mortgages – dual variable mortgage rate cases

We have received a significant number of cases concerning lenders that moved from having a single variable mortgage rate to having two variable mortgage rates – one higher than the other.

This move by some lenders was said to be part of a strategy to give loyal existing borrowers the same rates as those borrowers who kept switching their mortgages from lender to lender in pursuit of the best new deal.

The cases we received related to borrowers who had taken out their mortgages before the change. So, whatever the underlying motive for the change, we had to consider how those particular individual borrowers had been treated in the process.

So far, we have issued ombudsman final decisions in three cases, brought against three different lenders. In one case this followed a hearing, where both sides were represented (at the lender’s expense) by Queen’s Counsel. In each of the cases:

	The borrowers had taken out their mortgages at a time when the lenders had only a single variable rate.
	The lenders had promised the borrowers a discounted or capped rate, using the single variable rate as the yardstick.
	The lenders now said that the higher of the split rates should be the yardstick, but the borrowers said that the lower rate should be the yardstick.

Our decisions in these cases have been misunderstood in some quarters. The decisions did not mark any change in approach from that of predecessor ombudsman schemes. They did not outlaw lenders having more than one variable mortgage rate. They did not interfere with lenders’ freedom to set rates for their products.

The decisions did say what rate should be used as a yardstick, in the circumstances of those particular cases, in order to fulfil the contractual promises the lenders had previously made – to those particular borrowers – about the rates the lenders had set for those particular mortgages.

We are considering other cases that raise similar issues in different circumstances. So we cannot summarise an overall approach at this stage. But we can comment on the legal principles of interpretation, and summarise the final decisions we have actually issued.

legal principles of interpretation

We are required to reach our decisions on the basis of what we consider to be fair in the circumstances of the particular case.
In doing so, we take into account the legal principles of interpretation.

The House of Lords (acting as ultimate appeal court) considered the legal principles for interpreting contracts in the case of Investors Compensation Scheme Ltd v West Bromwich Building Society and others.

That case is reported in volume 1 of the Weekly Law Reports for 1998, starting at page 896. A passage from the judgement of Lord Hoffman at pages 912 and 913 contains a helpful summary of principles. The gist is:

	The law disregards what the parties said they intended to do, and what they said in prior negotiations. Parties can change their position during the negotiation process.
	Apart from this, the law avoids a technical approach. It follows the commonsense principles that would be applied to any serious utterance in ordinary life.
	The aim is to decide what the contract would have meant to a reasonable person who had all the background knowledge reasonably available to the parties at the time of the contract.
	That background knowledge includes anything that would have affected the way in which a reasonable person would have understood the language of the document.
	The meaning of a document is not the same as the dictionary meaning of its words. It is what those words would be understood to mean in the circumstances.
	The circumstances can help choose between possible meanings where words are ambiguous, or may even show that the parties used the wrong words or syntax.

It is also a general principle of English law that an ambiguous term must be given the interpretation that is less favourable to the party who supplied the wording (the lender, in the case of a mortgage).

And the Unfair Terms in Consumer Contracts Regulations require an unclear term to be given the interpretation that is most favourable to the consumer (the borrower, in the case of a mortgage).

summaries of final decisions

The following summaries are highly condensed. The actual decisions in the three cases ranged from 12 to 25 pages.

In each case, the lender had promised the borrowers a rate based on its standard variable rate (though the lenders called this by different names). We had to consider whether the lender had broken its promise and, if it had, how this should be redressed.

In interpreting the lender’s promise, we took into account what the relevant mortgage contract would have meant to a reasonable person who had all the background knowledge reasonably available to the parties at the time.

That background included the fact that a lender wishing to retain its position in the market needed to set its standard variable rate at a level that retained alert existing borrowers who were not locked in by an early repayment charge, and that also attracted new borrowers.

In examining the cases, we looked beyond the names the lender now gave its rates. We considered whether what the lender asked the borrowers to pay was based on a rate that could fairly be described as fulfilling the function of a standard variable rate – in accordance with the promise the lender had given to the borrowers.

In all three cases we decided that it did not. So we looked to see whether the lender still had a rate that could fairly be described as a standard variable rate, which fulfilled the promise it had given to the borrowers – and which could be used as the basis for redress. In each of the three cases, we found that there was such a rate.

If we had found that any of the lenders no longer had a rate that could fairly be described as a standard variable rate, we would have faced a more complex task in ensuring the borrowers were fairly compensated. In some circumstances, we might have had to calculate what a standard variable rate would have been.
The remaining circumstances of the first two cases we decided were comparatively similar. The remaining circumstances of the third case differed much more.

case 1

Mr and Mrs J took out a mortgage with lender K, which had a single variable mortgage rate. Under the mortgage agreement:

Lender K promised Mr and Mrs J a three-year discount off its variable mortgage rate.
After three years, Mr and Mrs J would revert to paying the full variable mortgage rate.
There was no early repayment charge, such as some lenders attach to discounted-rate mortgages.

About a year later:

Lender K adopted two differing variable mortgage rates.
It used the lower of the two rates as the basis for all new variable-rate mortgages.
It put all its existing variable-rate mortgages (apart from those with discounts) on to the lower rate automatically, without the borrowers having to apply.
It said that its existing variable-rate mortgages with discounts would be put on to the lower rate when the discounts expired.
Mr and Mrs J believed their discount should be calculated from the lower of the two rates – payable by lender K’s ordinary variable-rate borrowers.

But lender K said:

Mr and Mrs J’s discount should be calculated from the higher of the split rates. That was the continuation of the original single variable rate.
The higher rate minus discount was already less than the lower rate without discount.
It would put them on to the lower rate when their three-year discount ended. They were free to swap to the lower rate earlier if they gave up their discount.

