Consumer Law & Policy Blog

Reckless lenders

Today's New York Times reports on a court ruling (Order and Opinion here) allowing a shareholder suit against Countrywide to proceed. The court cited specific allegations in the complaint that company directors ignored numerous red flags alerting them to widespread deviations from undewriting standards at all levels of the company. The allegations are remarkably similar to the story of New Century's demise, in which various officers tried in vain to alert management to the serious problems in underwriting and the rapid rise in early payment defaults in 2005 and 2006.

It is a bit ironic that shareholders are complaining of the underwriting lapses, which after all permitted the rapid growth in loan volume and share prices. In any event, it is clear that the foreclosure crisis was not caused solely by the end of home price appreciation. Inside the major subprime lenders, the battle between underwriting and sales was being lost by the underwriters, despite the latter's appeals to top management.

Melissa Jacoby on Mortgage Delinquency Management

Melissa B. Jacoby of North Carolina has written "Home Ownership Risk Beyond a Subprime Crisis: The Role of Delinquency Management," 76 Fordham L. Rev. (2008). Here's the abstract:

Public investment in and promotion of homeownership and the home mortgage market often relies on three justifications to supplement shelter goals: to build household wealth and economic self-sufficiency, to generate positive social-psychological states, and to develop stable neighborhoods and communities. Homeownership and mortgage obligations do not inherently further these objectives, however, and sometimes undermine them. The most visible triggers of the recent surge in subprime delinquency have produced calls for emergency foreclosure avoidance interventions (as well as front-end regulatory fixes). Whatever their merit, I contend that a system of mortgage delinquency management should be an enduring component of housing policy. Furtherance of housing and household policy objectives hinges in part on the conditions under which homeownership is obtained, maintained, leveraged, and - in some situations - exited. Given that high leverage or trigger events such as job loss and medical problems play significant roles in mortgage delinquency independent of loan terms, better origination practices cannot eliminate the need for delinquency management.

One function of this brief essay is to identify an existing rough framework for managing delinquency. Legal scholarship should no longer discuss mortgage enforcement primarily in terms of foreclosure law and instead should include other debtor-creditor laws such as bankruptcy, industry loss mitigation efforts, and third-party interventions such as delinquency housing counseling. In terms of analyzing this framework, it is tempting to focus on its impact on mortgage credit cost and access or on the absolute number of homes temporarily saved, but my proposed analysis is based on whether the system honors and furthers the goals of wealth building, positive social psychological states, and community development. Because those ends are not inexorably linked to ownership generally or owning a particular home, a system of delinquency management that honors these objectives should strive to provide fair, transparent, humane, and predictable strategies for home exit as well as for home retention. Although more empirical research is needed, this essay starts the process of analyzing mortgage delinquency management tools in the proposed fashion.

Times Pieces on Foreclosure Crisis, Predatory Lending, and Wachovia Telemarketing Case

Yesterday the Times published an editorial on the Bush administration response to the foreclosure crisis, with the noteworthy headline, "Saying No to Everything."  An excerpt:

Even before the House passed a new plan last week to prevent foreclosures, President Bush threatened to veto the bill, calling it “overly burdensome.” The bill is not burdensome enough.

* * *

When Mr. Bush hasn’t been busy saying no to worthy efforts, he has been endorsing Orwellian-named programs that have failed to address the problem effectively. Hope Now, the mortgage industry alliance that pledged a big effort five months ago to modify subprime loans, has barely made a dent. Project Lifeline, announced last February, has yet to release any results. The Times reported last month that another program much touted by Mr. Bush, FHA Secure, has helped fewer than 2,000 homeowners at risk of foreclosure.

The Times has also published a number of other articles in recent weeks that we haven't yet linked to on the blog.  For example, on May 6, the Times reported on a speech by Fed Chair Bernanke in an article headlined "Bernanke Urges Flexibility in Mortgage Regulation."  Some excerpts:

The variety of factors leading to foreclosures makes it more difficult for mortgage lenders to help ailing homeowners, Mr. Bernanke said, noting that “lenders and services will have to develop new and flexible strategies to deal with this issue.”

