August 13, 2008
WASHINGTON – New laws and regulations designed to reform the mortgage brokerage industry missed at least two key problems, according to industry observers.
Federal and state policymakers’ efforts "fall short of what is needed," said California State Assemblyman Ted Lieu, D-Torrance. "I want to be able to feel comfortable we’ve done enough in the subprime market and I don’t think we have."
He is not alone.
Members of both the banking industry and the consumer advocacy community say a new registry established to license and police mortgage brokers is flawed. They also contend that by ducking the toughest reform – yield-spread premiums – policymakers have made it impossible for consumers to compare loan costs.
"The American Bankers Association is strongly supporting additional broker-related disclosures," said the ABA’s executive vice president, Bob Davis. "The borrower has a great difficulty determining how much the broker is being paid and there’s this great confusion over whom the broker is working for," he said. "They may unscrupulously steer customers to more expensive products for a bigger payout."
Some want yield-spread premiums banned.
"As long as that still exists, you’re going to continue to have the structural problem," said Geoff Smith, vice president of the Woodstock Institute, an advocacy group in Chicago. "When you incent a broker to give a borrower a more expensive loan than they qualify for, that type of practice is central to our current crisis."
That’s a pretty widely held opinion and part of the reason the housing reform law enacted July 30 established licensing requirements for brokers and set up a national registry. It’s also why the Federal Reserve Board, in its update of its Truth in Lending rules, flirted with requiring additional disclosures from brokers. Both of those federal efforts followed an attempt by state regulators to better track brokers.
Though policymakers aim to prevent brokers caught defrauding investors from simply setting up shop in a different state, licensing will be administered by up to three different organizations, while enforcement will be carried out by individual states.
"The problem with the mortgage laws is whether they’ll be enforced," said Doug Landy, a banking lawyer in New York. "You’ll have 50 or so different entities enforcing them with different budgets and different experience. If history is any judge, we’ll see very inconsistent enforcement."
The new federal law requires mortgage brokers to complete 24 hours of training and pass an exam before obtaining a license. A criminal record could immediately disqualify an applicant if it included finance-related crime, and loss of a license in one state would mean losing the ability to practice anywhere. States will be able to share licensing information with one another, and the application form for a license is standardized.
By October 2010, the new law requires every state to ensure that its brokers are educated and licensed and entered into the national registry. Exam and licensing fees paid for by applicants are to cover the costs of maintaining the national, publicly accessible database managed by the Conference of State Bank Supervisors.
Under the law, stricter advertising rules will also apply: No loan may be advertised as "fixed rate" if the interest rate resets after a period of time. "High-cost loans" will be defined as any with interest rates 1.5% or more over the average determined by Freddie Mac’s Primary Mortgage Market Survey and those will be subject to even more advertising and disclosure requirements.
Work on a uniform licensing system and database began in 2003, and while 41 states have agreed to participate, just 14 states have fully rolled out licensing requirements; 20 should be in the system by yearend, said Bill Matthews, who manages the mortgage license database at the bank supervisor group.
Some states, including California and Ohio, do require mortgage brokers to maintain a fiduciary duty toward borrowers. The new housing law does not mandate it, but backs this goal "to the greatest extent possible."
Citing yield-spread premiums, some sources said no reform will be effective until all brokers have a fiduciary responsibility to borrowers.
Yield-spread premiums can lower the closing costs of a mortgage in exchange for a slightly higher interest rate on the loan. A borrower can pay the broker’s fee up front or choose to fold it into the loan. Regardless, the broker gets the fee right away – something critics have described as a kickback to brokers.
"Somehow the system got broken and each subprime loan started to get piled up with all of these things," said Julia Gordon, policy counsel at the Center for Responsible Lending. "The homebuyers didn’t understand really any of them. But they definitely didn’t understand that the broker got a check by pushing a higher interest rate from the lender."
Mortgage brokers have a different perspective.
Marc Savitt, the president of the National Association of Mortgage Brokers, said his members "applaud what Congress did with this bill. … It helps our industry."
The Department of Housing and Urban Development has attempted to reform the mortgage broker business three times in the past decade, paying particular attention to yield-spread premiums. The agency’s latest proposal to reform disclosures, released in March, would require brokers to list such compensation.
Though HUD has said it plans to finalize the proposal by yearend, it has encountered continued resistance from brokers, who have threatened to sue.
The Fed, too, has unsuccessfully attempted to rein in yield-spread premiums. In a proposal to curb mortgage abuses released last year, it would have forced lenders to disclosure yield-spread premiums. But the central bank dropped that requirement when it finalized the rule last month, saying consumer testing cast doubt on the effectiveness of such disclosure. The Fed said it would consider alternative approaches.
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