ASIC set to tackle exit fees?

In the aftermath of the Global Financial Crisis, financial institutions are being told to play ‘fairer’.  Enforcement of new credit laws, as laid out by the ASIC in its November 2010 Regulatory Guide 220, will tackle early termination fees that are considered ‘unconscionable’ or ‘unfair’.

The regulatory guide comes as a direct response to growing negative sentiment from consumers and government with ‘restrictive’ and ‘non-competitive fees’.  The Financial Ombudsman Service (FOS) noted in a submission to ASIC that it had received an unprecedented number of complaints, including consumer complaints and misunderstandings about ‘break fees’.  The FOS report noted that from 1 September 2008 to 31 December 2009, 1131 complaints were lodged regarding break fees.

Lenders should consider and apply the guidance in a flexible, high level and principled manner. 
ASIC acknowledges that determining whether a term of a contract is unfair will ultimately depend on the facts of each individual claim.  But the consequences for lenders of unconscionable or unfair fees could result in a court annulling or reducing fees payable on early termination.

And just in case you were wondering, yes “deferred establishment fees” are considered by ASIC to be a type of fee payable on early termination.

What is ASIC aiming at?
Unconscionable fees
An early termination fee will be unconscionable when it exceeds a reasonable estimate of the lender’s loss (including average reasonable administrative costs) arising from the early termination.

Unfair fees
An early termination fee may be unfair when:

• it would cause a significant imbalance in the parties’ rights and obligations arising under the contract
• it is not reasonably necessary to protect the lender’s legitimate interests
• it would cause detriment (whether financial or otherwise) to a party if it were applied or relied on.

Other considerations to which ASIC will have regard in determining whether contract terms are unfair, include:

• A term that gives the lender an unlimited unilateral right to vary an early termination fee or permits a lender to increase an early termination fee in a way that is not proportional to an increase in their costs.
• A failure to explain early termination fees as transparently as possible.

Lenders need to consider the requirements of both the National Credit Code and the ASIC Act as they apply to early termination fees.  Adequate disclosure under the National Credit Code is not the same as transparency or fairness of a contractual term under unfair contract terms provisions.

A court may declare a term void if it finds it is unfair. It can also direct a lender to refund money to a consumer or vary the loan agreement.

So what must lenders ensure?
In aid of implementing these safeguards and remedies, satisfactory disclosure requirements and utmost transparency is the key!

In turn lenders should aim to do the following:

• Explain in a meaningful and clear way when the fee will be charged;
• Clearly state the amount in dollars of the fee or, if that is not possible, the method of calculation;
• Use prominent warnings to explain risks associated with early termination fees, particularly break fees;
• Use meaningful worked examples of break fees, as long as the example can be provided in a way that is not misleading.

By applying these point’s lenders are better placed to be sure they are aligned with the approach signalled by ASIC.  The laws affect early termination fees for personal loans and loans for residential investment properties in existence from 1 July 2010.

Donovan Oates Hannaford is able to provide further information about these developments should you require.
This note was prepared with the kind assistance of Taliska Kiebat (student at law).

Please contact Hadyn Oriti should you require any further information..
Hadyn Oriti
December 2010
P: +61 2 6583 0449
E: horiti@dohlaw.com.au