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Committee on Financial Services

United States House of Representatives

Archive Press Releases

Coalition for Responsible Lending
Suggestions for the Federal Reserve Board to Address
Abusive Home Lending Practices
May 19, 2000

Homeownership not only supplies families with shelter, it also provides a way to build wealth and economic security. Unfortunately, too many American homeowners are losing their homes, as well as the wealth they spent a lifetime building, because of harmful home equity lending practices. Some lenders target elderly and other vulnerable consumers (often poor or uneducated) and use an array of practices to strip the equity from their homes. Although a small percentage of mortgage brokers and lenders are responsible for these practices, the problem is large and growing (see Senator Grassley's March 1998 Aging Committee hearings: (1)

Chairman Alan Greenspan is to be commended for recognizing this problem. In his March 22, 2000 remarks at the National Community Reinvestment Coalition conference, Chairman Greenspan stated:

"Of concern are abusive lending practices that target specific neighborhoods or vulnerable segments of the population and can result in unaffordable payments, equity stripping, and foreclosure. The Federal Reserve is working on several fronts to address these issues and recently convened an interagency group to identify aberrant behaviors and develop methods to address them."

Governor Edward Gramlich also presented a thoughtful and thorough discussion of the problem in his April 14, 2000 remarks at the Fair Housing Council of New York, in Syracuse.

While the Coalition for Responsible Lending believes that further federal legislation would be useful, it also believes that the Federal Reserve Board (hereinafter, the "Board") is the only regulatory agency that has sufficient existing authority to address predatory lending practices. This authority exists under the Home Ownership Equity Protection Act, Home Mortgage Disclosure Act, and Community Reinvestment Act. CRL respectfully suggests that the Board use the full extent of its authority to deal with this national problem, one that has only increased since the July 1998 HUD-Fed Joint Report Concerning Reform to TILA and RESPA. Specifically, CRL suggests the following:

1. The Board should use its authority under HOEPA to prohibit certain specific abusive lending practices.

The Home Ownership and Equity Protection Act (HOEPA) provides the Board with broad authority to prohibit unfair or deceptive mortgage lending practices and to address abusive refinancing practices. Specifically:


(2) PROHIBITIONS.--The Board, by regulation or order, shall prohibit acts or practices in connection with--

(A) mortgage loans that the Board finds to be unfair, deceptive, or designed to evade the provisions of this section; and

(B) refinancing of mortgage loans that the Board finds to be associated with abusive lending practices, or that are otherwise not in the interest of the borrower."(2)

While this grant of authority occurs in HOEPA, Congress granted this authority to the Board for all mortgage loans, not just loans that are governed by HOEPA (closed end refinance transactions) that meet the definition of "high cost". Each of the substantive limitations that HOEPA imposes refer specifically to high cost mortgages.(3) By contrast, the discretionary authority granted by subsection (l) refers to "mortgage loans" generally.(4)

The legislative history makes clear that the Board's discretionary authority holds for all mortgage loans. The HOEPA bill that passed the Senate on March 17, 1994, and the accompanying Senate report, limited the Board's authority to prohibiting abusive practices in connection with high cost mortgages alone.(5) However, this bill was amended so that the bill that ultimately passed both chambers, as cited above, removed the high-cost-only limitation, and the Conference Report similarly removed this restriction.(6) The Conference Report also urged the Board to protect consumers, particularly refinance mortgage borrowers.(7)

Each of the abusive practices that follow most often occur with subprime refinance loans, and so can be addressed under both subsections (A) and (B) above.

The Board should prohibit the financing of credit insurance premiums for all loans.

One type of credit insurance, credit life, is a loan product paid for by the borrower that repays the lender should the borrower die. While credit insurance may be useful when paid for on a monthly basis, when it is paid for up-front it does nothing more than strip equity from homeowners. The total premiums for generally a five-year period are added to the amount of the loan. The borrower then pays interest on this amount for the life of the loan and hasn't even begun reducing principal by the time the five-year period expires. When the borrower moves or refinances away from a subprime loan after five years, the up-front payment, which no longer protects the loan, is stripped directly out of the borrower's home equity. Conventional loans almost never include, much less finance, credit insurance.

The attached spreadsheet considers a loan with a $10,000 credit insurance premium financed in the loan, an amount that is not uncommon. Such a loan on average is paid off by the borrower at year five, at which time virtually all payments have been applied to interest; 99% of the upfront credit insurance premium remains outstanding. Thus, when the loan is paid off at year five, the borrower pays the full amount of the upfront premium with equity that is stripped directly out of the home. Both Fannie Mae and Freddie Mac have announced that they will not purchase any loans that include financed, lump-sum credit insurance policies because they agree that it is an inherently abusive practice.(8)

The financing of lump-sum or single premium credit insurance (or the functional equivalent debt cancellation or suspension contracts or agreements) is inherently abusive, unfair and deceptive and never in the interests of the borrower. It occurs almost exclusively with refinance loans, where the economic impact to the borrower is hidden since the policy is in effect paid for with the borrower's existing equity. It should therefore be prohibited on all loans.

