S. HRG. 103-245 THE HOME OWNERSHIP AND EQUITY PROTECTION ACT OF 1993— 924 S. Y 4. B 22/3: S. HRG. 103-245 The Hone flunership and Equitg Prote. . . \T>T]SJf^ BEFORE THE COMMITTEE ON AND URBANAFFAIRS BANKING, HOUSING, UNITED STATES SENATE ONE HUNDRED THIRD CONGRESS FIRST SESSION ON S.924 TO PROTECT HOME OWNERSHIP AND EQUITY THROUGH ENHANCED DISCLOSURE OF THE RISKS ASSOCIATED WITH CERTAIN MORTGAGES, AND FOR OTHER PURPOSES. MAY 19, 1993 Printed for the use of the Committee on Banking, Housing, and Urban Affairs " # U.S. GOVERNMENT PRINTING OFFICE 73-300CC WASHINGTON : 1993 ForsalebytheU.S.GovernmentPrintingOffice SuperintendentofDocuments.CongressionalSalesOffice.Washington.DC 20402 ISBN 0-16-041704-X S. HRG. 103-245 THE HOME OWNERSHIP AND EQUITY PROTECTION ACT OF 1993—S. 924 4. B 22/3: S. HRG. 103-245 Hone Qunersbip and Equitg Prote. . . \r>TTVTr>< BEFORE THE COMMITTEE ON AND URBANAFFAIRS BANKING, HOUSING, UNITED STATES SENATE ONE HUNDRED THIRD CONGRESS FIRST SESSION ON S.924 TO PROTECT HOME OWNERSHIP AND EQUITY THROUGH ENHANCED DISCLOSURE OF THE RISKS ASSOCIATED WITH CERTAIN MORTGAGES, AND FOR OTHER PURPOSES. MAY 19, 1993 Printed for the use of the Committee on Banking, Housing, and Urban Affairs • U.S. GOVERNMENT PRINTING OFFICE 73-300CC WASHINGTON 1993 : ForsalebytheU.S.GovernmentPrintingOffice SuperintendentofDocuments,CongressionalSalesOffice.Washington,DC 20402 ISBN 0-16-041704-X COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS DONALD W. RIEGLE, JK., Michigan, Chairman PAUL S. SARBANES, Maryland ALFONSE M. D'AMATO, New York CHRISTOPHER J. DODD, Connecticut PHIL GRAMM, Texas JIM SASSER, Tennessee CHRISTOPHER S. BOND, Missouri RICHARD C. SHELBY, Alabama CONNIE MACK, Florida JOHN F. KERRY, Massachusetts LAUCH FAIRCLOTH, North Carolina RICHARD H. BRYAN, Nevada ROBERT F. BENNETT, Utah BARBARA BOXER, California WILLIAM V. ROTH, JR., Delaware BEN NIGHTHORSE CAMPBELL, Colorado PETE V. DOMENICI, New Mexico CAROL MOSELEY-BRAUN, Illinois PATTY MURRAY, Washington STEVEN B. HARRIS, StaffDirector and ChiefCounsel HOWARD A. MENELL, Republican StaffDirector Kevin G. Chavers, Counsel Jeannine S. Jacokes, Professional StaffMember EILEEN GALLAGHER, Professional StaffMember RAYMOND NATTER, Republican General Counsel Douglas Nappi, Republican Counsel Edward M. Malan, Editor (ID CONTENTS WEDNESDAY, MAY 19, 1993 Page Opening statement ofChairman Riegle 1 Opening statements, comments, or prepared statements of: SenatorD'Amato 3 Prepared statement 33 Senator Boxer 9 Prepared statement 33 Senator Bond 25 Prepared statement 34 SenatorShelby 34 WITNESSES Eugene Ludwig, Comptrollerofthe Currency, Washington, DC 4 Prepared statement 35 Summary 35 Reverse redlining 36 The role ofpublic policy 37 Home Ownership and Equity Protection Act of1993 37 Compliance costs 37 Conclusion 38 Response to written questions of: SenatorRiegle 147 Senator Bond 146 Lawrence B. Lindsey, Governor, Board of Governors of the Federal Reserve DC System, Washington, 6 Prepared statement 38 General comments on the legislative proposal 39 Specificcomments on the legislative proposal 40 Conclusion 41 Federal Reserve Board staffcomments on S. 942 42 Response to written questions of: SenatorRiegle 138 Senator Bond 137 Terry Drent, housing coordinator, Ann Arbor Commu,nity Development, city ofAnn Arbor, MI 15 Prepared statement 46 Problem 46 Background 46 Comments and recommendations 48 Summary 48 Dianne Lopez, seniorvice president, First Interstate Bank, Houston, TX 16 Prepared statement 49 Response to written questions of: SenatorRiegle 150 Senator Bond 158 (HI) IV Page Margot Saunders, managing attorney, National Consumer Law Center, Wash- ington, DC 18 Prepared statement 55 I. Reasons forcontinued inclusion ofprohibitionscurrentlyin S. 924 . 56 II. Necessary additions to S. 924 58 III. Additional technical fixes necessary to accomplish goals of the bill 61 Appendices 63 Response to written questions of: SenatorRiegle 141 Senator Bond 141 Robert Elliott, group executive, office of the president, Household Inter- national, Prospect Heights, IL 21 Prepared statement 70 Michelle Meier, counsel, Consumer's Union, Washington, DC 26 Prepared statement 72 Additional Material Supplied for the Record Introducedbill S. 924 76 Fleet Bank ofMassachusetts 84 American Financial ServicesAssociation 84 California IndependentMortgage BrokersAssociation Ill Savings & Community Bankers ofAmerica 115 Household International, "Statement ofBusiness Principles" 118 HFC, phamplet entitled, "UnderstandingMoney & Credit" 124 Congress Mortgage Company 132 THE HOME OWNERSHIP AND EQUITY PROTECTION ACT OF 1993—S. 924 WEDNESDAY, MAY 19, 1993 U.S. Senate, Committee on Banking, Housing, and Urban Affairs, Washington, DC. The committee met at 10:05 a.m., in room SD-538 ofthe Dirksen Senate Office Building, Senator Donald W. Riegle, Jr. (chairman of the committee) presiding. OPENING STATEMENT OF CHADIMAN DONALD W. RIEGLE, JR. The Chairman. The committee will come to order. Let me welcome all those in attendance this morning. Today, the committee is meeting to hear the views of Federal regulators, consumer advocates, and representatives of the financial services industry, and local government, on the Home Ownership and Eq- uity Protection Act of 1993. I recently introduced this bill with my