Subprime home loans grab increasing share of N.H. market
It’s becoming easier to own a home in New Hampshire, but it’s also getting easier to lose one. So-called subprime lenders - those that lend money to borrowers with substandard credit at a higher interest than mainstream lenders - weren’t even on the mortgage radar screen a decade ago. They now account for one out of eight home loans in New Hampshire. In 1993, subprime loans accounted for less then $1 million in loans. In 2003 (the latest figures available), they account for $1.5 billion - triple the amount handled in the two previous years. Because subprime lending is used by people with credit difficulties, it has opened the doors of home ownership to many people who could not have been eligible for a mortgage in the past. But subprime borrowers are 10 times more likely to face foreclosure than those with a traditional mortgage and are 10 times more likely to be delinquent in payments. Last year, for the first time, the number of subprime foreclosures outnumbered prime foreclosures in New Hampshire, even though they account for 12.5 percent of all home loans issued in the state. The subprime foreclosure rate is still rather low - from 1 percent to 9 percent of all such loans nationally, depending on which statistics are being used and how the data is interpreted. (New Hampshire foreclosure rates are slightly lower.) But since many subprime loans are adjustable-rate mortgages or feature interest-only payments for the first few years, foreclosure rates are expected to climb sharply when long-term interest rates start creeping up or as the loans mature. “The loans are so much more expensive, both at inception and also in the payment terms, that it is hard for people not to fall behind,” said Peter Wright, director of the Consumer Law Clinics at the Franklin Pierce Law Center in Concord. “Generally people are living paycheck to paycheck, and any disturbance - an illness, unemployment, divorce - and they can get into serious trouble very quickly.” Of course, one would expect a greater percentage of foreclosures among more precarious borrowers who are rated subprime primarily because they have missed payments in the past and are more likely to miss payments in the future. But the high number of subprime foreclosures in New Hampshire also could be explained by the loan terms — which sometimes include daunting balloon payments, prepayment penalties and per diem interest fees during a grace period. They also could be related to the practices of some subprime lenders, brokers or mortgage servicers that have crossed the line into predatory lending by approving loans for people who are not expected to pay them back, with the hope the lenders can extract as much equity as possible before the borrower goes under and gives up his or her home. Subprime lending is not necessarily predatory lending, but a few subprime lenders are simply stooping too low in order to bring in customers, said Barbara Cunningham, mortgage origination manager at St Mary’s Bank in Manchester, “It becomes the equivalent of a junk bond,” said Cunningham. “Some of them - if they have their collateral - don’t care if you repay a loan, even if you don’t have a job. A lender has a responsibility that a person has a reasonable likelihood that they will repay.” But consumer advocates stress that most subprime lenders are not predatory. “It is not fair to lump them all together,” said Wright. “Some subprime lenders provide a genuine service.” Yet even mortgage industry defenders of the practice acknowledge that predatory lending is a problem. “It is a stain on the industry,” Regina Lowrie, incoming chair of the Mortgage Bankers Association, recently told the Washington Post. ‘Significant fraud’ The top two subprime lenders in New Hampshire have faced accusations relating to predatory lending elsewhere. Option One, a subsidiary of H&R Block - which has made $216 million in loans in New Hampshire — reached an agreement in April with the U.S. Attorney’s office in Pennsylvania to crack down on the predatory practices of independent brokers handling the company’s loans. The “significant fraud” included inflated appraisals, fictitious charitable grants to apply toward down payments, misrepresentation concerning cash brought to closing and excessive real estate broker’s commissions. While not admitting any fault, the company did agree to pay $100,000 to various anti-predatory lending groups. Option One can’t comment on the agreement, but such cases are the exception, not the rule, said Faith Schwartz, senior vice president at the firm. “You can’t be a $30 billion lender if you aren’t doing the right things,” she said. Subprime lending is not exploitative, but “a bridge to the prime market, it’s a vehicle for someone to purchase a new home,” she said. Ameriquest — the largest privately-held subprime lender in the country - is the second-largest subprime lender in New Hampshire, with $129 million in loans. It is currently fighting a cease and desist order issued in January by the Connecticut Banking Department, and in May settled one class action suit in California for as much as $60 million. It faces a more wide-ranging federal class action suit, filed in March in San Francisco. The Connecticut charges stem from allegedly excessive prepaid finance charges. The class action suits accuse the company of predatory lending practices — “bait and switch” on loan terms, falsifying income and “inducing borrowers into mortgages that saddle them with monthly payments that exceed their monthly income.” In response, Ameriquest issued this statement to the New Hampshire Business Review: “As a nationwide lender and industry leader, Ameriquest is successful because we focus on helping meet people’s credit needs and helping them to reach their financial goals. In its 25-year history, Ameriquest has helped hundreds of thousand of homeowners purchase or refinance their homes.” The company also pointed to its best practices, developed in 2003 after being hounded by the Association for Community Organizations for Reform Now, or ACORN. The idea of rating loans as prime and subprime started sometime in the 1970s, when banks and mortgage companies first started selling their loans on the secondary market. At first, these financial institutions often hung on to the subprime loans, often combining them with Federal Housing Administration insurance to make them work. Growing trend But FHA loans became increasingly cumbersome, said Walter Vail, of Beacon Mortgage and co-chair of the Ethics and Legislative Committee