The amount of financed upfront credit insurance alone, in virtually every case, exceeds 8% in fees that should make a loan "high-cost" under HOEPA. In fact, CRL has identified borrowers in North Carolina whose financed credit insurance premiums amounted to 20% of the original loan balance.(9) Prohibiting the practice on HOEPA loans alone would be inadequate since, under the Board's current rules, a loan can have a 6% prepayment penalty, 5% in up-front fees and 20% in financed credit insurance premiums, and still not qualify as a HOEPA loan. That is why, in North Carolina, the predatory lending law prohibits the practice for all home loans of conforming size ($252,700). In this one state alone, this prohibition will, each year, save at least 10,000 homeowners $100 million of needlessly lost equity. A nationwide ban imposed by the Board would save approximately 300,000 families from having $3 billion of home equity stripped each year.

Should the Board prohibit the practice of financing lump sum credit insurance in loans, unscrupulous lenders would be prevented from taking advantage of unwitting borrowers. Homeowners still could purchase this protection at reasonable cost on a monthly outstanding balance basis. The following language is one way to address this matter:

"It shall be prohibited for any lender in a consumer loan to finance, directly or indirectly, any credit life, credit disability, credit property or credit unemployment insurance, or any other life or health insurance premiums, or any debt cancellation or suspension agreement or contract fees; provided, that insurance premiums or debt cancellation or suspension fees calculated and paid on a monthly basis shall not be considered financed by the lender."

Any such regulation should not rely on disclosure of financed credit insurance as a substitution for their prohibition. The North Carolina law deliberately does not impose or rely upon additional disclosures to consumers. The closing of a mortgage loan is already a blizzard of paperwork that is quickly pushed past the borrower. Additional disclosures are just more snowflakes in the storm and provide no aid to consumers. Moreover, disclosures become a refuge and defense for lenders who point to language in one of the literally dozens of documents signed by the borrower. For instance, even though the borrower may never be told about onerous provisions of the loan, such as an exorbitantly priced credit insurance policy, and the terms are contrary to what the borrower reasonably expected, the lender will claim that the terms are permissible because they were disclosed somewhere in the many loan papers.

Additionally, the credit insurance policies, even those calculated and paid on a monthly basis, should be sold only after the loan is closed, not when the loan closes. This helps make clear to the borrower that the insurance is not required, a pressure tactic often used by unscrupulous lenders. According to an industry-funded study that considered consumer loans, which have much less paperwork to confuse borrowers than home loans, almost 40% of borrowers either did not know they had received credit insurance or were not told that it was optional.(10)

The Board should prohibit prepayment penalties for all home loans with interest rates greater than conventional.

According to HOEPA, prepayment penalties of less than five years are allowed under certain conditions. However, the Board has discretionary authority to prohibit unfair or deceptive mortgage lending practices and to address abusive refinancing practices. The unfair and deceptive impact of prepayment penalties, especially on refinance transactions, has only recently come to light, and the frequency of prepayment penalties on subprime loans has recently increased substantially.(11) The Board should therefore use its authority to prohibit prepayment penalties altogether on loans with interest rates greater than conventional, for the following reasons:

Prepayment penalties trap borrowers in high-rate loans, which too often leads to foreclosure. The subprime sector serves an important role for borrowers who encounter temporary credit problems that keep them from receiving low-rate conventional loans. This sector should provide borrowers a bridge to conventional financing as soon as the borrower is ready to make the transition. High interest rate loans become abusive, however, when they prevent borrowers from escaping once credit improves, which is precisely what prepayment penalties are designed to do. Prepayment penalties either trap borrowers into continuing to pay more each month than available alternatives, or they strip borrower equity as punishment for obtaining a better deal. People simply should not be penalized for trying to get out of debt.

Prepayment penalties are the "glue" that enables broker-based racial steering. Lenders will pay a "premium" to mortgage brokers who sell unsuspecting borrowers higher-than-justified interest rates on loans, but only if they can lock the borrowers into the loans through prepayment penalties long enough to recover the premium. Brokers obtain high yield-spread premiums (a fee rebated to the broker by the lender in exchange for the lender receiving a higher interest rate than the borrower otherwise qualifies for). The lender will only pay these excessive YSP fees if it is sure that the same broker will not quickly "flip" the borrower into another loan with another lender to receive additional fees. The lender ensures that this does not happen by making it uneconomic for the borrower to escape the loan through requiring the prepayment penalty.

Steering occurs when families are systematically placed in higher-cost loans than they qualify for, often based on race. According to Fannie Mae, about half of all subprime borrowers could qualify for lower cost conventional financing.(12) Recent studies have shown that minority borrowers are most commonly steered into high-rate and fee subprime loans when they in fact qualify for lower cost loans.(13) A recent HUD study found that higher-cost subprime loans are five times more likely in black neighborhoods than in white neighborhoods, accounting for 51% of home loans in predominantly black neighborhoods in 1998 compared with 9% in white areas. According to the study, even high-income minority areas are disproportionately served by subprime rather than conventional lenders. And borrowers in predominantly African American neighborhoods are over five times more likely to be subject to a prepayment penalty than borrowers in white neighborhoods.(14) The marketplace will help enforce fair lending principles and police steering if borrowers can get out of bad loans as soon as they realize they are harmed, but prepayment penalties prevent this from happening.

