Mortgage Lending: It’s Time To Stop The Vast National Screw Job
October 28th, 2007
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Prof. Samuel D. Bornstein has provided an interesting post regarding lenders, liability and financial literacy. This is a post which deserves more than a short response, so first allow me to re-post the professor’s comment before addressing the issues he raises.
“Congress,” says the professor, “is considering legislation to hold the Lender liable for loans made to borrowers that fail. The legislation is saying that the lenders must predict whether the borrowers will be able to be able to repay the loan in the future. The Lender cannot predict the future. Clearly,. it is impossible to predict changes to the borrower’s income or expenses in the future… HOWEVER, it is possible to help the borrower monitor his/her ability to stay on-track and not succumb to the forces that resulted in his/her poor credit rating. It is possible to help the borrower monitor his/her financial situation by careful and specific FINANCIAL LITERACY tools that research has proven to help guide the borrower to avoid financial distress. These tools will work if we use them. My research has proven that it is possible to guide the borrower if he/she is willing to do so. This should be a requirement of all borrowers, especially if the new proposed legislation takes effect. How else can the lender uphold the new fiduciary responsibilities that this new law will impose on the lender?”
Doctors, lawyers and real estate brokers all have fiduciary obligations. No one would want a doctor who suggested treatments on the basis of the most profit to him or her. The same requirement should apply to loan officers. The idea of HR 3915 and S 1299 is to assure that borrowers — who are dependent on lenders for information and counseling — are not abused. Given that the overall interest cost for mortgage financing is often as large or larger than the cost of the property itself, requiring lenders to treat borrowers as “clients” hardly seems unfair.
No one is requiring that loan officers must be seers and soothsayers and know the future. Alternatively, if companies — including lenders — are going to make “forward-looking” statements when it’s to their advantage, then perhaps we’re underestimating their ability to see ahead…. Stockbrokers, after all, always seem to devine a “target” price for securities.
The idea of proposed legislative reforms is merely that loan officers should be obligated to get the best possible rates and terms for borrower clients, based on current market conditions and verified borrower information. Borrowers, in turn, should expect nothing less.
As to financial literacy, sure we need more of it. But enhanced financial literacy is not a substitute for lender obligations or the expectation that a loan officer will seek the best possible loan for a borrower — and not the loan which yields the highest-possible profit for a loan officer. Essentially the idea of philosophical support for more financial literacy — and no lender responsibility — is what we have today.
More important, financial literacy does not make a borrower an equal with a skilled and experienced loan officer. A mortgage borrower enters the marketplace perhaps once every few years while a loan officer works at selling loans each day.
It doesn’t matter if someone wants an FHA mortgage or another type of loan. The issue here is very simple: It’s time to stop the vast national screw job which has hurt millions of people, damaged lenders, harmed investors and reduced home values from border to border.
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October 28th, 2007 at 6:09 pm
I fully agree with your argument that certain lenders have taken undue advantage of trusting unsuspecting borrowers. My point is that one of the main issues that should also be dealt with, is the guidance that borrowers need to help them stay current on their loans even under changing financial conditions. I point out that the responsibility should not end at the inception of the loan. We should help guide the borrower to stay on the right track throughout the repayment period. There should be a mechanism that can help the borrower determine when he/she is slipping off that track. Traditional financial literacy education tells us not to spend nor use our credit cards. However, we all know that this is impossible. Research has proven that there are accepted levels of spending and debt that fall within recognized ranges based upon income and other factors. The problem is that borrowers do not know when they are overspending or overusing their credit cards. Eventually they end up in insolvency, financial disaster, and default. I propose that we now have the unique opportunity to not only address the abuses of the lending community, but we also have the attention of the borrower to take the time and effort to learn to stay on-track. Considering that there was a lack of financial guidance, due to a lack of financial literacy, which resulted in the poor credit rating of most subprime borrowers, I believe that this borrower would welcome this guidance which would not only help avoid default, but also may help increase the borrower’s credit rating. I also suggest that we need to develop more innovative approaches to the delivery of financial literacy. As a professor in a school of business for the past 30 years, I can attest to the truth of the Chinese Proverb: “Tell me and I forget. Show me and I remember. Involve me and I understand”. Traditional financial literacy education is not working. We need to get the borrower actively involved and there should be a tool to monitor the borrower to stay on track. This tool will also enable the borrower to handle unexpected financial changes, and help the borrower back on track.
October 28th, 2007 at 9:26 pm
how can a lender predict if the borrower will start buying over their means….every american does this!
October 29th, 2007 at 5:25 pm
Great post and great points Peter.
