earlier consultation, and which are summarised in the following paragraphs:
The FCA has been accepting applications from second charge lenders wanting to add regulated mortgage permissions from 20 April 2015. Firms are encouraged to apply as soon as possible. A decision on authorisation can take the FCA six months (if the application is complete) or 12 months (if incomplete). The FCA is urging firms to ensure that their applications are complete as the timetable is tight before the new rules come into force.
As the MCD does not come into force until 21 March 2016, successful firms will not become authorised until this date (although firms with interim permission can apply the rules early). Firms will be advised as soon as the FCA has considered their applications and the regulator will issue a written confirmation where they are ‘minded to authorise’.
Pages 21-23 of PS 15/9 summarise the different application processes which will apply depending on which activities the lender provides and what existing mortgage permissions it may already have.
Conduct Standards: the rules on selling and advising will come into effect for second charge lenders from March 2016.
Pipeline: firms will be able to apply the new rules early from 21 September 2015.
Qualifications: second charge mortgage ‘sellers’ will be required to have gained a level 3 qualification (via CeMAP) by September 2018.
Data Reporting: second charge lenders will need to submit aggregate data to the FCA via the MLAR and RMAR from March 2016. However, firms will only need to submit Product Sales Data (PSD) on second charge mortgages entered into from 1 April 2017. Lenders will also not be asked to ‘backfill’ data to March 2016. The FCA has indicated that the first return is likely to be circulated in mid-2017.
Interest rate stress test: Second charge lenders will be required to stress test borrowers’ ability to pay in the event that rates increase – but will not be required to ascertain the current rate being paid on a higher priority mortgage. Information about the outstanding balance and current repayment – which should be sufficient to undertake the necessary stress test – can be obtained via a credit reference search.
Binding Offers: The MCD requires lenders to issue “binding offers” to borrowers: the FCA has decided that such offers can include conditions such as those linked to a change in the facts and circumstances upon which the lender has based the decision to make the offer. However the FCA does not believe that reserving a blanket right to re-underwrite the loan would be compatible with the offer being binding. New guidance has been included in MCOB 6A.3.3(G) setting out the FCA’s expectations.
ESIS Language: The MCD prescribes the format and content of the ESIS, leaving little flexibility for the FCA to make changes. The exception is where the prescribed terminology in unclear or unfamiliar in a Member State – and the FCA has therefore replaced ‘reimbursed’ with ‘repaid’ and ‘exit charge’ with ‘early repayment charge’.
Time Orders: Time Orders will remain for both first and second charge mortgages: PERG 4.17.2G has been updated to make this clearer.
Post-sale disclosure for second charge mortgages: Changes to MCOB 6A clarify that a binding offer and reflection period requirements do not apply to post-sale variations.
Modifying Agreements: The MCOB approach to contract variations will be applied to second charge mortgages and so modifying agreements (and all the challenges they present) will no longer apply.
Awareness of other products: Borrowers looking to increase their borrowing should be made aware that a second charge or unsecured loan may be more appropriate, during initial disclosure at the start of the sale. There will be no requirement on the seller to consider whether the other options are more appropriate for the customer.
Debt consolidation: The MCOB debt consolidation requirements will be applied in all second charge cases (involving debt consolidation) irrespective of whether or not the customer is credit-impaired. In these cases, lenders will need to ensure that the debts to be consolidated are repaid or, where this does not happen, the debts are included in the affordability assessment.
Fees charged where customers are in difficulty: The automatic rolling up of fees and charges into a second charge loan will be prohibited. NB MCOB 13.3.4D currently provides that: “In the FCA’s view, in order to comply with Principle 6, firms should not agree to capitalise a payment shortfall save where no other option is realistically available to assist the customer.”
Interest on default fees can only be charged on a simple basis (MCOB 12.5.5.R).
Sharing information on customers in repossession proceedings: The information to be shared between lenders in repossession cases (MCOB 13.4A.1 R) has been reduced to include notice of:
– The commencement of legal proceedings
– Surrender of the property
– Details of any proposed sale
– Details of any assisted voluntary sales process.
MCOB 13.4A.3G provides that firms should use reasonable efforts to discover the existence of other charge holders at the start of any assisted voluntary sale/litigation process.
Prudential requirements: Prudential requirements will not be introduced for second charge loans in March 2016: the FCA will review this position by March 2017.