States should follow the lead of federal banking regulators and adopt guidelines for nontraditional mortgages that include better disclosure of loan terms to consumers and more conservative underwriting standards.

That’s the position of two professional organizations that represent state bank and residential mortgage regulators across the U.S.

Guidance on nontraditional mortgages issued Tuesday by the Conference of State Bank Supervisors (CSBS) and the American Association of Residential Mortgage Regulators (AARMR) largely mirrors new federal guidelines released Sept. 29.

The federal guidelines instruct banks to clearly disclose the potential for increasing loan payments on interest-only and payment option, negative amortization loans. Banks are directed to analyze a borrower’s ability to repay those loans at the fully indexed rate, taking into account any additional balance that could accrue through negative amortization.

Those guidelines only apply to federally chartered banks, some of whom say they will be at a competitive disadvantage to state-regulated banks and mortgage lenders if similar policies aren’t instituted at the state level. U.S. Comptroller of the Currency John C. Dugan told community bankers in October that he agrees states must follow the lead of federal regulators.

CSBS and AARMR are urging states to adopt the federal guidelines with few changes. The exception is a recommendation that states not adopt federal guidelines instructing depository institutions to consider the risks nontraditional loans pose to their loan portfolios and to maintain sufficient capital reserves.

The Mortgage Bankers Association welcomed the recommendations.

“We are glad to see that CSBS officials decided to remove many of the ‘safety and soundness’ sections that had been contained in the federal guidance,” the MBA said in a statement. “We agree with CSBS’ analysis that those provisions have no application in the regulation of the non-depository providers that CSBS members regulate at the state level.”

CSBS and AARMR urged states to adopt their guidance without modification, to create uniform standards around the U.S.

The Mortgage Bankers Association agreed, saying that if each state creates its own guidance, “it will create a patchwork of 50 separate regulations that are all different, producing a compliance nightmare for our members who operate in multiple states.”

The Mortgage Bankers Association has raised concerns about the federal guidelines, saying they could restrict the ability of lenders to underwrite and manage risk differently from their competitors, which could undermine competition. The guidelines could also raise the cost of interest-only loans, the group says.

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