I think Prof. Samuel D. Bornstein’s comments are valid but my feelings are that implementing this kind of borrower “hand holding” would be absolutely impossible. I do believe it’s needed in a BIG way. But just getting a borrower to read a disclosure or loan document is a monumental task.
Keep in mind that this is most likely the largest financial transaction that many people will make and guess what? Most people spend more
time watching reruns on TV every night, then making sure that they are protected and they got a fair deal on the home they just refinanced or purchased.
This is something that should be taught in school and be required education throughout school.
Maybe make it mandatory for the first two years of a loan for first time homebuyers. I’m not sure how he can make this work?
I’m with you Peter on licensing and fiduciary duties of the mortgage industry. You need to start here and weed out the predators and abusive pratices.
It’s just like fighting drugs and gangs. You start with the low level street dealers and thugs and you work your way up to the Cartels and Crime Lords.
The facts are that most of the millions of loans
that were made over the last 5-10 years had yield spread premiums that bumped up the rate for borrowers and in some cases quite significantly.
YSP’s need to be eliminated entirely. I’m finding waaaaaay too many borrowers who could have received a prime loan, FHA or decent subprime mortgage. But loan officers were too lazy and greedy to do a full doc loan. These loans were with YSP’s as high as 3%, causing the rate to go up 2% plus and now these homeowners are losing their homes.
The cause : LENDERS AND BROKERS, not hardships or over spending.
October 30th, 2007 at 12:53 pm
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October 30th, 2007 at 3:13 pm
Everyone is overlooking a very important factor in this crisis. Nothing will work unless the present subprime borrower and future borrower get some vital knowledge on how to manage spending and credit card debt. Clearly, there were abuses by some lenders, but they should not be the only ones who should get the blame. All of the talk of loan modification and refinancing is useless because the borrower will still be like a boat without a paddle when is comes to managing his/her money. I believe that any legislation should also hold the borrower responsible to seek financial literacy guidance before he/she is given any loan. Without this guidance , we will go through this crisis again, even with the protections expressed in the proposed legislation. I must also add, that traditional financial literacy education is not working. The current form of FL education is “memorized, regurgitated , and forgotten”… We need a new and innovative FL delivery system that will help guide everyone as to how to manage their spending, saving, and credit card use.
October 30th, 2007 at 3:50 pm
Prof. Bornstein:
Can you think of ANY changes which lenders should make in the way they originate and underwrite loans? If so, what are they?
October 30th, 2007 at 4:01 pm
Of course. They should be guided by the finacial data as exists for the borrower. Unfortunately, there were abusers, but on the whole, no lender under normal condition would make a loan unless the borrower was able to repay. The proposed legislation will go far to insure this, and I applaud it. What I am saying is … how will the borrower be able to handle subsequent changes in his/her financial condition, without some form of guidance? After all thsi borrower has a poor credit. This borrower is bound to default at a later date, unless we can help “monitor” his/her financial condition to stay on track. I suggest that we now have a unique opportunity to introduce this guidance to the borrower. I am certain that the serious borrower will welcome this.
October 31st, 2007 at 8:56 pm
I read an interesting quote in an article that indicates even Prime borrowers are at risk of default. However, the author of the quote blames the Loan and not the borrower.
“We’re starting to see foreclosures on people who have credit scores of 750 and a family income of $150,000,” he says. “It’s not the person, it’s the loan.”
My response is that it’s not the loan…it’s the person! This quote represents the best example for the need to “monitor” our financial health in order to avoid failure. It’s not the loan..its the person’s awareness of financial literacy. This quote is further proof that even high income earners with high FICO scores may fail. In fact, we are now seeing that PRIME borrowers are also going into default. This makes my point that we all need FL awareness…but not simply FL education..We need to test our financial health and identify weaknesses in time for correction. The problem is that people don’t even realize that they are “financially ill” until they have slipped down the slippery slope towards financial distress. They have no idea that they are in trouble until it is too late. Try this analogy….Even though we take vitamins, do exercise, eat healthy, and do the right things…nevertheless, we still take an annual blood test to see if we are actually ,in fact, healthy. By the same taken…we also have financial blood that should be tested to see if we are “financially healthy”. Research has proven that we can test our Personal Financial Blood and determine financial weaknesses in time for correction. I will venture to state that anyone making $150,000 annually and having a FICO score of 750, also needs an annual Personal Financial Blood test to see if they are in fact financially healthy. Financial distress can be avoided. That is why I propose that everyone, especially the Subprime Borrower, be given this web-based guidance in order to help avoid future defaults..even after loan modification. If it can happen to the high income high FICO score individual…it can happen to the subprime borrower. Correct me if I am wrong…aren’t we now involved in a massive effort to save these borrowers from foreclosure? I must stress that along with loan modification, we make a deal with the subprime borrower to accept guidance to help him/her stay on-track and avoid future default and foreclosure. We now have that opportunity..let’s recognize that the subprime borrower can use this guidance..and so can we all. I have spent a great deal of time and effort researching how we can save subprime borrowers from losing their homes to foreclosure. I am passionate about this solution to the Subprime Mortgage Crisis, and I am certain that it will work. I believe that loan mods and refinancing as proposed by the new Treasury Dept initiatives called HOPE NOW will not work unless we also help the subprime borrower “monitor” his/her ability to be able to repay the mortgage..now and tomorrow.
