# Ability To Repay Standards Under the Truth in Lending Act (Regulation Z) > Briefs, arguments, decisions, and more. URL: https://www.frixlaw.com/law-library/documents/fr%3A2013-00739 ## Record - **Collection:** Federal Register - **Document type:** Proposed Rule - **Published:** January 30, 2013 - **Citation:** 78 FR 6622 ## Text BUREAU OF CONSUMER FINANCIAL PROTECTION 12 CFR Part 1026 [Docket No. CFPB-2013-0002] RIN 3170-AA34 Ability To Repay Standards Under the Truth in Lending Act (Regulation Z) AGENCY: Bureau of Consumer Financial Protection. ACTION: Proposed rule with request for public comment. SUMMARY: The Bureau of Consumer Financial Protection (Bureau) is proposing to amend Regulation Z, which implements the Truth in Lending Act (TILA). This proposal is related to a final rule published elsewhere in today's Federal Register . That final rule implements sections 1411, 1412, and 1414 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), which creates new TILA section 129C. Among other things, the Dodd-Frank Act requires creditors to make a reasonable, good faith determination of a consumer's ability to repay any consumer credit transaction secured by a dwelling (excluding an open-end credit plan, timeshare plan, reverse mortgage, or temporary loan) and establishes certain protections from liability under this requirement for “qualified mortgages.” The Bureau is proposing certain amendments to the final rule implementing these requirements, including exemptions for certain nonprofit creditors and certain homeownership stabilization programs and an additional definition of a qualified mortgage for certain loans made and held in portfolio by small creditors. The Bureau is also seeking feedback on whether additional clarification is needed regarding the inclusion of loan originator compensation in the points and fees calculation. DATES: Comments must be received on or before February 25, 2013, except that comments on the Paperwork Reduction Act analysis in part VIII of this Federal Register notice must be received on or before March 1, 2013. ADDRESSES: You may submit comments, identified by Docket No. CFPB-2013-0002 or RIN 3170-AA34, by any of the following methods: • Electronic: http://www.regulations.gov. Follow the instructions for submitting comments. • Mail/Hand Delivery/Courier: Monica Jackson, Office of the Executive Secretary, Consumer Financial Protection Bureau, 1700 G Street NW., Washington, DC 20552. Instructions: All submissions should include the agency name and docket number or Regulatory Information Number (RIN) for this rulemaking. Because paper mail in the Washington, DC area and at the Bureau is subject to delay, commenters are encouraged to submit comments electronically. In general, all comments received will be posted without change to http://www.regulations.gov. In addition, comments will be available for public inspection and copying at 1700 G Street NW., Washington, DC 20552, on official business days between the hours of 10 a.m. and 5 p.m. Eastern Time. You can make an appointment to inspect the documents by telephoning (202) 435-7275. All comments, including attachments and other supporting materials, will become part of the public record and subject to public disclosure. Sensitive personal information, such as account numbers or Social Security numbers, should not be included. Comments will not be edited to remove any identifying or contact information. FOR FURTHER INFORMATION CONTACT: Jennifer B. Kozma, Eamonn K. Moran, or Priscilla Walton-Fein, Counsels; Thomas J. Kearney or Mark Morelli, Senior Counsels; or Stephen Shin, Managing Counsel, Office of Regulations, at (202) 435-7700. SUPPLEMENTARY INFORMATION: I. Summary of Proposed Rule As discussed in detail under part II below, sections 1411, 1412, and 1414 of the Dodd-Frank Act created new TILA section 129C, which establishes, among other things, new ability-to-repay requirements. The Bureau is adopting final rules implementing these ability-to-repay requirements in a rule published elsewhere in today's Federal Register (the Bureau's 2013 ATR Final Rule). The Bureau believes that several exemptions and modifications to the ability-to-repay requirements may be appropriate. The Bureau is also proposing two alternative comments intended to clarify the calculation of points and fees in a transaction involving loan originator compensation. Accordingly, the Bureau solicits feedback regarding these exemptions and modifications. A. Proposed Exemption for Credit Extended Pursuant to a Community-Focused Lending Program The Bureau is proposing to exempt an extension of credit made pursuant to a program administered by a housing finance agency (HFA) from the ability-to-repay requirements. The Bureau believes that this exemption may be necessary to preserve access to credit for low- to moderate-income (LMI) consumers. The Bureau is concerned that the ability-to-repay requirements may undermine the underwriting requirements of these programs. For example, the ability-to-repay provisions may require consideration of underwriting factors that are