A. What is Predatory lending?

Predatory lending is the practice of using a borrower’s ignorance against them for profit. It is often referred to as an affliction that only strikes racial minorities, women, and the elderly. While these groups are certainly prone for victimization, for which the ramifications cut far deeper and are often life-altering, predatory lending runs silently unregulated amongst all demographics. Predatory lending can be identified by deceptive marketing and sales practices, non-disclosure of all terms that relate to the qualification and payback of the loan, and falsifying documentation to gain otherwise unattainable loan approvals, although the actual term is an umbrella to numerous specific scenarios.

a. Profits as indicators of Predatory Lending

Some lenders target elderly homeowners who have considerable equity in their homes, and who might be more easily deceived or coerced into taking out a mortgage loan that they cannot afford to pay back.

A broker may originate a loan to a borrower knowing they do not have enough cash flow to make the monthly payments and then immediately sell the loan to a secondary market investor. When the borrower defaults, they and the funding lender are damaged—not the broker.

Sadly, in many cases where a person with large credit card debt (i.e. unsecured), no assets beyond the equity in their home, and no cash flow to cover the minimum monthly payments, a better option for them may be to work out a payment plan with the credit card companies covered by the cash flow they do have, or even to declare bankruptcy so that they do not lose their home in a foreclosure sale. Another far more complex, very innovative (but allegedly criminal) predatory tactic involves predators creating and exploiting conflicts of interest among the various purchasers and servicers of a pool of mortgages, through frivolous foreclosures of performing loans, and legal barratry contrary to fiduciary duty that are extremely profitable for the predators.[1].

b. Abusive or unfair lending practices

There are many lending practices which have been called abusive and labeled with the term “predatory lending.” There is a great deal of dispute between lenders and consumer groups as to what exactly constitutes “unfair” or “predatory” practices, but the following are sometimes cited.

Risk-based pricing. This is the practice of charging more (in the form of higher interest rates and fees) for extending credit to borrowers identified by the lender as posing a greater credit risk. The lending industry argues that risk-based pricing is a legitimate practice; since a greater percentage of loans made to less creditworthy borrowers can be expected to go into default, higher prices are necessary to obtain the same yield on the portfolio as a whole. Some consumer groups argue that risk-based pricing is an excuse for price gouging vulnerable consumers. They argue that higher prices paid by more vulnerable consumers cannot always be justified by increased credit risk.
1. Single premium credit insurance. This is a purchasing of insurance which will pay off the loan in case the homebuyer dies, this is more expensive than other forms of insurance because it does not involve any medical checkups, but customers almost always are not shown their choices—because usually the lender is not licensed to sell other forms of insurance. In addition, this insurance is usually financed into the loan which causes the loan to be more expensive, but at the same time encourages people to buy the insurance because they do not have to pay up front.
Any situation where the loan price is negotiable, but the buyer is not aware of this. Many lenders will negotiate the price structure of the loan with borrowers. In some situations, borrowers can even negotiate an outright reduction in the interest rate or other charges on the loan. Consumer advocates argue that borrowers—especially but not only unsophisticated borrowers—are not aware of their ability to negotiate, and might even be under the misapprehension that the lender is placing the borrower’s interests above its own. Thus, many borrowers do not take advantage of their ability to negotiate.

The most common complaint however, is with any loan which has associated fees which do not add to the APR number. These are compared to a hypothetical situation where the same money can be borrowed without fee from a line of credit. For example, a payday loan of 20 dollars may cost 2 dollars. If the borrower only had a credit card, a cash advance on the credit card might cost 4 dollars, and the payday loan would be the cheapest option (unless what I needed to purchase could be purchased by the credit card incurring no cash advance fee). However, if the borrower had a line of credit with no fees for cash advances, then if he borrowed that 20 dollars and repaid it within the same time frame as the payday loan, the interest would only cost 0.02 cents. This causes people to suggest that the 2 dollars charged on the 20 dollars is a 1000% interest rate. However it might be impossible for the borrower to obtain a no fee line of credit. This scenario occurs in many places:

Payday loans;
Credit Card late fees;
Checking Account Overdraft Fees
Car Dealer Finance, where the price of the car if financed is higher than if paid for in cash;
Tax Refund Anticipation Loans; Certain mortgage and equity loan fees

Anti-predatory lending organizations such as ACORN argue that predatory loans are usually made in poor and minority neighborhoods where better loans are not readily available, and that the loss of equity and foreclosure can devastate already fragile communities.