In response, Mr. Bernanke recommended that government agencies take a more innovative approach to ensure that only qualified buyers take out loans. He urged Congress to provide the Federal Housing Administration, which insures mortgage loans, with “greater latitude” in setting appropriate standards for owners seeking to refinance their mortgages, and to adjust interest rates according to the level of risk of the applicants.

In "Countrywide Admit Errors at Hearing," published May 7, Countrywide acknowledged that its loan officers made mistakes "from time to time" but disputed other charges.  Countrywide promised to hire an outside auditor to review its actions.  Professor Katherine Porter of Iowa testifed:

that mortgage companies and servicers had improperly sought payments without fully disclosing or documenting fees.

In some cases, she said, companies have sought to foreclose on homes even after borrowers discharged their debts through the Chapter 13 bankruptcy process, which allows debtors to keep their homes while working out payment plans.

“The upsetting reality is that the current bankruptcy system routinely forces borrowers to pay bloated amounts and permits mortgage servicers to misbehave without serious consequence,” she told the Senate Judiciary subcommittee on administration oversight and the courts.

Federal law preempts state predatory lending statutes as to federal institutions, but what about when state institutions lend in other states?  Here is an article about a pact New York, New Jersey, and Pennsylvania signed last month providing that state institutions are subject to the predatory lending statutes of their home states when lending in one of the other states that is a party to the compact. 

We  previously blogged here about the case involving Wachovia's allegedly allowing telemarketers to use its accounts to steal millions from depositors. Wachovia and the OCC have now settled the case.  The report is here; Wachovia, while neither admitting nor denying wrongdoing, will pay as much as $144 million.  A case brought by alleged victims of the fraud is still pending.  The settlement's terms have drawn criticism, as reflected in the following excerpt:

Some critics of the settlement’s structure — including Representative Edward J. Markey, a Massachusetts Democrat and a senior member of the House Energy and Commerce Committee — complained that the agreement contained no guarantee that victims would be paid.

Under the terms of the settlement, victims will not automatically receive compensation from Wachovia. Instead, they will have to submit claims through a complicated bureaucracy. Because many of the victims are elderly or poorly educated, it is likely many of them will stymied by these obstacles, Mr. Markey said.

Times Reports on Prospects for the Housing Bailout Bill, Jingle Mail, and Cell Phone Spam

Yesterday's Times had several articles on consumer law.  First, "Housing Bailout Bill Seems on Shaky Ground" reports on the prospects for the bill the House passed on Thursday.  An excerpt:

The Bush administration on Friday said it would only support legislation that did not require taxpayer funds. The Congressional Budget Office estimates that the House-passed measure would refinance as many as 500,000 homes over the next five years, at a cost to taxpayers of about $2.7 billion. * * *

The measure now goes to the Senate, where it faces opposition among Republicans who have tapped into a broad wave of bailout resentment in states less affected by the crisis. And the failure of the House to adopt it by a veto-proof margin is likely to further embolden recalcitrant Republicans in the Senate who have so far managed to block action, Democratic supporters of the measure said on Friday.

Senator Christopher J. Dodd, the Connecticut Democrat who heads the Banking Committee, said Friday that he was hoping to quickly complete negotiations with the ranking Republican on the committee, Senator Richard C. Shelby of Alabama, and have the committee vote on a measure next week.

A second article, "Mortgage Holders Find it Hard to Walk Away From Their Homes," states that few homeowners who owe more on their homes than the homes are worth have used "jingle mail" and abandoned their homes, contrary to some anecdotal reports (the phrase "jingle mail" refers to the sound keys make when they are mailed to the mortgagee).