not required under HFA programs, such as the consumer's credit history. The Bureau is also concerned that the ability-to-repay requirements may affect the ability of HFAs to offer extensions of credit customized to meet the needs of LMI consumers while promoting long-term housing stability. Furthermore, the Bureau is concerned that the costs of implementing and complying with the ability-to-repay requirements would result in a severe curtailment of the credit offered under these programs. The proposed exemption related to HFAs is discussed in more detail below in the section-by-section analysis of § 1026.43(a)(3)(iv). The Bureau is also proposing to exempt an extension of credit made by certain types of nonprofit creditors from the ability-to-repay requirements. Creditors designated by the U.S. Department of the Treasury as Community Development Financial Institutions and creditors designated by the U.S. Department of Housing and Urban Development as either a Community Housing Development Organization or a Downpayment Assistance Provider of Secondary Financing are included in this proposed exemption. The proposal also exempts creditors designated as nonprofit organizations under section 501(c)(3) of the Internal Revenue Code, provided that the extension of credit is to a consumer with income that does not exceed the qualifying limit for moderate income families as established pursuant to section 8 of the United States Housing Act of 1937, that during the calendar year preceding receipt of the consumer's application the creditor extended credit no more than 100 times, and only to consumers with income that did not exceed the above qualifying limit, and that the creditor determines, in accordance with written procedures, that the consumer has a reasonable ability to repay the extension of credit. The Bureau is concerned that nonprofit creditors may not have the resources to implement and comply with the ability-to-repay requirements, and may be forced to cease or severely limit extending credit to LMI consumers, which would result in the denial of responsible, affordable mortgage credit. However, to prevent circumvention of TILA, the Bureau believes that this exemption should be limited to the nonprofit creditors identified above. The proposed exemption related to these nonprofit creditors is discussed in more detail below in the section-by-section analysis of § 1026.43(a)(3)(v). B. Proposed Exemption for Credit Extended Pursuant to a Homeownership Stabilization and Foreclosure Prevention Program, Federal Agency Refinancing Program, or GSE Refinancing Program The Bureau is proposing to exempt an extension of credit made pursuant to an Emergency Economic Stabilization Act (EESA) program, such as extensions of credit made pursuant to a State Hardest Hit Fund (HHF) program, from the ability-to-repay requirements. The Bureau believes that this exemption may be necessary to preserve access to credit. The Bureau is concerned that requiring credit extended pursuant to these programs to comply with the ability-to-repay provisions may unnecessarily interfere with these programs' unique underwriting requirements, which would make it more difficult for many consumers to qualify for assistance and increase the cost of credit for those who do, thereby impacting the availability of credit for these at-risk consumers. Further, the Bureau is concerned that creditors may elect not to participate in these programs, rather than investing resources complying with the requirements of both homeownership stabilization programs and the ability-to-repay requirements, which would frustrate efforts to ameliorate the effects of the financial crisis and disrupt the financial market for consumers at risk of foreclosure or default, thereby harming those in need of the assistance provided under these programs. The proposed exemption related to these emergency programs is discussed in more detail below in the section-by-section analysis of § 1026.43(a)(3)(vi). The Bureau is proposing to exempt from the ability-to-repay requirements a refinancing that is eligible to be insured, guaranteed, or made pursuant to a program administered by the Federal Housing Administration, U.S. Department of Veterans Affairs, or the U.S. Department of Agriculture. The proposed exemption is available only until the Federal agency administering the program under which the extension of credit is eligible to be insured, guaranteed, or made prescribes rules pursuant to section 129C(a)(5) or 129C(b)(3)(B)(ii) of TILA. The Bureau believes that this exemption is necessary to preserve access to credit. The Federal agencies described above have not yet prescribed rules related to the ability-to-repay requirements for refinances, pursuant to TILA section 129C(a)(5), or the definition of qualified mortgage, pursuant to TILA section 129C(b)(3)(B)(ii). The Bureau is concerned that the ability-to-repay provisions would unnecessarily interfere with requirements of these Federal agency refinance programs, which would make it more difficult for many consumers to qualify for these programs