For Roxana Evans, the Fed’s new rules to crack down on abusive lending practices, approved Monday, came too late.
Evans is facing foreclosure on a home she bought in Ohio several years ago but moved out after finding it was in a neighborhood where drugs and prostitution were rampant.
In retrospect she contends that her mortgage lender, appraiser and real-estate agent were all working together to inflate the value of the home at her expense. “They all let me down,” she said.
The Fed’s new plan will curb shady lending practices that have figured prominently in the housing crisis and propelled foreclosures like Evans’ to record highs.
Lax lending standards during the heady days of the housing boom ended up burning the riskiest “subprime” borrowers — people with tarnished credit or low incomes — because they got loans they couldn’t afford or didn’t understand.
“Rates of mortgage delinquencies and foreclosures have been increasing rapidly lately, imposing large costs on borrowers, their communities and the national economy,” said Fed Chairman Ben Bernanke.
“Although the high rate of delinquency has a number of causes, it seems clear that unfair or deceptive acts and practices by lenders resulted in the extension of many loans, particularly high-cost loans, that were inappropriate for or misled the borrower,” Bernanke added.
For risky borrowers, the new rules will bar lenders from making loans without proof of a borrower’s income. The rules will require lenders to make sure risky borrowers set aside money to pay for taxes and insurance.
Lenders will also be restricted from penalizing risky borrowers who pay loans off early. Such “prepayment” penalties are banned if the payment can change during the initial four years of the mortgage. In other cases, a penalty can’t be imposed in the first two years of the mortgage.
And, lenders would be barred from making a loan without considering a borrower’s ability to repay a home loan from sources other than the home’s value. The borrower need not have to prove that the lender engaged in a “pattern or practice” for this to be deemed a violation. That marks a change — sought by consumer advocates — from the Fed’s initial proposal and should make it easier for borrowers to lodge a complaint.
Critics — including some Democrats on Capitol Hill, consumer groups and others — contend that the Fed’s failure to curb such lending practices years ago contributed to the mortgage meltdown.
“It was a race to the bottom in lending standards,” said Susan Wachter, a professor of real estate and finance at the University of Pennsylvania’s Wharton School of Business. Still, she believed the rules should protect people down the road — when the housing market gets back to health. “Memories are short,” she warned.
For the more immediate term, the new lending rules may not get a test for some time because there are fewer home buyers these days, given all the problems in the housing and credit markets.
Also, some of the shady practices — along with some lenders — have not survived, felled by the mortgage meltdown. “The subprime market doesn’t really exist right now,” said Donald Kohn, the Fed’s vice chairman.
Pava Leyrer, president of Heritage National Mortgage in Grand Rapids, Mich., said lenders already have tightened their standards. “I have people in my office every day. Their situation a year ago may have been completely different than it is now . I can’t find loans for them and they’re good borrowers.”
The rules take effect on Oct. 1 — except for the escrow provisions, which take hold in April 2010.
“A lot of people probably already thought these rules were in place but they weren’t,” said Jim Gaines, a research economist at Texas A&M University’s real-estate center.
For all mortgages, the plan would require advertising to contain additional information about rates, monthly payments and other loan features, and it would curtail certain deceptive or misleading advertising practices.
For instance, lenders are barred from advertising “fixed” rates or payments without making clear that the “fixed” rates last for only a limited period of time — not the life of the loan.
Other practices also would be clamped down on. Companies servicing mortgages, for instance, have to credit a mortgage payment to the homeowner’s account on the day it is received. Consumer advocates said that’s important because they contend that some companies were holding on to payments so they became late and then people were hit with late fees.
And, brokers and others are forbidden from “coercing or encouraging” an appraiser to misrepresent the value of a home.
For now, the Fed decided not to ban incentive payments given to mortgage brokers — known as yield-spread-premiums. Critics say these payments give mortgage brokers the incentive to charge higher fees with no benefit to the consumer, while supporters say it’s a legitimate way for borrowers to spread out mortgage broker fees over the life of a loan.
Lenders worry the rules could limit mortgage options for people and make it harder for some to obtain financing.
Kieran Quinn, chairman of the Mortgage Bankers Association, called the rules a “thoughtful effort to tackle difficult concerns” and said they would be carefully reviewed. “MBA strong believes that it is essential for credit not to be unduly restricted,” he said.
Much will hinge on effective enforcement.
The plan would apply to new loans made by thousands of lenders, including banks and brokers. It would not cover current loans.
Those different lenders fall under a patchwork of regulators at the federal and state levels. So it will be up to each of these authorities to enforce the new provisions.