OFT warns lenders on lock-in mortgages

News Analysis: Banks and building societies may be breaking the rules with fixed-rate offers that carry a sting in the tail

THE OFFICE of Fair Trading yesterday warned banks and building societies they may be breaking key rules designed to stop them stacking the terms of mortgage contracts against consumers.

In another damaging blow to the image of the mortgage lenders, the OFT said it was increasingly concerned that lenders were giving themselves complete discretion to vary interest rates while borrowers are locked into a mortgage.

Potentially, the warning could be followed by a full inquiry that concludes the lenders are breaking regulations on Unfair Terms in Consumer Contracts. With a stroke of the pen, the OFT could insist the contracts be changed, in effect removing a whole swathe of mortgage products from the market.

The concern is focused on fixed-rate loans, which now make up over 60 per cent of the market for new mortgages. As base rates have risen and the housing market has slowed down, first-time buyers are in short supply. Desperate to attract new business, lenders are increasingly looking at existing homeowners who want to reduce their monthly payments by remortgaging.

Some lenders are offering fixed-rate deals at interest up to one percentage point cheaper than the competition. But they also carry a nasty sting in the tail.

Lenders can offer the cheapest deals, often so cheap that they make no profit for years, only because the money can later be recouped. Contracts lock customers in for years after the fixed-rate period is over, on pain of paying redemption penalties worth thousands of pounds.

The OFT's fear is that during that lock-in period, lenders can charge whatever interest rate they like. Consumers may be tempted by the attractive fixed rates without fully realising what may happen in a few years time, when the fix ends.

After the fix is over, interest payments can shoot up, and there is no realistic chance of escape. Theoretically, customers could suddenly find themselves paying 20 per cent.

But that is only in theory. Lenders, miffed by what they perceive to be an over-zealous OFT, say this kind of abuse hardly happens. Could the words "sledgehammer" and "nut" be appropriate?

John Heaps, chairman of the Building Societies Association and chief executive of Britannia Building Society, reckons the late lock-in allows lenders to shave more than half a percentage point off the upfront rate. If customers are properly informed, they can make a choice, pay more upfront and avoid the late lock-in. If the late lock-in were banned, the upshot would be less choice.

"If you are that way inclined as a lender, you can use people's ignorance to offer what may be a bad deal. That has happened but it's not widespread," Mr Heaps said.

Lenders say a voluntary system can work just as well. The mortgage code, developed as a way of staving off statutory regulation, can be altered. Lenders can be required to make sure customers know about mortgages with stings in the tail.

But the OFT broadside will still come as a blow to an industry struggling to recover from a PR problem which is not confined to mortgages.

A rash of complaints about banks during the last recession prompted the introduction of the banking code. The high street banks pledged to do their utmost to service their customers well. That was in 1992. The code has since been changed three times, in 1994, 1997 and this year.

The 1998 version was published on Monday. It strove to respond to bitter criticisms of Northern Rock, a newly converted building society. Earlier this year, Northern Rock wrote to its customers to tell them their accounts had been changed. For many customers, interest rates had gone down and notice periods had been changed unilaterally. Many customers were locked into a deal without having been informed ahead of the change.

Northern Rock later backed down, but not before it had been criticised by government ministers. And not before John Bridgman had launched another OFT inquiry.

The episode unearthed what has long been a questionable practice among banks known as "portfolio management". When banks began competing vociferously for customers in the 1980s, they sought to attract customers with big- sounding headline interest rates.

The trouble was it was expensive to offer market-beating interest to existing customers as well as new ones. The answer was to create a new account for new customers and pay the higher interest to them. The money for that higher interest was found by dropping rates for existing customers. Loyal customers were not told they were losing out in an "obsolete" account.

This week's code apparently cracks down on that abuse. Lenders can still launch a new account. But if it is similar to an old account, the interest rate on the old account must go up too.

