Adviser: Lenders charging monthly interest on arrears

About a year ago a number of advisers here found some of our clients who had previously secured a Suspended Possession Order (SPO) were running up against a peculiar problem.

Monthly interest charges on arrears

When dealing with a possession case I’m used to looking at my client’s finances, working out what their contractual obligations are on any secured debts and negotiating with the mortgage lender to agree a repayment plan that allows the client to pay a certain amount each month, on top of the monthly mortgage payment.  This extra payment will go towards clearing the arrear within the term remaining on the mortgage.   

Borrowers will always end up paying interest on the outstanding balance of a loan – including any arrears they’ve built up.  My experience was that this interest would be calculated on a quarterly or monthly basis and the borrower’s monthly payment would vary annually to account for this additional interest.

It was a bit of a shocker to find one lender insisting that defaulting borrowers pay off the interest on the arrear each month, as well as the contractual monthly instalment and an amount to clear the arrears.  I had one client, Annette, who had an SPO granted on the understanding that she’d pay her monthly instalment plus £20 towards the arrears each month.   Annette kept the payments up for a while but when her income unexpectedly decreased she missed a payment and was summonsed back to court.  At the hearing we were both stunned to find out that her arrears hadn’t reduced at all because the full £20 extra each month was being eaten up by the interest charged on her arrears.  Annette was told that the lender wouldn’t entertain any repayment proposal that didn’t constitute the monthly instalment, plus an amount towards the arrear plus the full interest payment due on the arrear each month.

Difficulties making a proposal

Our major concern about this practice was the difficulty we were now experiencing getting a repayment plan agreed.  We don’t have access to the sophisticated accounting software that the lender did so weren’t able to forecast proposals which would include a constantly varying amount of interest. 

It seemed really unfair that a payment that the borrower understood to be going towards reducing an arrear wasn’t actually making any dent in the arrear as the majority of the payment was going towards monthly interest charges. 

Test cases before Chancery Master

A number of test cases were scheduled to be heard before the Chancery Master.  My colleagues and I had asked the court to adjourn a number of cases until a decision was made on this issue.  We made complaints to the lender involved and asked them to provide us with documentation which showed their position in respect to their contractual rights and the Mortgage Conduct of Business, (the Financial Services Authority’s rules which govern the relationship between mortgage lenders and borrowers in the UK and includes a commitment to treating customers fairly).

Legal aid restrictions meant we weren’t able to file an affidavit at the test hearing.  However, the Chancery Master quoted our communications to the lender in his written judgment.   The Master described the lender’s practice as causing “bewilderment, confusion, frustration and insecurity”. 

The Master felt the nub of the issue was the lender’s failure to mention this unusual method of levying interest.  He felt it created an unrealistic hope in the defendant of being able to pay as the borrower wasn’t made adequately aware of the additional interest charge that would need to be included in any proposal that would be acceptable to the lender.  The Master’s view was that Santander could not act in the way they had been doing, and that accrued interest should be added to the outstanding balance and the monthly instalment recalculated after due notice to the defendant, if Santander wished to recoup this additional interest.

The Master ordered the lender to file new affidavits with revised details of the borrowers’ accounts which would include a new, more accurate figure for the contractual monthly instalment (CMI).  This means that advisers can confidently put forward proposals based on the CMI plus £X towards the arrear and know that the balance of the arrear will reduce by £X each month.

Resources to help

• If you're advising clients who are worried about going to court, you may want to get them to have a look at our video which shows how a possession hearing in the Chancery Division plays out.  Your clients may find the Budgeting Tools on our advice website useful when working out income & expenditure plans. 
• Debt advisers should familiarise themselves with the forbearance options open to your clients
• Possession action should be a last resort.  If clients come to you before legal action has started you may be able to negotiate a settlement without having to go to court.