Organizations such as AARP Inner City Press and ACORN have worked to stop what they describe as predatory lending. ACORN has targeted specific companies such as Household Finance and H&R Block, successfully forcing them to change their practices. Inner City Press and Fair Finance Watch continue watching the practices of HSBC and Citigroup as they export their controversial subprime lending models beyond the United States. These groups have also spearheaded legislation that would make forms of lending deemed to be predatory illegal.

B. Predatory Mortgage Lending

Common Abuses: 7 Signs of Predatory Lending

Excessive Fees - Points and fees are costs not directly reflected in interest rates. Because these costs can be financed, they are easy to disguise or downplay. On competitive loans, fees below 1% of the loan amount are typical. On predatory loans, fees totaling more than 5% of the loan amount are common.
Abusive Prepayment Penalties - Borrowers with higher-interest subprime loans have a strong incentive to refinance as soon as their credit improves. However, up to 80% of all subprime mortgages carry a prepayment penalty — a fee for paying off a loan early. An abusive prepayment penalty typically is effective more than three years and/or costs more than six months’ interest. In the prime market, only about 2% of home loans carry prepayment penalties of any length. More about prepayment penalties…
Kickbacks to Brokers (Yield Spread Premiums) - When brokers deliver a loan with an inflated interest rate (i.e., higher than the rate acceptable to the lender), the lender often pays a “yield spread premium” — a kickback for making the loan more costly to the borrower. Yield Spread Premiums: Incentive for Equity Theft_ Minimal Broker Licensing Standards Will Not Affect Abusive Lending Practices

More about yield spread premiums…

Loan Flipping - A lender “flips” a borrower by refinancing a loan to generate fee income without providing any net tangible benefit to the borrower. Flipping can quickly drain borrower equity and increase monthly payments — sometimes on homes that had previously been owned free of debt.
Unnecessary Products - Sometimes borrowers may pay more than necessary because lenders sell and finance unnecessary insurance or other products along with the loan.
Mandatory Arbitration - Some loan contracts require “mandatory arbitration,” meaning that the borrowers are not allowed to seek legal remedies in a court if they find that their home is threatened by loans with illegal or abusive terms. Mandatory arbitration makes it much less likely that borrowers will receive fair and appropriate remedies in cases of wrongdoing. More about mandatory arbitration…
Steering & Targeting - Predatory lenders may steer borrowers into subprime mortgages, even when the borrowers could qualify for a mainstream loan. Vulnerable borrowers may be subjected to aggressive sales tactics and sometimes outright fraud. Fannie Mae has estimated that up to half of borrowers with subprime mortgages could have qualified for loans with better terms. According to a government study [1], over half (51%) of refinance mortgages in predominantly African-American neighborhoods are subprime loans, compared to only 9% of refinances in predominantly white neighborhoods.

[1] HUD-Treasury Report Recommendations to Curb Predatory Home Mortgage Lending. Available at http://www.hud.gov/library/bookshelf18/pressrel/treasrpt.pdf (courtesy of Center for Responsible Lending http://www.responsiblelending.org/abuses/abusive.cfm)

C. PREDATORY LENDING & HOME EQUITY LOANS

10 Warning Signs that allow you to spot “mortgage monsters” (courtesy of http://www.predatorylendingsucks.com/warning.htm):

The Federal Trade Commission and other sources urge consumers to watch out for the following common predatory lending practices:

High Fees:_ Ethical brokers and lenders charge reasonable fees for their services. Unethical ones charge more than what’s reasonable. On a purchase loan or refinance loan, borrowers should avoid paying fees exceeding 1 percent (not including any discount points) of the loan to the broker and/or lender. Lender/broker fees can be called a number of things: origination, underwriting, document preparation or commitment fees. The names of the fees don’t matter. They’re all just cute names for “lender profit.” All told, they shouldn’t add up to more than 1 percent, or $1,000 on a $100,000 loan. These do not count fees paid to third-party vendors, such as appraiser or title company, or fees for environmental endorsements, flood certificates or tax services. (Without discount points, closing costs on a $100,000 loan including everything typically range from $1,500 to $2,200 and include such items as title work, an appraisal, a survey and recorder’s fees.)
Steering Business to Partners:_ Borrowers should watch out for brokers or lenders that steer customers to particular companies for various closing services. Most brokers own or have relationships with title companies, escrow agents or appraisers. While they’re allowed to suggest their sister companies or their buddies, watch out. At best, these companies may charge you a higher price than you could get by making a couple of phone calls and hiring your own title company. At worst, brokers hire companies who will lie for them in order to let a bad loan go through. (Most predatory lenders can’t work alone; they need someone else, usually an appraiser or title company, to conspire with them.)

Remember, a title company settlement agent (also called an escrow or closing agent) is supposed to be an objective, third-party to oversee the details of the transaction. How objective do you think he is if he’s the broker’s co-worker or drinking buddy?

Under federal law, lenders are prohibited from requiring customers to use a particular title company, insurance company or escrow/closing agent, for example. They are allowed to require their own appraisal or credit reporting company. If they try to force you to use companies for any other services, walk away.

Watch Blank Pages:_ Don’t sign any blank pages or forms without numbers filled in. And with the complexity of mortgage loans and the number of unethical lenders, if you’re uncomfortable or unsure of some issues, consider hiring your own attorney for a few hundred dollars to review any papers you’re asked to sign.

You should read every word of every loan document - you’d be surprised what’s in there that could hurt you later. At the very least, pay the closest attention to four things: your truth-in-lending statement, good-faith estimate of closing costs, HUD settlement sheet of closing costs and the actual mortgage note (a multi-page document with the amount financed and specific terms and restrictions). The note tells your interest rate; the truth-in-lending form shows the annual percentage rate when all fees are figured in. If the APR is more than 0.50 to 0.75 of a percentage point higher than your interest rate, there may be hidden or unnecessary fees.

Bait and switch: Brokers tell you key details such as interest rate and monthly payment. They might even show you documents with the promised numbers. But when it comes time to sign the dozens of pages for the loan, the lenders are banking that you won’t realize the numbers have been changed.
1. Credit insurance/other fees: Just as you are ready to sign, lenders surprise you with additional fees. They count on you failing to understand that credit insurance is different from private mortgage insurance. If you object, they may tell you that the insurance comes with the loan (making it seem free) or try to scare you by suggesting that refusing to sign will delay and even jeopardize the loan.
Balloon payments: Lenders may offer to help you refinance your home, consolidate bills or avoid foreclosure by giving you a new loan with an even lower monthly rate. But many of these deals require a large lump-sum payoff, say $70,000, within a few years.
Loan flipping: You decide to refinance your home to get extra cash. After you have made a few payments, the lender calls to offer a bigger loan to pay for, say, a vacation. You agree, without knowing that each time you refinance the original loan you must pay high points, fees and a higher interest rate. And if your loan had a prepayment penalty, you’ll have to pay that also.
Home improvement loans: A contractor calls, offering a remodeling project at a decent price but one you can’t afford. You’re told he can arrange financing. After the project is started, the contractor asks you to sign a bunch of papers that may be blank or that you may be rushed through. You are warned that if you don’t sign, the work won’t be finished. You find later that the papers were a high-interest, high-fee home-equity line.
Biweekly payments: Lenders set you up with a loan to be paid every other week instead of once a month. Although this type of payment plan can reduce the finance charge and length of a loan, predatory lenders charge you $1,000 for the “privilege” of paying the loan biweekly. In reality, such accounts can be set up for free or a few hundred dollars at most.
Deed signing: If you are behind on your mortgage, a “lender” may offer to help find new financing. But first you are asked to deed your property over to him as a temporary measure to prevent foreclosure. But the promised loan never comes, and you no longer own your home.