The Financial Conduct Authority (FCA) is challenging lenders to improve their arrears and foreclosure management following a thematic review which found several counts of bad practice at firms.
The regulator said since its last review in 2009 lenders had improved practices and were now treating customers better and offering a wider range of forbearance options.
In the context of a mortgage process, forbearance is a special agreement between the lender and the borrower to delay a foreclosure.
However, the FCA warned firms needed more flexibility to deliver tailored outcomes for borrowers with more attention paid to the specific personal and financial circumstances of each customer.
It said some lenders had failed to adopt proactive and forward-looking strategies to spot borrowers who were in financial difficulties and that lenders had not always put customer outcomes first.
The FCA said ‘one size fits all' frameworks had left vulnerable customers in financial difficulties due to a lack of flexibility and recommended front-line staff should also be given more power to make decisions.
At present, some firms' senior management and front-line staff could not demonstrate they understood the risks to customer outcomes, it said.
Some lenders who had outsourced the monitoring of arrears customers to third parties were branded ‘inadequate' by the regulator as they were unable to demonstrate sufficient oversight or deal with complaints from customers correctly.
Rigid systems and processes, partly caused by a lack of investment, sometimes made it difficult for customers to engage, the regulator added.
The FCA said it was ‘concerned' about the risks posed to borrowers by interest rate rises and said lenders must identify those most at risk and have strategies in place to deal with these customers.
Fees and charges were also under fire as the FCA highlighted one firm who levied multiple arrears charges where more than one mortgage account existed on a single property while another charged customers a fee when it chose to cancel a field visit.
FCA director of supervision Clive Adamson said: "Since we last looked at arrears management we have been pleased by the progress that firms have made. However, there is still work to do.
"Lenders need to treat customers in financial difficulty fairly. We want firms to take further action to strengthen their arrears management practices and invest in their systems and people to make sure that they get this right.
"We are already working with firms and trade bodies to help them embed a culture centred on delivering the best outcome for customers based on their specific circumstances."
Building Societies Association (BSA) head of mortgage policy Paul Broadhead said most of the report's recommendations were already in practice at mutual lenders across the UK.
"Tick-box arrears management is dead and buried, and has been for some time. The right approach hinges on lenders listening to a borrower's circumstances and providing the most appropriate solution from the options available.
"Arrears at building societies are well under two-thirds of the level in the market as a whole reflecting their more personalised approach."
Mutuals and building societies doubled their net mortgage lending over the last year, figures from the BSA show, while arrears fell.
No firms were named in today's FCA report. However last week the regulator asked Yorkshire Building Society to refund customers in arrears after it questioned whether the interest charged was correct.
Last month the FCA forced Kensington Mortgages to change 7,000 borrowers' mortgage terms after the regulator found that they were likely to be unfair.
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