Explicit Compensation Disclosure – Part II

It’s shaping up as one of the most pivotal and contentious regulatory issues ever faced by mortgage brokers in B.C.

As noted in yesterday’s story, the B.C. broker regulator (FICOM) is proposing a change that would require mortgage brokers to communicate (to the dollar) the exact amount of compensation and perks lenders give them. That includes finders’ fees, volume bonuses, efficiency bonuses, lender “points,” free travel and other rewards. FICOM believes that consumers need to know how much these items are worth in order to judge the value of, and motivations behind, a mortgage broker’s services.

We have no reason to believe that FICOM’s intentions are not good. But, the way this change is executed could nonetheless have far-reaching unintended consequences for the industry and consumers, and not just in B.C. Here’s a breakdown of the issue.

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How compensation disclosure works today in B.C.:

  • Mortgage brokers in British Columbia must make known that they’re being paid by a lender.
  • The precise dollar amount of compensation does not need to be disclosed.
  • Brokers must also disclose other conflicts of interest that could impact their mortgage recommendations. This is done on Form 10.
  • Here’s a look at the current B.C. Form 10 and its monetary conflict disclosures:

Form-10

Here’s what we know about FICOM’s position:

  • The regulator believes that consumers of financial services are more vulnerable than other consumers due to the complexity and intangibility of investments, insurance and mortgages.
    • As a result, borrowers place a much higher reliance on advisers’ recommendations
  • Compensation differences, incentives and status programs create conflicts of interest that cause some brokers to provide mortgage advice that’s not in the consumer’s best interest. This point is virtually impossible to refute.
  • FICOM says it receives “many complaints” from consumers about the advice they receive.
    • There have reportedly been no complaints in B.C. related to a lack of compensation disclosure by mortgage brokers.
    • In fact, many consumers may be unaware that pecuniary conflicts exist at all.
  • FICOM believes this change is justified and important enough to implement quickly (within a few months).
  • Compensation disclosure is a hot topic among regulators internationally.
    • This is not just an issue in B.C. or Canada, and it’s not just about mortgages. New rules are being developed for investment and insurance advisers as well. The compensation disclosure rules for investment advisers in “CRM 2” is but one example.
  • This is the regulator’s decision, it says. It does not need new laws to be passed or permission from other levels of government in order to effect this change.
  • A new Form 10 will be introduced to facilitate these enhanced disclosures.

Here’s what we know about our industry’s response:

  • Mortgage industry groups hold that FICOM is making this change unilaterally and prematurely.
  • They feel they have not been invited to participate in the customary commenting process that precedes regulatory changes of this magnitude. That’s a mistake. Regulators are not practitioners so financial rule-making without industry consultation runs a high risk of side effects and/or impracticality.
  • Broker trade groups, including CAAMP and MBABC, have reportedly received hundreds of comments on this proposal, and both have submitted written concerns to FICOM. Their position is that the proposed changes will harm both the industry and consumers.
  • MBABC argues that B.C.’s Registrar may not have the legal authority to make such impactful changes.
  • CAAMP has escalated the issue by directly appealing to B.C.’s Minister of Finance, requesting a more detailed review of the potential implications.

Why this idea needs re-thinking:

