Regulators Ask for Comment on Guidelines Covering Wider Class of Subprime Mortgages
March 5, 2007
Federal bank, thrift, and credit union regulators March 2 asked for comment on a new set of guidelines for adjustable-rate subprime mortgage products, especially loans that borrowers cannot repay without refinancing or selling their homes.
The proposed guidance would direct lenders to more closely consider whether borrowers could repay such loans, to ask them for more documentation, and to provide more information in advertising about the risks of adjustable-rate mortgages.
The proposed guidance, which regulators said will complement a separate set of guidelines on nontraditional mortgages issued in September, (190 DER 42, 10/2/06 ) garnered quick praise from Senate Banking Committee Chairman Christopher Dodd (D-Conn.) and
House Financial Services Committee Chairman Barney Frank (D-Mass.).
Both have called for a new set of guidelines to cover subprime adjustable-rate mortgages (ARMs), and said the proposal is an important step.
"Today, we got the right answer," Dodd said March 2, saying some loans can threaten institutions and consumers and voicing worries about "looming foreclosure problems that may lie ahead."
In a March 2 statement, Frank said he and others on his panel are "concerned about risky loans" and their impact on consumers and financial institutions.
"I applaud the work of the regulators in issuing this important draft guidance today, and I look forward to reviewing the proposal," Frank said, singling out for special mention efforts by Federal Deposit Insurance Corporation Chair Sheila Bair.
Banking Groups Wary
However, the proposal received mixed reactions from trade groups. James Valentine, director of housing and community development for the American Bankers Association, said the guidance does not address the many unregulated loan originators that make up so
much of the market for mortgage loans.
Lenders covered by the guidance comprise only about 25 percent to 30 percent of the mortgage industry, he said.
"There seems to be a sincere effort on behalf of the regulators to want to take the mystery out of the mortgage shopping process. This gets you only part of the way there," Valentine told BNA March 2.
The proposal was issued by the Federal Reserve Board, the Federal Deposit Insurance Corporation, the Office of the Comptroller of the Currency, the Office of Thrift Supervision, and the National Credit Union Administration.
Comments are due 60 days following publication of the proposal in the Federal Register.
Lenders Must Highlight Risks for Borrowers
In the proposal, regulators said consumers may not appreciate the implications of some subprime mortgage loans, especially those with shifting rate and payment characteristics.
"The Agencies are concerned that subprime borrowers may not fully understand the risks and consequences of obtaining certain adjustable-rate mortgage (ARM) products," the proposal said.
In general, the proposed guidance said lenders should:
consider whether borrowers can repay a loan based on the fully indexed rate, assuming fully amortized payment schedule, instead of qualifying borrowers simply on the basis of a low "teaser" rate;
ask for more documentation (instead of higher interest payments) if a borrower's financial position is unclear;
provide, in marketing and advertising materials, "clear and balanced information about the relative benefits and risks of the products," including the risk of "payment shock," and;
establish strong training programs and internal controls to ensure that practices and procedures are being monitored.
Nor are all the worries about borrowers. The proposed guidelines also said some loans "may pose an elevated credit risk" to lenders.
The Right Framework, Some Say
Robert Davis, executive vice president and head of government relations at America's Community Bankers, was generally supportive of the proposed guidelines.
"I think this is the right framework for the regulators to use as they think about these lending issues," Davis said. He noted that ACB will discuss the proposal with its members to identify any possible "unintended consequences" that could result.
Davis said ACB agrees with the principle articulated in the proposal that mortgages should be offered with the expectation that consumers will have the ability to repay. He added that "we are pleased to see that the guidance is not prescriptive as to the
kinds of credit instruments" that lenders can make available.
Subprime Loans in Capitol Hill Spotlight
The proposed guidelines cover a class of loans not explicitly covered in the September 2006 guidelines.
Although members of Congress and consumer advocates have called for wider application of the guidelines, the issue came sharply into focus Feb. 14 and 15, when Federal Reserve Board Chairman Ben S. Bernanke fielded numerous questions while testifying before
Dodd's committee and Frank's panel.
Bernanke said then that regulators would be issuing a broader statement clarifying that the same principles at work in the September 2006 guidelines would also apply to subprime ARMS such as 2/28 loans and 3/27 mortgages (32 DER A-31, 02/16/07 ).
CSBS Calls for Partnership with States
Trade associations weighed in quickly on the potential impact of the proposed guidelines.
Some, like the Mortgage Bankers Association, worried that by targeting so-called 2/28 loans and other hybrid ARMs with low initial fixed rates that later reset on a permanent basis, adoption of the guidelines may give borrowers fewer options.
"We are concerned that the proposed statement, if adopted as proposed, may restrict credit to many consumers in high-cost areas and deny credit to many deserving low-income, minority, and first-time homebuyers," MBA Chairman John M. Robbins said in a March
Housing Policy Council President John Dalton expressed similar concerns in a March 2 statement, calling for implementation of the guidelines "in a careful, flexible manner that does not inadvertently cause consumers to be denied credit."
State Officials Supportive
However, the Conference of State Bank Supervisors and the American Association of Residential Mortgage Regulators issued a joint statement voicing "strong endorsement" of the proposal.
They also said they plan to develop a parallel proposal for state regulators to use with state-supervised lenders, and said more coordination between regulators is needed.
"CSBS and AARMR believe a coordinated effort among federal and state regulatory agencies is necessary to provide effective supervision of the residential mortgage industry," the two groups said March 2.
More support came from Allen Fishbein, director of housing and credit policy for the Consumer Federation of America.
"Soaring delinquencies and defaults in the subprime market have put millions of borrowers at risk of losing their homes," he said March 2.