Background about Predatory Lending

Although the nation has made great progress in increasing homeownership, we still face the significant challenge of combating predatory or unscrupulous lending. Predatory lenders use high-pressure sales tactics to convince borrowers to pledge their homes as collateral for loans that cost more in interest and fees than loans offered by reputable lenders. Elderly, minority and lower-income homeowners are especially vulnerable to these tactics.

Here are some examples of homeowners who have been victimized by predatory lending:

• A 58-year-old dishwasher from Vermont with an eighth-grade education who lost a home that she had been given because she fell behind on a high-cost home-improvement loan that, in turn, had consolidated her consumer debts and pledged her house as security.

• A homeowner in North Carolina who was assisted by Habitat for Humanity refinanced his original $33,000 mortgage, at zero percent interest to $61,500 with an interest rate of 12.9 percent before he lost his home to foreclosure.

• A suburban Chicago geriatric nurse who had to take on a second job to keep up with the payments as her mortgage zoomed from $48,000 to more than $400,000 after remodeling and debt consolidation.

In response to these and many other disturbing consumer stories, NeighborWorks America has hosted anti-predatory lending forums, created a consumer education curriculum on the topic, and developed partnerships with consumer groups to support legislative and regulatory solutions. Through their speeches and public appearances, NeighborWorks America board members are also working to raise awareness of the issue.

Evolution of Predatory Lending

Predatory lending as we know it today first became widespread in the 1990s. Many factors, in the lending market as well as the American culture in general, made the times ripe for predatory lending.

Consumer Credit Culture. We live a world of immediacy—instant messaging, instant access, instant purchase power. American culture no longer values saving for a purchase until it can be paid for in cash. The ‘buy now, pay later’ philosophy is at the heart of the predatory lending crisis. Some homeowners who face credit card debt opt to take the easy way out rather than taking steps to reduce their spending and work to pay off the debt. Instead they gravitate to the “No Credit, Bad Credit?” ads, bringing themselves to the doors of the predatory lenders.

Increasing Home Values. Home values in many markets have been steadily increasing, allowing homeowners to rapidly build equity. This has created a fertile market for predatory lenders.

Consumer Demand for Home Equity Loans.   America’s housing stock is aging and needs repairs. The predatory lenders will always be where the need is the greatest. They have teamed up with unscrupulous contractors to identify vulnerable homeowners, often elderly people.

Lack of Access to Mainstream Financial Services. Many lower-income consumers do not have bank accounts and access to their financial services. Predatory lenders target these consumers by providing financial services through unregulated businesses such as brokers, payday lenders, car title lenders, etc.

Overwhelmed Consumers. Many consumers believe that home financing is too complex for them and there are too many choices to ever understand. These consumers are afraid to ask questions. These consumers rarely know where to turn for help and advice on financial services.

Unscrupulous Lenders and Brokers. Mortgage brokers and third-party originators has accounted for increasing percentage of overall mortgage originations over the past decade. Few regulations protect consumers from unscrupulous brokers and there are few disincentives preventing brokers from charging high fees and interest rates to consumers.

Examples of Predatory Lending Practices

Equity Stripping
A lender takes a portion of the homeowner’s equity in a manner that provides no or little value to the homeowner.

Asset-Based Lending
A lender provides financing to a homeowner based on the homeowner’s equity and without regard to the borrower’s ability to realistically repay the loan. The lender determines that there is equity enough to cover any loss that might incur in the event of a default.

Mortgage Flipping
Repeatedly refinancing loans with no tangible benefit to the consumer. Equity is stripped from the homeowner with each refinance by charging high closing costs and prepayment penalties.

Packing
The borrower gets a loan that has charges for services the consumer does not request or need. Packing most often involves the forced purchase of insurance, such as credit life insurance or unemployment insurance.

“Foreclosure Rescue”
A home is purchased from a homeowner who is facing foreclosure, usually in exchange for the balance of loan. The home is sold back to the homeowner at market value or higher. The lender uses a lease-purchase arrangement with payment rates the homeowner can’t afford.

Property Flipping
Rapid resale of a property at a higher than market value using a phony appraisal. This may include a second mortgage payable to the seller and forged or false loan documents.

Balloon Mortgage
A balloon mortgage has payments based on a 30-year amortization schedule with the unpaid principle balance due in a lump sum at a specified time, generally five to seven years. Borrowers believe they have applied for a low- rate loan with low monthly payments. They learn at closing that it is a short-term balloon loan that will need to refinanced within a few years.

Home Improvement Scams
Using high pressure tactics, unneeded home improvements are sold to homeowners. The work is usually overpriced and often involves a tie-in to an exclusive lender.

What Can Be Done about Predatory Lending?

Legislation: States should continue to enact their own legislation to limit high cost loans. A federal standard, especially a weak law, will do little in a predatory practice-heavy state whose laws have become pre-empted and therefore meaningless. States like North Carolina, Illinois, New Jersey and New Mexico have laws that have been proven effective. Eliminating these effective and fair laws by a preemptive federal law is as unwise as it is costly.

Better Disclosures: Homebuyers should be aware of how fees are accounted for in the loan, and at what price. The abusive and misleading practice of financing fees into the loan amount is essentially duping homebuyers into agreements no knowledgeable person would ever enter.
Clearer disclosures should be used so consumers can understand and compare the fees and interest charges for loans.

Excessive Fees and Penalties: There should be an economically-justified limit on penalties and fees. These laws should appropriately balance the risk a lender assumes when financing an individual with poor credit with the fees charged to that individual. Fees must reasonably match the credit risk – nothing less is fair or prudent.

Better Enforcement: Federal and state agencies should strongly enforce lending laws to reduce the rampant growth of lending and real estate fraud occurring in the nation.

Better Consumer Education: Improve the availability of financial education for all consumers and provide incentives for savings. Provide financial education in the secondary schools and college.

Mortgage Broker Registration: All mortgage brokers should be registered and meet stringent state guidelines.

Resources

For more information on predatory lending, visit www.nw.org/predatorylending.