CUNA Regulatory Comment Call
March 19, 2007
Agencies Request Comment on Subprime Mortgage Lending Statement
EXECUTIVE SUMMARY
- The federal financial institution regulators, including NCUA, have issued for comment a proposed Statement on Subprime Mortgage Lending (Statement) that addresses risks and other issues relating to subprime mortgage lending practices, specifically for adjustable-rate mortgage (ARMs) loans.
- The Statement addresses the evaluation of the borrower's ability to repay these loans and emphasizes the need to ensure that borrowers' have sufficient information regarding the benefits and risks of these types of loans. The Statement complements the nontraditional mortgage loan guidance that was issued last year. Click here for more information about the nontraditional loan guidance.
- Comments on the proposed guidance are due by May 7, 2007. Please submit your comments to CUNA by April 26, 2007.
Please feel free to fax your responses to CUNA at 202-638-7052; e-mail them to Senior Vice President and Deputy General Counsel Mary Dunn at mdunn@cuna.com and to Senior Assistant General Counsel Jeff Bloch at jbloch@cuna.com; or mail them to Mary and Jeff in c/o CUNA's Regulatory Advocacy Department, 601 Pennsylvania Avenue, NW, South Building, Suite 600, Washington, DC 20004-2601. You may also contact us at 800-356-9655, ext. 6032, if you would like a copy of the proposed Statement, or you may access it here.
BACKGROUND
The federal financial institution regulators, including NCUA, have issued this Statement to provide guidance when assessing a borrower's ability to repay a subprime mortgage loan. The Statement addresses the appropriate consumer protection issues and practices, including existing statutes, rules, and guidance that are intended to protect consumers from unfair, deceptive, and other predatory practices. The Statement also addresses other issues to ensure that this type of lending is conducted in a safe and sound manner, and it is intended to complement the nontraditional mortgage loan guidance that the regulators issued last year.
BRIEF DESCRIPTION OF THE GUIDANCE
The regulators are concerned that subprime borrowers may not fully understand the risks of obtaining certain ARM loans, which includes loans with the following characteristics and practices:
- Offering low initial payments based on a fixed introductory rate that expires after a short initial period, at which time it converts to an adjustable rate. Common examples include "2/28" and "3/27" loans in which there is a low fixed rate for either two or three years, which then converts to an adjustable rate.
- Approving borrowers without appropriate documentation of income.
- Setting very high or no limits on how much the payment or interest rate may increase at the reset periods. The concern is that this can lead to significant "payment shock" for the borrower when faced with significant increases in the monthly payment.
- Containing product features that will likely result in frequent refinancing in order to maintain affordable payments.
- Including substantial prepayment penalties or prepayment penalties that extend beyond the initial interest rate period.
- Providing borrowers with inadequate information regarding the loan terms and risks, including prepayment penalties and the obligations for property taxes and insurance.
The regulators are concerned about the impacts of these subprime loans on borrowers, which includes being unable to afford the payments after the initial rate expires, difficulty in paying real estate taxes and insurance if these are not escrowed, incurring high refinancing fees frequently as a result of closing costs and prepayment penalties, the loss of the home, as well as other elevated credit risks. The Statement warns that institutions marketing subprime mortgage loans should not engage in the predatory lending practices, as outlined in the Expanded Guidance for Subprime Lending Programs that was issued in 2001.
The Statement also refers institutions to the Interagency Guidelines for Real Estate Lending that was issued in 1993, which outlines underwriting standards for all real estate loans. These guidelines state that prudently underwritten real estate loans should reflect all credit factors, including the capacity of the borrower to make the payments. The nontraditional mortgage loan guidance last year also outlines similar criteria for qualifying borrowers for loans that my result in "payment shock." Specifically, the institution's analysis of the borrower's ability to repay the loan should include an evaluation of the ability to repay the loan by its final maturity at the fully indexed rate, assuming a fully amortizing repayment schedule.