  • Research does not support disclosing compensation to the dollar:
    • There is ample evidence to show that broker-originated mortgages cost consumers less compared to mortgages from most banks and credit unions. Findings from Bank of Canada studies show this clearly.
    • To the best of our knowledge, the regulator has not publicly cited data showing that lender compensation and benefits cause consumers in general to pay more, especially when compared to mortgages originated by banks and credit unions.
    • One landmark U.S. study showed that detailed compensation disclosure actually confuses consumers, leading people to choose mortgages that are “more expensive than the available alternatives.” Following these findings, American regulators adopted an alternative compensation disclosure method that was simpler and less onerous.
  • Anti-broker bias
    • Research confirms what brokers fear most, that a dollar-based broker compensation disclosure create a “substantial consumer bias against broker loans, even when the broker loans cost the same or less than direct lender loans.”
    • We have no doubt that certain less scrupulous mortgage salespeople outside the broker channel will point to these disclosures, and “all the money brokers are making,” as a reason to doubt brokers’ advice.
    • Bank reps do not currently need to disclose the additional dollars they get paid for selling mortgages at rates that are above their “floor rates” (i.e., the lowest rates they can offer without further approval). Therefore, assessing compensation would be a decision that only broker customers have to make.
  • There’s no benchmark
    • If a consumer learns that their broker will be paid $3,276.42 by the lender, how do they know if that’s reasonable? There is no easy way to compare this number. Certainly bankers aren’t going to disclose the dollar value of their compensation. Nor does the regulator publish a table of typical broker compensation (maybe they should?).
    • Nor is there any way to objectively compare a broker’s compensation to the value of his or her advice. For example, if a broker recommends a lower penalty mortgage and the client breaks that mortgage, how should the consumer compare the money that broker saved them to the lender’s compensation to the broker?
    • The one thing that’s certain is that many consumers will see a dollar amount on the broker’s disclosure and think (even if only subconsciously) that it’s somehow coming out of their pocket.
    • If the consumer was paying the broker directly, value would be easier to determine. But how do you judge the value of a broker’s advice by knowing the amount that another party (the lender) pays the broker? If the lender pays a $2,000 commission instead of $1,000, does that make the broker’s advice less useful or more suspect? Of course not.
  • Higher costs for borrowers
    • The research cited above concluded that “the bias against mortgage brokers will put brokers at a competitive disadvantage relative to direct lenders and possibly lead to less competition and higher costs for all mortgage customers.”
    • As CAAMP economist Will Dunning asserts, “The psychic cost of using a broker would be raised, distorting the decision process, certainly to the disadvantage of the brokers, and ultimately to the disadvantage of the consumers themselves.”
    • It is highly likely that some consumers will use this new-found knowledge of broker compensation as leverage to negotiate rate buydowns. Now, don’t get me wrong, buydowns are great for consumers in terms of upfront savings—other things equal. But other things are not equal when buydowns cause brokers to slash the effort and investment they put into advising and servicing clients—which is exactly what may happen over time with dollar-specific compensation disclosure. What’s the risk of that? Potentially less suitable mortgages with higher back-end costs that dwarf the bought-down rate savings—e.g., higher penalties, worse blending privileges, worse porting flexibility, fully closed mortgages and so on.
    • One might argue that consumers will see these disclosures late in the process, after they’re already approved—thus reducing the chances that customers will try to negotiate the rate lower. But the truth is, lender commitments don’t prevent people from shopping around.
    • If compensation disclosure leads to more cancellations, it could very well affect brokers’ access to the best rates (which typically come from lenders who demand high efficiency — i.e., low cancellation ratios).
  • Accuracy is impossible
    • Brokers cannot quantify in dollars the benefit of a volume bonus they may never receive.
    • Suppose a lender pays 5 extra basis points if the broker meets an annual volume level, and the broker is just halfway into the year. In that case there may be no way of knowing if the target will be reached.
    • The same goes for efficiency bonuses paid quarterly or annually, which depend on future unknown cancellation numbers.
    • Then there are the legal ramifications of not disclosing a volume bonus that you didn’t expect at the time.

Alternatives for enhancing disclosure:

