The House Committee on Financial Services will vote today on legislation that would ensure American families who take out home loans in the future will not face the same fate as the families suffering amid the current subprime mortgage crisis. This long-overdue legislation addresses many abusive lending practices that have led to the current explosion in home foreclosures. Certain provisions, however, cannot be conceded if the bill is to truly intended to reform a marketplace that is clearly broken.
The Mortgage Reform and Anti-Predatory Lending Act, sponsored by Financial Services Committee Chairman Barney Frank (D-MA) along with Brad Miller (D-NC) and Melvin Watt (D-NC), takes a strong, all-inclusive approach to putting the brakes on the out-of-control subprime mortgage lending industry. Subprime loans are the high-cost segment of the home lending market and were originally intended to serve higher-risk borrowers who could not qualify for prime loans. But in addition to higher interest rates, lenders have tacked on tricky loan terms and features—many of which are downright abusive—that are not seen in the prime lending industry.
Those lending practices have contributed to the explosion in foreclosures. The new legislation would outlaw the most abusive of these features and include several measures to restore integrity to the market. Specifically, the bill would do the following:
- Require subprime lenders to determine whether the borrower has the ability to repay the loan, when taking into account the fully indexed interest rate and fully-amortized payment on adjustable-rate loans over the life of the loan.
- Establish a so called “duty of care” so that loan originators are subject to a fidicuary responsibility to their borrowers, and would require mortgage orginators to be licensed and to act in the best interest of consumers by presenting them with loan products that are appropriate for a borrower’s financial circumstances.
- Prohibit so-called yield-spread premiums, which result in incentives for mortgage brokers to steer the borrower to higher-cost loans.
- Require subprime lenders to determine that a refinanced loan would provide a net tangible benefit to the consumer, thus curbing repeated refinancing that brings in additional fees to the lender.
- Prohibit prepayment penalties on subprime loans.
There’s a lot at stake. While the financial fallout on Wall Street from reckless subprime lending is now well-documented, predatory mortgage lending is also having a devastating effect on working families who otherwise thought they were taking out sound loans. The Center for Responsible Lending estimates that 7.2 million families hold subprime mortgages, and (due in part to high rates and tricky terms) 14.4 percent of these are currently in default. It projects that one in five subprime loans made in 2005-2006 will end in foreclosure.
This coming wave of foreclosures will strike not only the families holding these loans, but also will damage the financial health of their neighbors, too. According to a study of foreclosures in Chicago carried out by the Woodstock Institute, each foreclosure caused nearby single-family homes in the city to decline in value by 1.44 percent for dwellings in low- and moderate-income census tracts. The impact of multiple foreclosures on local property prices will be devastating to those homeowners now able to service their mortgages but who later may need to sell their homes. The Joint Economic Committee of Congress recently estimated that each foreclosure costs $227,000, which includes the lost equity in the foreclosed property, neighboring house values, lender costs, and the costs of additional municipal services.
The lending protections in the base bill would not supersede any state laws that provide for stronger remedies—an important provision for activists who have worked hard to pass anti-predatory mortgage laws in their states. In fact, the bill would set a high bar for states that currently have no substantive predatory mortgage lending laws.
The committee must not allow the bill to preempt stronger state laws.
The base bill also provides for some assignee liability—that is, legal responsibility for subsequent holders of abusive loans that are sold on the secondary market. Amendments are being considered that may limit this liability. At this writing, it is unclear what the final committee report will include. It is in the best interest of low- and moderate-income consumers that legislation not deter our capital markets from providing capital through securitization; but we also have seen how the demands of the secondary market for product regardless of credit quality or predatory terms drove abusive practices.
With the consequences of this disregard now so clearly on display, this Congress must take advantage of the moment to advance consumer protections that special interests have long been able to block. We recognize, however, that the legislative process involves some compromise. Some of the changes under consideration today may be offered to win broader support for a bill that should get to the president’s desk quickly and be signed.
We are hopeful that Financial Services Committee Chairman Frank and his congressional pro-consumer allies will strike the right balance in trying to win enactment of legislation to provide essential protection for consumers. But let’s not forget those who are today suffering from these abusive practices. This bill will curb effects on future borrowers, but other legislation is needed to help families currently facing foreclosure.