Borrower choice cannot explain the prevalence of prepayment penalties. Subprime lenders claim that borrowers voluntarily choose prepayment penalties to reduce their interest rates. Borrower choice cannot explain, however, why, according to the Mortgage Information Corporation, two-thirds of subprime loans currently charge prepayment penalties, while only 1% to 2% of conventional loans do.(15) The real reason for the discrepancy is that conventional mortgage markets are competitive and sophisticated borrowers have the bargaining power to avoid these fees; borrowers in subprime markets often lack sophistication or are desperate for funds and simply accept the penalty that lenders insist that they take.

The competitive conventional mortgage market provides a test for people's true preferences for a prepayment penalty in exchange for a lower rate. Rational subprime borrowers with market power should prefer them no more often, and probably less often, than conventional borrowers since assumedly they would prefer to refinance into a conventional loan as soon as credit improves, not when a lock-out period happens to expire. To permit prepayment penalties on subprime loans, then, is to protect the right of 1% - 2% of sophisticated subprime borrowers who would affirmatively choose them at the expense of 65% who would not. As a result of having been assigned such a penalty, this group becomes trapped in higher rate loans, or refinances only to have their equity stripped away.

At minimum, the Board should prohibit prepayment penalties on loans with interest rates greater than conventional where there is a yield-spread premium or a back-end fee is paid to a broker. This rule would eliminate a number of the steering and YSP abuses. An alternative limiting rule would be to prohibit prepayment penalties on only refinance loans that have interest rates greater than conventional. The vast majority of abuses occur in refinance loans and the HOEPA discretionary grant of authority to the Board provides two distinct sources for refinance abuses.

The Board should prohibit lenders from "flipping" borrowers through repeated fee-loaded refinancings.

As the HOEPA Conference Report recognized, the Board should consider addressing "flipping", where lenders refinance subprime loans over and over, taking out home equity wealth in the form of high fees and prepayment penalties each time.(16) Some lenders originate balloon or adjustable rate mortgages only to inform the borrowers of this fact soon after closing to convince them to get a new loan that will pay off the entire balance at a fixed rate. Others require borrowers to refinance in order to catch up if the loan goes delinquent. The practice is unfair and deceptive, and concerns refinances that are patently not in the interests of borrowers. Therefore, the Board should outlaw this practice. CRL provides, as one option, the language that was included in the North Carolina legislation:

"No lender may knowingly or intentionally engage in the unfair act or practice of "flipping" a home loan. "Flipping" a loan is the making of a home loan to a borrower that refinances an existing home loan when the new loan does not have reasonable, tangible net benefit to the borrower considering all of the circumstances, including the terms of both the new and refinanced loans, the cost of the new loan, and the borrower's circumstances."

In addition to this prohibition, the Board should consider adding the State of New York Banking Department's proposed regulation flipping prohibition:

"A lender may not charge a borrower points and fees in connection with a high cost home loan if the proceeds of the high cost home loan are used to refinance an existing high cost home loan and the last financing was within two years of the current refinancing. This provision shall not prohibit a lender from charging points and fees in connection with any additional proceeds received by the borrower in connection with the refinancing, provided that the points and fees charged on the additional sum must reflect the lender's typical point and fee structure for high cost refinance loans. This subdivision shall apply only in those instances in which the existing high cost home loan was made by the lender or an Affiliate of the lender, provided that the new high cost home loan does not involve the use of a mortgage broker, and to all existing high cost home loans in which the new high cost home loan involves the use of a mortgage broker. For purposes of this subsection, "additional proceeds" for a closed end loan is the amount over and above the current principal balance of the existing high cost home loan. For an open end loan, "additional proceeds" is the amount by which the line of credit on the new loan exceeds current principal balance of the existing high cost home loan;"(17)

The Board should outlaw balloon payments altogether for HOEPA loans.

According to HOEPA, balloon payments of less than five years are not allowed for high cost loans. Similar to the analysis for prepayment penalties, it is only recently that the abuses associated with balloon payments of longer duration have come to light. The Board should therefore use its authority to outlaw balloon payments altogether for HOEPA loans.

Balloon payments are a widespread predatory lending abuse to entice borrowers into a loan and then pressure the borrower to refinance the loan. Unscrupulous lenders structure loans so that the monthly payments cover interest only, or just a small amount of the principal. This means that at the specified time, such as 15 years, or at the end of the loan term, the borrower faces a lump sum payment equal to most or all of the amount originally borrowed. Borrowers rarely understand these terms nor, in many cases, does the lender explain that the loan is structured in this way. By using a balloon loan, the lender can present lower monthly payments to a borrower who expects that his payments are paying off the loan over its term. Often, these lenders go back to borrowers later and inform them of the balloon payment that will be due. This is then used as a reason to refinance the loan and impose new points and fees with the refinancing.

The Board should outlaw mandatory arbitration for HOEPA loans.

