BusinessReport.com

The Federal Reserve Board is the latest to propose regulation changes aimed at stopping mortgage fraud in the subprime meltdown, but the state mortgage association calls it “bad news.”

Called Regulation Z—or “Truth in Lending”—the Federal Reserve is proposing changes to protect consumers from unfair or deceptive home mortgage lending and advertising practices. Federal Reserve Chairman Ben S. Bernanke says their goal is to promote responsible mortgage lending to benefit consumers and the economy.

In recent months, subprime defaults have been increasingly singled out as causing or flaming recession worries in the nation.

The proposed amendments include four key provisions with “higher-priced mortgage loans” [subprime loans]: Creditors can’t make a loan if the borrower can’t repay it; creditors can’t make a loan without verifying a borrower’s income and assets; certain conditions must be met to charge prepayment penalties; and creditors must establish an escrow account for taxes and insurance.

“There’s all kind of bills going on and they’re all bad news,” Mike Anderson, president of the Louisiana Mortgage Lenders Association in Baton Rouge, says of Regulation Z and HR 3915. “These politicians can’t spell mortgage—they have no clue.”

Anderson continues to maintain Congress’ lack of understanding about the lending industry will ultimately hurt borrowers. Fewer people will be able to get a loan, and those who do will pay more for it because there will be fewer lenders left to provide them.

The U.S. Senate is debating HR 3915—the Mortgage Reform and Anti-Predatory Lending Act [also called the Truth in Lending Act]—which passed in the House in November. Numerous states also have passed or are passing their own anti-predatory lending legislation such as Georgia, which helped it drop from first to third in the nation for mortgage fraud. The FBI also has stepped up investigations. President Bush recently signed measures to bail out millions of subprime borrowers facing foreclosure.

Additionally, the Louisiana Office of Financial Institutions plans to have a Mortgage Fraud Task Force in place this month that also will monitor foreclosure scams. The OFI also beefed up its compliance exams to better spot fraud, and has been a key player nationally in developing counter fraud measures.

Anderson concedes there are “some” good measures proposed such as requiring borrowers set up escrow accounts. OFI Deputy Chief Examiner Darin Domingue says requiring lenders to escrow taxes and insurance will help less financially savvy consumers.

“In the past, these consumers were placed into mortgage products without fully understanding the total cost of their housing expenses,” Domingue says. “At closing and after signing numerous complicated documents and disclosures, they may understand what their monthly payments would be while not having a grasp of how much their total monthly cost for housing may be.”

Collectively, Anderson argues these measures are overkill because the market is already correcting itself.

Some 212 major lenders have closed their doors since late 2006; most of them were subprime lenders, he says. A Web site—ml-implode.com—reports the closings, as well as its “Ailing/Watch List Lenders” that includes Countrywide Financial.

Marx Sterbcow, a Baton Rouge and New Orleans real estate attorney with the Sterbcow Law Group and nationally recognized authority on the Real Estate Settlement Procedures Act, agrees with Anderson’s concerns about Regulation Z and HR 3915.

Sterbcow questions the provision that would eliminate yield spread premiums for mortgage lenders, but not for banks. He maintains this is a pro-bank bill aimed at hurting competitors and forcing consumers to pay banks more in loan fees.

Domingue says OFI has long maintained mortgage brokers should adequately disclose their total compensation to the consumer before closing a mortgage transaction. RESPA, which is enforced by the U.S. Department of Housing and Urban Development, requires mortgage brokers provide a good faith estimate of settlement costs (yield spread premiums are among them).

But Sterbcow says the broader more far reaching impact of this measure is the problem.

“This would also create significant consolidation in the lending industry and cause mortgage brokers to work for Internet banks or other lending type institutions that are outside the jurisdiction of the state regulators,” he says. “Meaning that the OFI wouldn’t have jurisdiction to audit a shady Internet bank originator because they work for a federally regulated bank now … thus stifling any meaningful attempt by the states to reign in the bad players in their respective states because they don’t have authority to investigate them.”

He also considers the provision that would prohibit creditors from lending without considering a borrower’s ability to repay the most dangerous of them all.

“This will effectively shutdown all lending across the U.S. because it would lead to increased class action and other litigation to all lenders, banks and mortgage brokers,” Sterbcow says. “Basically this says that the lending industry has to be the ‘big brother’ to all borrowers.”

A borrower could claim the lender created their hardship and sue even if they wasted the money or badly managed finances, he says.

“No one will lend money anywhere in the U.S. if this provision is adopted,” Sterbcow says. “It creates a legal liability for lenders that will significantly decrease the consumers choice of lending institutions, significantly increase the costs to borrow money, and have an adverse and devastating impact on the middle and lower classes ability to attain homeownership in the U.S.”

Anderson also maintains the proposed measures would not crack down on mortgage bankers like Ameriquest and Household Finance Corp., which resulted in two of the largest legal settlements in U.S. history.

In February, Anderson is going to Washington, D.C., to meet with the Louisiana Congressional delegation to discuss these “goofball bills.” He wants to push for effective measures to stop mortgage fraud, such as getting rid of pay-option ARMs [those loans advertised on the Internet for a small monthly rate that actually hide a higher principal].

“Don’t go after the grocery store, just pull the bad products off the shelf,” he says.

Sterbcow also says if Congress genuinely wants to clean up the mess, it should adequately fund RESPA, a consumer protection statute on loans in place since 1974. With 25 full-time investigators and an estimated 280 contract investigators, there were 6,622 RESPA investigations last year, a 121% increase from 2006.

“Please tell me how 25 investigators are going to handle that volume?” he asks. “They can’t, and that’s one of the primary reasons we are in the trouble we are in.”