We decided that lender K still had a rate that could fairly be described as its variable mortgage rate. That was the lower of the split rates – which was the only rate lender K used:

as the basis for all new variable-rate mortgages;
as the basis for all existing variable-rate mortgages, apart from those with discounts;
for existing mortgages that had come to the end of a fixed-rate or discounted-rate period.

The only variable-rate mortgages that lender K said were based on the higher rate were those where it had promised a discount.

So we decided that Mr and Mrs J’s discount should be calculated from the lower rate, backdated to the date it was introduced. In addition, lender K should refund any overpayments and pay Mr and Mrs J £150 for the inconvenience they had been caused.

In effect, we decided that lender K had promised Mr and Mrs J a three-year discount from the rate available to ordinary variable-rate borrowers – and the rate available to ordinary variable-rate borrowers was the lower rate.

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case 2

Mr and Mrs L took out a mortgage with lender M, which had a single variable mortgage rate. Under the mortgage agreement:

Lender M promised Mr and Mrs L a five-year discount off the standard (variable) rate that applied to all its variable-rate mortgages.
After five years, Mr and Mrs L would revert to paying the full standard (variable) rate.
There was no early repayment charge, such as some lenders attach to discounted-rate mortgages.

About a year later:

Lender M adopted two differing variable mortgage rates.
It used the lower of the two rates as the basis for all new variable-rate mortgages (except that higher-risk mortgages, exceeding 95% of the property value, were to be on the higher rate for the first three years).
It put all its existing variable-rate mortgages (apart from those still subject to discounts, caps or early repayment charges) on to the lower rate automatically, without the borrowers having to apply.
It said that its existing variable-rate mortgages that were still subject to discounts, caps or early repayment charges would be put on to the lower rate when those special features expired.

Mr and Mrs L believed their discount should be calculated from the lower of the two rates – payable by lender M’s ordinary variable-rate borrowers.

But lender M said:

Mr and Mrs L’s discount should be calculated from the higher of the split rates. That was the continuation of the original standard (variable) rate.
The higher rate minus the discount was already less than the lower rate without discount.
It would put them on to the lower rate when their five-year discount ended. But the transfer of existing borrowers to the lower rate was merely a concession.

We decided that lender M still had a rate that could fairly be described as its standard (variable) rate. That was the lower of the split rates – which was the only rate lender M used:

as the basis for all new variable-rate mortgages (apart from the first three years of higher-risk loans that exceeded 95% of the property value);
as the basis for all existing variable-rate mortgages (apart from those still subject to discounts, caps or early repayment charges);
for existing mortgages that had come to the end of a fixed-rate, discounted-rate or capped-rate period (once any early repayment charge expired).

So we decided that Mr and Mrs L’s discount should be calculated from the lower rate, backdated to the date it was introduced. In addition, lender M should refund any overpayments and pay Mr and Mrs L £150 for the inconvenience they had been caused.

In effect, we decided that lender M had promised Mr and Mrs L a five-year discount from the rate available to ordinary variable-rate borrowers – and the rate available to ordinary variable-rate borrowers was the lower rate.

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case 3

Mr and Mrs N had a mortgage with lender O, which had a single variable mortgage rate. Mr and Mrs N transferred their mortgage to a capped variable-rate deal. Under the mortgage agreement:

Lender O promised Mr and Mrs N that they would pay its base rate, but capped at a maximum of X% for five years.
In return Mr and Mrs N promised to pay an early repayment charge if they repaid their mortgage within six years (a year after the cap expired).

About two and a half years later:

Lender O adopted two differing variable mortgage rates.
It used the lower of the two rates as the basis for all new variable-rate mortgages.

Lender O did not transfer existing variable-rate mortgages to the lower of the two rates automatically. It said:

A change in the method of calculating interest required existing variable-rate borrowers to sign a document before being put on to the lower rate.
So existing variable-rate borrowers were ‘encouraged’ (lender O’s word) to contact their branch in order to be put on to the lower rate.
That encouragement included prominent advertisements in the national press, and a rolling programme of letters to existing borrowers.

Mr and Mrs N contacted their branch in order to be put on to the lower rate (which was below the cap on their mortgage), as that was the rate available to lender O’s ordinary variable-rate borrowers.

But lender O said:

Mr and Mrs N were tied to the higher of the split rates. That was the continuation of the original base rate.
They could only be put on the lower rate if they paid the early repayment charge.

We decided that lender O still had a rate that could fairly be described as its base rate. That was the lower of the split rates.

The lower rate was the only rate lender O used as the basis for new variable-rate mortgages.
The lower rate was available on all its existing variable-rate mortgages (apart from those still subject to discounts or caps). And lender O ‘encouraged’ those borrowers to contact their branch to be put on the lower rate.
A rate exactly equal to the lower rate (though described as a discount off the higher rate) was available on existing mortgages that had come to the end of a fixed-rate, discounted-rate or capped-rate period but were still subject to an early repayment charge.

So we decided that Mr and Mrs N’s mortgage should be calculated at the lower rate, backdated to the date on which their application to transfer should have been completed. In addition, lender O should refund any overpayments and pay Mr and Mrs N £150 for the inconvenience they had been caused.

In effect, we decided that Mr and Mrs N had been promised, subject to a cap, the rate available to ordinary variable-rate borrowers – and the rate available to ordinary variable-rate borrowers was the lower rate. So Mr and Mrs N should have been put on to the lower rate when they asked.

The early repayment charge in Mr and Mrs N’s mortgage contract was the price of their cap. It was not to be used to lock them into a rate higher than that available to ordinary variable-rate borrowers. But it would continue to apply in conjunction with the lower rate.