  • It’s been written here many times and all brokers and lenders know it: extra compensation and rewards sway the recommendations of some in our business.
    • If brokers don’t meet volume minimums for key lenders, for example, they can lose critical access to lower rates, faster service and bigger bonuses.
    • Oftentimes, certain brokers may be inclined to recommend one mortgage over another in order to meet lender status requirements. That mortgage may be inferior to another mortgage at the broker’s disposal.
    • Note: This is far less of an issue for:
      • higher volume brokers with top status at all key lenders, and
      • brokers with access to deal hubs that pass along best pricing and lender volume bonuses
  • Base compensation is not the issue
    • If brokers all made the same amount per deal, conflicts would be minimized because we’d have no monetary incentive to choose one lender and product over another.
    • That’s a key point because, in practice, most brokers make somewhere around 1% of the mortgage amount on a standard 5-year fixed term, regardless of the lender. Therefore, base compensation is not the trouble-spot. It is additional compensation and perks that pose potential problems. That is where regulatory focus should be placed.
    • Regulators could easily establish the base remuneration that is considered typical for each term (e.g., 80 basis points on a 3-year fixed, 90 basis points on a 4-year fixed, 105 basis points on a 5-year fixed). The province could then mandate more detailed disclosure for any compensation above that amount. This would achieve the same end with more clarity—since consumers would now have a reference point—i.e., they’d know when a broker is getting paid above-normal compensation.
  • In many cases, the higher the interest rate, the more a broker earns (just like mortgage specialists at many banks)
    • Some lenders offer tiered rates where a broker is paid 10 to 40+ basis points above average for selling a higher rate.
    • This should be disclosed and FICOM is right to pursue that particular angle.
    • The challenge is that some borrowers have difficult applications. The time required to get them approved can be 2-3 times more than a regular client, justifying a premium for the added work.
  • Broker relationships should be disclosed
    • In 2011, Maritz found that 90% of the typical broker’s volume goes to just three lenders.
    • Consumers need to know when a broker is essentially a salesperson for a small number of lenders. (And if it’s fully disclosed and they’re the right lenders, that’s not necessarily problematic…as long as the broker doesn’t imply they work with several lenders.)
    • Some argue that close lender relationships result in better rates and service for the client, and that’s often true. But many times a better product exists at another lender, and it’s in the consumer’s best interest to know that.
    • Knowing the percentage of the broker’s volume going to a recommended lender can be far more valuable than knowing how much the lender paid them. That is useful disclosure.
  • Incentive details should be disclosed
    • You can’t blame lenders for providing benefits to their top brokers. That’s nothing more than Sales 101. But such benefits can unintentionally create conflicts of interest, and disclosing them is a way of influencing brokers to provide more suitable advice.
    • At the least, FICOM is justified to require more detailed disclosure of lender perks, as well as general information about how monetary bonuses are calculated.
    • That creates an unlevel playing field of course, because consumers never see how a bank’s in-house mortgage reps are compensated. But FICOM doesn’t regulate banks and they feel that their job is to minimize the conflicts they can control.
  • National standards should be the goal
    • Mortgages are no longer sold locally. The Internet has enabled countless firms to offer mortgages in multiple provinces. The time has come for national consistency in mortgage broker policies—consistency that
      • Reduces confusion among consumers
      • Makes regulation and compliance more efficient, and
      • Enhances interprovincial trade, and thus consumer choice and savings
    • A decision by one province to deviate from the norm in such a profound way makes national standards less achievable.
    • Provinces, including the largest province of Ontario, have already considered dollar-based compensation disclosure and judged that the cons outweigh the pros.
    • This is a matter of enormous consequence to brokers everywhere. It’s one that all provinces should tackle together, led perhaps by the multi-jurisdictional Mortgage Broker Regulators’ Council.

FICOM believes that brokers’ value proposition should stand on its own, and that consumers will figure it all out for themselves if they’re given detailed earnings breakdowns. If only it were that simple. Elaborate compensation disclosure will have wide-ranging ramifications for brokers and there is easily potential for a net negative outcome. MBABC CEO Samantha Gale, a former B.C. mortgage broker regulator herself, summed it up plainly on Thursday: “This isn’t the right way to do it.” There are multiple alternatives and policy-makers need to carefully study them.

The good news is that this doesn’t appear to be a done deal just yet. We believe that FICOM does not want to impose any rule that could ultimately cause consumers to pay more and make sub-optimal choices. Not only would that be contrary to the public interest, but it would contravene B.C.’s Mortgage Brokers Act. The folks over there are reasonable and want to do the right thing. We believe they’ll assess all alternatives before casting the final verdict.

  1. Some goods comments in your article but more attention needs to be paid whether FICOM has power to do what it says it wants to do. Your previous posting says FICOM said, “The Registrar has received legal advice that the changes are necessary, and has accepted and is acting on that advice.” Commentators said this was FICOM hiding behind legal advice and said that FICOM can take advice from wherever but it is the decider and accountable for decisions it makes.

    MBABC told its members and others who have published it that FICOM does not have legal authority to make the change it wants. That is a big deal. Commentators in your previous post said it is important for people who are in charge of making sure that mortgage brokers respect the law respect the law. Of course it is. Otherwise contempt for the process and institutions grows and our system of good government becomes bad, oppressive government abusing power. As they say, with power comes responsibility. FICOM has power, it needs to use it responsibly.

