Fed Would Allow Reckless Lending To Continue, Says Center For Responsible Lending

The Center For Responsible Lending, a well intentioned consumer protection group, has issued the following statement regarding the Fed's proposed actions regarding potentially new restrictions in lending. Please see TMA's article "The Fed's Proposal To Tighten Up Lending", dated December 19, 2007. To restate TMA's position:

1. Prepayment Penalties are a valuable tool that allow borrowers to get loans, get lower rates, and/or to reduce or lower closing costs. While TMA admires the Center For Responsible Lending's mission, to protect the consumer, we feel "The Center" is eliminating tools that can and do help the very constituency they wish to protect. If PPP's are eliminated, lenders will jack up rates to accommodate for their risk and clients will pay additional fees for the higher rates...or not borrow at all.
2. We definitely advocate forthright disclosure of YSP, but not the elimination of this valuable tool: to eliminate this loan feature would hurt the borrower by eliminating valuable and necessary loan options ("Zero Point Loans", broker credits, low fee loans,). In fact, you will find that many lenders will not touch low loan amounts, at all. Instead, upfront disclosure of how much a broker wants to make on a loan (ie-1.5 points) and how he will earn the 1.5 points (ie-1 point from borrower, .5 point from lender) should keep the broker objective. "I am going to make 1.5 points on this loan. I do not care how I am paid, by you or the lender. Here are your options.....".
3. In that it is vague, the verbiage about "pattern or practice" of lending to those without the ability to repay can certainly be tougher. TMA suspects that the verbiage is vague to avoid an onslaught of individual lawsuits in which the lenders, to a huge extent, practiced good lending standards. To prosecute lenders for some bad decisions, without displaying a "pattern or practice" would cause lenders, in an effort to never make a bad underwriting decision, to create such rigid and inflexible lending standards as to virtually halt the lending markets...and thus, the real estate markets. Remember, lending is still a subjective business decision and not all of those decisions, even in the best of worlds, are going to be correct. "Compensating factors" also make seemingly questionable underwriting decisions good. Given the subjectivity of these decisions, to be able to prosecute based on one (or relatively few) loan is unfair. Given the financial lashing that the lending industry taking, TMA's guess is that the same lenders, if they survive, will be far more cautious about who they lend to.
4. Proof of income. It is impractical to require proof of income and assets for MANY BORROWERS: Self-employed, W2'd commissioned employees with uncompensated business expenses, certain ethnic borrowers who work in the "underground" economy, etc. Again TMA understands that abuses that have taken place need to be dealt with but many of the proposals are "throwing the baby out with the bathwater".
5. TMA COMPLETELY disagrees with "The Center" regarding the impounding of property taxes and insurance. This proposal is "nanny-state" policy at its worst. TMA would be shocked to hear of any significant percentage of home buyers who did not know that they are expected to pay property taxes and home owner's insurance premiums. Borrowers must also be accountable for some things. Even if an irresponsible lender failed to note that these items will be due, shouldn't a borrower ask? To babysit all borrowers by requiring impounds is ridiculous. "The Center" says that the the one-year opt out will diminish the policy's effectiveness. What? In case they still don't know that they have these obligations? If a person, after one year, does not know that they have taxes and insurance, something is very wrong. Otherwise, everyone should be able to opt out if they are below 80% LTV (common industry parameters).

