Frozen out - self-employed borrowers

While lenders were falling over themselves to lend to this segment just a couple of years ago, the credit crunch and resulting liquidity problems have lessened the appeal of borrowers who are reliant on generating their own income.

The new post-GFC lending environment has been marked by a retreat by the banks from the self-employed segment to focus on more stable credit prospects. But this in turn has opened up new opportunities for brokers.

THE HISTORY OF LOW DOCS

The flagship product for self-employed borrowers – the low doc loan – was first introduced by the non-bank sector to target cashed-up businesses or businesses that could not provide adequate financial documentation to satisfy the banks that they had the capacity to service a loan.

Back in the early days, low doc loans were offered at a premium of as much as 2 per cent above full doc rates. There were also more conservative LVRs, as low as 60-70 per cent around eight years ago.

In subsequent years, rates fell to near parity with full doc loans and LVRs soared to as high as 95 per cent or more.

But the wheels came off low doc lending when the global financial crisis hit. Funding dried up, banks

re-thought their loan portfolios and the reckless lending practices of our American cousins made low doc lending a riskier and unappealing proposition.

Research by Genworth Financial revealed a dramatic decline in the number of low doc loans issued in the last 12 months, from 24 per cent in August 2008 to 8 per cent the same time this year.

And self-employed borrowers have suffered as a result.

Late last month, the last remaining mainstream low doc lenders – Westpac, St. George and RAMS – all tightened their lending policies for self-employed borrowers.

Each now requires low doc loan applications to be supported by at least one year’s worth of Business Activity Statements (BAS), with the most recent statement no more than three months old as at the date of application.

Genworth Financial chief risk officer Paul Caputo says self-employed borrowers account for 12 to 15 per cent of the company’s business, a significant decline from two or three years ago.

“We attribute the drop …. to the changes we made to our documentation requirements,” says Mr Caputo.

Genworth now requires all low doc loan applicants to provide a BAS for the past 12 months, which allows the company to “track the quality of the business and the borrower’s ability to service the loan,” Mr Caputo says.

A NEW DAWN

Better Mortgage Management managing director Murray Cowan heralds the banks’ retreat from low doc lending as good news for non-bank lenders.

“Many lenders have moved into line with changes from the major mortgage insurers who have looked to limit their risks not only on low doc loans but all types of loans,” he says.

“As major lenders have continued to make low doc loans harder to obtain, we have recorded a steady increase in enquiries from the self-employed sector.”

QBE LMI is one mortgage insurer that has tightened up its low doc lending requirements over the past 12 months, resulting in a decline in the number of low doc loans being originated.

Despite this, QBE LMI chief executive officer Ian Graham says there are still plenty of opportunities for brokers in the self-employed sector.

“A natural partnership exists between brokers and self-employed borrowers,” says Mr Graham.

“Self-employed borrowers are very busy running their own businesses and as such, are more likely to go to a broker for assistance.”

Citibank’s head of distribution and marketing Peter Hayward says the bank has been encouraging its broker channel to ramp up their activity in the self-employed sector and is currently hosting “self-employed seminars” to help brokers re-learn the art of lending to this segment.

“When evaluating the merit of a client, brokers need to look at a borrower’s sales capacity, business expenses and the overall net profit of the business. That information is then overlayed with the industry the borrower works in, which helps the broker determine risk,” says Mr Hayward, adding that the resilience of the Australian property market will hold self-employed borrowers in good stead with lending constraints predicted to ease over the coming months.

BUSINESS BUILDING

Mr Hayward says Citibank is also encouraging brokers to view the self-employed market as a good way to diversify their business – something Queensland based brokerage AlphaLEND has also recognised.

AlphaLEND managing director and broker Nick Cappelleri says the self-employed market gives brokers the chance to develop and foster a deep broker-client relationship.

“Standard mum and dad home loan customers are great and remain our core business [but] these are typically one transaction every three years,” says Mr Cappelleri.

Mr Cappelleri says AlphaLEND assists self-employed clients with their ongoing needs including vehicle, equipment and cash flow finance. “We even take care of their income protection and life insurance needs,” he says.

“On a deal-by-deal basis, dealing with self-employed borrowers is no more financially lucrative, [but] it creates more activity and opportunity, which in turn improves your bottom line,” says Mr Cappelleri.

“Self-employed clients tend to appreciate and understand brokers more, preferring to let someone else to do the running around for them.”

But while many self-employed borrowers may prefer to use brokers, Mr Cappelleri says they are often loyal to their current bank and can be a hard market to crack.

Pepper Home Loans chief operating officer David Holmes says the best way for brokers to target this market is by getting out and about – such as joining rotary and other business clubs to ensure they are visible in the market.

“Generally speaking, the best way for brokers to attract new clients is through word of mouth or positive referrals. However, getting to that point involves other methods,” says Mr Holmes.

Barnes Home Loans executive director Janelle Rayner says a good place for brokers to start is with the commercial lending market.

“By looking after a self employed borrower’s commercial needs, often the residential business will follow,” she says.

Brokers should also consider establishing a referral partnership with their client’s accountant.

“This will not only help to build strong broker / customer relationships but could also result in a referral source from the accountant,” says Ms Rayner.

KNOW THY LENDER

As well as exploring referral partnerships, brokers should also be across which lenders specialise in the self-employed market.

Colin Sherry, the general manager of Eurofinance, says brokers should spread themselves around and increase their level of exposure to different lenders. “[There are] still a number of lenders in the market, which makes for a competitive environment,” he says.

Eurofinance is currently offering a product called Asset Lend, which enables self-employed borrowers to put their business up as security for the loan and does not require their income to be verified.

Mr Sherry predicts the self-employed sector will experience strong growth in the next six to 12 months after a period of decline.

“Six months ago, the quality of loan applications really dropped off. However, over the last few months, as business confidence has improved so has the quality of loan applications,” says Mr Sherry.

David Holmes of Pepper Home Loans’ agrees. Late last month, the lender introduced an alternative income documentation loan (alt doc) tailored for self- employed or small business owners.

“This mortgage targets a niche market that the big four banks do not. We intend to capitalise on the customers that the ‘big four’ reject,” says Mr Holmes.

“At the end of the day, these [self-employed] are not bad customers, they just simply cannot, for one reason or another, meet the stringent requirements the big banks put in place. We are prepared to help them get finance.”

TIPS FOR SUCCESS

Queensland based brokerage AlphaLEND’s managing director Nick Cappelleri has a few simple tips for brokers to help them diversify into the self-employed market.

Mr Cappelleri says a good piece of advice for brokers is to find a unique product that the banks or other brokers do not offer.

“Most small business owners would love to improve their cash flow but generally their bank is unable to help them due to their small size or turnover,” he says.

“By simply aligning with a company like Cash Flow Finance, who deal with all types of business, you can provide customers with their desired outcome.”

Similarly, self-employed borrowers often cannot provide adequate financials, so Mr Cappelleri suggests brokers align themselves with good no doc providers to beat the banks every time.

But his top tip for brokers branching out into the self-employed market is to keep it simple.

“Usually a self-employed customer is very busy and consumed in their business. Therefore, whatever transaction they are doing, they want it to be simple and painless If you can provide this service you will keep any self-employed customer happy,” he says.