Increasingly, lenders are placing mandatory arbitration clauses in their loan contracts. Often, these clauses contain anti-consumer provisions that limit the consumer's remedies or designate a pro-lender arbitrator. Arbitration can also involve costly fees or be required to take place at a distant site. Arbitration will always take time the consumer may not have if they are facing foreclosure. HOEPA borrowers, often unsophisticated and overwhelmed by paperwork, rarely if ever understand the right that they are waiving by agreeing to mandatory arbitration. Since many of the borrowers will not be able to bear their share of the cost of arbitration, they are essentially denied any redress whatsoever. To the extent that large numbers of HOEPA borrowers waive their right to judicial resolution of their dispute, then there will be under-deterrence of activities that violate HOEPA. If an informed consumer thinks that arbitration is a helpful step, the consumer and lender should be permitted to agree to arbitration at that time.(18)

2. The Board should add certain charges to the definition of "points and fees" under HOEPA.

Under HOEPA, "points and fees" include "such other charges as the Board determines to be appropriate."(19) In addition, Section (l)(2)(A) directs the Board to prohibit practices "designed to evade" HOEPA. The Board should use this authority to add charges currently excluded from "points and fees" that some lenders impose to evade HOEPA's protections:

The Board should include the costs of financed upfront credit insurance in the calculation of "points and fees".

CRL argues above that the Board should prohibit financing lump-sum single-premium credit insurance or debt cancellation or suspension agreements for all home loans. If the Board decides not to follow this course, the Board should, at a minimum, include the costs of this financed insurance premiums or debt cancellation/suspension fees in the calculation of "points and fees."

Congress specifically identified the possibility of evading HOEPA by financing credit insurance in the legislative history of HOEPA,(20) and the Board recognized this concern in its proposed rule(21) and final rule(22) regarding HOEPA. The Board stated, "The legislative history [of HOEPA] includes credit insurance premiums as an example of fees that could be included, if evidence showed that the premiums were being used to circumvent the statute."(23)

In the five years since the implementation of HOEPA, it has become clear that unscrupulous lenders have indeed used the exclusion of credit insurance from "points and fees" as a method for circumventing the application of HOEPA to loans that really are "high cost". Given the permitted rates of credit insurance and the methodology for calculating financed credit insurance, it is common to see financed credit insurance amounts that alone exceed the HOEPA limits. In fact, CRL has seen a number of instances where financed credit insurance totaled 20% of the original loan balance, yet the borrowers did not qualify for HOEPA protection. Including these fees in "points and fees" would address this evasion.

The Board should include back-end lender payments to mortgage brokers in the calculation of "points and fees".

The Board should revise its interpretation of "points and fees" under HOEPA to include back-end payments made to mortgage brokers by creditors. Such payments, known as yield-spread premiums, compensate a mortgage broker for putting a borrower into a home loan with a higher interest rate than the borrower actually qualifies for. The broker receives an upfront payment for the value of this extra increment of interest, while the lender receives the higher rate of interest over the life of the loan.

The current Official Staff Commentary excludes YSP payments,(24) based on the fact that the higher interest rate is already taken into consideration as a finance charge under APR. Unfortunately, this exclusion enables lenders to avoid exceeding the points and fees threshold by simply shifting what would have been a high upfront fee that exceeds the HOEPA fee limits into a modestly higher interest rate that does not exceed the interest rate threshold.

The higher rate, particularly when coupled with a prepayment penalty, is conceptually equivalent to an upfront fee. Either way, the lender is guaranteed to receive a certain number of "points" of compensation. The problem with the practice is that the broker has an incentive to make the interest rate to the borrower as high as possible no matter the borrower's creditworthiness, since the higher the rate, the higher the premium becomes.

The Board should revise its Official Staff Commentary to return to its original conception of mortgage broker fees. In its proposed rule implementing HOEPA, the Board stated, "The Board believes that Congress intended a very broad application of the term 'compensation,' including, for example, amounts paid to broker by creditors (in addition to amounts paid by consumers)."(25) At a minimum, the YSP should be included in the calculation of "points and fees" if the loan has a prepayment penalty.

The Board should include prepayment penalties in the calculation of "points and fees".

Whether or not the Board chooses to prohibit prepayment penalties on loans with interest rates greater than conventional, it should include these penalties as "points and fees" to establish the threshold on what a HOEPA loan is. The reason is that a higher interest rate plus a prepayment penalty is exactly the same as upfront discount points. Just as some unscrupulous lenders are using the exclusion of financed credit insurance and yield-spread premiums in order to avoid HOEPA protections, other lenders are charging prepayment penalties in order to either lock borrowers into a bad loan or to strip significant equity in the event of a refinance.

Lenders justify this prepayment penalty as a mechanism to recover the costs of originating the loan upon refinance. Viewed through this perspective, the prepayment penalty is a proxy for an origination fee and should be treated as such under HOEPA. Parenthetically, prepayment penalties are related to YSPs since a lender will only pay such premiums if it is certain the broker will not "flip" a borrower into a new loan before the lender can recoup the interest payments, an assurance that the prepayment penalty provides. Thus, borrowers can pay total fee compensation, including YSPs and a guaranteed premium interest rate backed up by prepayment penalties, greater than the HOEPA limits but still not receive HOEPA protections. By including potential prepayment penalties in "points and fees," the Board would be closing another loophole used to avoid HOEPA application.