November 1st, 2007 at 3:54 am
One anonymous quote from who knows where does not an argument make.
The idea that borrowers alone are responsible for the current mortgage meltdown is not believable. Huge numbers of borrowers were entrapped by lenders upon whom they relied, lenders who had no obligation to get the best rates and terms for borrowers.
“Correct me if I am wrong,” writes Prof. Bornstein, “aren’t we now involved in a massive effort to save these borrowers from foreclosure?”
Sure, you’re wrong. We are now involved in a massive PR campaign to shift blame from lenders to borrowers and to do nothing to change the system which allowed lender abuse and borrower cheating.
As to actual efforts to save troubled borrowers, they are extremely limited. As Moody’s reports, “Despite much industry dialog and heavy press attention on the topic of loan modifications as a mitigation technique to avoid foreclosure and reduce losses on defaulted loans, the survey results suggest that on average subprime servicers have only recently begun to materially increase the number of modifications as it relates to interest rate resets. Specifically, the survey showed that most servicers had only modified approximately 1% of their serviced loans that experienced a reset in the months of January, April and July 2007.”
There is a massive effort to save Wall Street firms and investors, but as to borrowers — as Borat might say — not so much. A 1 percent solution is hardly impressive, or impressive at all.
November 1st, 2007 at 6:42 am
My point is…if we are “really” interested in helping the subprime borrower, we should be doing two things: 1) Try to save the borrower from foreclosure through loan modification etc. and 2) Give this borrower the guidance to be able to handle the new monthly payments. Of course, there were abuses and blame can be placed on the lenders, but this will not save the subprime borrowers from losing their homes. While we “fiddle”… Rome…(meaning the borrowers) will be lost. There are 2+ million borrowers who will lose their homes and communities will be lost if we don’t act NOW to help them. Any new legislation will come too late to help these borrowers. Let’s stop placing blame, and let’s help these borrowers. I hope that you are not suggesting that the cure is bail-out. If you are…we are giving the wrong message to those who would enter into transactions involving risk in the future. Must we evolve into a society that always places blame on others. Wouldn’t it be better if we could take responsibility and handle it on our own. Of course, the government should be there to make sure that the playing field is level, but we shouldn’t assume that we will always be bailed-out if we made a mistake. Bail-out is like a “bandaide”, whereas guiding the borrower with financial literacy tools will “cure the disease” of Financial Illiteracy and help the borrower handle financial situations in the future. My suggestion is to get to these borrowers to help them understand how they can handle the new higher mortgage payments after reset. Then, we will have “weathered the storm” and maybe avoided the financial and human catastrophe that we are heading for. My approach will be of benefit for both the borrower and the lender , and will impact the global economy because these mortgages were the basis of trillions of dollars of derivative investments which are out there…and are being written-off to the tune of billions of dollars. We can turn this all around..if we can help the borrower avoid default with “specific” Financial Literacy guidance directed at avoiding default.
November 1st, 2007 at 7:23 am
Mr. Miller… Doesn’t today’s news of massive increases in foreclosures give us the message that we must take new and innovative steps to save these borrowers and communities from foreclosure. I totally agree the the existing initiative are PR. We all know that the counseling agencies cannot handle the millions who are at risk. Their counseling (and I question their effectiveness) is labor intensive and time-consuming. We need to reach millions in the shortest possible time. We should develop a web-based approach as a “self-contained” counselor to reach and teach these borrowers. This can be done with the Artificial Intelligence technology that is now available. Time is running out for these borrowers and the health of our economy. We should act now.
November 3rd, 2007 at 2:57 pm
Today’s news tells us that in too many cases the current system has failed borrowers, lenders and investors. All the financial literacy projects on earth are useless in a system where, for example, loan officers have no obligation to get the best rates and terms for borrowers, where it is not a federal crime to overcharge a borrower and where prepayment fees are an unjustified consumer expense.
February 26th, 2008 at 11:03 pm
the system has failed. FHA Secure isn’t doing diddly for any borrower.