Legislation and Predatory Lending in the Mortgage Industry Essay

     What is happening is that there are some unethical lending practices that are threatening the housing industry as a whole. The concern involves the practices of some sub-prime lenders. These practices are considered to be “predatory” on consumers. Sub-prime lenders offer home loans (Equity Loans & 1st Time Home Purchase Loans) to moderate to lower income families. These clients are considered to be high credit risk borrowers, also know as B-C-D credit clients. Interest rates and other loan terms generally cost more than those paid by clients served by prime lenders with better credit records (A credit clients). Sub-prime borrowers end up paying more simply because the risk of loan repayment is fundamentally higher than that of a prime market borrower.

In 2008 the real estate market crashed because of the Graham-Leach-Bliley Act and Commodities Futures Modernization Act, which led to shady mortgage lending or “liar loans” (Hartman). The loans primarily approved for lower income and middle class borrowers with little income or no job income verification, which lead to many buyers purchasing homes they could not afford because everyone wants a piece of the American dream; homeownership. Because of “reckless lending to lower- and middle-income borrowers who could not afford to repay their loans many of the home buyers lost everything when the market collapsed” (Tankersley 3). Homeowners often continued to live in their houses for months or years without paying any

The real estate industry is thriving with approximately sixty-eight percent of all Americans being homeowners. With low interest rates, 1st time home buyer down payment assistance programs, and government funded educational opportunities (i.e. the Home Ownership Center of Greater Cincinnati), the real estate and mortgage lending industries will continue to flourish. However, there are some unethical lending practices that are threatening the housing industry as a whole.

The foreclosure crisis that took over the United States a few years ago left many people facing economic hardships. This crisis happened because there was a huge housing bubble that was unsupported by actual home values. The bubble began bursting in spring of 2008 and the crisis culminated in mid-2009. Many lenders went out of business and many home owners began losing their homes. When the government became aware of this problem and began to implement new programs, it was already too late for many homeowners. Those homeowners are not at a point where they might be considering buying a new home. The housing crisis has created new rules, regulations governing the mortgage industry, and has also created a new agency dedicated to consumer protection. This consumer protection agency is called the Consumer Finance Protection Bureau. These dramatic changes have helped to create more responsible lending. The improving market conditions such as low housing costs and competitive interest rates are allowing those affected by a foreclosure to become homeowners again. Prospective buyers have a multitude of programs available to them, so even those with less than clean slate have several options.

When looking at the mortgage brokers and loan companies through consequentialism, the reader would look at the results, outcomes, and consequences. Utilitarianism is a form of consequentialism and is a type of subjective and individualist ethics, this therefore allows for preferences that may do good or bad to others, the society, or the environment. The mortgage brokers and loan company’s consequences were not beneficial for the United States economy, housing, job market, and the American people. The broker’s income was generated by placing a mortgage with a lender. When the mortgage was placed, the broker had no responsibility for it, and it didn’t share any of the risk if the borrower should default on the loan. Eric Halperin, Director, Center for Responsible Lending, said “ Bankers made more money if they put you in a subprime loan and incentives that the financial institutions offered to their mortgage brokers were based on selling the most profitable products, which were predatory loans.” This therefore was in the broker’s best interest to find a loan for the borrowers to increase his/her income. It however was not in the best interests of the borrowers, investors, the American taxpayer, the economy, and the housing bubble. The compensation of mortgage brokers in the United States being based on the volume of loans, not solvency; was the first step in the initial snowball effect that ended up causing the worst financial crisis in United States history since the

Predatory lenders are organizations, which offer loans with high interest rates to those who are in need of fast money, usually for an emergency. Originally, predatory lenders operated as loan sharks, but now they operate as payday loan offices, and car tile loaners, having found a niche market, of people who are both desperate for quick cash and have stable paying jobs, and are willing to accept paying flat fees subtracted from their loan total in exchange for quick cash. Loans such as Payday Loans and Car title loans operate by preying on those who have nowhere else to go. Predatory lending practices have had a predominately negative effect on lower income communities, forcing many families living in these communities to go into deeper