and increase the cost of credit for those who do, thereby constraining the availability of responsible, affordable credit for consumers. The proposed exemption related to these Federal agencies is discussed in more detail below in the section-by-section analysis of § 1026.43(a)(3)(vii). The Bureau is proposing to exempt an extension of credit that is a refinancing that is eligible to be purchased or guaranteed by the Federal National Mortgage Association (Fannie Mae) or the Federal Home Loan Mortgage Corporation (Freddie Mac) (collectively, the GSEs) from the ability-to-repay requirements. This proposed exemption only applies if: • The refinancing is made pursuant to an eligible targeted refinancing program, as defined under regulations promulgated by the Federal Housing Finance Agency; • Such entities are operating under the conservatorship or receivership of the Federal Housing Finance Agency on the date the refinancing is consummated; • The existing obligation satisfied and replaced by the refinancing is owned by Fannie Mae or Freddie Mac; • The existing obligation satisfied and replaced by the refinancing was not consummated on or after January 10, 2014; and • The refinancing is not consummated on or after January 10, 2021. The Bureau is concerned that the ability-to-repay requirements may add unnecessary additional costs and may cause needless delays for distressed consumers whose current mortgage obligations are owned by Fannie Mae or Freddie Mac and who seek refinancings pursuant to these eligible targeted refinancing programs. The proposed exemption related to these GSE refinancing programs is discussed in more detail below in the section-by-section analysis of § 1026.43(a)(3)(viii). C. Loans Held in Portfolio by Small Creditors The 2013 ATR Final Rule defines three categories of qualified mortgages. Qualified mortgages are provided either a conclusive or rebuttable presumption of compliance with the requirement that creditors make a reasonable, good faith determination of a consumer's ability to repay before originating a mortgage loan. The Bureau is proposing to define a new, fourth category of qualified mortgages. The proposed new category would include certain loans originated by small creditors 1 that: 1 The $2 billion threshold reflects the purposes of the proposed category and the structure of the mortgage lending industry. The Bureau's choice of $2 billion in assets as a threshold for purposes of TILA section 129C does not imply that a threshold of that type or of that magnitude would be an appropriate way to distinguish small firms for other purposes or in other industries. • Have total assets of $2 billion or less at the end of the previous calendar year; and • Together with all affiliates, originated 500 or fewer first-lien covered transactions during the previous calendar year. The proposed new category would include only loans held in portfolio by these creditors. Therefore, if a creditor agreed prior to consummation to sell a loan, that loan would not be a qualified mortgage under the proposed definition. Such loans often are described as being subject to a “forward commitment.” The rule would provide an exception that would allow forward commitments to sell to a creditor that also meets the limits on asset size and number of first-lien covered transactions. To prevent evasion, a loan in the proposed new category would lose its status as a qualified mortgage if it is held in portfolio for less than three years after consummation, with certain exceptions. The loan also would have to conform to all of the requirements under the general definition of a qualified mortgage except the 43 percent limit on monthly debt-to-income ratio. In other words, the loan could not have: • Negative-amortization, interest-only, or balloon-payment features; • A term longer than 30 years; and • Points and fees greater than 3 percent of the total loan amount (or, for smaller loans, the amount specified in the regulation). When underwriting the loan the creditor would have to: • Consider and verify the consumer's income and assets; and • Base the underwriting on a monthly payment calculated using the maximum interest rate that may apply during the first five years of the loan and that is fully amortizing. The creditor also would have to consider the consumer's debt-to-income ratio or residual income and verify the underlying information. In contrast, the general definition of a qualified mortgage requires creditors to calculate debt-to-income ratio according to the instructions in appendix Q to the rule and prohibits debt-to-income ratios above 43 percent. In other words, under the proposed additional definition, a creditor would not have to use the instructions in appendix Q to calculate debt-to-income ratio, and a loan with a consumer debt-to-income ratio higher than 43 percent could be a qualified mortgage if all other criteria are met. The Bureau also is proposing to allow small creditors to charge a higher annual percentage rate for first-lien qualified mortgages in the proposed new category and still benefit from a