Some will argue that a prepayment penalty is not a fee because it is contingent on whether a borrower prepays within a certain period of time or not. However, if a loan is priced at the rate a borrower qualifies for, no prepayment penalty is needed and the lender's risk is appropriately reflected in the interest rate. If the loan is priced higher than the borrower qualifies for with a prepayment penalty, the lender gets the certainty of receiving points since it either collects higher interest if the borrower does not prepay, or the penalty in the event the borrower does.

3. The Board should exercise its discretion under HOEPA to reduce the interest rate trigger for high-cost loans from 10% over comparable treasury rates to 8%.

HOEPA fee and interest rate triggers are much too high. This is demonstrated by the fact that HOEPA has permitted the explosion of harmful lending abuses that have accompanied the recent subprime lending boom. HOEPA explicitly provides the Board the opportunity to lower the interest rate trigger from 10% over comparable treasury to 8%; at a minimum, the Board should take advantage of this opportunity.

4. The Board should improve HMDA disclosures.

The Board should remove HMDA reporting exemption for non-depository lenders whose mortgage lending is less than 10% of total loan originations.

In order to capture only lenders who originate a significant volume of loans, the Board has established a three-part standard to determine which for-profit mortgage lending institutions do not need to report under HMDA. The rule is that a for-profit non-depository lender does not need to report if (1) its assets are less than $10 million, (2) it originated fewer than 100 mortgage loans in the previous year, or (3) less than 10% of its loan volume was derived from home loan originations.(26)

The 10% limitation was designed to prevent burdensome reporting requirements for lenders only peripherally involved in mortgage lending. However, since this rule was implemented, the financial services industries has further consolidated. As a result, some of the largest and fastest growing subprime lenders avoid HMDA reporting simply by being active in other lines of business, such as consumer lending. It is important to be able to track the mortgage lending by these institutions. The solution is to remove the 10% exemption and leave intact the first two tests, which still screen out lenders from reporting who are not significant mortgage lenders.(27)

To fulfill the purposes of HMDA, the Board should require lenders to report additional data elements.

HMDA has two major purposes: to help determine whether financial institutions are serving the housing needs of their communities and to help identify possible discriminatory lending patterns in the mortgage market.(28) Currently, HMDA provides valuable information on how well the community's needs are being met and helps identify discrimination by describing application and denial rates for various ethnic groups. However, since the current HMDA fields were put in place, the mortgage market has changed substantially as subprime lending has increased substantially. As a result, the terms and conditions of the loan that an individual actually received compared with other loans for which the borrower was eligible has become an equally important issue to whether an individual was denied access to credit. Similarly, discriminatory pricing of loans has emerged to be as important as discriminatory denials as a fair lending issue. HUD and several groups have published studies recently suggesting that minority borrowers eligible for lower-cost mortgages may be steered to or targeted by subprime lenders.(29)

Congress authorized the Board to "prescribe regulations as may be necessary to carry out the purposes" of HMDA.(30) In order to carry out the purposes of helping determine whether lenders are meeting the community's housing needs or discriminating against borrowers, the Board should require the reporting of additional information that will allow assessments of whether lenders are providing borrowers with the types of products they are eligible for. Two new data codes for the loan type field and two new data fields would provide objective information that will help identify how well borrower's needs are being met and root out the practice of steering minority groups to more expensive loans than they would otherwise qualify for.

1. New Data Codes for Loan Type -- Currently, there are four data codes for loan type reported under HMDA -- conventional, FHA-insured, VA-guaranteed, and Rural Housing Service-guaranteed. The "conventional" category includes three very distinct types of loans -- Fannie Mae/Freddie Mac prime loans, subprime loans, and manufactured housing/mobile home loans. Two additional codes should be included under "loan type":

Subprime -- From a borrower's perspective, obtaining a conventional Fannie/Freddie agency loan is significantly different from receiving a subprime loan. The agency market is highly competitive and standardized, and borrowers receive the lowest possible mortgage costs. The subprime market, on the other hand, lacks standards and many borrowers find themselves in much higher cost loans than they qualify for. The Board should therefore include a code for subprime.

In order to determine whether a loan fits the subprime category, the Board could publish an average cost of agency loans (similar to, and lenders would identify a loan as subprime if its interest rate exceeded the agency rate at date of lock-in by a certain amount, say 1%. HUD currently has a methodology whereby lenders self-identify themselves as "prime" or "subprime", but this categorization by lender is only a rough approximation of whether the loans themselves are subprime. For example, a lender may identify itself as a "prime" lender, but then offer some subprime products.

Manufactured Housing -- Similarly, a loan for a mobile home or manufactured housing is very different from a conventional agency loan. It is often underwritten as a consumer loan, not a real property loan, because the collateral is the unit and not the underlying real estate, which the borrower may only be leasing. In addition, these units generally depreciate rather than appreciate in value, which makes them more like a car loan than a home loan. So long as HMDA does not distinguish manufactured/mobile homes from other home loans, it is impossible to identify how well lenders are meeting the true housing needs of the community.

2. New Loan Fields -- In order to determine the true cost of the loan to the borrower, and therefore to what extent their credit needs are being met, two additional loan fields should be added. These fields would also help identify loans with potentially abusive terms and the lenders who offer them.