A watertight solution? Not quite, says Brian Davis, chief executive of the Nationwide. Banks can still get away with the practice if they launch an account for new customers that's not "similar" to the old one. In that case all the code requires the bank to do is write to existing customers. And bankers know all too well how little customers respond to letters, even if it's in their interest.

"If banks and building societies were doing the right things in the first place this really wouldn't be an issue," Mr Davis says. "But in some way the code is really treating the symptom, not the disease."

Start your day with The Independent, sign up for daily news emails
ebooksA celebration of British elections
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Recruitment Genius: Claims Administrator

£16000 - £18500 per annum: Recruitment Genius: This is an excellent opportunit...

Recruitment Genius: Senior SEO Executive

£24000 - £28000 per annum: Recruitment Genius: A Senior SEO Executive is requi...

Recruitment Genius: Online Customer Service Administrator

£16000 - £18000 per annum: Recruitment Genius: An Online customer Service Admi...

Recruitment Genius: Digital Marketing Executive

£18000 - £22000 per annum: Recruitment Genius: This global, industry leading, ...

Day In a Page

'It was first time I had ever tasted chocolate. I kept a piece, and when Amsterdam was liberated, I gave it to the first Allied soldier I saw'

Bread from heaven

Dutch survivors thank RAF for World War II drop that saved millions
Britain will be 'run for the wealthy and powerful' if Tories retain power - Labour

How 'the Axe' helped Labour

UK will be 'run for the wealthy and powerful' if Tories retain power
Rare and exclusive video shows the horrific price paid by activists for challenging the rule of jihadist extremists in Syria

The price to be paid for challenging the rule of extremists

A revolution now 'consuming its own children'
Welcome to the world of Megagames

Welcome to the world of Megagames

300 players take part in Watch the Skies! board game in London
'Nymphomaniac' actress reveals what it was really like to star in one of the most explicit films ever

Charlotte Gainsbourg on 'Nymphomaniac'

Starring in one of the most explicit films ever
Robert Fisk in Abu Dhabi: The Emirates' out-of-sight migrant workers helping to build the dream projects of its rulers

Robert Fisk in Abu Dhabi

The Emirates' out-of-sight migrant workers helping to build the dream projects of its rulers
Vince Cable interview: Charging fees for employment tribunals was 'a very bad move'

Vince Cable exclusive interview

Charging fees for employment tribunals was 'a very bad move'
Iwan Rheon interview: Game of Thrones star returns to his Welsh roots to record debut album

Iwan Rheon is returning to his Welsh roots

Rheon is best known for his role as the Bastard of Bolton. It's gruelling playing a sadistic torturer, he tells Craig McLean, but it hasn't stopped him recording an album of Welsh psychedelia
Russell Brand's interview with Ed Miliband has got everyone talking about The Trews

Everyone is talking about The Trews

Russell Brand's 'true news' videos attract millions of viewers. But today's 'Milibrand' interview introduced his resolutely amateurish style to a whole new crowd
Morne Hardenberg interview: Cameraman for BBC's upcoming show Shark on filming the ocean's most dangerous predator

It's time for my close-up

Meet the man who films great whites for a living
Increasing numbers of homeless people in America keep their mobile phones on the streets

Homeless people keep mobile phones

A homeless person with a smartphone is a common sight in the US. And that's creating a network where the 'hobo' community can share information - and fight stigma - like never before
'Queer saint' Peter Watson left his mark on British culture by bankrolling artworld giants

'Queer saint' who bankrolled artworld giants

British culture owes a huge debt to Peter Watson, says Michael Prodger
Pushkin Prizes: Unusual exchange programme aims to bring countries together through culture

Pushkin Prizes brings countries together

Ten Scottish schoolchildren and their Russian peers attended a creative writing workshop in the Highlands this week
14 best kids' hoodies

14 best kids' hoodies

Don't get caught out by that wind on the beach. Zip them up in a lightweight top to see them through summer to autumn
Robert Fisk in Abu Dhabi: The acceptable face of the Emirates

The acceptable face of the Emirates

Has Abu Dhabi found a way to blend petrodollars with principles, asks Robert Fisk