conclusive presumption of compliance or “safe harbor.” Qualified mortgages can have different levels of protection from liability depending on their annual percentage rate. Under the existing rules, first-lien qualified mortgages with an annual percentage rate less than or equal to the average prime offer rate plus 1.5 percentage points and subordinate-lien qualified mortgages with an annual percentage rate less than or equal to the average prime offer rate plus 3.5 percentage points are within the safe harbor. A qualified mortgage with an annual percentage rate above those thresholds is presumed to comply with the ability-to-repay rules, but a consumer could rebut that presumption under certain circumstances. A qualified mortgage in the proposed new category would be conclusively presumed to comply if the annual percentage rate is equal to or less than the average prime offer rate plus 3.5 percentage points for both first-lien and subordinate-lien loans. The Bureau is proposing these changes because it believes they may be necessary to preserve access to responsible, affordable mortgage credit for some consumers. Small creditors are a significant source of loans that, for various reasons, do not qualify for government guarantee and insurance programs and cannot be sold for securitization. Larger creditors often are unwilling to make these loans because they involve consumers or properties with unique features that make them difficult to assess using larger creditors' underwriting standards or because larger creditors are unwilling to hold the loans in portfolio. Small creditors often are willing and able to consider these consumers and properties individually and to hold the loans on their balance sheets. Small creditors also may be the predominant source of credit in many rural areas where large creditors do not operate. Small creditors may be particularly well suited to make mortgage loans that are responsible and affordable because their small size, relationship-based lending model, and ties to their communities enable them to make more accurate assessments of consumers' ability to repay than larger creditors. Small creditors also have strong incentives to carefully consider whether a consumer will be able to repay a portfolio loan at least in part because the small creditor retains the risk of default. Small creditors often charge higher interest rates and fees for legitimate business reasons. For example, small creditors often pay more for the funds they lend and may charge more to compensate for the interest rate and other risks associated with holding a loan in portfolio. Many small creditors have expressed concerns about the litigation risk associated with the requirement to make a reasonable and good faith determination of consumers' ability to pay based on verified and documented information. Indeed, small creditors assert that they will not continue to make mortgage loans unless they are protected from liability for violations of the ability-to-repay rules by a conclusive presumption of compliance or “safe harbor.” The Bureau therefore believes that creating a new category of qualified mortgages that would include small creditor portfolio loans and raising the annual percentage rate threshold for the safe harbor to accommodate small creditors' higher costs may be necessary to preserve some consumers' access to mortgage credit and also would ensure that the mortgage credit is provided in a responsible, affordable way. The Bureau is soliciting comment on both the proposed approach to small creditor portfolio loans generally and on the specific criteria proposed. The proposed amendments related to small creditor portfolio loans are discussed in more detail below in the section-by-section analysis of § 1026.43(b)(4) and (e)(5). D. Higher-Priced Covered Transaction Threshold for Balloon-Payment Qualified Mortgages The Bureau also is proposing to allow small creditors operating predominantly in rural or underserved areas to offer first-lien balloon loans with a higher annual percentage rate and still benefit from a conclusive presumption of compliance with the ability-to-repay rules or “safe harbor.” The Bureau believes this change may be necessary to preserve access to responsible, affordable mortgage credit in rural and underserved areas. Consumers in rural and underserved areas may be able to obtain a mortgage loan only from small creditors because larger creditors often do not lend in those areas. Small creditors operating predominantly in rural and underserved areas assert that they cannot offer mortgage loans unless they are allowed to make balloon loans that are protected from liability for violations of the ability-to-repay rules by a safe harbor. The Bureau's current rule provides that certain balloon loans made by small creditors operating predominantly in rural or underserved areas are qualified mortgages. However, qualified mortgages can have different levels of protection from liability depending on their annual percentage rate. Under the existing rules, first-lien qualified mortgages with an annual