A third piece, "Spam Plague is Migrating From Computers to Cellphones" notes that Ferris Research estimates that Americans will receive 1.5 bilion unsolicited text messages this year.  So much for CAN-SPAM.  The many consumers who pay a charge for each text they receive find this particularly annoying.  Many demand refunds from their carrier. Some excerpts on how it is possible and how to stop it:

Most phone spam is actually e-mail that comes through gateways linking the Internet and cellphone networks, industry executives said.

Most wireless phones have a dedicated e-mail address. At AT&T, for example, it is a customer’s cellphone number followed by @text.att.net. Using computers, spammers create millions of possible number combinations, then send messages to those addresses.

* * *

All major communications companies give consumers the ability to thwart spam by changing the easily guessed e-mail addresses for their phones, or completely blocking messages coming from the Internet. They can do this by logging onto the company’s Web site and changing their preferences.

 

Did Lenders Anticipate a Bailout if Loans Soured?

Before policymakers undertake more bailouts arising out the subprime mortgage crisis, policymakers should ask the classic question: what did subprime lenders know and when did they know it?

While much remains unclear about the crisis, considerable evidence suggests that at least some subprime lenders have unclean hands. For example, a year ago, a Countrywide Financial official testifying before Congress about loans, called hybrid ARMs, that carried an initial low rate but would later switch to an adjustable rate, estimated that "about 60 percent of the people who do qualify for the hybrid ARMs would not be able to qualify at the fully indexed rate." Put another way, it appeared that Countrywide expected that many borrowers would not be able to make their payments once the temporary teaser rates expired, unless the borrowers' financial circumstances improved dramatically or interest rates were to fall substantially. Both of those events seem implausible.

Lenders, unlike borrowers, have access to oceans of information about consumer defaults. The credit scoring and credit reporting industries are premised on the assumption that defaults can be predicted. Thus, it seems probable that lenders anticipated the possibility that many consumers would find it impossible to make loan payments. A cynical explanation for Countrywide's lending practices but one that is hard to avoid is that Countrywide expected that borrowers, faced with payments they couldn't make, would refinance their loans, generating more fees for Countrywide and further imprisoning the borrowers in debt.

Indeed, some loans seemed virtually to invite default. A Countrywide manual approved the making of loans that left consumers as little as $550 a month to live on, or $1,000 for a family of four. Aggressive marketing appeared designed to overcome resistance by reluctant borrowers, thus eliminating another check on the making of loans likely to end in foreclosure. While federal disclosure laws are designed to inform borrowers of their payment obligations, some borrowers seem not to have understood those obligations and perhaps that was deliberate. As a predatory lender testified at a 1998 Congressional hearing, "I can get around any figure on any loan sheet." And, he added, "[o]ur entire sale is built on confusion." The confusion is exacerbated by the fact that many subprime borrowers are less well-equipped to understand their financial obligations than prime borrowers. If borrowers do not comprehend what they are getting into, they lose the ability to recognize a commitment they cannot meet.

If lenders expected that borrowers could not meet their payment obligations and so would need to refinance, lenders surely also considered the possibility that borrowers already at the cusp of creditworthiness would find themselves unable to qualify for refinancing. And that leads to questions about what lenders thought would happen in such a case.

Is it possible that lenders foresaw that if circumstances prevented borrowers from refinancing, the prospect of numerous borrowers facing foreclosure, thus devastating entire communities and financial markets, would generate calls for a bailout, thereby insulating lenders from the folly of their own lending practices? If not, what did they expect? Perhaps it is only a coincidence that the Bank of America, which is in the process of acquiring Countrywide, has put forth a bailout plan.

Bailouts may indeed be the least bad solution to the problem. It is one thing to say that lenders should not benefit from a bailout, but something else to say that financial markets, neighborhoods, and confused consumers should be left to suffer. But unlike many subprime borrowers, policymakers should at least deal with the crisis while understanding what lenders contemplated. We are not there yet.

