Consumers must also be told that a mortgage payment may not include taxes and insurance, as additional budgeting for those expenses may be required. The agencies sounded the familiar "safety and soundness" bell with regard to setting up control systems that address compliance with the rules. Hiring qualified loan personnel and conducting due diligence of third-parties is also a requirement. And compensation and incentive programs must comport with sound underwriting procedures. No more steering consumers into the loans that pay the biggest bonus.

The agencies "will take action against institutions that exhibit predatory lending practices, violate consumer protection laws and engage in unfair and deceptive acts or practices," the statement concluded.

Congress Weighs In

Some members of Congress are promising to pass legislation that will prevent the worst of the abuses so that they are unlawful nationally even as several states have ramped up their own bills. The Senate Subcommittee on Housing, Transportation and Community Development held a hearing on June 26, hearing several witnesses that related stories of losing their homes due to bad mortgage products.

Senator Charles Schumer said at the hearing, "It is clear that the subprime mortgage market has been the Wild West of the mortgage industry for far too long. We need a sheriff in town." Together with Senators Brown and Casey, he introduced S.1299 to make it harder for irresponsible brokers and nonbank lenders to sell mortgages that are designed to fail the homeowner and result in foreclosure.

Schumer wants to create a national regulatory structure for mortgage brokers and other originators in addition to pushing regulators to conduct more oversight using HOEPA and other relevant laws. "My goal is to strengthen standards for subprime mortgages by regulating mortgage brokers and all originators under the Truth in Lending Act by establishing on behalf of consumers a fiduciary duty and other standards of care," he said. Referring to the subprime "storm" and saying it is only getting worse, he noted that the predatory schemes have hit hardest in lower income neighborhoods, citing a HUD/U.S. Treasury study that found that subprime loans were issued five-times more frequently to black neighborhood households as they were to white neighborhood households.

Senator Dodd also weighed in, saying that while "regulators have taken an important step in the right direction, it only gets us part way to our final goal. It establishes, once and for all, the principle that lenders must seriously and fully consider a borrower's ability to pay a loan back, at the fully indexed rate, before making a mortgage loan. Had regulators enforced such a standard over the past several years, and had lenders abided by it, many of the problems that homeowners and the markets are experiencing today would have been avoided."

Dodd said that The Federal Reserve must now take the guidance, "strengthen its protections and turn it into a regulation that applies to all lenders, and not just those that are federally regulated. Subprime borrowers, who are disproportionately black and Hispanic, deserve strong protections to attain and sustain homeownership, regardless of whether they get a loan from a federal or state lender."

The Wall Street Effect

The new guidelines and ensuing regulation will impact banks but doesn't apply to firms that lend money from investors and Wall Street. It's the nonbanks that have issued the lion's share of risky loans in the past few years, and all of those are regulated by the individual states. Reacting to the Agencies statement, the Conference of State Bank Supervisors promised to put state regulations on a par with the federal standards.

House Financial Services Committee Chairman Barney Frank has urged lenders and bondholders who own many of the subprime paper as part of mortgage-backed bonds to use forbearance, allowing homeowners in trouble to refinance rather than foreclose.

Collateralized debt obligations, bonds made from securitizing subprime loans that are sold off to investors, were supposed to spread the risk of these loans around. But the air is coming out of that balloon now, as the effects of the housing downturn sets in. The late June crash of two Bear Stearns Hedge funds (which were privately bailed out) connects the dots between these loans and the larger economy–exposing the threat to a wider, more painful shock to the financial system they bear. Hedge funds borrow from money center banks like BofA and securities brokers like Merrill Lynch and Goldman Sachs and the bailout required should these tank would likely distress all manner of lending by making money harder to get. Hedge funds are not currently regulated and there are no plans at the SEC to oversee their investments, either. But Hedge funds do take pension money, which portends a possible loss for middle class Americans.

The Equity Drain

As more homeowners in the last half-dozen years have used their homes like an ATM, taking HELOCs to pay off other debt or send children to college, they have lowered their remaining equity in the single largest investment most of them make, and weakened a historical linchpin for a comfortable retirement. According to a Fed study, homeowners' debt-free stake in their homes was only 52.7% in the first quarter of 2007, down from 54.1% only a year ago. While housing prices were booming and home values soared, the HELOC option seemed a sure-fire method of relieving other consumer debt, for making home improvements, etc., but as home values decline, homeowners equity erodes quickly and leaves no safe harbor should a medical emergency arise or if a family member becomes unemployed.

Prospects

Eve Weber of the Washington-based Aite Group, a leading independent research and advisory firm focused on business, technology and regulatory issues and their impact on the financial services industry, told Credit Union Times, "I'm not convinced we'll see any blockbuster legislation."

Noting that powerful lobbying against restrictive legislation is likely, Weber allowed that crafting a bill to stem the worse misdeeds can seem easy enough, yet it can be difficult to see where the line must be drawn. "It's just not smart to be too reactionary," she said, "and with the Bear Sterns debacle, it's difficult to form a solution after the fact."

"We can all agree that bad things in the subprime loan market have happened. Lenders, underwriters and appraisers have all clearly pushed the envelope to get new loans on the books. Now the question is how strongly regulators will react. I don't think we'll see blockbuster legislation, but regulators are obviously motivated to do something to help consumers, which will keep lenders in the hot seat for a while longer."

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