Interest Rate -- As Governor Gramlich noted in his July 1998 Testimony to Congress on the HUD-Fed Report, gathering information on interest rates is also critical to uncovering possible discriminatory loan steering, by helping to distinguish how far from conventional market rates the loan is.

Points and fees - Many subprime borrowers are charged fees significantly higher than those charged in the conventional mortgage market. Identification of up-front charges would help identify possible discrimination in the pricing of loan origination services.(32) Points and fees for all loans should use the HOEPA definition of "points and fees", since lenders must count these fees to determine whether the loan is subject to HOEPA and since HOEPA provides the most comprehensive, and therefore descriptive, catalogue of charges available.

An alternative measure of borrower cost that would be simpler for lenders to determine would be to report "Total Settlement Charges" from the HUD-1 or HUD-1A, which is found at line 1400. This total would pick up a number of areas where borrowers are subject to abuse: high origination fees and discount points, up-front broker fees and up-front credit insurance premiums. It would include third party payments, but that would be true for all lenders, and to the extent that discount points reduced the interest rate, that fact would be captured since the lower interest rate would be reported as well. This measure would not capture other areas of abuse to borrowers, such as yield-spread premiums and prepayment penalties. While not a perfect field, it would provide a very important measure of the total costs to the borrower beyond high interest rates.(33)

It would also be helpful for the Board to require lenders to report (1) the extent of financed credit insurance premiums/debt cancellation and suspension fees and (2) the extent of prepayment penalties. Reporting on these two practices would assist fulfilling the purposes of HMDA, since, along with high fees, these practices strip the most equity from borrowers. Finally, it would also be helpful for lenders to report credit scores. Many mortgage lenders now use credit scores as the key underwriting element. This data would allow researchers to make comparisons of borrowers who received conventional and subprime loans and make preliminary judgments as to whether the loan terms were related to borrower creditworthiness.

3. Information on HMDA Reporters -- Leaving aside what data elements lenders report under HMDA, it is important to fulfil HMDA's purposes to ensure that this data can be tracked at both the parent and affiliate level.

Parent Company Information -- In order to evaluate whether a bank holding company or a bank is meeting a community's credit needs, it is important to have an understanding of the lending activities of its affiliates as well. The Board stopped requiring lenders who report under HMDA to identify their corporate parent in 1998, and it has become very difficult to determine who the parent corporation of a lender is since that time. To solve this problem, the Board should compile and make publicly available information about the parent companies of HMDA reporters.

National Information Center -- The NIC provides data on bank holding companies and their subsidiaries. When using this data, however, one cannot determine whether a subsidiary of a particular BHC reports under HMDA. In order to help people determine whether a BHC is meeting its community's credit needs by looking at the lending activities of its subsidiaries, the Board should amend the NIC to indicate which companies described there are also HMDA reporters.

5. Lenders or their affiliates should receive unfavorable CRA consideration for the origination, purchase or facilitation of loans with harmful characteristics.

Bank regulators should provide unfavorable CRA consideration for an insured depository's origination or purchase of loans -- or securities backed by loans -- that have harmful characteristics. Specifically, regulators should count loans that contain any one of three harmful loan-level elements -- prepayment penalties if the loan's interest rate exceeds conventional rates, financed credit insurance premiums/debt cancellation or suspension fees, or "points and fees" of more than 3% (4% for FHA/VA) as defined by HOEPA -- against a lender's CRA record. These are the three practices that strip equity from low-wealth homeowners to the greatest extent. As such, loans with these characteristics run counter to the financial needs of the community.

In addition, regulators should take into account to what extent lenders assist or facilitate unrelated entities in making subprime loans with harmful characteristics in their assessment areas. This assistance is provided by, for example, providing warehouse lines of credit to lenders or facilitating the securitization of harmful loans by acting as underwriter, trustee or marketing the securities backed by these loans. The adverse impact that banks or bank holding companies have on their communities is as serious through facilitating others make loans with harmful characteristics as when they make these loans directly.

Finally, bank regulators should extend this analysis to affiliates when evaluating the CRA performance of insured depositories. A lender has significant leeway in deciding which corporate entity performs which functions, and should not be able to hide harmful activities through artful use of its corporate structure. From the perspective of the community in which the institution is lending, which affiliate is doing the lending is irrelevant. Therefore, all actors under the same corporate umbrella should be considered.

If the Board takes the view that it can only consider the activities of affiliates if the insured institution chooses to have the affiliate's activities considered, then it should at minimum identify harmful subprime activities as a cause for concern in the performance context prepared for the CRA performance evaluation of the insured depository.

6. The Board should provide more scrutiny over the subprime lending operations of bank holding company subsidiaries and bank affiliates.

The Board should take an expansive role in overseeing and monitoring potentially predatory activities of bank holding company subsidiaries and bank affiliates through periodic reviews. No other federal agency has the same level of authority to oversee the operations of non-bank affiliates of insured depository lenders. Of the 239 lenders who report to specialize in subprime lending for HMDA reporting purposes, 15% of the lenders (and a number of the larger ones) are banks or subsidiaries of bank holding companies.(34) This figure does not include the various lenders who engage in subprime lending, but who do not report as "specializing" in subprime lending. Thus, since many banks now offer subprime products through an affiliate, we believe it is possible that some bank affiliates are engaging in abusive practices without effective oversight by the Board.

