Fixing the Credit Crunch!

Expert Advice with Simon Buckingham 19/12/2018

You know things have probably gone too far when your bank starts obsessing over what you had for lunch...

But that's just what media reports are suggesting when it comes to how some banks now analyse your living expenses during a loan application.

When the bank wants to know what you ate for lunch, something isn't right...

The Sydney Morning Herald⁽¹⁾ recently reported an instance where the lender fixated on a borrower's daily kebab lunch, questioning why this wasn't included in the 'grocery expenses' declared on their loan application.

In another case they wanted the borrower to increase their declared grocery expenditure because they were temporarily on a 'Lite n Easy' diet.

What's next... having to hand over your supermarket receipts so a junior banker can judge you for your personal deodorant brand choice?!?

Worse still, you can probably expect Scrooge McBank to scrutinise what you choose to spend on Christmas presents this year - despite gift-giving being a one-off and very 'discretionary' expense.

Whatever happened to Common Sense?

I'm all for responsible lending, but this kind of intrusive questioning borders on an invasion of privacy.

It also serves no real purpose in support of financial system stability or lending responsibly.

Over-analysing discretionary expenses (that is, expenses that a person can very easily choose to reduce or give up entirely) does little to support the principles of 'responsible lending'.

Expense assessments should be all about the costs that a potential borrower is actually committed to.

And seriously, is a doner kebab for lunch really an expense commitment?

The Hidden Economic Danger

The hidden danger in taking such a dogmatic approach to living expenses when assessing credit applications, is that it can make consumers more conservative - even actively discourage consumer spending.

If prospective home owners feel like they'll be "probed" on even the most discretionary expenses, they may choose to reign in such spending in preparation for applying for a loan.

Furthermore, the perception that getting credit is harder (let alone the reality of a less pleasant loan application process where borrowers feel like they're being put under the microscope) risks putting many perfectly credit-worthy people off attempting to borrow at all.

And if people are generally borrowing less (whether it's a home loan, credit card, car loan or personal loan), this usually means they'll spend less.

In turn this can have a very negative effect on sectors like retail, flowing through into jobs and economic growth - even risking a recession.

Which is clearly not a good thing.

Even the Regulators are worried things have gone too far...

Perhaps our financial system regulators are fans of a sneaky kebab for lunch too... as they're also worried that banks are becoming too rigid in loan assessments.

Recently, the Reserve Bank and the Federal Treasurer have been making concerned noises about lending restrictions.

The 'Council of Financial Regulators' (the cabal that coordinates the four main financial rule-makers in this country - APRA, ASIC, the RBA and Treasury) has also come out saying that some banks had become "overly cautious" in their lending decisions.

This is a little ironic, given the pressure that APRA in particular has put on banks to tighten up their lending standards over the past 3 years.

Not to mention the frustrating lack of detailed guidance provided by the regulators on how banks should actually go about implementing those standards - leading some lenders to err on the side of super-cautious rather than sensible.

As the Productivity Commission reported earlier in 2018, the approach taken by the regulators appears to have harmed competition in the banking sector and cost consumers.

There has been too much focus on "financial stability" from the regulators, without proper regard to balancing this with economic growth, competition, and business & consumer confidence.

Tighter credit could harm the economy

In November Federal Treasurer Josh Frydenberg encouraged banks to ease-up on lending restrictions for the "public good", stating "...we don't want the availability of credit to hold back the economy."

Economists like AMP Capital's Shane Oliver also see the banks' recent behaviour towards lending as posing an economic risk, claiming that credit "has tightened significantly to the point where you would say now it’s a serious concern for the economy going forward."

So what are they DOING about it?

It's all very well for the regulators and the Government to wring their hands about the risk that tighter credit poses to the economy, but the real question we should be asking is what they are actually going to DO about this risk?

The Government and the regulators can't just sit back and talk about a known risk to the economy...

Having identified the risk, they need to proactively DO something.

If they fail to take tangible action having acknowledged a very real economic risk, then they themselves are acting irresponsibly and should be held to account.

Therefore we should demand action from our regulators and the Government.

What SHOULD they be doing?

A healthy economy relies on consumer spending and business investment as cornerstones of economic growth.

Consumers and businesses need to feel confident, and (as long as inflation is well under control, like it is at present) shouldn't be discouraged from spending.

The flow of credit is the life-blood of a modern economy, so a reasonable balance needs to be struck between the principles of responsible lending, common sense risk-management, and ensuring convenient access to finance.