percentage rate less than or equal to the average prime offer rate plus 1.5 percentage points and subordinate-lien qualified mortgages with an annual percentage rate less than or equal to the average prime offer rate plus 3.5 percentage points are within the safe harbor. Qualified mortgages with annual percentage rates above these thresholds are presumed to comply with the ability-to-repay rules, but a consumer can rebut that presumption under certain circumstances. Small creditors often charge higher interest rates and fees for legitimate business reasons, such as to cover their higher costs and to compensate for interest rate and other risks associated with holding a loan in portfolio. Therefore, the Bureau is concerned that many balloon-payment qualified mortgages will have annual percentage rates that are too high to qualify for the safe harbor. Because small creditors operating in rural and underserved areas insist that they are unwilling to make mortgage loans outside of the safe harbor because of litigation risk, this could limit access to credit for some consumers. The Bureau is soliciting comment on adjusting the annual percentage rate threshold for balloon-payment qualified mortgages generally and on the specific threshold proposed. The proposed amendment is discussed in more detail below in the section-by-section analysis of § 1026.43(b)(4). II. Background For over 20 years, consumer advocates, legislators, and regulators have raised concerns about creditors originating mortgage loans without regard to the consumer's ability to repay the loan. Beginning in about 2006, these concerns were heightened as mortgage delinquencies and foreclosure rates increased dramatically, caused in part by the gradual deterioration in underwriting standards. See 73 FR 44524 (Jul. 30, 2008). The following is presented as background information, including a brief summary of the legislative and regulatory responses to this issue, which culminated in the enactment of the Dodd-Frank Act on July 21, 2010, the Board of Governors of the Federal Reserve System's (the Board) issuance of a proposed rule on May 11, 2011 to implement certain amendments to TILA made by the Dodd-Frank Act, the Bureau's issuance of the final rule to implement sections 1411, 1412, and 1414 of the Dodd-Frank Act, and this proposal to provide certain exemptions from and amendments to the ability-to-repay requirements. For additional detailed background regarding the issues addressed in this proposal, see the discussion in part II of the Bureau's final rule, published elsewhere in today's Federal Register . A. TILA and Regulation Z In 1968, Congress enacted TILA, 15 U.S.C. 1601 et seq., based on findings that economic stability would be enhanced and competition among consumer credit providers would be strengthened by the informed use of credit resulting from consumers' awareness of the cost of credit. One of the purposes of TILA is to promote the informed use of consumer credit by requiring disclosures about its costs and terms. See 15 U.S.C. 1601(a). TILA requires additional disclosures for loans secured by consumers' homes and permits consumers to rescind certain transactions secured by their principal dwellings. See 15 U.S.C. 1635, 1637a. Section 105(a) of TILA directs the Bureau (formerly the Board) 2 to prescribe regulations to carry out TILA's purposes, and specifically authorizes the Bureau, among other things, to issue regulations that contain such additional requirements, classifications, differentiations, or other provisions, or that provide for such adjustments and exceptions for all or any class of transactions, that in the Bureau's judgment are necessary or proper to effectuate the purposes of TILA, facilitate compliance with TILA, or prevent circumvention or evasion therewith. See 15 U.S.C. 1604(a). TILA is implemented by the Bureau's Regulation Z, 12 CFR part 1026. Commentary provided in the Official Interpretations supplement to Regulation Z interprets the requirements of the regulation and provides guidance to creditors in applying the rules to specific transactions. See 12 CFR part 1026, Supp. I. 2 General rulemaking authority for TILA transferred to the Bureau in July 2011, other than for certain motor vehicle dealers in accordance with Dodd-Frank Act section 1029, 12 U.S.C. 5519. Pursuant to that transferred rulemaking authority, the Bureau issued its own Regulation Z, 12 CFR part 1026, which substantially parallels the Board's Regulation Z, 12 CFR part 226. See 76 FR 79767 (Dec. 22, 2011). B. Ability-to-Repay Requirements Prior to the Dodd-Frank Act In response to evidence of abusive practices in the home-equity lending market, Congress amended TILA by enacting the Home Ownership and Equity Protection Act (HOEPA) in 1994. Public Law 103-325, 108 Stat. 2160. HOEPA created special substantive protections for “high-cost mortgage loans,” 3 including prohibiting a creditor from engaging in a pattern or practice of extending a high-cost mortgage to a consumer based on the consumer's collateral without regard to the consumer's repayment ability, including the consumer's current and expected income, current obligations, and employment. TILA section 129(h); 15 U.S.C. 1639(h). In addition to the disclosures and limitations specified in the statute, TILA section 129, as added by HOEPA, expanded the Board's rulemaking authority by authorizing the Board to prohibit acts or practices the Board found to be unfair and deceptive in connection with mortgage loans. 