Banks Clip Mortgage Originators' Wings

Banks have recently renegotiated commissions payable to mortgage originators and this has resulted in a substantial deduction in the future income potential for originators and Estate Agents who are the prime source of mortgage referral business to originators. Banks claim that the commissions were too high and have reduced their returns and increased their bad debts, but is this really so?

The mortgage originator's cost is paid up front when a bond is registered. Previously an originator could have expected to receive R24 000 against a R1 million bond. This being based upon the assumption that the originator's commission rate was 2,4%. Recently renegotiated commissions appear to have been reduced to 1,5%. If a bank charges its client a nominal interest rate of Prime (i.e. 11%) then the nominal interest cost of the originator's commission to the bank over 20 years is 0,22% for a 1,5% commission and would have been 0,36% for a 2,4% commission rate. The bank would therefore earn 11% minus 0,22% = 10,78% net). This is surely a small cost for any bank to acquire business and is much much lower than it would cost to implement their own sales infrastructure?

So why have originators' commission rates been reduced? Perhaps it is a result of the high life that has been exhibited by some leaders in the origination field who have perhaps naively flouted their wealth and extravagant lifestyle in the print and electronic media that has resulted in bankers and non-executive directors expressing displeasure at Board level, or perhaps the banks have begun to feel uncomfortable with the originators taking control of their client relationships, and cross selling other products such as insurance to their client base that has raised alarm bells!

While banks claim that the cost of commission to originators, which is paid upfront, has had a considerable impact on their income, it seems a little far fetched to justify how a R7 500 commission against a loan of R500 000 could have much of an affect on their total write offs or interest income.

Of course, banks don't only pay out costs for registering new bonds, they also charge clients substantial new mortgage documentation fees of at least R4500 per bond and also debit the client's account with a monthly administration fee; and sell householders insurance at inflated premiums, charged annually in advance (not monthly), and also often debited to the client's account a few months before expiry of the current premium. All these amounts are capitalised (unless the client pays additional cash into the bond) and earn substantial interest for banks. And while banks are accounting for the additional interest income each month, the capital outstanding is increasing - not reducing, and this is a major contributory factor to bad debts when the client cannot service the bond repayments, particularly in the first ten years when most of the payments go towards servicing interest, with very little capital having being repaid. At a later stage, when the outstanding capital is still high, the losses are accordingly also high and the additional income that has been earned in prior years is conveniently forgotten.

Then there are early settlement penalty fees. Clients need to give their banks 3 months notice of intention to settle their bond. If one does not, the bank will in all likelihood charge an early settlement penalty. On a R1 million bond, this penalty would amount to R25 500! This is of course far more than what the mortgage originator originally received as a commission. Is it possible that banks may have shrewdly negotiated their early settlement penalties into the new National Credit Act legislation to cover the cost of recouping mortgage origination commissions?

If banks are concerned about the costs of their up-front payments to originators, then it could be argued that there is a case for documentation fees and early settlement penalties to be off-set against the commission paid to the originator.

At the moment banks are not able to service direct mortgage applications with speed and do not have the infrastructure to compete with the service of mortgage originators. It will be interesting to see what happens when the economy improves. Will banks want to acquire origination companies or will they attempt to further strangle them hoping that their staff will join the banks?

The banks have long since abandoned personal relationships with their clients (motor vehicle finance on dealer floors and call centres are prime examples) and the originators, who provide a personal touch with face to face client interaction, may already be too powerful for banks to ignore if they want to be amongst the future mortgage growth market leaders.