In these reviews, the Board should examine non-bank affiliates for compliance with fair lending and other consumer protection laws, as well as harmful lending practices.(35) This analysis should be considered in determining the financial condition of the depository since the problem of predatory lending and consequently the risks to the financial health of institutions has increased so much recently. In fact, First Alliance recently declared bankruptcy as following a New York Times investigation into its predatory lending practices.(36) In addition, the fair lending and predatory lending findings should be part of the analysis of managerial capacity and of the impact on convenience and needs of the affected community.(37)

When possible, the Board should act on these problems when it discovers them. When the Board is unable to act, it should make referrals to other federal agencies that have enforcement authority over such activities. Because of resource limitations, these agencies -- such as the Federal Trade Commission, Department of Housing and Urban Development and Department of Justice -- may never be in a position to know when there are problems to address, and the Board can be an excellent source of such information. Once armed with the appropriate information, the FTC, HUD or DOJ can then enforce the laws and protect families from abusive and illegal lending practices.

For more information, see Coalition for Responsible Lending's website at or contact Eric Stein at 919/956-4400.

Attachment: credit insurance spreadsheet at:

1. See also New York Times Special Report by Diana Henriques with Lowell Bergman: MORTGAGED LIVES: A SPECIAL REPORT: Profiting From Fine Print With Wall Street's Help, March 15, 2000, Section 1, page 1 (companion piece ran on ABC's 20/20 the same night).

2. 15 USC Section 1639(l)(2).

3. These limitations concern certain prepayment penalties, post-default interest rates, balloon payments, negative amortization, prepaid payments, ability to pay, and home improvement contracts. See subsections 129(c)-(i). High cost mortgages are those "referred to in section 103(aa)".

4. Most subprime abuses occur with refinance loans rather than loans used to purchase a house (what HOEPA calls a "residential mortgage transaction", Sec. 152(aa)(1)). HOEPA's enumerated protections are limited to closed end refinance loans that meet the high cost standard. However, section (l) refers to "mortgage loans" generally, which would include purchase-money loans. The fact that section (l)(2) prohibitions are directed at two separate types of loans -- (A) those the Board finds to be unfair, deceptive, or designed to evade HOEPA, and (B) abusive refinancings -- provides evidence that subsection (A) includes purchase money loans as well.

5. See S.1275, Section 129(i)(2): "PROHIBITIONS--The Board, by regulation or order, shall prohibit any specific acts or practices in connection with high cost mortgages that the Board finds to be unfair, deceptive, or designed to evade the provisions of this section." Reported in 140 Cong. Rec. 3020, S3026. According to the Senate Report, No. 103-169, p. 27, "the legislation requires the Federal Reserve Board to prohibit acts or practices in connection with High Cost Mortgages that it finds to be unfair, deceptive, or designed to evade the provisions of this section."

6. See House Conf. Rep. No. 103-652, p. 161, "the Board is required to prohibit acts and practices that it finds to be unfair, deceptive, or designed to evade the section and with regard to refinancing that it finds to be associated with abusive lending practices or otherwise not in the interest of the borrower."

7. "The Conferees recognize that new products and practices may be developed to facilitate reverse redlining or to evade the restrictions of this legislation. Since consumers are unlikely to complain directly to the Board, the Board should consult with its Consumer Advisory Council, consumer representatives, lenders, state attorneys general, and the Federal Trade Commission, which has jurisdiction over many of the entities making the mortgages covered by this legislation.

"This subsection also authorizes the Board to prohibit abusive acts or practices in connection with refinancings. Both the Senate and House Banking Committees heard testimony concerning the use of refinancing as a tool to take advantage of unsophisticated borrowers. Loans were "flipped" repeatedly, spiraling up the loan balance and generating fee income through the prepayment penalties on the original loan and fees on the new loan. Such practices may be appropriate matters for regulation under this subsection." Id.

8. See and

9. For example, one borrower's original loan amount was $58,807 with financed credit life, disability and unemployment insurance of $11,630 (19.8% of original loan amount). It is worth noting that this insurance premium only covered 8 years of the 15 year balloon loan.

10. Credit Research Center study, 1994, Purdue University.

11. At the close of 1997, use of prepayment penalties was not standard subprime lending industry practice. According to an analyst at Wholesale Access, "Prepayment penalties . . . tend to be the exception rather than the rule." "No end to prepayments hurting B&C lenders," Inside B&C Lending, December 22, 1997. Use of prepayment penalties in subprime lending has increased dramatically, however. Household Financial Services reported that the percentage of the loans they purchase that include prepayment penalties grew from 60% in 1998 to 80% a year later. "Prepayment penalties prove their merit for subprime and 'A' market lenders," Inside Mortgage Finance, May 21, 1999. Currently, two-thirds of subprime loans have prepayment penalties. The Mortgage Information Corporation reports that two-thirds of the subprime mortgages they track (from the largest database in the country) carry prepayment penalties. Coalition conversation with Michael Simpson, Director, Product Development, Mortgage Information Corporation, February 4, 2000.

