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Tom Kelly
Tom Kelly
The Real Estate Adviser

December 15, 1995

NEW LENDING LAW TOUGHENS LOAN DISCLOSURE REQUIREMENTS

By TOM KELLY
The Real Estate Advisor

Terrific new present or a cumbersome piece of coal?

The Home Ownership and Equity Protection Act could turn out to be both for lenders and consumers, depending upon the intent and needs of the respective parties -- including striking workers --in real estate lending.

The new law is an amendment to the Truth and Lending Act and was recently signed by President Clinton. Its original intent was to clamp down on the dispicable practice some lenders use of knowlingly painting a gorgeous refinance picture that's too good to be true. When it's time to sign the deal, higher-than expected rates or fees suddenly show up for the first time.

The upside of the new law is that it requires specific new disclosures of the risks involved. The downside is the new law could send lenders away from the high-risk market, making those funds -- known as "B and C" loans -- less available to the people who really need them.

Another concern is that the law will send loan-scam lenders into the line-of-credit market which is now exempt from the law. Although the law is supposed to prohibit "hard-equity lending" (extending credit without regard for the ability to repay), it only governs fixed-term home equity loans.

Just how big is the "B anc C" loan market, sometimes known as the "subprime" loans?

According to SMR Research, more than $90 billion in subprime loans will be written and funded this year. The subprime market has grown substancially the past few years (up from $72 billion in 1993) raising questions about just how far lenders are willing to go to extend credit.

"The conventional market has become so competitive that some lenders have had to look elsewhere to survive," said Rich Bennion, vice-president of lending for Continental Mortgage. "The subprime market is really separate and independent of traditional mortgage banking. It really has its own secondary market now."

"High-cost loans" are defined by the new law as loans carrying the greater of $400 or 8 percent in total fees.

The new law requires written disclosures to be provided three days prior to closing containing the annual percentage rate, variable-rate information if applicable and this statement:

"You are not required to complete this agreement merely because you have signed these disclosures or have signed a loan application. If you obtain this loan, the lender will have a mortgage on your home. You could lose your home, and any money you have put into it, if you do not meet your obligations under the loan."

Granted, the language will provide a last-minute reality check for borrowers who genuinely believe they were pushed into a deal.

However, has it gone too far? Will this specific language push the reputable "B and C" lenders from the market? And, if you were an investor buying these loans, would you be eager to take on the new caveats?

Some things to keep in mind is that high-cost loans under the new law must be secured by the consumer's primary residence and are typically refinances and fixed-term equity loan. New-purchase loans, "bridge" loans to finance construction with a term of less than a year; reverse mortgages and open-ended credit programs are not covered by the new guidelines.

What is now taboo under a high-cost mortgage is any loan with a balloon payment due in fewer than five years. Some lenders have helped consumers re-establish credit with lower-than-market payments for 2-3 years, then required a balloon payoff after that time. This often worked well because the borrower was back on track at work or home after a year or two.

However, the new law is an attempt to stop isolated lenders who lend the cash, anticipating the borrower will not be able to make the balloon payment.

In these cases, the lender has pocketed loan fees up front and ended up with the house after the borrower defaults on the loan.

Most of the time, consumers become high-risk borrowers for reasons beyond their control. Their credit rating slips from an "A" grade to a lower plateau because of loss of job, divorce or death of a spouse.

For example, if a Boeing worker missed a few payments recently because of the Machinists strike, the resulting credit blemishes could make future borrowing more expensive. In addition, if fewer lenders are offering subprime mortgages to these borrowers because of The Home Ownership and Equity Protection Act, these bail-out mortgages could become more expensive and scarce.

There's a flip side to every issue -- especially in the paper-laden, consumer protection/Truth-In-Lending arena. Lenders and borrowers will continue to find ways to break new gifts, despite the intentions of Santa Claus.



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