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Schumer Offers Bill To Regulate Mortgage Brokers

Illinois Plans "Summits" to Address Foreclosure Crisis

March 29, 2007

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With the subprime mortgage house of cards beginning to collapse, Democrats in Congress are proposing new federal oversight of loans made to the least credit-worthy consumers. Sen. Charles Schumer (D-NY) introduced legislation Wednesday to create an agency to oversee mortgage brokers. Some states, most notably Illinois, are also planning legislation.

According to Schumer, the National Regulatory System would regulate mortgage brokers and all other non-bank lenders who currently fall outside federal oversight.

The bill would also get rid of what he called "liar loans," in which qualifications are purposefully fudged to allow a consumer to buy a home they can't really afford.

Many subprime loans made during the height of the real estate boom carried low introductory interest rates that are now adjusting higher to normal subprime rates, which are generally two or more points higher that "prime" loans. As a result, a growing number of homeowners are facing foreclosure.

"The bottom line here is the subprime bust is leading us right into a foreclosure boom, and thousands of people will be left in the lurch," Schumer told reporters in a conference call.

Citing statistics from U.S. census, federal banking regulators and the Joint Economic Committee of Congress, Schumer said as many as 1.8 million Americans are at risk of foreclosure over the next two years as their monthly payments skyrocket.

Illinois Summits

With tens of thousands of Illinoisans poised to lose their homes in the collapse of the subprime mortgage industry, Illinois Attorney General Lisa Madigan called for a coordinated statewide effort to assist homeowners facing foreclosure and curb abuses in the mortgage lending industry.

"We are in a crisis of potentially large proportions," said Madigan, noting that foreclosure filings statewide jumped 55 percent in 2006, totaling 72,455, and are projected to spike even higher in 2007.

"As the outlook for many Illinois homeowners turns grim, it is critical that everyone with a stake in the problem -- state and local government, lenders, regulators, and housing advocates -- come together now to implement solutions. We cannot allow the gains in homeownership over the past 15 years in low and moderate income communities to be lost."

Madigan said she would spearhead a statewide strategy that includes working with State Representative Dan Burke to pass legislation to enhance protections for already and soon-to-be homeowners in foreclosure and to impose duties on mortgage lenders and brokers to ensure future borrowers have the ability to repay their loans and keep their homes. Additionally, Madigan will convene two statewide "summits," one to develop a blue print for expanding financial assistance for homeowners trapped in bad loans, the other to coordinate legal assistance resources for homeowners in distress.

Madigan is working with Rep. Burke to introduce the legislation during the current session and plans to convene the two summits this spring and summer.

"It is critical that we take action now to enact comprehensive legislation to protect Illinois families from foreclosures," said Rep. Dan Burke. "I am looking forward to working to pass meaningful reforms that will prevent families from losing their homes."

Madigan noted that the Cook County Circuit Court has reported a more than 50 percent increase in foreclosure filings in the first two months of 2007. If the current rate of filings continues, the court is on track to handle a record 33,000 foreclosure cases this year, far outpacing the 22,000 foreclosures filed last year.

Growth in Subprime Lending

The looming tidal wave of foreclosures is directly linked to the rapid rise in subprime mortgage lending in the last several years. Subprime mortgage lending is intended to serve the important goal of meeting the credit needs of borrowers with weak credit histories. Because these borrowers pose a greater credit risk, they typically pay higher upfront costs and higher interest rates.

Unfortunately, as the subprime market grew dramatically, lenders began offering loans that borrowers could not afford.

Over approximately the past decade, fueled by an investment trend that allowed subprime loans to be securitized in large bundles and sold on Wall Street, loans that were once a small segment of the mortgage market exploded into a major source of home financing. Nationwide, the subprime home loan market grew from $35 billion to $665 billion from 1994 to 2005. In that same period, the subprime share of total mortgage originations climbed from 10 percent to 23 percent.

The majority of these loans have been refinancings, as increasingly cash-strapped consumers have been compelled to tap into the equity in their homes to pay off other debts, or, worse yet, homeowners have been persuaded by unscrupulous lenders and mortgage brokers to refinance their mortgages with the promise of benefits that turn out to be illusory, Madigan said.

