Both the U.S. and the European Union are addressing the problems believed to have created the financial crisis by heightening consumer protection in the mortgage lending sector. Regulations such as the Dodd-Frank Act (U.S.) and the European Standardised Information Sheet focus on the consumer’s ability to repay and hope to strengthen the cross-border market for mortgages.
The United States has a forty year history of enacting federal regulations designed to protect consumers in the residential mortgage lending sector. Numerous amendments have been made to a dozen laws in order to strengthen rules to curb irresponsible lending. In 2010, the U.S. signed into the Dodd-Frank Wall Street Reform and Consumer Protection Act, known as Dodd-Frank. The Act is a massive piece of legislation intended to address problems believed to have created the financial crisis.
The Dodd-Frank Act established the Consumer Financial Protection Bureau (CFPB), assigning broad authority to write rules to protect consumers from unfair or deceptive acts. Responsibility to enforce major consumer protection laws was reassigned to the CFPB.
Qualified Mortgage Standard
In January 2013, the CFPB issued a final rule that prohibits all creditors from making residential mortgage loans without regard to a borrower’s repayment ability. The final rule sets forth the specific income verification requirements, product features, and underwriting criteria, including a 43% debt-to-income ratio cap.[ms-protect-content id=”5662″]
Loans meeting such standards are called “qualified mortgages” (QM) and offer protections from liability. Lenders who originate a QM loan are entitled to a “safe harbour” which is a way to dispose of allegations quickly and efficiently. Lenders must memorialise that all qualifying standards were met including the borrowers’ ability to repay.
There is another type of QM loan that applies to higher-priced mortgages which is any loan where the interest rate is 1.5 percentage points over the Average Prime Offer Rate (APOR). Such loans are protected under a “rebuttable presumption” the lender complied with the Ability-to-Repay rule.
A simultaneous provision under Dodd-Frank that remains under debate is the Qualified Residential Mortgage (QRM). A QRM is a loan that meets stricter standards than QM loans, and most importantly, lenders do not need to maintain a five percent “skin-in-the-game” stake in the loan.
European Union Initiatives
In April 2013, the European Parliament announced rules on mortgage lending designed to give better protection to consumers. The legislation is expected to come into force by 2015, as negotiation on a key piece of legislation enters its final stage in Brussels.
The directive, which will be applicable to all member states, sets out a new set of rules for all new mortgages taken out after the directive comes into force. This includes rules on advertising and improving pre-contractual information for consumers. A key strand of the regulation is a new European Standardised Information Sheet (ESIS).
This will require lenders to provide standardised information about the terms and conditions of the mortgage, thereby allowing consumers to more easily compare mortgage offers across different lenders both within member states and across the European Union. The new directive will also introduce tougher rules for credit assessment of people applying for mortgages, setting out principles by which a consumer’s ability to repay the loans should be assessed.
The directive includes additional rules on advertising, clarification of loan costs and annual percentage rate and provides consumers with information regarding early payoff penalties. It will also tackle the issue of remuneration structure for credit-assessment staff to discourage the practice of advisors recommending or sanctioning a mortgage in order to secure remuneration benefits.
In addition, the directive clamps down on mortgage intermediaries or brokers, amid concern that the commission-based model of payments to mortgage intermediaries could encourage brokers to recommend a mortgage on the basis of commission generated, rather than its suitability for the consumer. Under the new legislation, mortgage brokers will be required to have professional indemnity insurance or a similar guarantee of liability, he or she must be included on a register, and credit intermediaries will be subject to supervision by authorities in each member state.
While most mortgages are issued by lenders in countries where the applicant resides, the new directive aims to strengthen the cross-border market for mortgages. All EU member states will be required to transpose the directive into national law within two years.
Since the 1990s, the European Commission has made efforts to curb irresponsible lending in the mortgage sector and has worked toward the creation of a single market for financial services. The Commission developed self-regulatory initiatives to improve the quality and comparability of information provided to consumers on mortgages and has continued to monitor residential mortgage markets to ensure the efficient functioning of the single market.
To address problems spreading beyond national borders, the European Voluntary Code of Conduct was created in 2001 to govern pre-contractual information for home loans. The Commission endorsed this Code and has been committed to monitoring compliance. After adoption of the Code, the Commission began a broad review of EU mortgage markets to assess whether further steps were necessary to promote the integration of EU mortgage markets. The Commission launched a further consultation to strengthen and deepen its understanding of the issues surrounding responsible lending and borrowing. The objectives were to create an efficient and competitive single market for consumers, creditors and credit intermediaries with a high level of consumer protection and to promote financial stability by ensuring that mortgage credit markets operate in a responsible manner.
About the Author
Anna DeSimoneis President and Founder of Bankers Advisory, Inc., Belmont Massachusetts, USA, a audit and consulting company specializing in mortgage quality assurance and regulatory compliance. She has published 30 guidebooks on many topics of including mortgage fraud, predatory lending, identity theft and international mortgage banking. She can be reached at [email protected][/ms-protect-content]