Institutions should have clear policies for loans that rely on reduced documentation or include other forms of risk layering, such as simultaneous-second lien mortgages. This should include demonstrating mitigating factors that support the underwriting decision and the borrower's repayment ability.
According to the Statement, the higher the loan's risk, the more important it is to verify the borrower's income, assets and liabilities. Stated income and reduced documentation should only be accepted if there are mitigating factors that minimize the need to verify this type of information. A higher interest rate would not be considered a mitigating factor.
The consumer protections principles that should apply to mortgage loans include approving loans based on the borrower's ability to repay and providing information that enables consumers to understand the material terms of the loan at a time that will help the consumer choose among loan products and payment options. When applying these principles to subprime ARM loans, these communications to borrowers should include clear and balanced information about the benefits and risks of these types of loans. This should be included in advertisements, oral statements, and other promotional materials. The information should be provided in a timely manner in order to assist the consumer in choosing the appropriate loan, not just upon submission of an application or upon consummation of the loan. Institutions should also not use these communications to steer consumers to these types of subprime ARM loans to the exclusion of other loans offered by the institutions for which the consumer may qualify.
Specifically, consumers should also be informed of the following:
- The potential payment increases, as well as how these payments are determined.
- The existence of prepayment penalties. (Federal credit unions are prohibited from charging prepayment penalties.)
- The existence of balloon payments.
- Any additional costs associated with a reduced documentation or stated income loan.
- The requirement to make payments for real estate taxes and insurance, if they are not escrowed, and that these costs can be substantial.
The Statement also indicates that institutions should develop strong control systems to monitor whether actual practices are consistent with their policies and procedures. These systems should address compliance and consumer information concerns, as well as safety and soundness, and should include third parties, such as mortgage brokers and correspondents.
These controls should include establishing appropriate criteria for hiring and training loan personnel, entering into and maintaining relationships with third parties, and conducting due diligence with third parties. Institutions should also design compensation programs that avoid providing incentives for approving loans inconsistent with sound underwriting and consumer protection principles and that avoid steering consumers to these types of subprime ARM loans to the exclusion of other loans for which the consumer may qualify.
Institutions should also have procedures and systems that monitor compliance with appropriate laws and regulations, applicable third party agreements, and internal policies. This should also include appropriate corrective actions in the event of failure to comply with these laws, rules, agreements, and policies. Institutions should also initiate procedures to review consumer complaints as a means to identify compliance and other problems.
The regulators will be carefully scrutinizing the risk management and consumer compliance processes, policies and procedures that are outlined in this Statement during the regularly scheduled examinations. Institutions that do not manage these functions appropriately will be required to take remedial actions.
QUESTIONS TO CONSIDER REGARDING
THE SUBPRIME MORTGAGE LENDING STATEMENT
(The regulators have specifically requested comment
on many of the issues raised in these questions.)
- Do these types of subprime mortgage loans present inappropriate risks to lenders and
borrowers that should be discouraged or are there circumstances in which these types of loans
are appropriate?
- Will this Statement unduly restrict the ability of existing subprime borrowers to
refinance their loans in order to avoid the "payment shock" that is associated with sharp
increases in the monthly payments when the rate increases? What is the availability of
mortgage loans that do not include the risk of "payment shock?"
- Should the principles in this Statement apply beyond the subprime ARM market?
- Will limiting prepayment penalties to the initial fixed rate period help borrowers
determine appropriate actions with regard to their loans?
- Other comments?
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Eric Richard • General Counsel • (202) 508-6742 • erichard@cuna.com Mary Mitchell Dunn • SVP & Deputy General Counsel • (202) 508-6736 • mdunn@cuna.com Jeffrey Bloch • Assistant General Counsel • (202) 508-6732 • jbloch@cuna.com Lilly Thomas • Assistant General Counsel • (202) 508-6733 • lthomas@cuna.com Catherine Orr • Senior Regulatory Counsel • (202) 508-6743 • corr@cuna.com |