People hate uncertainty. And that's what many people are feeling when it comes to borrowing from banks at the moment.

A simple and easily implemented change that could remove some uncertainty, would be for the regulators to provide far clearer explicit guidance to the banks on how living expenses should be assessed in determining loan applications.

With a clearer set of guidelines, lenders could also find it easier to offer finance responsibly - without the fear that they'll get rapped over the knuckles by the regulators for not being cautious enough.

In my opinion, the Government should step in and force the regulators to set down very clear instructions to the banks about what is appropriate to consider as a "committed" expense, and what can be considered "discretionary" and therefore be ignored in servicing assessments.

This doesn't require "working groups" endlessly debating the topic behind closed doors. All it requires is the application of a little common sense...

A Common Sense Approach

Examining a potential borrower's expenses for the purpose of determining how much they can afford to borrow should be all about the recurring expenditure that a consumer is actually committed to, NOT what "discretionary" expenses they can easily give up.

We need to give the average Aussie some credit (pun intended) - instead of insulting their intelligence and treating them like they need a nanny to make their financial decisions for them.

Of course, attention should be paid to identify signs that someone has a spending or gambling addiction.

But let's not take this to a foolish extreme and penalise someone for their Christmas shopping, spending on kebabs for lunch, or their gym membership.

For example, the following could be considered as fixed expense commitments that should legitimately be quantified when assessing how much lending someone can afford:

• A reasonable allowance for groceries.
• A reasonable allowance for clothing and personal grooming.
• Utilities (power, water, gas, etc).
• Rent.
• Rates.
• Insurance (home, contents, health, life, income).
• Phone/Internet.
• Transport/fuel/vehicle running expenses.
• Health expenses (where not already covered by insurance).
• School fees (including private school fees) if they will continue for more than a year into the term of the loan.
• Pet/vet expenses.
• Existing loan repayment obligations.

Separate to these, a list should be created of expenses that can be considered "discretionary" - that is, expense items that are not a fixed commitment and can readily be given up at reasonably short notice. For example:

• Entertainment - including entertainment subscription services (because such subscriptions are typically short-term commitments and can often be cancelled at minimal notice or within 12 months, so should not be considered a fixed long-term expense commitment impacting loan affordability).
• Takeaway meals / dining out.
• Gym memberships.
• Gifts.
• Charitable donations.

Taking a pure common sense approach, I would argue that discretionary expenses can and should be ignored when assessing a borrower's ability to afford a loan , without breaching any "responsible lending" principles - and without creating any real risk to "financial stability".

Banks and regulators just need to apply some of this common sense, instead of acting like paranoid nannies!

And if the Government really is worried about the economic impact of tighter borrowing, they should get on board with this common-sense approach too.

Having a defined list of "discretionary" expenses that can sensibly be excluded from loan servicing calculations would go a long way towards heading off a potential credit crunch that could damage Australia's economy.

What YOU can do about it...

If you agree that the Government and regulators need to be doing more to prevent a credit crunch and protect our economy, then forward a copy of this article to your local MP.

Ask them to take action in the best interests of the economy to require the regulators and banks to apply some simple common sense!

^{(1) The Sydney Morning Herald "Checking on lunch kebabs: Has the home loan crackdown gone too far?" 15 December 2018}

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Simon Buckingham is Director of Results Mentoring and a highly experienced investor. Simon has been investing in property for over 15 years using a broad range of strategies including positive cash flow, renovations, property development and commercial properties, both within Australia and overseas.

Holding university degrees in Commerce and Law, and with over 10 years' experience as a business consultant, Simon turned his back on corporate life forever following the births of his two children and now spends his time investing, developing property, supporting multiple charities, and building businesses - while teaching others how they can do the same. He has personally coached hundreds of investors in techniques that can be used to profit from property in any market conditions, regularly facilitates public workshops and provides other free resources for property investors through ResultsMentoring.com, and has presented to thousands of people at property conferences and seminars around Australia and New Zealand.

Simon writes the highly regarded Sophisticated Property Investor e-newsletter and his opinions on the property market and real-world investing strategies have featured in Your Investment Property magazine, Smart Property Investment, Channel7 News at 6, Kevin Turner's Real Estate Talk, and Property Observer. He is co-author of the critically acclaimed property book The Real Deal: Property Invest Your Way to Financial Freedom, and a founding Mentor in Australia's award-winning personal mentoring service for property investors: the RESULTS Mentoring Program.

Disclaimer: while due care is taken, the viewpoints expressed by contributors do not necessarily reflect the opinions of Your Investment Property.