Times Articles on Mortgage Plans

Today's Times reports, in "House Panel Approves Bill to Assist Borrowers," that the House Financial Services Committee, "pushed forward on Thursday with an aggressive effort to help troubled homeowners, approving legislation that would make up to $300 billion in federally insured loans available to refinance the mortgages of borrowers in danger of foreclosure."  The Times summarized the bill as follows:

The Democrats’ legislation seeks to help homeowners by requiring lenders to reduce the principal balances for borrowers at risk of default. The bad loans, typically with high adjustable rates, would be refinanced into more affordable 30-year fixed-rate loans insured by the F.H.A.

The new loans would be limited to no more than 90 percent of a property’s value, based on an updated appraisal. The government would retain a stake in any future sale of the property, worth 3 percent of the initial loan balance or 50 percent of net profit from a sale, whichever is greater.

Borrowers would have to demonstrate the ability to repay the new loan, and if they default, they will forfeit the property. Democrats say the plan could help as many as 1.5 million homeowners.

Yesterday's Times reported here on a proposal by Sheila C. Bair, the head of the FDIC "to permit the Treasury Department to lend directly to as many as a million homeowners to help ease the housing crisis."  The paper observes that the "Bush administration and Congress reacted coolly to" the proposal.  Meanwhile, a report on Wednesday, "Who is Getting the Mortgage Aid?," on the FHA Secure program, stated that "Fewer than 2,000 homeowners at risk of foreclosure have been helped by a Federal Housing Administration program that President Bush promised would help homeowners who had fallen behind on their mortgage payments, federal housing statistics show."  And earlier this week, on Monday, the lead article in the Times, titled "Lenders Fight Stricter Rules on Mortgages," reported on opposition to the Fed's proposed subprime mortgage lending regulations.  Some excerpts:

* * * One common industry criticism is that at a time of tight credit, tighter rules could make many mortgages more expensive by creating more paperwork and potentially exposing lenders to more lawsuits.

To the chagrin of consumer groups that have complained that the proposed rules are not strong enough, the industry’s criticism has already prompted the Fed to consider narrowing the scope of the plan so it applies to fewer loans.

* * *

Earlier this month, as the comment period was about to close, the Fed was deluged with more than 5,000 comments, mostly from lenders who said the proposals could affect loans that have not presented problems. Some bankers and brokers also said the rules would discourage them from lending to some creditworthy borrowers.

Call for Papers on the Subprime Mortgage Crisis

We've received a call for papers on the subprime mortgage meltdown:

The Albany Government Law Review is planning an issue dedicated to the pressing topic of the Subprime Mortgage Crisis.  The issue will offer a varied look into the subprime mortgage crisis by examining the origins of the crisis, federal, state, and municipal government response to the growing crisis, and a multi-viewed perspective on who bears the responsibility of solving the crisis as well as other insights into the issue. The issue is expected to be published in the winter of 2008 and manuscripts must be received by August 1, 2008 in order to be considered for publication. In addition, the AGLR offers a $500 honorarium to contributing authors.  Submissions may be sent to Daniel Leinung, Managing Editor for Submissions at dleinung@albanylaw.edu.

AGLR is a student-edited law review publishing semi-annually using an all-symposia format. It released its inaugural issue on campaign finance reform on January 29, 2008 with an introduction from (now-former) Governor Spitzer, and featuring the scholarship of Melvin Urofsky, Richard Briffault, and Daniel Ortiz. its second issue will be published in Spring 2008 and will feature articles contributed by speakers from the conference held at Albany Law School in October 2007 entitled Firearms, the Militia and Safe Cities: Merging History, Constitutional Law and Public Policy. These authors include Mark Tushnet, Robert Spitzer, Saul Cornell and Carl Bogus. The website is still under development but the articles from the inaugural issue are available at http://www.albanygovernmentlawreview.org/.

