Ethnic and legal issues associated with predatory lending Essay Example
Ethnic and legal issues associated with predatory lending Essay Example

Ethnic and legal issues associated with predatory lending Essay Example

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  • Pages: 9 (2218 words)
  • Published: April 7, 2017
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The term predatory lending has been redefined in recent months to refer to accusations of sub-prime lending that takes advantage of borrowers' lack of knowledge or options. However, there has been a notable absence of a precise definition for predatory lending.

Defining the term has been problematic for our federal regulators, and the distinctions between predatory and sub-prime lending have frequently been obscured. Predatory lending is widely seen as thievery by various groups, including consumer organizations, lawmakers, regulators, and bankers. The individuals engaging in this deceitful practice, who exploit borrowers with excessively high mortgage terms, are not your typical bankers. Instead, they often belong to unregulated financial firms, mortgage brokers, real estate agents, or home improvement contractors. Consequently, they divert business from established lenders and cast a negative light on the reputation of traditional banking.

Mainstream bankers are not c

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riticizing efforts to address predatory lending because they are unaware, but rather because they worry that regulatory actions could inadvertently hurt legitimate sub-prime lending. The American Bankers Association and other major banking groups oppose predatory lending while emphasizing the importance of carefully designing any regulatory measures to avoid negative effects on sub-prime lending. "Sub-prime" refers to loans with higher interest rates or fees compared to "prime" market loans.

While it may not be considered unethical for sub-prime loans to have higher costs, lenders require the ability to charge increased interest rates in order to provide loans to borrowers with low incomes or high risks. Nonetheless, although there is a valid economic justification for differentiating between prime and sub-prime borrowers, there exists the possibility of lenders exploiting these borrowers. Consequently, protective measures have been implemented to prevent predatory lending. Predator

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lending practices are predominantly observed within the sub-prime lending market as numerous Americans refinance their homes for personal credit requirements.

Predatory lending is less prevalent in the prime market, where banks, thrifts, or credit unions hold the majority. However, concerns have arisen regarding predatory lending due to the increase in sub-prime lending driven by securitized sub-prime mortgages. Nationally, there has been a significant rise in sub-prime lending. According to HUD, the number of home purchase and refinance loans increased from around 100,000 in 1993 to nearly one million in 1999—a growth of 900%. In contrast, other types of home purchase and refinance loans decreased by 10%. Notably, minority communities display a clear link between the surge in subprime lending and predatory practices. In predominantly black neighborhoods, sub-prime lenders now constitute 51% of all refinance loans compared to only 9% in white neighborhoods.

"Sub-prime" refers to non-bank rivals who harm bankers' reputation and attract customers that banks could serve better. These entities include finance companies and unregulated organizations that deliberately deceive clients with predatory tactics, although they are not synonymous with "predatory."

Targeting specific populations such as women, the elderly, and minorities is a common practice among predatory lenders. Unfortunately, many of these individuals end up losing their homes because of excessive loan payments. This can happen either because of frequent loan flipping or because the loans were based on the property's value rather than the borrower's ability to pay.

Instead of pushing for new laws, our focus should be on improving enforcement of existing regulations. Additionally, we should expand regulatory measures to include non-traditional lenders who are truly responsible for these unethical practices.

It is important to note that several

predatory practices are already illegal. For instance, promising one loan rate and then imposing a higher rate in the mortgage contract is prohibited by law.

Regulators aim to distinguish between predatory lending and sub-prime lending that adheres to ethical practices. Director Seidman of the OTS emphasizes that sub-prime mortgages, despite their high interest rates, can help individuals who cannot qualify for a conventional loan. The ramifications of predatory lending are highly concerning as it not only destroys lives but also has negative effects on entire neighborhoods. This is especially troubling because it mainly targets minority and elderly communities across the country.

