A top banking regulator says states must follow the federal government’s lead and institute stronger underwriting and disclosure requirements for lenders who offer exotic mortgages.
Speaking at an annual convention of community bankers, Comptroller of the Currency John C. Dugan said he sympathized with concerns that new guidelines for nontraditional mortgages apply only to federally insured banks.
The guidelines, issued Sept. 29, direct banks to analyze a borrower’s ability to repay interest-only mortgages and payment-option, negative amortization loans at the fully indexed rate. Banks must take into account not only the initial loan amount but any additional balance that may accrue through negative amortization. The guidelines also say banks should fully and clearly disclose the potential that their loan payments may increase to borrowers.
Bankers protested that because the guidelines would only apply to federally insured institutions, putting them at a competitive disadvantage to nonregulated lenders and mortgage brokers.
“I agree with these concerns,” Dugan said. “There is an unlevel playing field that plainly distorts competition in the nontraditional mortgage business. And there is also a consumer protection gap with respect to the nontraditional mortgage lending practices of a broad segment of mortgage lenders. “
The federal guidelines “can only be viewed as unfinished business,” Dugan said, because lenders and mortgage brokers subject only to state regulation constitute a “large portion of nontraditional mortgage originators.”
Dugan said he has been “encouraged” by statements from the Conference of State Bank Supervisors and the American Association of Residential Mortgage Regulators that both organizations are working to develop similar guidelines at the state level. Dugan said it is “vital” that states not water down the federal guidelines.
Acknowledging that nontraditional mortgages can be an important tool for consumers grappling with rising housing prices, Dugan noted that the federal guidelines do not ban exotic mortgages, impose limits on the number of nontraditional mortgages an institution may hold, or impose new capital requirements on banks.
Between 2002 and 2005, the median home price grew by 34 percent to $212,000, while median family income grew by only 12 percent. In California, Dugan said, home prices had reached up to 5.3 times median income by 2005, leaving fewer than one in five families able to afford the median-priced single family home.
Lenders adjusted, offering more nontraditional products and using more aggresive underwriting standards to allow consumers to buy homes that might otherwise have been out of reach. Nontraditional loans constituted about 30 percent of all mortgages by 2005, up from 2 percent in 2000.
Dugan said that while there is “nothing inherently wrong” with nontraditional mortgages with accelerating payments — they are just riskier. While such mortgages can work well for borrowers with irregular or growing incomes, “that does not mean that they will work well in all circumstances, which seems to be the assumption underlying the more recent mass marketing of payment deferral products to a much broader range of consumers.”
In another speech Monday, Dugan told members of the American Bankers Association that a recent underwriting survey showed a “significant easing” in residential mortgage lending standards.
The survey showed lenders are doing the opposite of what regulators would expect them to do in a cooling housing market: allow longer interest-only periods, more piggyback loans, higher loan-to-value ratios, and more reduced-documentation loans.
“Frankly, that concerns me,” Dugan said. “We don’t want to see the lending decisions bankers make today result in excessive foreclosures — and reduced affordable housing credit — tomorrow.”