EU regulations challenge unfair practices in mortgage contracts

European Commission regulations concerning unfair terms in consumer contracts are affecting the way mortgage contracts are written in some member-states.

Using new powers granted to it by the British government, the Consumers' Association (CA) in Britain is challenging lenders it believes have unfair terms in their loans and mortgages and threatening legal action if they do not change them.

The Consumers' Association hopes to use these powers to abolish unfair practices by British lenders such as hidden charges and unclear information, and to allow consumers to compare similar products.

Unfair terms: The consumer group has identified 20 unfair practices used by the mortgage industry there. The three main ones are: redemption penalties, calculation of interest and compulsory insurance.

After investigating 1,000 mortgage contracts, the CA found unfair extended penalties, excessive and variable penalties. One mortgage contract investigated by the association revealed that "the redemption penalty was 136 per cent higher than the `representative example' in the original contract. The redemption penalty of the £60,000 [€93,458] NatWest mortgage has been as high as £41,000 yet the representative example quoted a penalty of £300".

Calculation of interest was also contentious and some lenders were using the old annual interest system rather than calculating daily. In some cases, borrowers were also compelled to purchase buildings or contents insurance and were charged a £25 sterling arrangement fee.

Voluntary "Fair mortgage" campaign: Earlier this month, the association took a number of steps to force industry reform. It sent letters to 20 lenders outlining the unfair terms in their contracts and calling on them to drop them.

In conjunction with publicly "naming and shaming" 10 of the worst offenders the CA developed a voluntary Fair Mortgage campaign. Those signing up to the project must remove the specified unfair terms and use clear language in their documentation.

The lenders' contracts must meet a range of minimum standards covering cost, flexibility and clarity to gain official approval from the Consumers' Association. These standards, called CAT, aim to create fair charges, easy access and decent terms for consumers.

Variable rate mortgages must not have: Penalties for paying off the loan early, arrangement fees or a separate charge for mortgage indemnity insurance. The rate must track the Bank of England base rate and be set at a fixed amount above it. The British government is deciding the margin and it is expected to be near 1 per cent.

Fixed-rate mortgages may have break fees but the charge is limited and they must not extend beyond the offer period.

Effectively, this forbids lenders to lock in customers to an uncompetitive standard variable rate when the term of their fixed-rate mortgage ends. Compulsory purchase of any other product when looking for a mortgage is not allowed.

European regulations and Irish consumers: The British Consumers' Association's actions are based on Unfair Terms legislation which was enacted as a result of an European Council Directive 93/13/EEC. The same directive was introduced in the Republic as the European Communities (Unfair Terms in Consumer Contracts) Regulations 1995.

Although the regulations have been used to the benefit of consumers in other European states, the directive and regulations are untested here, says Mr Colin Daly, legal adviser to the European Consumer Centre (ECC).

Some of the terms that may be regarded as unfair under the Council Directive are those which have the object or effect of:

requiring any consumer who fails to fulfil his obligation to pay a disproportionately high sum in compensation;

irrevocably binding the consumer to terms with which he had no real opportunity of becoming acquainted before the conclusion of the contract;

enabling the seller or supplier to alter the terms of the contract unilaterally without a valid reason which is specified in the contract.

However, financial services providers are entitled to alter the rate of interest payable by the consumer without notice provided that there is a valid reason, the relevant party is notified at the earliest opportunity and they are free to dissolve the contract immediately.

It is very likely that Irish mortgage contracts fall within the remit of the regulations, said Mr Daly. The Irish regulations say a contractual term is regarded as unfair if "contrary to the requirement of good faith, it causes significant imbalance in the parties' rights and obligations under the contract to the detriment of the consumer, taking into account the nature of the goods or services for which the contract was concluded . . ."

"The drive of unfair terms regulations is to protect consumers in situations where they are entering into standard contracts or contracts that haven't been individually negotiated," says Mr Daly. If you can produce standard copies of two contracts then you could successfully argue that it was a standard contract, he said.

Even if a lender says all contracts are individually negotiated then that would be a point for argument under the regulations. "If, for example, a contract contains 50 conditions and only three have been individually negotiated then those few conditions may fall outside the regulations and the rest fall within it," says Mr Daly.

Although the mortgage-lending environment in the Republic is different from Britain's, "unfair terms" similar to those identified in Britain may exist in some mortgage contracts here. Many mortgages taken out before 1990 have more restrictive terms than those taken out more recently. For example, many older mortgages are still calculated on an annual interest basis. At least one lender in the Republic is charging customers on this basis regardless of their contract year. Redemption penalties and practices between lenders also vary greatly and in some cases are considered exorbitant by consumers. Unfortunately, mortgage contracts prior to 1995 may not be liable to unfair terms regulation.

The regulations give the Director of Consumer Affairs, currently Ms Carmel Foley, the power to apply to the High Court for "an order prohibiting the use of any terms in contracts concluded by sellers or suppliers adjudged by the Court to be an unfair term". The Director may announce this intention in the national newspapers and any person with an interest in the application is entitled to appear before and be heard by the High Court when the application is heard.

The Director may appoint an authorised officer to obtain information on her behalf. This officer has the power to search premises, goods, books, documents or records and ask for information relating to the business or activity.

Consumers with questions or concerns regarding terms in their mortgage contracts may contact the European Consumer Centre, the Director of Consumer Affairs or the Ombudsman for Credit Institutions.