The sub-prime market sees a higher rate of home refinancing among Black Americans compared to whites, which is consistent even among affluent Blacks who are twice as likely as low-income whites to choose this option. Furthermore, elderly homeowners with an urgent need for cash for home repairs or retirement and substantial home equity are often targeted by sub-prime lenders. These demographic groups illustrate the disproportionate impact of sub-prime lending on those facing challenges in accessing prime credit markets, such as minorities, and those vulnerable due to fixed incomes and susceptibility to financial strains caused by severe illnesses or personal crises. The Home Ownership and Equity Protection Act (HOEPA), established in 1994, provides the framework for federal predatory lending regulation.

The HOEPA framework, which is enforced by the Fed through Regulation Z, was established to protect borrowers who obtain sub-prime mortgages. This framework applies to home equity mortgages categorized as "high cost" based on Regulation Z's rate or fee triggers. Once either trigger is met, lenders are required to provide borrowers with basic disclosures three business days before

closing the loan. These disclosures, in addition to the regular requirements of TILA, give consumers at least six days to evaluate the loan's suitability. Furthermore, certain terms are prohibited in HOEPA-Regulation Z loans, including balloon payments for loans under five years, negatively amortized payment schedules, increased interest rates in case of default, specific prepayment penalties, and requirements for bundled and advance payments. The aim of the HOEPA-Regulation Z regime is to safeguard high-cost loan borrowers by considering these terms impermissible due to their association with predatory practices that have no legitimate reason for inclusion in such loans.The new rule aims to protect borrowers by prohibiting creditors from refinancing HOEPA loans that are not beneficial for the borrower. Creditors will also be required to assess the consumer's ability to repay before extending credit and strictly verify income for all HOEPA-covered loans. These measures aim to provide necessary protections and information without excessively restricting low-income and high-risk borrowers' access to credit in sub-prime markets, which aligns with the desired policy goals.

Although it is understood that sub-prime loans serve a purpose in society by providing financial opportunities to borrowers who might otherwise be unable to acquire them, it is also acknowledged that borrowers have limited experience in credit markets and require certain safeguards to ensure fairness when dealing with lenders who are more experienced. However, achieving these objectives in practice is exceptionally challenging. In fact, the original standards set by HOEPA-Regulation Z offered little protection to vulnerable borrowers.

The reasons for their failure are twofold. Firstly, the rate and fee triggers in the regulatory scheme were easily bypassed, especially by lenders who were willing to charge interest rates and

fees just below the triggers. This led to the proliferation of unscrupulous lending practices in loans that fell slightly below the high-cost loan status triggers, which the regulatory structure aimed to eliminate (Fleishman, E1). Secondly, lenders found that they could maximize their profits by quickly "flipping" the loan. Loan flipping refers to the practice of frequently refinancing a loan, with each new set of loan fees being financed by the loan, causing the loan amount to increase continuously, even as the homeowner makes their payments.

(Hazard, A1). An example of this is when a lender imposes a 7.5% fee on an initial loan, it is not considered when determining if subsequent refinancings of that loan are classified as high-cost mortgages. This implies that the lender has the freedom to charge the same 7.5% fee for three different loans within a short time frame, accumulating fees that surpass 20% of the loan amount without triggering the 8% fee limit. Flipping is so widespread in the subprime industry that borrowers frequently experience their loans being flipped multiple times, resulting in them losing any equity in their homes due to the points and fees which diminish its value.

According to Eggert, low-income Americans had their homes taken away without any legal recourse (Eggert, 503). The sub-prime loan market's growth can be interpreted in two ways: either the new regulations are benefiting society as intended, or they are not being effectively enforced. Currently, there is no clear evidence but concerns exist that the latter scenario is true. Enforcement of Regulation Z usually comes from either the Federal Reserve or the victims of predatory lenders. Unfortunately, neither of these enforcement measures may

effectively stop the exploitative practices of sub-prime lenders.

The most affected by predatory lending are often unable to seek regulatory enforcement. Typically, these individuals lack the financial resources necessary to take legal action against well-funded financial institutions. Unfortunately, their situation tends to deteriorate when they engage with these institutions. It is crucial to consider fair lending from a wider standpoint, extending beyond protected classes. We must scrutinize whether everyone is receiving equitable treatment. This issue has persisted and held great importance for an extended period.