The incidence of subprime refinance lending in Illinois and the surrounding region is higher than the national average. Nationwide, one in four refinance loans made in 2005 were subprime, according to the Consumer Federation of America (CFA), a watchdog and policy group that tracks mortgage lending trends.

By comparison, in the Midwest, subprime loans accounted for nearly one third (32.1 percent) of refinances originated that year. The numbers in some Illinois communities are even more unsettling. In Peoria, for example, subprime loans made up 45.4 percent of the refinancings done in 2005.

Although subprime loans are intended to make possible the dream of homeownership for consumers with less than perfect credit, Madigan said the unfortunate reality is that a volume-driven subprime industry has gradually relaxed its lending standards and pushed millions of homeowners into high-cost loans they cannot afford.

Consequently, subprime mortgages have begun to fail in record numbers -- as underscored by the recent collapse of more than 30 subprime lenders -- while millions of homeowners are seeing their dreams vanish.

The Center for Responsible Lending, a national consumer advocacy group, estimates that nationwide, 2.2 million homeowners with subprime loans are at risk of losing their homes. In Illinois, the Center estimates nearly one in five subprime loans originated in 2006 will end in foreclosure. According to another study, one in five of Kankakee's subprime borrowers is 60 days or more late in making his or her mortgage payments, placing that city in the top 10 subprime delinquency markets nationwide.

Especially disturbing are reports from the Center for Responsible Lending and other industry analysts indicating that an increasingly high number of subprime mortgages are failing within just a few months after origination.

"When borrowers are forced into default in the first three or four months after obtaining the loan, it is clear that they never should have entered into that loan in the first place," said Madigan.

Subprime foreclosures will hit minority communities especially hard. The Center for Responsible Lending notes that a disproportionately high number of subprime mortgages are made to African Americans and Latinos.

Madigan noted that as the volume of subprime loans has increased, the features of the loans have changed in ways that produce higher profits for brokers and lenders, greater costs for borrowers, and increased chances of failure. In recent years Madigan's office has handled a growing number of complaints concerning subprime mortgages that contain such features as:

• Low introductory or "teaser" interest rates that lure homeowners into high-cost loans but adjust upward after the two- or three-year introductory fixed-rate period ends, causing the homeowners' mortgage payments to skyrocket;

• An introductory period in which the homeowners pay only the interest, or even less than the full interest, on the loan, creating the illusion of affordability until the introductory period ends and the homeowners find themselves unable to pay both the interest and the principal;

• Stiff prepayment penalties that make refinancing cost-prohibitive, effectively trapping homeowners in adjustable rate and interest-only mortgages after the loans have become unaffordable;

• Gross overstatements and under-documentation of homeowners' income, often at the insistence of the mortgage broker and without the knowledge of the borrower, so that the homeowners appear to be able to afford a loan that they clearly cannot afford; and

• High upfront costs and fees paid to mortgage brokers, including fees known as Yield Spread Premiums, which brokers often receive from lenders for steering borrowers into costlier loans.

Madigan's office has taken an aggressive approach to predatory lending and other forms of mortgage fraud, obtaining more than $600 million in enforcement actions against subprime lenders, playing a principal role in passing the High Risk Home Loan Act of 2003, and drafting the Mortgage Rescue Fraud Act of 2006. Still, Madigan cautions that the thousands of Illinois homeowners in danger of foreclosure require immediate, one-on-one assistance.

Unfortunately, scared or embarrassed homeowners too often postpone seeking help until it's too late to save their home, Madigan noted.

"As frightening as it might be to confront the impending loss of your home," said Madigan, "it is crucial that homeowners in financial distress learn about all of the options available to them—and the sooner the better." Madigan urged homeowners in trouble to seek counseling from one of the dozens of HUD-approved housing counseling agencies located throughout the state. These agencies can help homeowners identify whether their loans contain predatory characteristics, obtain refinancing in some instances, negotiate with their lenders, or find appropriate legal assistance.

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