of the New Hampshire Mortgage Bankers and Brokers Association. And as the rating of mortgage loans became increasingly sophisticated, subprime loans without FHA insurance could also be sold off as a commodity. In 1990, as investors plowed money into the mortgage securities market, subprime loans grew at a faster clip, and as interest rates fell to historic lows, the difference between subprime and prime loans was not that great. Those lower interest rates fueled a refinancing boom among all types of lenders, but prime lending has leveled off in the last few years as subprime lending continued to grow. Nationwide, subprime lending amounts to 20 percent of the residential market, said Schwartz of Option One, which would mean that it has a greater market share than it does in New Hampshire. As this unregulated alternative to FHA insurance became available to a much larger group of people, it became an attractive alternative to traditional brokers, especially when potential customers have been digging deeper and deeper into their credit card limit. Vail estimates that about a fifth of his borrowers are now subprime. “With the growth of credit cards there are more ways to get into trouble than 10 or 15 years ago,” he said. “We’re just seeing more borrowers with special needs.” Still, he said, subprime borrowers often change their ways and become much more reliable in paying bills when they realize that they have tens of thousands of dollars of equity on the line. “This (subprime lending) is a wonderful addition to the mortgage market to allow people to get into their homes,” said Vail. Banks also are turning to subprime loans, which “when applied correctly work very well by extending credit to moderate- and low-income people,” said Jerry Little, president of the New Hampshire Bankers Association. Banks are under the gun to “stretch” their loan products to reach those with lesser means, but then they are criticized for making loans that a larger percentage of people can’t pay back. “It’s darned if you do and darned if you don’t,” he said. Crossing the line? While, on average, subprime borrowers tend to be poorer than their prime counterparts, most of them aren’t destitute. Option One’s average borrower, for instance, makes $65,000 a year, according to Schwartz. Many - by some estimates more than half — may be eligible for a traditional loan, but thanks to aggressive marketing, many borrowers are reached by subprime lenders before they try for a regular loan. The question is: When does aggressive marketing cross the line into predatory lending? Critics - like those filing the federal class action suit against Ameriquest - charge that quotas and a hard-sell culture cause agents and some independent brokers to cut corners, encouraging borrowers to lie about income or their expenses or cash available for down payments in order to get a loan. They say brokers and agents sometimes use false appraisals to make it look like borrowers have more equity in the property than they actually have. And they target those who are not likely to pay attention to loan terms — borrowers without much education and the elderly. The lenders might promise easy cash, encouraging borrowers to roll in credit card debt into their house. Or, critics charge, predatory lenders circumvent the law allowing a borrower to back out of a loan — the right of rescission — by failing to leave documents with the borrower. Or they might pressure borrowers to accept terms that enable their company to sell the loans more easily on the secondary market, including: adjustable mortgages; interest-only loans that call for no principal payoffs for several years; 80-20 loans, which involve a loan broken up between an interest-only and a traditional loan; balloon payments, which call for the entire loan to become due on a fixed date; and excessive prepayment penalties that can prevent the borrower from refinancing with anyone else. Borrowers also might be encouraged to purchase expensive insurance from the mortgage company’s subsidiary, or roll large up-front fees into the mortgage. One common problem involves per diem interest charges, said Wright of the Consumer Law Clinic. When some borrowers try to take advantage of the traditional two-week grace period they find out that their interest accrues every day, not every month. That means they incur thousands of dollars in interest, “and they don’t realize they are being penalized.” Another concern is that many subprime loans (as well as other consumer loans) are increasingly including a mandatory arbitration clause. Ostensibly, arbitration is less costly and time-consuming than going to court, but the arbitrators are not judges and the mortgage companies pay them. And while arbitrators are supposed to be neutral, “any arbitrator is mindful of the result that they don’t want to disappoint a company if they have a realistic hope of being hired again. It results in a subtle but very definite bias,” Wright said. A federal anti-predatory lending law requires extra disclosure for loans that either exceed more than 8 percent of the prime rate on a first mortgage and more than 10 percent for a second mortgage, or loans where the points or fees amount to 10 percent of the loan amount. But these loans are more costly than many subprime loans. Some states, like Massachusetts and Maine, have gone beyond that and have outlawed some of the questionable practices in more types of loans or in all loans. But New Hampshire decided to stick with the federal law because “there was no serious predatory lending problem in the state,” said Jim Demers, a lobbyist with the Mortgage Bankers and Brokers Association of New Hampshire. Vail agrees, saying that many state laws are “so stringent that mortgage companies would stop making loans to those kinds of borrowers.” Besides, he said, no matter what kind of safeguards are put in place, “if someone finds a way to commit a fraud, they do,” he said. The same debate is taking place at the federal level. Congress is looking at a bill that would pre-empt state legislation. Lenders argue that they shouldn’t have to abide by 50 sets of rules. Opponents say that the federal government shouldn’t interfere with states trying to protect their citizens. Meanwhile, it’s unclear how much of a problem predatory lending is in New Hampshire. The state Banking Department doesn’t keep records on how many high-cost loans are made in the state. The Federal Trade Commission does, but doesn’t release that information without a Freedom of Information request — a process that could take months.