Most predatory lending occurs in the sub-prime mortgage market, states the Center for Responsible Lending. Consumers with average or poor credit scores do qualify for sub-prime mortgages that carry high interest rates and closing costs. Predatory lending practices include steering sub-prime borrowers into an adjustable-rate mortgage where the interest rate is locked for the first two or three years and once the initial rate lock expires, the borrowers

So what is a sub-prime mortgage anyways? According to investopedia.com, a sub-prime mortgage is, “a type of loan granted to individuals with poor credit histories (often below 600), who, as a result of their deficient credit rating, would not be able to qualify for conventional mortgages. Because sub-prime borrowers present a higher risk for lenders, sub-prime mortgages charge interest rates above the prime lending rate.”

Reduced short-term interest rates caused the cost of borrowing to be cheaper for everyone, financial institutions and individuals alike. With Tech stocks valued very lowly, investors flocked en masse to the booming real estate sector, coupled with a huge amount of cheap credit and the Federal Government’s deep seated policy of home ownership for low income families, there was an explosion of commercial and residential loans being taken out by almost everyone (Oregon Law Review, 2011).

These brokers have neither the credit skills nor the interest to conduct proper payment due of potential homebuyers. Their interest is only in selling the houses as fast as they can. The MBS instruments allowed all financial institutions to transfer the risks to other investors. The dissociation of ownership of assets from risks encouraged poor credit assessment and was fundamental increasing the risks.

“Like subprime mortgages, many prime loans made in recent years allowed borrowers to pay less initially and face higher adjustable payments a few years later. As long as home prices were rising, these borrowers could refinance their loans or sell their properties to pay off their mortgages. But now, with prices falling and lenders clamping down, homeowners with solid credit are starting to come under the same financial stress as those with subprime credit.” (Bajaj, Vikas and Louise, Story)

The company’s incentive system also encouraged brokers and sales representatives to move borrowers into the subprime category, even if their financial position meant that they belonged higher up the loan spectrum. Brokers who peddled subprime loans received commissions of 0.50 percent of the loan’s value, versus 0.20 percent on loans one step up the quality ladder. For years, a software system in Countrywide’s subprime unit, sales representatives used to calculate the loan type that a borrower qualified for, did not allow the input of a borrower’s cash reserves (Morgenson, 2007).

As a Licensed Realtor in the state of Texas, research shows that in 2007, a major wave of defaults on home mortgage loans threatened the health of not only the original mortgage lenders, but of any financial institution that had made such loans or invested in such loans either directly or ‘indirectly” (McConnell, Brue, & Flynn, 2012). A vast majority of these defaults were on subprime mortgage loans. Subprime mortgage loans are loans that are given to people that have poor credit ratings that are high interest. Banks were justifying this type of move, and as a result, when the people couldn’t pay back their loans, the banks had to dip into their reserves to write off these debts as unrecoverable.

Due to such events as the subprime mortgage crisis, the auto market and Wall Street’s failure, the United States suffered a severe economic blow. Looking at the situation from an economic view, supply is supposed to equal demand. Due to the mortgage crisis and the careless attempts of some to make money, there is a superfluous amount of empty homes throughout the United States. In the subprime mortgage crisis, the nature of the failure was the inability to account for money given to individuals, who lack the appropriate requirements. In order to obtain a loan, collateral is needed. References were not being checked and poor credit history went ignored. People were obtaining loans and not paying attention to the interests rates associated. “This time around, the slack standards allowed millions of high-risk borrowers to get easy home mortgages. When this so-called subprime market collapsed beginning about a year ago, ordinary working people bore the brunt” (Gallagher, 2008). Companies were so anxious to place people in homes, that it cost them billions of dollars and

* Not only do borrowing and lending rates differ due to taxes and transaction costs, but some individuals are screened out of legitimate credit markets altogether due to informational asymmetries