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Finance Broking Australia-regulatory guide 220

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Regulatory Guide 220 - Early termination fees for residential loans: Unconscionable fees and unfair contract terms CPD

From 1 July 2010, ASIC or a consumer may take action against a lender if the lender charges an early termination fee that is unconscionable under the National Credit Code or unfair under the unfair contract terms provisions in the ASIC Act.

This guide contains general guidance on when an early termination fee for a residential loan may be unconscionable or unfair and the factors ASIC will consider in deciding whether to take action.

It also looks at other considerations relating to unfair contract terms, including that lenders should consider explaining early termination fees as transparently as possible so that consumers can better understand the fees they may have to pay if they terminate a loan early.

Under s78 of the National Credit Code, a court can annul or reduce a fee payable on early termination (including an early termination fee as described in RG 220.2), if it is unconscionable: see RG 220.22–RG 220.24.

ASIC will administer the law on the basis that deferred establishment fees are generally a type of fee payable on early termination: see RG 220.36–RG 220.38.

A fee payable on early termination will not be unconscionable if it reflects a reasonable estimate of the lender’s loss arising from the early termination of a loan. ASIC consider that a loss arises from the early termination of a loan only if it is caused by the early termination: see RG 220.39–RG 220.46.

ASIC expect lenders to keep records of how they calculate fees payable on early termination: see RG 220.47–RG 220.48.

ASIC will administer the law on the basis that terms imposing early termination fees, including deferred establishment fees, are reviewable under the unfair contract terms provisions: see RG 220.62–RG 220.65.

A term is unfair if:
•   It would cause a significant imbalance in the parties’ rights and obligations arising under the contract: see RG 220.70–RG 220.74;
•   It is not reasonably necessary to protect the lender’s legitimate interests: see RG 220.75–RG 220.81; and
•   It would cause detriment (whether financial or otherwise) to a party if it were applied or relied on: see RG 220.82–RG 220.87.

If a term providing for an early termination fee reflects a lender’s reasonable costs directly arising from the early termination (including un-recovered establishment costs), it is likely to be reasonably necessary to protect the lender’s legitimate interests and is unlikely to be unfair: see RG 220.80.

If a court finds that a term is unfair, it can declare that term void. It can also direct a lender to refund money to a consumer or vary the loan agreement: see RG 220.88–RG 220.92.

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 may be unfair: see RG 220.97–RG 220.108.

Lenders should explain early termination fees as transparently as possible: see RG 220.109–RG 220.131. Ways to achieve this include:
•   Explaining in a meaningful and clear way when the fee will be charged;
•   Clearly stating the amount in dollars of the fee or, if that is not possible, the method of calculation;
•   Using prominent warnings to explain risks associated with early termination fees, particularly break fees; and
•   Using meaningful worked examples of break fees, as long as the example can be provided in a way that is not misleading (see RG 220.125–RG 220.131).

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: see RG 220.132–RG 220.133.

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