Five years after the bubble burst, subprime-mortgage-style avarice is making a comeback. Consider HR. 1077 and S. 949, a pair of industry-backed bills to re-legitimize one of the slimiest practices of the bubble years – the lender kickbacks that sent armies of brokers out across the land promoting dangerous and deceptive loans, especially in low-income areas and communities of color.
Subprime lenders often charged high up-front fees, and they rarely held onto a loan long enough to care whether it got repaid. They were also fond of a form of broker commission known as a yield spread premium, or YSP, which was basically a reward for sticking a borrower with a needlessly expensive or risky loan.
YSPs were a major driver of abusive lending. More than 85 percent of subprime mortgages included them, with brokers typically collecting $1,000 dollars or more for getting people to accept tricky loans that would cost them extra money and erode their equity (the best-case scenario) or push them into default and foreclosure (the all-too-common worst case).
It was a system built to exploit the credulousness of borrowers, including many homeowners who had no idea that brokers weren’t looking out for their best interests. It was also a recipe for discrimination. Regardless of their credit-worthiness, borrowers of color were much more likely to receive high-interest loans or loans with prepayment penalties, teaser rates, and other tricky features. Among borrowers with better-than-average credit scores, African-Americans and Latinos wound up with high-interest loans more than three times as frequently as whites did.
YSPs led to bad mortgages, which frequently led to disaster: according to a late 2011 report by the Center for Responsible Lending, predatory lending practices were a strong predictor of foreclosure. Unsurprisingly, the same report found that an estimated one-quarter of all Latino and African-American borrowers had either been foreclosed on or fallen into serious delinquency, compared to just under 12 percent of white borrowers.
In the Dodd-Frank financial reform law of 2010, Congress set out to end this perverse system of compensation. Dodd-Frank called for the creation of a new class of safer loans, known as Qualified Mortgages, which would get preferential legal treatment. A qualified mortgage could not include any broker payment pegged to the cost (as opposed to the amount) of a loan. Moreover, the total of up-front “points and fees,” including broker payments from either borrower or lender, could not exceed 3 percent of the loan. Borrowers are looking for security in their mortgage choices, so to now have this become a new law can help them immensely with getting the right outcomes for their loans. It is important that a proper wholesale mortgage banking system is also set up to ensure that payments are handled correctly and efficiently.
To their credit, the Federal Reserve Board and the Consumer Financial Protection Bureau have moved ahead with rules to put these key reforms into effect. Under their rules, brokers can no longer pocket huge up-front commissions for making loans that are likely to self-destruct a year or two down the road.
But now, at the eleventh hour, brokers and lenders are trying to undermine the new rules with the grotesquely misnamed Consumer Mortgage Choice Act, which would exempt broker kickbacks from the 3 percent cap. This is a proposal that, in both its House and Senate versions, is very obviously designed to benefit brokers, not consumers. It would open the door to a resurgence of the aggressive and indiscriminate mortgage lending that left a trail of devastation when the market collapsed.
Although the Dodd-Frank law prohibits variable compensation based on interest rates, lenders who specialize in high-interest loans are still at liberty to pay premium commissions. The House and Senate bills would actually encourage that by excluding such commissions from the fee cap. Brokers would then inevitably gravitate toward the most irresponsible lenders, and we could expect a fresh wave of the unscrupulous lending that got us where we are today.
To make things worse, fees paid to lender-affiliated title insurance companies would also not count toward the cap under these bills. Title insurance charges, like YSPs, are associated with a long history of price-gouging.
It should come as no surprise that many lenders and brokers long to bring back a payment mechanism that produced windfall profits as soon as a loan was issued – money that did not have to be returned if the loan went bad a little while later. Barely five years after the mortgage meltdown, however, it is both extraordinary and appalling to see House members and senators – Democrats and Republicans alike – eagerly attaching their names to these foolhardy proposals.
This country is still paying the tab for the last big wave of deceptive mortgage lending. Not since the Great Depression have we experienced such a sharp increase in unemployment or such a dramatic erosion of wealth.
American have not forgotten. It shouldn’t be too much to ask that our elected officials remember, too – and summon the courage to say no when the financial industry seeks to roll back sensible rules written to prevent predictable rip-offs.
— Jim Lardner
Originally published on USNews.com (6/19/13)
- Lost Ground, 2011: Disparities in Mortgage Lending and Foreclosures (CRL)
- Sign-on Letter to CFPB (2/25/13)
- Sign-on Letter to House of Representatives (4/9/13)
- Yield Spread Premium Fact Sheet (CRL)