    In your previous post you said there is a tradition of consulting before making major decisions. That is done to make sure people respect decisions. FICOM needs to not just pretend to honor that tradition and process.Consultation on how to implement a decision with people it chooses to consult is not real consultation on the major issue of whether the change is a good idea. FICOM needs to openly talk to the representatives our industry chooses to represent them – our associations -, not just people it chooses to talk to. The problem with that should be obvious. Controlled consultations from participants they choose is not consultation, it is pretend consultation and takes us back to the idea of protecting respect for the process and institutions. We all need to do better. The public would not be impressed with industry or FICOM if this is how decisions about mortgage brokering are made. This process will not make winners and losers, everyone loses.

  2. Good article. Balances your posting yesterday. After reading both it is obvious FICOM needs to rethink to protect brokers, public, and own reputation.

  3. A very comprehensive and balanced review of the issue.

    Were this to pass…there is a simple question that I would pose to a client staring at the gross commission figure noted (the net figure after all related expenses is another $ amount that I would also introduce into my closing process) on the disclosure documents; “Mr. and Mrs. Client, do you truly believe that the compensation being paid by Bank X to myself for arranging your financing is greater than what they pay their own staff?” – “Staff it should be noted who are also on a commission based model.”

    The Broker channel represents a fine mesh filter for lenders, lenders receive mortgage applications that have been vetted quite thoroughly at no cost to them in advance of submission and bank review.

    The branch and MMS channel do not offer zero cost filtering of applications, not when their time is spent working through files that do not fit within that specific lenders guidelines. Which of course is a lose-lose as the client now must go to lender #2, 3, 4 etc in search of a solution.

    All the while a Broker could address such a situation in very short order, with the clients having only one application conversation.

    Lots more to say, but lets await some decisions and deal with what we need to when the time comes.

  4. Expect unintended consequences. Some will probably hurt borrowers more than help them. Brokers will simply change the way they do business. Drastic changes require more data and careful analysis. Kneejerks are risky – – – May fix one issue and create others or may not fix any issue at all and create others.

  5. “We continue to believe Canadian regulators will likely move towards a fee based (or non-commission) advice model for selling mutual funds.”
    -TD Securities

    Could this happen to mortgages?

  6. That’s one way for the industry to consult without being asked, the comments to the FICOM interview and the response in the counter article. Hopefully FICOM reads them and stops to think before unilaterally imposing changes and creating a mess for everyone.

  7. Stop claiming to know what the consumer “will think”! Give us the facts whch includes the dollar amount of how much you are eting paid. If you are getting paid $3000 and I talked to you once for 2 minutes and filled in some online forms then I should be able to decide if I want to negotiate more to buy down my rate. You also have the right to say “No” that ‘s my rate. This is called transparency and is good for all.

    1. Sam’s comment illustrate the problem loud and clear with having a borrower negotiate a fee paid by the lender and the borrower basing the fairness of the fee on the time the broker spends on the transaction. As in a lot of businesses, connections are everything; those with them often need to spend very little time to achieve a great result. The industry is result driven, not time spent driven. Clients look for results, not spending of time. In fact the faster a great result is delivered, the better.

  8. What has clearly been overlooked is that there is a conflict of interest that FICOM is looking to mitigate, and that is the nature of the broker-client relationship, and whose interest the broker is working for. Generally speaking, a “broker” (in the legal sense, applying to all types of brokering, not just mortgages) cannot represent the buyer and the seller at the same time, but, if the broker is getting paid by one party the assumption is that the broker is either representing, or at the very least being influenced by the other party. In our industry, it’s common for mortgage brokers to hold themselves out to be working in the best interest of the clients while getting paid by the other party, thereby creating the conflict of interest.

    A couple of arguments –

    1. The bank channel has no need to disclose how much they’re getting paid, or that a better rate could have been offered. Banks have never held themselves out to be “in the best interest” of their client. In fact, they’ve never hidden from the fact that they make very good profits (and for that matter, neither should you). That notwithstanding, road reps work directly for the bank and don’t hold themselves out to be a broker and therefore have no conflict of interest.