12. See Fannie Mae press release at page four:

13. HUD, Unequal Burden: Income and Racial Disparities in Subprime Lending in America (April 12, 2000) (subprime loans are five times more likely in black neighborhoods than in white neighborhoods); Daniel Immergluck & Marti Wiles, Two Steps Back: The Dual Mortgage Market, Predatory Lending, and the Undoing of Community Development (The Woodstock Institute 1999); Fred Faust, Acorn blasts Number of Sub-Par Loans Made in St. Louis Area, St. Louis Post-Dispatch, October 22, 1999, at C8; National Training and Information Center, Preying on Neighborhoods: Subprime Mortgage Lenders and Chicagoland Foreclosure (September 21, 1999); Bruce Lambert, Analysis Shows Racial Bias In Lending, Schumer Says, New York Times, April 9, 2000, Section 1, Page 35.

14. 51% of borrowers in predominantly African American neighborhoods have subprime loans times 67% who have prepayment penalties (see footnote 11) equals 34% have prepayment penalties. 49% of borrowers in African American neighborhoods have prime loans times 1.5% have prepayment penalties (see footnote 15) equals 1%. 34% plus 1% equals 35% of borrowers in African American neighborhoods have prepayment penalties.

9% of borrowers in white neighborhoods have subprime loans times 67% equals 6% have prepayment penalties. 91% of borrowers in white neighborhoods have prime loans times 1.5% have prepayment penalties equals 1%. 6% plus 1% equals 7% of borrowers in white neighborhoods who have prepayment penalties. 35% is five times greater than 7%. This calculation assumes that, within the subprime universe, loans to African Americans have prepayment penalties at the same rate that white borrowers do. While this assumption bears further research, CRL estimates that the African American percentage would actually be higher.

15. See footnote 11. 0.5% of Freddie Mac's home loan purchases and less than 2% of Fannie Mae's purchases carry prepayment penalties. "Freddie offers a new A-, prepay-penalty program," Mortgage Marketplace, May 24, 1999; Joshua Brockman, "Fannie revamps prepayment-penalty bonds," American Banker, July 20, 1999.

16. See footnote 7.

17. Section 41.3(d); see

18. Compare Magnuson-Moss Act, which prohibits mandatory arbitration of warranty claims. 15 USC 2301-2312.

19. Section 103(aa)(4)(D).

20. See House Conf. Rep. No. 103-652, p. 159.

21. 59 Fed Reg. 61,832, 61,834 (Dec 2, 1994).

22. 60 Fed Reg. 15,463, 15,466 (Mar 24, 1995).

23. 59 Fed Reg. 61,832, 61834 (Dec 2, 1994).

24. Official Staff Commentary, Comment 32(b)(1)(ii) ("Mortgage broker fees that are not paid by the consumer are not included.").

25. 59 FR 61832, 61834 (Dec. 2, 1994).

26. See 12 C.F.R. 203.3(a)(2); 54 Fed Reg. 51,356 (Dec 15, 1989); see 12 C.F.R. 203, Appendix A, Section I.D.

27. See "Clinton-Gore Plan for Financial Privacy and Consumer Protection in the 21st Century," White House Office of the Press Secretary, pp. 6-7 (May 4, 1999).

28. 12 CFR 203.1(b)(1)(i) and (iii).

29. See footnote 13 above.

30. 12 USC 2804(a). According to HMDA, "These regulations may contain such classifications, differentiations, or other provisions . . . as in the judgment of the Board are necessary and proper to effectuate the purposes of this chapter . . . ."

31. See

32. Disclosing the interest rate as well as points and fees is preferable to listing just the annual percentage rate (APR). The APR understates the true cost of fees in most cases since APR amortizes fees over the original term of the loan, and almost all loans are paid off well before term. Thus, where there are up-front fees, the actual APR generally turns out to be much higher than the estimated APR. As a result, although two loans with the same APR would appear to have the same cost to the borrower, the loan with a higher nominal interest rate will generally have the lower final cost to the borrower compared with the loan with significant up-front fees.

33. Funds used for escrows (such as for rehabilitation expenses) or payoffs should be subtracted out. Most high-fee abuses occur in refinance loans. For the HUD-1 for purchase loans, the Board could require reporting of line 1400, Total Settlement Charges, from the column "Paid From Borrower's Funds at Settlement." Even better, the Board could require the total of this column plus "Paid From Seller's Funds at Settlement", less the amount of a Realtor commission, a sum unrelated to the loan. This amount for purchase loans would capture yield-spread premiums too.

34. See Randall M. Scheessele, 1998 HMDA Highlight, Department of Housing and Urban Development, Housing Finance Working Paper Series HF-009 (1999).

35. See GAO Report, Large Bank Mergers: Fair Lending Review Could be Enhanced with Better Coordination, Nov. 1999.

36. Diana B. Henriques, Troubled Lender Seeks Protection, New York Times, March 24, 2000.

37. The convenience and needs analysis occurs when a bank or bank holding company proposes to merge with another bank or BHC (Section 3 of the BHC Act, 12 U.S.C. Chapter 17).


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