By Mike Heayn Real Estate 101
WITH THE CURRENT NEGATIVE NEWS about the subprime market and predatory lending practices, it was only a matter of time until Congress got involved. Last week I talked about the subprime market and why borrowers are failing to make their mortgage payments. Now I will discuss the beginning of the aftermath.
Last week the Senate Housing, Banking and Urban Affairs Committee summoned federal regulators and top executives from the mortgage industry to testify regarding the recent subprime debacle. The committee also listened to borrowers who claimed they had been victimized by predatory lending. The committee wanted to know why the subprime meltdown has taken place, who is to blame, and how to keep it from happening again.
As a refresher, subprime loans are those given to borrowers who usually have some type of credit issue and a lower credit score ranging, typically in the low 600s. Predatory lending, which is typically more prevalent in the subprime sector, and is defined as lending activities that involve charging a higher interest rate, fees, penalties and/or other costs that cannot be justified by the lenders’ risk or exposure. For example, if the prime interest rate was 8.50 percent and the standard loan fee was one point with about $500 in other fees, a predatory loan could be defined as a loan that charges an interest rate of 1 percent for the first 3 months than adjusts to the 6 month LIBOR with a margin of 6 percent (6 month LIBOR which is currently 5.320 plus 6 percent equals 11.320 percent interest rate) with loan fees of 5 points and $5,000 of “other” fees. This example may seem extreme, but you would be surprised at the types of loans certain lenders were offering to borrowers.
The subprime meltdown and predatory lending issues are becoming top priorities on Capitol Hill. The Senate Housing, Banking and Urban Affairs Committee needs to find a better solution to help stop predatory lending, but also needs to write legislation that does not inhibit the market.
Sandra Braustein, director of the Federal Reserves Division of Consumer and Community Affairs, warned that there are many issues at hand that make it hard to put rules in place to protect borrowers. She said, “It is not an easy process. We need to make sure whatever rules are written... are done in such a way to take care of the bad actors but not overly [constrain] the markets. We don’t want to end up with a situation where people won’t get loans.” Braustein went on to say, “Existing subprime borrowers will continue to face problems. Especially those who recently took out adjustable-rate mortgages and will see their interest rates and payments climb.” A lot of people will argue that people should read loan documents before they are signed, but what people do not realize is that some lenders were flat-out lying to borrowers and in some cases, completely fabricating loan applications.
The issue is whether Congress will pass additional regulations for lenders. The problem is not necessarily with the large trusted lenders, but with the rogue banks and brokers who accepted anything without verification or documentation. In general, if you place restrictions on lenders, especially banks, money becomes harder to get. When there is a decrease in available money, or liquidity, in the real estate markets, values begin to drop since fewer people are able to afford new loans. It becomes an ugly cycle, which would have different implications on different parts of the country since real estate markets are regional in nature.
It will be interesting to see what, if anything, Congress does about predatory lending practices and the subprime sector. Many people believe that since predatory lending affects many democratic-leaning voters, the democratic controlled congress will have to take some actions to keep voters happy. Either way, it is unacceptable for any lender to target borrowers who they know cannot pay back a loan.
MIKE HEAYN is a Washington Mutual multi-family loan consultant. He (310) 428-1342, or e-mailed at
Originally published in the Santa Monica Daily Press print edition on April 4, 2007. Read the original PDF.