Vol. 28, No. 5 #9 (October 2005). Predatory Lending: The Hidden Scourge of the Housing Boom.

• Author: By Dee Pridgen

Wyoming Bar Journal

2005.

Vol. 28, No. 5 #9 (October 2005).

Predatory Lending: The Hidden Scourge of the Housing Boom

WYOMING LAWYEROctober 2005/Vol. XXVIII, No. 5Predatory Lending: The Hidden Scourge of the Housing BoomBy Dee Pridgen

An elderly widow is contacted at her home by a home improvement salesman who tells her she needs to replace the siding on her house because it is dirty and not up to code. She signs a contract for $17,000 on the assurance of the salesman that he can obtain financing for her. He presents her with what she believed was an application for a home improvement loan, which she signs although she does not receive any copies. Some weeks later, she is picked up and driven to a mortgage lender's office to sign closing papers for a $49,000 mortgage loan, with payments of $459 per month, even though her total monthly income consists of $713 in social security benefits. The salesman says the extra money is for other home improvements and to buy her a car. These extras never appear and the siding job is substandard. The lender soon institutes foreclosure proceedings when the widow (predictably) cannot keep up with the payments. She later learns that her loan application had falsely stated that she earned $1500 per month as a quilt maker.(fn1) This scenario illustrates a typical case of predatory lending. These types of lending transactions represent a dark cellar of the residential mortgage industry. "Predatory" lending is typically focused on borrowers in the "subprime" sector, who do not qualify for conventional loans. This type of lending is also characterized by high rates and fees, due in part to the higher risk to the lender. What separates a legitimate high rate/high risk loan from a predatory loan is the presence of one or more of the following practices:

* Targeting of and aggressive marketing toward the elderly, racial minorities, and low income consumers.

* "Packing" the transactions with excessive fees, such as single premium credit insurance, prepayment penalties, and yield spread premiums (broker commissions paid by the lender and added to the consumer's APR).

* "Flipping" or repeated refinancings over short periods of time, such that with each refinance, the loan originator collects additional fees and penalties, thus eating away at the borrower's remaining equity.

* "Equity stripping" or lending without regard to the borrower's ability to repay. Where a vulnerable consumer may be "equity rich but cash poor," a predatory lender may be willing to set up a loan with a view toward foreclosure.

* Fraud and misrepresentations, where homeowners are led to believe their payments will be low, that they don't qualify for a more favorable loan, or are sold overpriced and low quality goods or services.(fn2)

Predatory lending appears to have sharply increased in the last 10-15 years. Subprime loans, of which predatory lending is a part, increased from $35 billion in 1994 to $160 billion in 1999,

accounting for 12.5% of all residential mortgages.(fn3) By 2003, subprime lending was at $330 billion and going strong.(fn4) Furthermore, as of 1999, 82% of subprime first lien mortgages were being used not to purchase homes, but for home improvements or consolidation of credit card debt.(fn5)

This increase can be attributed to several factors. First, as a result of rising home prices, more consumers had equity in their homes to use as collateral. Second, the federal government preempted usury ceilings on most home mortgage loans in the early 1980's, making higher loan rates possible.(fn6) Third, the tax law was amended to eliminate the deduction for interest on consumer credit, while retaining it for interest on loans secured by a home.(fn7) Fourth, the industry began to "securitize" mortgage loans, by pooling them together and then offering them for sale to investors. This...