December 19, 2007 - The Federal Reserve Board has proposed new rules that will impact the way that mortgage brokers and lenders conduct business. The 163 page proposal is supposed to make the lending industry more "consumer friendly". But if the proposal is adopted as-is, it is likely to make refinancing of current home loans more difficult for many and may very well reduce competition currently in the mortgage industry; something which would be bad for everyone. While the proposal does address some of the problems within the industry, it also has some glaring holes in it.

The FEDS proposed new rules would put an end to some of the most egregious practices currently found in the mortgage lending industry. Specifically with regard to subprime loans:

• Creditors would be prohibited from engaging in a pattern or practice of extending credit without considering borrowers' ability to repay the loan.
• Creditors would be required to verify the income and assets they rely upon in making a loan.
• Prepayment penalties would only be permitted if certain conditions are met, including the condition that no penalty will apply for at least sixty days before any possible payment increase.
• Creditors would have to establish escrow accounts for taxes and insurance.

In addition, the following rules would apply to all "prime" mortgages:

• Lenders would be prohibited from compensating mortgage brokers by making payments known as "yield-spread premiums" unless the broker previously entered into a written agreement with the consumer disclosing the broker's total compensation and other facts.  A yield spread premium is the fee paid by a lender to a broker for higher-rate loans.  The consumer's written agreement with the broker must occur before the consumer applies for the loan or pays any fees. 
• Creditors and mortgage brokers would be prohibited from coercing a real estate appraiser to misstate a home's value.
• Companies that service mortgage loans would be prohibited from engaging in certain practices.  For example, servicers would be required to credit consumers' loan payments as of the date of receipt and would have to provide a schedule of fees to a consumer upon request.

These rules would only be applied to loans taken out on the borrowers primary residence. Investment properties and vacation homes are specifically exempt.

While the proposal represents a significant step forward in consumer disclosure, it is clearly aimed at loan brokers and does little to regulate banks when they lend directly to consumers. For instance, while brokers would be forced to reveal their compensation to consumers, direct lenders could hide the compensation paid to their employees when they make loans directly. This means that bank employees will have less incentive than brokers to provide the borrowing public with the best loan terms.

The proposed rules also address certain deceptive lending advertising practices, but they ignore others. One issue that is totally untouched by the proposal are so-call "no cost" loans. Recently these loans have been heavily advertised by both direct lenders and loan brokers. The advertising is designed to make potential borrowers believe that they pay only a flat fee for any loan they take out. What the lender hides from the borrower is the fact that "no-cost" loans have substantially higher interest rates. Over the course of a thirty year mortgage, the increased interest rate could easily cost a consumer tens of thousands of dollars. At ACCESS, we would like to see this practice banned.

The FED is seeking comments on the proposed rule changes. Anyone wishing to contribute comments can click here. Please remember that all comments become available for the public to read.

by Jim Malmberg

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