The growth of the second-charge market

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Enterprise Finance
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Supported by
Enterprise Finance
The growth of the second-charge market

But some important alterations to the way second charge lending is regulated may yet put it on the map and raise awareness of its uses among potential customers.

The Finance and Leasing Association’s (FLA) definition of second charge lending describes it as “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”.

Borrowers who take out a second charge or second mortgages essentially end up with two mortgages on their home.

A second charge loan previously came under the scope of the Consumer Credit Act, which itself became regulated by the Financial Conduct Authority (FCA) on 1 April 2014, having been the responsibility of the Office of Fair Trading up until then.

From 21 March 2016 the European Mortgage Credit Directive (MCD) came into effect in the UK, meaning second charge lending came within the FCA’s Mortgage and Home Finance Conduct of Business rules, putting it on a par with first mortgages.

Signs of growth?

The market has undergone a number of changes which it was hoped would lead to further growth of the industry. 

Harry Landy, managing director at Enterprise Group, points out the market peaked in the run-up to implementation of the Mortgage Credit Directive in March 2016.

"Immediately thereafter, the significant regulatory change – and associated re-engineering of systems and processes for advice – led to market disruption in April and May," he notes. 

"The market then bounced back and was on track for a return to growth when the EU referendum leave vote came through." 

Fiona Hoyle, head of consumer and mortgage finance at the FLA, acknowledges: “The second charge mortgage market has been through a significant period of change over the last year with its move to the Financial Conduct Authority’s mortgage regime.”

The second charge lending market has not taken off in the way some commentators expected as it moved to FCA regulation and could be aligned more clearly with first charge lending processes.Mark Dyason

But those expecting to see an uptick in take-up of second charge loans may be in for a surprise.

Instead of growing, the market appears to have slowed, with Ms Hoyle reporting in the 12 months to February 2017, second charge mortgage new business fell 2 per cent by value – from £886m to £864m. 

She points out over the same period the number of new second charge mortgages fell by 10 per cent, from 21,108 to 18,929, although the average advance over that time increased by 9 per cent to £45,665. 

Mr Landy observes though January fell compared with December, the market came back again in February to £76m, suggesting "this appears to reflect a market still absorbing the reality of Brexit and waiting to see likely longer term impacts".

As Steve Harness, commercial director at The Loans Engine notes: “We are now 12 months on from ‘MCD Day’ which was to be the watershed moment for second-charge mortgages. 

“Their inclusion within MCOB, and the requirement for mortgage advisers to make capital-raising customers aware that alternative finance options such as a further advance, second-charge or unsecured loans are available and may be more appropriate should, at the very least, have raised awareness.”

“Yet the market is at best flatlining, with 1,600 or so loans per month. Why should this be?” he asks.

It is a good question, and one which he and others in the industry are asking.

FTAdviser has previously reported concerns that brokers are not meeting the requirements of the MCD in relation to second charge mortgages, with advisers and brokers lacking awareness of the product - a trend Enterprise has noticed too.

"What’s also apparent is that, in spite of regulatory requirements at least to consider second charge options when capital raising for clients, many mortgage brokers are not necessarily doing so fully," Mr Landy says. 

"Changing that is critical for unlocking growth, which is why it’s important for the market to educate brokers on the situations where second charge mortgages can help."

Positive moves

Mr Harness points to the “abundance” of product availability, with 17 active second-charge mortgage lenders, and rates now starting at 3.83 per cent.

Many in the industry acknowledge interest in the market has not been as strong as they hoped.

“The second charge lending market has not taken off in the way some commentators expected as it moved to FCA regulation and could be aligned more clearly with first charge lending processes,” admits Mark Dyason, managing director at Thistle Finance. “Indeed in February 2017, volume versus February 2016 was down 12 per cent.”

In many ways, the shift to FCA regulation has been positive for the market though.

Where before there were discrepancies in the second charge market, the industry is coming in line with the mortgage market in terms of fees charged and regulatory scrutiny, which should be better for end clients.

Lenders and competition have helped as new entrants have entered the market and given fresh ideas and criteria to this space.Peter Williams

Peter Williams, sales director at mortgage adviser John Charcol, agrees: “Regulation has helped with conversion as customers feel more protected and comfortable with the whole second charge market. 

“The previous perception of second charges being for people in trouble or [having] high rates is slowly being shaken off.”

He notes: “Lenders and competition have helped as new entrants have entered the market and given fresh ideas and criteria to this space.”

The increased competition has most notably resulted in rates coming down but Mr Williams also observes the state of the first mortgage market has also had an impact.

“The tightening of first charges in areas around affordability [and] lending into retirement has meant certain customers cannot raise money so second charges are the next best option,” he says.

Lower fees

One of the biggest changes under FCA regulation has been to the way fees are levied in the second charge space.

Mr Dyason explains: “The change to regulation meant a move from a situation where the only fees chargeable were at completion, so those successful in getting a loan had to carry the fees for all applications to a place where each application can pay for its own valuation and legal work, offering a path to much lower fee levels for clients and risks for the broker firms transacting.”

He believes the main driver of growth in the market from now on will be greater understanding in the broker community and a wider roll out of lower fee options.

Mr Harness suggests mortgage intermediaries want to do well by their clients, and find the best rate they can. 

With a £295 application fee, 3.83 per cent pay rate and deals underwritten in as little as week, a second charge can now be a credible option for capital-raising customers.Steve Harness

“But when a mortgage intermediary sees a master broker layering in a £5,000 fee for arranging a typical £65,000 loan, it tends to become a moment of truth.

“To put this into context, the £5,000 master broker fee for setting up the deal is roughly the same as two years’ worth of interest (on £65,000, at 3.83 per cent annual interest rate). So what’s the point in scouring the market for the best deal, trying to shave another few extra basis points off the rate and then charging a fee north of 7 per cent?” he queries.

“A mortgage intermediary could be excused for concluding that an ‘ERC mortgage locked’ client could simply use the £5,000 to pay the ERC on their mortgage, and then have the freedom to remortgage.”

The Loans Engine has been one of those to offer the “fresh ideas and criteria” Mr Williams says has helped the second charge market.

Mr Harness explains: “A couple of master brokers (like The Loans Engine) have scrapped the traditional master broker fee for intermediary clients and replaced it with an application fee of £295. Mortgage intermediaries will recognise this as more akin to remortgage fee costs.

“With a £295 application fee, 3.83 per cent pay rate and deals underwritten in as little as week, a second charge can now be a credible option for capital-raising customers.”

Most in the industry agree it is awareness which will spur the growth of this market over time.

The shift to regulation in line with first mortgages is already improving the market’s credibility and this should encourage potential customers to take a second look at seconds.

Ms Hoyle confirms: “The market remains in a strong position to perform well over the next year.”

eleanor.duncan@ft.com