In this country, there are two credit systems: one for the wealthy and another for impoverished individuals. According to Shapiro (111), "predatory lending" is becoming more prevalent in poor, minority, and immigrant communities. This type of lending relies on consumer ignorance, deceptive marketing, limited borrowing options, and sometimes fraud. Government agencies have taken action against certain banks and lending companies to stop these unfair practices and provide compensation to affected consumers. It is concerning that mainstream lenders are increasingly getting involved in this area, either directly, through affiliates, or by purchasing loans. While certain sub-prime lending practices may seem unjust, they can still be considered reasonable within the appropriate context.

One example of maintaining fair rates while still allowing businessmen to make a profit is through the use of tiered rates. However, it is important for lenders to be prepared to justify their actions, particularly if they charged customers differently based on the channel through which they were referred to the bank. It is worth noting that numerous sub-prime loans are facilitated by brokers, with the bank purchasing their loan documents indirectly.

There is no justification for banks purchasing loans that are originated in

a discriminatory fashion, as they should be aware enough to avoid approving such loans. Nevertheless, some argue that if a broker encounters an issue, they should be responsible for resolving it.

Bankers should anticipate increased scrutiny from fair-lending examiners in relation to sub-prime lending and their involvement in it. In Michigan, a law has been suggested with the aim of preventing predatory lending. However, the Michigan Predatory Lending Practices Act could have negative consequences rather than positive ones. Several attorneys argue that if there is going to be legislation, it should closely resemble HOEPA, the federal Home Owner's Equity Protection Act.

Mortgage brokers and lenders in general will face hindrance due to excessive laws. The inclusion of state laws and city ordinances along with federal legislation will discourage lending. These laws will necessitate additional paperwork, leading wholesalers to refrain from assisting consumers in low-income neighborhoods. Although these laws may appear beneficial, they ultimately harm more individuals than they assist and limit access to credit. As a result, obtaining a loan would become challenging for the average person. Ultimately, the consequence of these numerous laws would be an increased operational difficulty for mortgage brokers and lenders in Michigan or any state where such ordinances are implemented.

The solution to this issue lies in enforcing existing laws instead of implementing excessive legislation. There is a worry that lenders may limit credit for individuals with lower incomes out of fear of being labeled as engaging in "predatory" practices. This would ultimately lead to restricted credit access for the very people that proponents of this matter seek to safeguard. Furthermore, another method to combat these practices involves strengthening law enforcement and fostering

the creation of financial literacy programs. Education also plays a vital role in addressing this situation, as it is difficult to explain to individuals with insufficient education that they have been victimized.

According to the NAACP, Detroit has a 47.5% illiteracy rate, emphasizing the necessity for a more inclusive education system. This would not only aid individuals but also guarantee improved consumer protection. Essential abilities like handling a checking account and saving can be introduced early on in schools and churches.

Large wholesalers and mortgage lenders face challenges when trying to reach lower-income markets, hindering their ability to communicate with these communities. Instead of hiring individuals specifically designated for Community Reinvestment Act (CRA) roles in these areas, these companies should empower existing mortgage brokers who have a presence within the community.

Unfortunately, numerous rules and regulations in this field are inconsistent, overly broad, vague, or excessively restrictive. Moreover, certain laws aimed at combating predatory lending practices may unintentionally limit beneficial sub-prime lending programs. The apprehension of being labeled as a "predatory lender" deters many bankers from taking risks.

It is crucial for bankers to persistently educate and inform customers on how to avoid falling victim to predatory lending practices.

We are promoting transparency and accountability in the banking sector, stressing fair treatment of customers by bankers. We also endorse efforts to detect and halt any abusive practices. Moreover, Ross emphasizes the advantages of automated underwriting and credit scoring in safeguarding a bank's lending history, provided these systems are devoid of discrimination. Nonetheless, he cautions that inconsistent human intervention in these procedures might subject the company to risks related to fair-lending if discriminatory patterns or practices emerge.

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