Consumer Protection:

Federal and State Agencies Face Challenges in Combating Predatory Lending

GAO-04-280: Published: Jan 30, 2004. Publicly Released: Feb 24, 2004.

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David G. Wood
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While there is no universally accepted definition, the term "predatory lending" is used to characterize a range of practices, including deception, fraud, or manipulation, that a mortgage broker or lender may use to make a loan with terms that are disadvantageous to the borrower. No comprehensive data are available on the extent of these practices, but they appear most likely to occur among subprime mortgages--those made to borrowers with impaired credit or limited incomes. GAO was asked to examine actions taken by federal agencies and states to combat predatory lending; the roles played by the secondary market and by consumer education, mortgage counseling, and loan disclosure requirements; and the impact of predatory lending on the elderly.

While only one federal law--the Home Ownership and Equity Protection Act--is specifically designed to combat predatory lending, federal agencies have taken actions, sometimes jointly, under various federal consumer protection laws. The Federal Trade Commission (FTC) has played the most prominent enforcement role, filing 19 complaints and reaching multimillion dollar settlements. The Departments of Justice and Housing and Urban Development have also entered into predatory lending-related settlements, using laws such as the Fair Housing Act and the Real Estate Settlement Procedures Act. Federal banking regulators, including the Federal Reserve Board, report little evidence of predatory lending by the institutions they supervise. However, the nonbank subsidiaries of financial and bank holding companies--financial institutions which account for a significant portion of subprime mortgages--are subject to less federal supervision. While FTC is the primary federal enforcer of consumer protection laws for these entities, it is a law enforcement agency that conducts targeted investigations. In contrast, the Board is well equipped to routinely monitor and examine these entities and, thus, potentially deter predatory lending activities, but has not done so because its authority in this regard is less clear. As of January 2004, 25 states, as well as several localities, had passed laws to address predatory lending, often by restricting the terms or provisions of certain high-cost loans; however, federal banking regulators have preempted some state laws for the institutions they supervise. Also, some states have strengthened their regulation and licensing of mortgage lenders and brokers. The secondary market--where mortgage loans and mortgage-backed securities are bought and sold--benefits borrowers by expanding credit, but may facilitate predatory lending by allowing unscrupulous lenders to quickly sell off loans with predatory terms. In part to avoid certain risks, secondary market participants perform varying degrees of "due diligence" to screen out loans with predatory terms, but may be unable to identify all such loans. GAO's review of literature and interviews with consumer and federal officials suggest that consumer education, mortgage counseling, and loan disclosure requirements are useful, but may be of limited effectiveness in reducing predatory lending. A variety of factors limit their effectiveness, including the complexity of mortgage transactions, difficulties in reaching target audiences, and counselors' inability to review loan documents. While there are no comprehensive data, federal, state, and consumer advocacy officials report that the elderly have disproportionately been victims of predatory lending. According to these officials and relevant studies, older consumers may be targeted by predatory lenders because, among other things, they are more likely to have substantial home equity and may have physical or cognitive impairments that make them more vulnerable to an unscrupulous mortgage lender or broker.

Matters for Congressional Consideration

  1. Status: Closed - Implemented

    Comments: While Congress has not taken specific legislative action, the Federal Reserve Board is currently taking action consistent with the thrust of our Matter for Congressional Consideration. At the time of this engagement, the Federal Reserve Board indicated that it lacked clear authority to routinely monitor and examine, as necessary, the nonbank mortgage lending subsidiaries of financial and bank holding companies for compliance with federal consumer protection laws applicable to predatory lending. Congress has held a number of hearings on subprime and predatory lending in which members of Congress and others urged the Federal Reserve Board to take full advantage of its existing authority to examine subprime and suspected predatory lenders. In response to these concerns, the Federal Reserve Board announced on July 17, 2007, that it was undertaking a pilot project with two other federal agencies (Office of Thrift Supervision and Federal Trace Commission), and two associations of state regulators to conduct targeted consumer-protection compliance reviews of selected non-depository lenders with significant subprime mortgage operations. The collaborative state/federal pilot is scheduled to begin in the fourth quarter of 2007 and will focus on non-depository subsidiaries of bank and thrift holding companies, as well as mortgage brokers doing business with or working for these entities. The agencies will evaluate the companies' underwriting standards, as well as senior management oversight of the risk-management practices used for ensuring compliance with state and federal consumer protection regulations and laws, including the Home Mortgage Disclosure Act, Equal Credit Opportunity Act, Truth in Lending Act, Real Estate Settlement Procedures Act, Federal Trade Commission Act, and Home Ownership and Equity Protection Act.

    Matter: To enable greater oversight of and potentially deter predatory lending from occurring at certain nonbank lenders, Congress may wish to consider making appropriate statutory changes to grant the Board of Governors of the Federal Reserve System the authority to routinely monitor and, as necessary, examine the nonbank mortgage lending subsidiaries of financial and bank holding companies for compliance with federal consumer protection laws applicable to predatory lending practices.

  2. Status: Closed - Not Implemented

    Comments: As of July 2008, Congress has not taken action to provide the Federal Reserve Board with specific authority to initiate enforcement actions for compliance with federal consumer protection laws applicable to predatory lending.

    Matter: Congress may wish to consider giving the Board specific authority to initiate enforcement actions under those laws against these nonbank mortgage lending subsidiaries.


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