MortgageMaster

WASHINGTON, Dec. 18 /PRNewswire-USNewswire/ -- The Federal Reserve
Board (FRB) is uniquely positioned to restore confidence in the housing
market because it is the one federal agency with the authority to set
standards for all home loan originators. Unfortunately, the proposed rules
issued by the FRB today represent yet another missed opportunity for the
agency to rein in practices that have hurt millions of American families.
The FRB's rules are riddled with loopholes. Rather than eliminating the
root causes of the subprime foreclosure crisis, which in turn would
encourage a truly competitive market for home loans, the FRB's proposal
permits many dangerous subprime lending practices to stand. An unregulated
market has led to irresponsible lending practices where lenders often don't
even assess ability to repay. The resulting high rate of foreclosures due
to this abusive lending may well bring this country into recession -- yet
the FRB has chosen to issue rules that leave out many loans or will be
unenforceable.
For years, mortgage lenders have operated on an uneven playing field:
Banks and other depository institutions are supposed to abide by sensible
lending rules, even though regulators haven't always enforced them. Finance
companies that often specialize in subprime loans don't even have basic
guidelines to follow. It is hard to fathom why the government gives a
competitive advantage to one set of lenders over another when both have
helped produced this epidemic of unsustainable loans. Rather than
correcting perverse incentives to engage in reckless lending, the FRB
proposed rules are extremely weak in the three most important areas it
considered:
Prepayment penalties. Prepayment penalties on subprime mortgages trap
families in bad loans or penalize them for improving their credit record.
Rather than banning this "exit tax" on all subprime loans, the FRB only
limits penalties slightly on adjustable-rate mortgages, and otherwise
allows prepayment penalties to remain effective for five full years, with
no limit on their size.
Yield-spread premiums: In the subprime market, prepayment penalties and
kickbacks to mortgage brokers ("yield-spread premiums," compensation to
mortgage brokers for signing up borrowers for higher interest loans when
they qualify for a less expensive loan) go together. The Fed's proposed
rule leaves yield-spread premiums intact by simply requiring written
disclosure -- which unscrupulous lenders can easily bury among the myriad
disclosures and paperwork already required.
Ability to repay. The current mortgage crisis is largely due to lenders
making loans to families without ensuring that the borrowers can afford
them. The FRB is proposing rules they have previously issued in regulatory
guidance to depository lenders, but they have made this rule virtually
meaningless for most subprime lenders since the rule will not be
enforceable. Victims will be required to show that the lender made
unaffordable loans not only to him or her, but also in a "pattern or
practice" to other borrowers -- a standard of proof that makes it very
difficult to win a case even when violations have been flagrant. The FRB
acknowledged this very point in a report to Congress in 1998, when it said:
"As a practical matter, because individual consumers cannot easily obtain
evidence about other loan transactions, it would be very difficult for them
to prove that a creditor has engaged in a "pattern or practice" of making
loans without regard to homeowners' income and repayment ability." Further,
even this weak standard does not even apply to non-traditional loans such
as payment option ARMs.
On two other issues, the FRB's proposal is somewhat better:
Verification of income. The rules represent a step forward by
addressing that lack of documentation of income that has caused significant
payment problems on subprime loans, but the FRB failed to extend this rule
to non-traditional mortgages, even when a borrower could easily provide a
W-2 form or other proof of their income. This loophole defies common sense.
Escrow of taxes and insurance. A common deceptive lending practice is
to market loans with an artificially low monthly payment by excluding
mandatory tax and insurance costs. While we applaud the FRB's proposal to
require the escrow of taxes and insurance for subprime loans, we are
concerned that this sensible rule would not also apply to non-traditional
mortgages, such as payment option adjustable-rate mortgages, and the fact
that there is a one-year opt-out will reduce its effectiveness.
The Center for Responsible Lending is continuing to analyze the
proposed rules and may have further comments in the near future, and we
will submit formal comments to the FRB in March 2008. Meanwhile, these
proposed rules highlight the importance of pending legislation in Congress
to assist homeowners with subprime mortgages who are facing foreclosure
today and strengthen consumer protections that will protect homeowners with
subprime loans in the future.
About the Center for Responsible Lending
The Center for Responsible Lending is a non-profit, non-partisan
research and policy organization dedicated to protecting homeownership and
family wealth by working to eliminate abusive financial practices. CRL is
affiliated with Self-Help (http://www.self-help.org/), one of the nation's
largest community development financial institutions. For more information,
please visit our website at
http://www.responsiblelending.org/issues/mortgage/.