colleague, Senator D'Amato, and with Senators Bond, Boxer, Dodd, and Moseley- Braun, to combat what we call reverse redlining. Redlining, of course, is the practice of denying credit in low-in- come or minority neighborhoods. Reverse redlining is the targeting of these same communities for loans with unfair terms and condi- tions. I want to say at the outset how much I appreciate the support and work of Senator D'Amato. We work on this committee on a bi- partisan, essentially nonpartisan, basis and the sponsorship and development of this legislation illustrates that both Senator D'Amato and Senator Bond have been extremely helpful in putting together this bill. We hope to have broad cosponsorship from Mem- bers ofthe Senate as a whole. Back in February, this committee heard highly disturbing testi- mony that as banks have tended to withdraw from low-income com- munities, a parade of shady lenders has moved in to fill the void peddling high-rate, high-fee mortgages to cash-poor homeowners. Witnesses described lenders and brokers who operate door-to- door, offering promises of home improvements or debt consolida- tion. Unsophisticated borrowers do not understand and often do not receive the proper and adequate disclosures about the terms of these loans. They then wind up struggling to meet overwhelming mortgage payments and all too often soon lose their home—s to fore- closure. This is the whole point of their lending operation to steal these homes from the people involved. (l) Among others, the committee heard from a woman, Ms. Eva Davis, an elderly resident of San Francisco, California. After an earthquake damaged her front steps, Ms. Davis was approached by a contractor who offered to repair the damage and arrange financ- ing. A finance company representative arrived within hours offering to finance the repairs and consolidate her debts. By day's end, she had closed on a $150,000 second mortgage at a 17 percent interest rate, with an up-front charge of $23,000. In fact, the monthly pay- ments exceeded her entire monthly income. Ms. Davis is currently facing foreclosure, and she left us with this plea: I hope Members of Congress can do something to protect people like me, whose only mistake wasto trust people who soundedhonest. The legislation that we're considering this morning attempts to answer this request without limiting the overwhelming majority of traditional lending that should be encouraged in distressed areas. The bill targets mortgages with high rates or high up-front fees and mortgages which will use up a large percentage of the borrow- er's income. For these loans, the bill requires increased disclosures to ensure that the borrower is fully aware of the terms. It also prohibits these mortgages from containing certain terms that have led to abuses in the past. Particular provisions may need adjustment, such as the trigger for which mortgages are classified as "high cost." But certainly, the bill offers a sound beginning framework and it's important that we move forward. I hope we will hear today how the bill might be improved to bet- ter achieve its aims. As I say, this is being brought forward on a bipartisan basis and I think what we have crafted here is legisla- tion which will go a long way to prevent homeowners like Eva Davis from becoming victims in the future ofreverse redlining. But I must also say that people like Eva Davis will not be truly safe until we get traditional credit back into our distressed commu- nities. That's why it's very important that our regulators are here today, because there has to be an affirmative obligation to make the credit system work not just for some, but for every person who should properly be eligible for credit. Where credit is available on fair terms, there is no market for predatory lenders. The Comptroller of the Currency, who will be testifying today, recently proposed a bold initiative to combat lend- ing discrimination. As a supporter of the use of testers and statis- tical analysis which the initiative endorsed, I very much salute him. He told us when he came for his confirmation hearing that he intended to move directly and importantly in this area and he has done so. The committee is very grateful for that leadership. I hope that other regulators will follow your lead. I'm also look- ing forward to the report you're developing on using market dis- cipline and enhanced disclosure as supervisory tools. I want to welcome all of our witnesses and again extend a very special welcome to Terry Drent of Ann Arbor, MI, Community De- velopment Department. He testified on this important problem in February and we're very glad to have him back today to testify on this legislative initiative which comes out of those earlier hearings and comments. I also want to welcome several members ofour audience from the Union Neighborhood Assistance Corporation. They've played an ac- tive role in bringing the reverse redlining issue to light and pro- vided valuable testimony at our previous hearing. Finally, Mr. Ludwig, I want to say that the Comptroller's office has traditionally submitted independent testimony to the Congress, and that is as it should be. I appreciate the fact that you're here today continuing that tradition. Senator D'Amato. OPENING COMMENTS BY SENATORALFONSE M. D'AMATO