    2. The nature of the relationship is the issue here. As a broker, consider if your client was offered a better rate, term, and payout penalty at say, CIBC, than what you could offer. If you were working in your clients best interest, you would suggest the client take that option after reviewing what you could offer – even though you aren’t getting paid. Sometimes that happens, but we all know that it doesn’t when it should.

    3. Further to the nature of the relationship, it’s hard to insist that while you’re getting paid by the lender, that you’re working in the best interest of the client and that there isn’t a conflict of interest. If the client was paying the broker for services rendered, and the broker was receiving no compensation (monetary or otherwise), it could clearly be accepted that the broker does not have a conflict of interest. Stating that you always ensure the client has the best rate/term is one thing – this ensures that the client can see for themselves that you aren’t getting paid more by one lender who may have less favourable terms than another with less compensation.

    Lastly, compensation is a universal standard that can be compared across multiple brokers. Given that money is (somewhat) tangible and measurable, whereas “advice” is something that is non-tangible and subject to opinion and expertise (which is very subjective) – a client could speak with 2-3 different brokers, compare the terms and realize that while the brokers may all be getting paid the same, one of them is offering better advice.

    Personally I think this is a great step forward into standardizing the industry in terms of disclosure. When the dust settles, this will separate the brokers who can truly focus on their clients needs and the ones who are working with their own interest in mind. The assumption that your client will see how much you’re getting paid and demand a piece of it is arbitrary – the argument could then be made that you think you’re getting paid too much. If you can justify your compensation you should be ok.

    1. Realtors and other independent brokers represent both buyers and sellers all the time. It’s called dual agency.

      As for banks not holding themselves out as the best option, I think every bank in Canada would disagree with that. More to the point, if brokers are forced to disclose every penny, then Canadians also have a right to know when their bank rep is earning double the commission for sticking them with a higher rate.

      Frankly I think your whole premise is flawed. Getting paid by a lender does not mean a broker is less objective. No broker is beholden to one lender. There is always another lender who can pay them. The exceptions are when a lender’s pay is contingent on volume or is higher than normal.

      The former should be outlawed. Period.

      As for the latter, I agree that extra pay and perks should be disclosed. Disclosing base commission serves no purpose however, other than reducing commissions. FICOM has NO business setting broker commissions which is effectively what they’d be doing here.

      1. Dual Agency exists when the broker is being paid by both sides. In the legal sense of the relationship with a Mortgage Broker, they are actually working on behalf of the lender due to the monetary aspect.

        The issue between a broker vs. a bank rep is the nature of the relationship. A client explicitely understands that a bank rep works for, and is paid by the bank to earn them a profit, whereas a Mortgage Broker is percieved to be independant of influence and should be working in the clients best interest – I’m not saying that the majority doesn’t do that, but there is a population within the industry who is self-serving and works in their own interest first – that’s what FICOM is looking to mitigate by suggesting that if everyone discloses the compensation they’re recieving, it will put everything on the table so a client can make an objective decision to ensure that their mortgage broker is working in their best interest.

        With regards to pay – Lenders can do, or offer whatever they want to incentivize more business and that’s the nature of competition – lenders have never suggested that they’re looking out for the clients interests – they (we) are looking out for our interests (and those of our shareholders).

  9. “Dual Agency exists when the broker is being paid by both sides.”

    No it doesn’t. A dual agent is not determined by whether a client pays them.

    Real estate is a perfect example. Home buyers who use dual agents do not pay those agents. The seller pays the agent.

  10. Are Financial Services going to march blindly down this path thinking they are protecting the Canadian Public by undermining the only free financial service available to them?

    The only winners in this move will be the discount brokers and banks. Don’t doubt they will be using the confusion created by the disclosure to direct the borrowers to focus on the finders fees ONLY, with the banks not having to disclose anything at all and the discounters emphasizing their lower commissions.

    Sorry to all my fellow brokers who have pride and dedication in their lifetime, full service model, as BC will be the first province to make us obsolete. With the incomes of these high volume low service models it would not take long to finish the job started by our own Financial Services Commissions. It would take two generations to correct this folly.

    Are we really going to let this happen?

