Calculation of break costs on fixed rate loan

The Banking & Finance Ombudsman has obtained actuarial advice on whether its guidelines set out in its Fact Sheet on Breaking a Fixed Rate Loan are still appropriate.

The Ombudsman has confirmed that in assessing any complaint in respect of break fees for early repayment of a fixed rate loan he will consider:

  • whether the break cost has been properly disclosed to the customer;
  • whether the break cost has been properly charged in accordance with the customer's contract with the financial services provider; and
  • if the loan is regulated by the Uniform Consumer Credit Code, whether the break cost charged in accordance with the contract is in breach of section 72(1)(c)  by exceeding a reasonable estimate of the financial services provider's loss arising from the customer's early termination of their fixed rate contract.

The actuary has confirmed the Ombudsman could calculate a "reasonable estimate" by using 2 calculations:

  • a “difference” component, being the difference between the swap rate at the time the loan was established and the swap rate at the time the loan was terminated; and
  • multiplying the “difference” by the remaining term and the balance of the principal outstanding adjusted to the present day value.

The Ombudsman did not consider administrative costs. Section 72(4) of the Credit Code also allows for a lender to charge its average reasonable administrative costs. There is a risk under the proposed Australian Consumer Law that  the ACCC may consider an early termination fee to be “unfair” if  the “average reasonable administrative costs” relating to termination that are charged include “general overheads such as rent, salaries and advertising”.

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