A Short History of Mortgage Predatory Lending - It's Back!
I. What is Predatory Mortgage Lending?
In many cases, the law has not evolved quickly enough to protect consumers from certain lending practices which, in the overwhelming majority of cases, leave consumers in much worse financial position than before entering into the loan. There is no universally recognized definition of predatory lending, and predatory lending exists outside of the mortgage industry. An example of an industry outside mortgage lending where predatory lending is prevalent is in the pay day loan and check cashing industry. Within this article, I focus primarily on predatory lending in the mortgage industry.
Predatory mortgage lending includes a wide range of unfair financial practices, which eventually strip borrowers of home equity, and threaten families with foreclosure. These practices include:
Aggressive and deceptive marketing,
Making loans without ample consideration for the borrower’s ability to pay,
Financing excessive fees into the loans,
Charging higher interest rates than borrowers’ credit scores require,
Predatory mortgage lending has a significant adverse impact on the borrower’s life, either because the loan is inappropriate to the borrower’s situation, is grossly overpriced, or both.
Many of the consumer protection laws in place in the mortgage lending arena address:
(1) collection practices after the fact, or (2) the requirement to provide written disclosures at the time of loan signing. Most lenders and servicing companies have developed the savvy to stay within the letter, if not spirit of the law.
Predatory lending is predominantly confined to the subprime mortgage market. The term subprime borrowers has come to encompass individuals who do not have access to conventional financing because of their lack of financial resources or options, credit history, employment background, or the location of their home. Subprime borrowers are viewed as extraordinary credit risks and are thus subject to significantly higher interest rates and punitive repayment provisions.
II. The Victims of Predatory Lending
Predatory mortgage lending practices have a disproportionate impact low income families, elderly individuals, and minority communities.
A report issued in 2005 by the Center For Responsible Lending found that, prepayment penalties - one of the most common predatory lending practices - were significantly more prevalent in communities where more than half of the residents were minorities, than in other communities. In fact, the incidence of prepayment penalties was 35% higher in minority communities than in communities where less than 10% of the population was made up of minorities.
In many cases, subprime borrowers become trapped in high interest rate loans, because to refinance those loans would subject them to prepayment penalties which would effectively eliminate any equity that they had accumulated in their homes.
Predatory lending practices have an amplified impact on minorities because a high proportion of their net worth is based on the equity that they hold in their homes. Anything that diminishes their net equity in their homes also diminishes the net financial worth of these families.
A 2004 study by The Pew Hispanic Center found that the average net worth for White Americans in 2002 was $88,651. However, the average net worth for African Americans and Latinos were $5,998 and $7,932 respectively in 2002. This translates into a net worth disparity factor of 11 times for Whites to Latinos, and 15 times for Whites to African Americans.
Additionally, the study found that for both Latinos and African Americans net worth had decreased since 2000. Net worth in these groups had dropped between 2000 and 2002, down from $7,500 and $9,750 for African Americans and Latinos respectively. However, during that period the average net worth for White Americans had increased during that period from $79,400 to $88,651.
Although the net worth discussion presented address some of the racial and ethnic disparities, a common theme identified among predatory lending victims is that they typically are poorer, and have less access to information or support.
III. Recourse for Victims of Predatory Lending Practices
A major challenge for many victims of predatory lending practices is that there is little legal recourse or redress for victims. This is due in part to the fact that many victims do not know when or from whom to seek help.
Another reality for victims of predatory lending is that the cost of legal assistance may be prohibitive. Bringing suit against a lender or loan servicer is costly and time consuming, and many attorneys simply cannot afford to pursue these matters given the time commitment, level of evidence and documentation required, and the uncertainty of a financial recovery. Additionally, many believe that the courts favor the lenders and shift the burden of proof for compliance with loan provisions to the borrower – the party in the worse position to provide evidence of compliance.
The notion of “Caveat Emptor" or “buyer beware" is also still very prevalent. The thought here is that lender, as a seller, enters in the loan transaction to make a profit and ought to be allowed to use every mechanism within the letter of the law to pursue that profit motive. The major drawback to Caveat Emptor is the reality that, in most situations, there is a significant information imbalance between the lender and the borrower, and that the imbalance is even more acute for subprime borrowers.
State Consumer Protection Laws like the Texas Deceptive Trade Practices Act (DTPA), the Federal Fair Debt Collection Practices Act (FDCPA), and the Federal Truth In Lending Act (TILA) seek to provide relief to consumers and punitive judgments against lenders who engage in predatory lending practices.
The DTPA provides treble (triple) damages for some intentional or knowing violations by lenders and loan services, in addition to attorney’s fees. The DTPA also incorporates violations of other laws like the FDCPA and TILA as violations of the DTPA. The primary challenges with bringing an action under the DTPA or the Federal statutes are:
The feasibility of collecting enough evidence to convince a judge or jury that a violation occurred,
Identifying a competent attorney willing to bear the risk of a non-recovery,
Convincing the Texas Attorney General that predatory lending is an urgent problem and needs immediate attention and resources.
IV. Avoid Becoming a Victim
Borrowers are at a distinct information and bargaining disadvantage in most mortgage transactions. Most borrowers also do not understand the role of each of the various professionals involved in the loan transaction. Information, preparation, and documentation are the three most critical tools that the borrower can use to avoid becoming a victim of predatory lending.
Borrowers can prepare themselves and protect their own interests by:
Being informed about the roles of the various parties to the transaction,
Refusing to sign any agreement or document without having an opportunity to review it thoroughly, or have a representative review it,
Asking for an explanation of any term or condition in any agreement,
Getting legal advice – paid or otherwise.
In most commercial real estate transactions across the country, and in many residential real estate transactions outside Texas, both the buyer and seller will hire lawyers to represent them during the transaction. Although less common in Texas, either party to a residential real estate transaction can be represented by an attorney. Additionally, in the opinion of the author, the buyer in a residential real estate transaction – especially one involving subprime borrowing - is better off retaining an attorney to represent his interests during the purchase transaction than retaining a buyer’s real estate agent. The attorney has a clear duty to his client, and it is completely defensible that the attorney as the buyer’s representative in the transaction be paid from the commission on the contract and not out of pocket by the buyer.
The potential borrower should be prepared to walk away from a deal before closing if any provision seems unfair to the interests of the borrower. The potential borrower should recognize that he has his greatest bargaining power up to the point of signing off on all the loan documents. After signing, the borrower has effectively relinquished most of his rights, and with those rights much of his bargaining power.
The most problematic issue presented to the victim of predatory lending is the lack of documentation. The application and closing process can become so overwhelming that the borrower is unable to prioritize which documents are most important and which documents can be discarded. Additionally, the loan officer, real estate agent and seller may make certain oral promises that contradict the written documents. The borrower must insist on all promises being made in writing.
The borrower should keep a file of all correspondence with the lender or loan servicer, and insist that any commitment made by the servicer over the phone, or any oral agreements be given in writing. The borrower should follow up telephone conversations with a letter summarizing the conversation, making sure that the letter is sent to the correct person, and that a copy of the letter is kept for the file.
Predatory lending continues to be a problem which disproportionately impacts low income and minority communities. Particularly in the subprime market, borrowers receive little sympathy from the courts. Because the most impacted communities tend to have less political power, predatory lending has not become a legislative or political priority. Borrowers have three key tools to avoid becoming victims of predatory lending. The tools are information, preparation and documentation.