Why do mortgage lenders pay procuration fees?
Lenders first paid procuration fees to mortgage brokers and IFAs for business placed with them in the 1980s.They were introduced as a result of changes in the mortgage market which saw the introduction of centralised lenders who, with no high street presence, needed to develop distribution channels for their products. The intermediary sector was ideally placed to provide the sales outlets and services ‘ primarily the face to face advice traditionally provided by a building society’s branch network ‘ that these lenders were seeking. However, because intermediaries were generally unable to charge clients a direct fee for their time and advice, these new lenders recognised that advisers would need to be rewarded in a different way and agreed to pay a commission for their endeavours.
Later, as the mortgage market evolved further and loans began to be made available to higher risk borrowers such as sub-prime applicants, the specialist lenders active in these niche markets were prepared to pay higher procuration fees for the extra work involved in handling this type of loan.
The reality is that lenders pay procuration fees not only to attract business but also in recognition that intermediaries provide an important front end marketing and administration service. If brokers did not undertake these tasks then lenders would have to do it themselves.
How do lenders decide how much to pay?
The procuration fee is just one element of the marketing mix along with advertising, PR, direct mail, the internet and personal selling, which lenders have at their disposal to attract business. Each has a cost associated with it and the lender has to make a decision about which is likely to be most effective at any particular point in time. To a certain extent market forces determine the fee, although on average it is 0.3% to 0.4% of the value of the loan.
Is the payment of procuration fees a good or a bad thing?
Despite certain reservations expressed by people outside the mortgage industry, there is no doubt that procuration fees play an important role in the lender-adviser-borrower relationship. For brokers they provide a much needed source of income, which rewards them for the time and advice they give borrowers. In return for their payment, lenders gain access to cost effective distribution channels without the need necessarily to invest in branch networks. And borrowers benefit too. Paying procuration fees means that borrowers do not have to pay for an adviser’s time yet they are still able to get independent, objective advice when making one of their most important financial decisions.
Do borrowers object to an adviser receiving a fee for their time and advice?
In the past the payment of procuration fees has been criticised by consumer groups who fear that payment of which may unduly influence the advice a borrower receives. There is little evidence to justify this concern. If it was true then the lenders who pay the highest fees would win all the business, however this is clearly not happening. The reality is that there are many factors considered by intermediaries when deciding which product to recommend.
Brokers are required by the Code of Mortgage Lending Practice to inform clients that they will earn an introduction fee. If the fee exceeds £250, the adviser must disclose the full amount they will be paid. This enables borrowers to make an informed judgement as to whether the advice they are receiving is a balanced recommendation.
In the financial services industry commission payments are not unusual and there is no evidence that borrowers are overly concerned that such payments are made. They recognise that an intermediary’s time must be paid for one way or another. One of the advantages of the payment of procuration fees from a borrower’s perspective is that such introduction fees are paid by the lender and built into their distribution costs, and not paid directly by the borrower.
What will happen to procuration fees in the future?
While the level of procuration fees appears to have reached a natural plateau in recent years, views are split about what will happen in the future as a result of forthcoming changes in regulation and the overall economics of the mortgage market.
After Mortgage Day in October 2004, it is likely that the number of mortgage brokers active in the market will fall and as a result it is argued that those who continue in business will be able to command higher procuration fees. Others point to the fact that over the last few years lenders’ profit margins have been getting tighter and tighter and that there is limited potential to increase payments from the present level.
In future it is likely that the mortgage sector could begin to emulate the life sector and change the way its introduction fees are paid. Instead of a one-off up-front payment greater emphasis may be placed on paying fees over the lifetime of the loan. In this case lenders will need to redefine their pricing strategies so that the best advice an adviser can give their client is to stick with their existing lender. In this scenario procuration fees for further advances may become more widespread.