In Australian Securities and Investments Commission v Westpac Banking Corporation [2020] FCAFC 111 the Federal Court of Australia Full Court dismissed ASIC’s appeal against Justice Perram’s rejection of ASIC’s original case. Background.

The decision endorsed Westpac’s approach to conducting loan unsuitability assessments as a legitimate choice.

UPDATE: ASIC decides not to appeal.

Initial period interest only loans
All 3 appeal court judges rejected ASIC’s appeal against the original decision relating to initial period interest only loans. They confirmed that in calculating the serviceability of each loan the interest only loans could be assessed on the basis as if they had no interest only period and instead amortised the principal over the life of the loan.

ASIC argued that they should be assessed on the higher repayments which would be required after expiry of the interest only period.

Justice Middleton said:

“Given the nature of interest only loans, there is more than one way of estimating the monthly repayments for use in determining the capacity to pay prior to lending:
(1) calculating the minimum repayment required during the interest only period of the loan, using the original interest rate applicable;

(2) calculating an amount equal to the monthly repayments of principal, interest, and fees that would repay the loan at the end of the proposed term, using the original interest rate applicable, which is the “Full Term Method”; and

(3) calculating a minimum monthly repayment from the end of the interest only period that would repay the loan over the remaining term of the loan using the original interest rate applicable. This method necessarily involves several assumptions, including that the consumer makes only the minimum required repayments of interest and fees and does not accumulate any funds in an offset account during the interest only period and that there are no changes to interest rates during the interest only period.

As indicated already, Westpac used the Full Term Method. … The approach of the primary judge was correct; to approach the assessment otherwise would not in fact view the consumer’s financial situation as it may vary from the repayments during the initial interest period and the expected repayments in the future at the expiry of that period.

The nature of interest only loans means that they do not have a constant repayment amount over their life, even ignoring the impact of changes in interest rates. Westpac effectively assessed the ability of the consumer at loan inception to generate sufficient excess income to repay the particular loan over its full term….

In this way, the Full Term Method reflected a legitimate choice in the exercise of Westpac’s judgement as to how to conduct a suitability assessment for an interest only loan.”

PIF loans (requiring payment of principal as well as interest and fees)
The majority of two judges to one also dismissed ASIC’s appeal against Justice Perram’s decision that Westpac’s unsuitability assessment made by its “Automated Decision System” complied with Section 131(2)(a) of the National Credit Act.

ASIC’s case was that the rules applied by the ADS did not test for the consumer’s likely ability to comply with the consumer’s financial obligations under the contract, either without more or only with substantial hardship.

All 3 judges agreed that the Credit Act did not impose a specific assessment methodology.

The difference between the judges related to the information required to be considered.

ASIC’s primary contention was that, in order to make an unsuitability assessment within the meaning of the Act, Westpac was required to take into account information that it obtained from the relevant consumers concerning their living expenses. The information comprised the consumers’ statements about their monthly expenditure in categories stipulated by Westpac, referred to as declared living expenses. ASIC’s case was that the legislation required the algorithm to be designed differently in order to answer the s 131(2)(a) Questions.

Justice Gleeson observed:

“The Act cannot be construed to require Westpac to consider the total figure for declared living expenses in each case for the purpose of assessing the consumer’s likely ability to meet their financial obligations. The Act did not oblige Westpac to obtain that information and, when obtained, the Act did not prescribe the use to which Westpac must put such information. As it turns out, Westpac used the declared living expenses to apply the 70% Ratio Rule, on the basis of its belief that this rule identified a group of customers at higher risk of default…

The language of the Act does not support the degree of prescription contended for by ASIC. Rather, the Act leaves it open to the licensee to decide:
(1) what inquiries it will make under s 130(1)(a) and (b), provided that those inquiries are reasonable;

(2) what steps it will take to verify the consumer’s financial situation under s 130(1)(c), provided that those inquiries are reasonable; and

(3) how it will use the results of its inquiries and verification to make the unsuitability assessment, provided that it in fact assesses whether the contract will be relevantly unsuitable for the particular consumer and noting that the licensee is otherwise motivated by the Act to refrain from entering into an unsuitable contract.”

Justice Lee concluded:

“I respectfully agree with the primary judge (see J[71]) that it does not follow that the statutory purpose can only be achieved by taking into account all information collected, regardless of its relevance or materiality to the assessment of unsuitability. Simply labelling an expenditure as a Declared Living Expense, and the fact that the consumer incurs that expense on their current lifestyle, does not necessarily change its nature from being discretionary. It is plain that a consumer may choose to, and can be expected to, forgo particular living expenses in order to meet their financial obligations under a credit contract.”

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