Senator D'Amato. Well, thank you very much, Mr. Chairman. And in the interest of time, I'm going to ask that my full statement be included in the record, as ifread in its entirety. The Chairman. Without objection, so ordered. Senator D'Amato. Let me say that it's been a relatively short time ago, 3 months ago, February, when you, Mr. Chairman, held a hearing that demonstrated just how greedy some can be, and the terrible impact that these practices have. Those who are making the loans and responsible for the loans know there's little ifany op- portunity that these people can make these payments. Indeed, in order to prevent some of the consumers who find out that they're paying these exorbitant rates from escaping their di- lemma, from refinancing, there have been provisions that also have tremendous penalty clauses which make it economically unrealistic to refinance. I think the fact that our legislation addresses this crucial area and not only contains key components in terms ofmaking consum- ers aware and giving them additional time, even after they sign that paper, but, more importantly, that it will provide them the op- portunity to refinance without these incredible payments that have no validity as it relates to the cost of the loan. I think that is just terribly important so that the consumer doesn't find himselflocked into a no-win situation. I know that we crafted this legislation together, as you indicated, in a bipartisan manner and did it in such a way so that while we would be protecting consumers, we would not interfere and set arti- ficial limits as it relates to making capital available, with that careful balance that we attempted to approach this. I hope that our witnesses today might share with us any addi- tional insights as to how we could improve the bill and I look for- ward, Mr. Chairman, to having a speedy mark-up with you, hope- fully, within the next several weeks or soon thereafter, so that we can enact this important legislation. And let me commend you for your leadership in this legislation. The Chairman. Well, thank you very much, Senator D'Amato. Again, I'm most appreciative of the work that you and your staff have done on this and of the spirit in which we're moving ahead. I am interested in getting us to a mark-up at an early date. Senator Campbell, any opening comments? Senator Campbell. No, I have no statement, Mr. Chairman. The Chairman. Senator Boxer. Senator Boxer. No, I don't. I would just ask that my statement be made a part ofthe record. The Chairman. Without objection, it is so ordered. Senator Boxer. Thank you. The Chairman. Gentlemen, let me welcome you here today as witnesses. Mr. Ludwig, we'll start with you and we'll make your full state- ment a part of the record, as we will with all the people testifying today. We'd like to ask for your summary comments at this time. STATEMENT OF EUGENE LUDWIG, COMPTROLLER OF THE CURRENCY, WASHEVGTON, DC Mr. Ludwig. Thank you, Mr. Chairman. Thank you, Senator D'Amato. Mr. Chairman, Members of the committee, I welcome th—is oppor- tunity to testify on the problem of reverse redlining that is targeting low-income consumers for loans that are secured by the borrower's home and that have unfair terms and conditions. I have a statement that I would like to submit for the record, and I'll briefly summarize that statement this morning. The run-u—p of real estate values during the 1980's left many homeo—wners including those in low- and moderate-income commu- nities with substantial equity in their homes. In some neighbor- hoods, this pool ofequity has become the target of lenders charging excessive interest rates and loan origination fees in order to siphon offhomeowners' equity. National banks are unlikely to originate such loans, which typi- cally involve door-to-door marketing techniques that banks do not employ. Moreover, the rates and fees that characterize reverse red- lining loans often result in extremely high debt service ratios. The OCC requires all national banks to adhere to standards for real estate loans that ensure that borrowers have the capacity to repay their loans. Banks are also likely to be concerned that high debt service ratios could ultimately lead to default, resulting in charges against capital and involving the bank in expensive fore- closure proceedings. Finally, banks are likely to be concerned about the damage to their reputation in a community if they become in- volved in unfair and deceptive practices. These disadvantages tend to outweigh any potential profit for making such loans. But more and more home equity lending is taking place outside the banking system in sectors of the market that are largely un- regulated. Most of this lending by finance companies and others serves legitimate credit needs. It offers expanded credit opportuni- ties for many borrowers. Some banks participate in this relatively unregulated market in- directly by purchasing loans originated by finance companies and other nonbank mortgage lenders. In addition, finance companies can be subsidiaries or holding company affiliates of commercial banks. The OCC is working to determine to what extent national banks may be involved, either through nonbank subsidiaries or through loan purchases, in indirectly financing home equity loans that