  11. I see you have spoken about the brokers side and the position of the regulators, FICOM. However, you fail to mention how the clients feel. I am sure that majority of clients care about where their money goes. Balance your article.

  12. Okay Suzanne, let me get this straight: explicit dollar and cent disclosure of a brokers income would result in: “the only winners in this move will be the discount brokers and banks”

    As a rate discounter I find this fascinating; for the last 3 years I have head 1000 comments from full service brokers as follows: “our clients are happy to use full service brokers, they are not interested in rate discounts, they value the level of advice and quality service we bring to the process of getting a mortgage and the clients are happy to pay higher rates to have a better mortgage” or words to that effect. I am not exaggerating; I read a version of this at least 1000 times.

    Now Suzanne suggests revealing the commission difference between what I earn and what a “full service” mortgage broker earns will result in the extinction of “full service” mortgage brokers.

    I am not saying Suzanne’s comment is right or wrong but given the background of what I have read on this Board and all the other Boards for the last 3 years I am simply amazed.

  13. It’s funny to read these posts. haha, the rats are scurrying now that lights are being shown on their compensation. When the middleman scrapes too much off the transaction, you’ll see how the consumer complains! I’m with Sam, stop trying to guess how we’re going to use the information, that’s none of your business. Transparency is the goal.

    1. Concerned,

      Your post fumes of ignorance. Those “rats,” as you insultingly call them, are the same people that keep you from paying more at the banks. There is no middleman scraping anything off the transaction because borrowers DO NOT PAY the broker.

      If FICOM is concerned enough to show what brokers make, it should be concerned that people use that information wisely. It has already been well established that disclosing the exact compensation in dollars DOES NOT lower people’s overall borrowing cost. If the regulator is genuinely concerned and not just out to destroy the industry and mislead consumers, it will pay attention to the research.

      1. Typical ignorant reply. I’ll bet you also think that homeowner subsidies make homes cheaper for home buyers! (lol). No middleman? That’s classic. You’ve given me a “cheaper” mortgage, therefore your compensation should be any price!

  14. As always, great information from Rob.

    I’ve read a lot of comments on this issue and I am certainly concerned about the path this may lead to in the future in terms of disclosing income that may not even be achieved.

    That being said, with all of my files I disclose the finders fee. I receive mixed responses, some people ask if they are paying for it in their mortgage, some people actually say “That’s all you get?”. Regardless of the comment, there is always an answer to it. Even if the question on a AAA deal is “I thought we didn’t have to pay you a fee” – the answer is simple because they aren’t paying a fee.

    I find there is actually an advantage to disclosing the compensation you receive. I disclose up front how A, B and Private Deals work, who pays what fees to whom. Etc. I also have the conversation about how some lenders have certain rates, certain terms and conditions and I’ll even disclose up front that Lender A has this rate at X.XX% and Lender B has the same rate. Lender B offers me a higher compensation, however Lender B’s terms and conditions prevent you from doing X that Lender A allows.

    Further to that, I give my clients multiple lender options and I let them decide based on the terms and conditions and rates being offered what choice is best for them and I put into my disclosure, where options exist, that the client was provided with various options and chose lender C – EVEN if it means I make less on that deal.

    After having an informed discussion with my AAA clients where rate selection is more of an options, so far this year only 6% of closed files have selected the absolute rock bottom rate regardless of the terms and conditions attached to it. Reasons range from terms and conditions to even “Wanting to be with a lender they were familiar with”. Regardless of the situation, I offer them the lowest rate the lender offers and allow them to make that decision based on the information provided.

    At the end of the day, you get paid by doing deals. If you aren’t doing deals, you won’t have to disclose your income to anyone.

  15. Concerned,

    You are exemplifying the problem. Thank you for making the argument against disclosing information that someone has no clue what to do with. FICOM has their proof that this will not help the consumer.

  16. If this is the case then it would be best for the lender to put the commission, volume bonus etc details right in the mortgage commitment then nothing is missed and the onus is on the lender so to speak if there is an error in calculating this out because we don’t always know what exactly is coming. What about those brokers that don’t receive volume bonus because their managing broker takes it all you have no idea. I was in this situation for the past 9 years and didn’t even know until recently what those bonuses were until I started asking all of the lenders.

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