Elizabeth Warren's Financial Services Product Safety Commission Proposal

Last month Deepak mentioned Elizabeth Warren's proposal for a financial services product safety commission.  You can find her Harvard Magazine article, Making Credit Safer: The Case for Regulation here.  The entire article is worth reading, but here are some excerpts: 

It is impossible to buy a toaster that has a one-in-five chance of bursting into flames and burning down your house. But it is possible to refinance your home with a mortgage that has the same one-in-five chance of putting your family out on the street—and the mortgage won’t even carry a disclosure of that fact. Similarly, it’s impossible for the seller to change the price on a toaster once you have purchased it. But long after the credit-card slip has been signed, your credit-card company can triple the price of the credit you used to finance your purchase, even if you meet all the credit terms. Why are consumers safe when they purchase tangible products with cash, but left at the mercy of their creditors when they sign up for routine financial products like mortgages and credit cards?

The difference between the two markets is regulation. * * *

* * *

* * * Just as the Consumer Product Safety Commission (CPSC) protects buyers of goods and supports a competitive market, a new regulatory agency is needed to protect consumers who use financial products. * * *

* * *

* * * Lenders have deliberately built tricks and traps into some credit products so they can ensnare families in a cycle of high-cost debt.

Creating safer marketplaces is about making certain that the products themselves don’t become the source of trouble. This means that terms hidden in the fine print or obscured with incomprehensible language, reservation of all power to the seller with nothing left for the buyer, and similar tricks have no place in a well-functioning market.

How did financial products get so dangerous? Part of the problem is that disclosure has become a way to obfuscate rather than to inform. In the early 1980s, the typical credit-card contract was a page long; by the early 2000s, that contract had grown to more than 30 pages of incomprehensible text.* * *

* * *

So why not create a Financial Product Safety Commission (FPSC), charged with responsibility to establish guidelines for consumer disclosure, collect and report data about the uses of different financial products, review new products for safety, and require modification of dangerous products before they can be marketed to the public? The agency could review mortgages, credit cards, car loans, and so on. It could also exercise jurisdiction over life insurance and annuity contracts. In effect, the FPSC would evaluate these products to eliminate the hidden tricks that make some of them far more dangerous than others, and ensure that none pose unacceptable risks to consumers.

An FPSC would promote the benefits of free markets by assuring that consumers can enter credit markets confident that the products they purchase meet minimum safety standards. A commission could collect data about which financial products are least understood, what kinds of disclosures are most effective, and which products are most likely to result in consumer default. It could develop nuanced regulatory responses; some credit terms might be banned altogether, while others might be permitted only with clearer disclosure. * * *

Hat tip to Concurring Opinions.  An earlier version of the article appeared in Democracy.

6.5 million

That's the new number for total projected foreclosures in the U.S. through 2012, according to a Credit Suisse report released Tuesday. In other words, one of every eight mortgages will be foreclosed. Not one of eight subprime mortgages, one of eight mortgages. To avert the possible 15% nationwide decline in home values, CSFB recommends a public-private partnership to purchase delinquent loans (something akin to the Frank proposal.)

[via ml-implode.com]

Fed Meeting on Mortgage Mega-Merger

By Alan White

A long list of community development and housing activists gathered at the Chicago Fed’s meeting room this morning to testify about the impact of Countrywide Mortgage Company on their communities. After Bank of America’s customary recitation of its community lending, philanthropic activities and employee volunteerism, Rev. Jesse Jackson was the first public witness to take the microphone.

Rev. Jackson described Countrywide, the largest mortgage lender in the U.S., as a symbol of the foreclosure crisis, Wall Street greed and the steering of minority homeowners to high cost loans for profit, a lending model he characterized as thievery and thuggery. He spoke of the serious impact the crisis is having on cities and neighborhoods, causing property tax shortfalls and cuts in local government services like education. Neither supporting nor opposing the BofA-CW merger, Reverend Jackson urged the Fed to demand answers from BofA to specific questions regarding CW’s portfolio of foreclosures. He urged the Fed to insist on a halt to CW foreclosures and a serious commitment by BofA to convert unsafe subprime loan products to 30-year fixed-rate amortizing, affordable mortgages.