4 3 HOEPA defines a class of “high-cost mortgages,” which are generally consumer credit transactions secured by the consumers' principal dwellings (originally excluding home-purchase loans and open-end lines of credit, although the Dodd-Frank Act amended HOEPA to cover such transactions) with annual percentage rates or total points and fees exceeding prescribed thresholds. Mortgages covered by the HOEPA amendments have been referred to as “HOEPA loans,” “section 32 loans,” “high-cost mortgages,” or “high-cost mortgage loans.” The Dodd-Frank Act now refers to these loans as “high-cost mortgages.” See Dodd-Frank Act section 1431; TILA section 103(aa). For simplicity and consistency, this proposed rule uses the term “high-cost mortgages” to refer to mortgage loans covered by the HOEPA provisions. 4 Originally 15 U.S.C. 1639( l )(2)(A), subsequently recodified by the Dodd-Frank Act as 15 U.S.C. 1639(p)(2)(A). In 1995, the Board implemented the HOEPA amendments at §§ 226.31, 226.32, and 226.33 of Regulation Z. See 60 FR 15463 (Mar. 24, 1995). In particular, § 226.32(e)(1) implemented TILA section 129(h) to prohibit a creditor from extending a high-cost mortgage based on the consumer's collateral if, considering the consumer's current and expected income, current obligations, and employment status, the consumer would be unable to make the scheduled payments. In 2001, the Board amended these regulations to expand HOEPA's protections to more loans by revising the annual percentage rate (APR) threshold and the points and fees definition. See 66 FR 65604 (Dec. 20, 2001). In addition, the ability-to-repay provisions in the regulation were revised to provide for a presumption of a violation of the rule if the creditor engages in a pattern or practice of making high-cost mortgages without verifying and documenting the consumer's repayment ability. After the Board finalized the 2001 HOEPA rules, new consumer protection issues arose in the mortgage market. During a series of national hearings held by the Board in 2006 and 2007, consumer advocates and government officials expressed a number of concerns and urged the Board to use HOEPA to prohibit or restrict certain underwriting practices, such as “stated income” or “low documentation” loans, and certain product features, such as prepayment penalties. See 73 FR 44527 (Jul. 30, 2008). In response to these hearings, in July of 2008, the Board adopted final rules adding new protections under HOEPA. See 73 FR 44522 (Jul. 30, 2008) (the Board's 2008 HOEPA Final Rule). The Board's 2008 HOEPA Final Rule defined a new class of “higher-priced mortgage loans” (HPMLs) 5 with APRs that are lower than those prescribed for HOEPA loans but that nevertheless exceed the average prime offer rate by prescribed amounts. This new category of loans was designed to include subprime credit. Among other things, the Board's 2008 HOEPA Final Rule revised the ability-to-repay requirements for high-cost mortgages and extended these requirements to higher-priced mortgage loans. 6 5 Under the Board's 2008 HOEPA Final Rule, a higher-priced mortgage loan is a consumer credit transaction secured by the consumer's principal dwelling with an APR that exceeds the average prime offer rate (APOR) for a comparable transaction, as of the date the interest rate is set, by 1.5 or more percentage points for loans secured by a first lien on the dwelling, or by 3.5 or more percentage points for loans secured by a subordinate lien on the dwelling. The definition of a “higher-priced mortgage loan” includes practically all “high-cost mortgages” because the latter transactions are determined by higher loan pricing threshold tests. See 12 CFR 226.35(a)(1), since codified in parallel by the Bureau at 12 CFR 1026.35(a)(1). 6 Originally adopted as 12 CFR 226.34(a)(4), 226.35(b)(2), since recodified as 12 CFR 1026.34(a)(4), 1026.35(b)(1). Significantly, the Board's 2008 HOEPA Final Rule prohibited individual high-cost mortgage loans or higher-priced mortgage loans from being extended based on the collateral without regard to repayment ability, rather than simply prohibiting a pattern or practice of making extensions based on the collateral without regard to ability to repay. 7 The Board exercised its authority under TILA section 129( l )(2) 8 to revise HOEPA's restrictions based on a conclusion that the revisions were necessary to prevent unfair and deceptive acts or practices in connection with mortgage loans. See 73 FR 44545 (July 30, 2008). In particular, the Board concluded that a prohibition on making individual loans without regard for repayment ability was necessary to ensure a remedy for consumers who are given unaffordable loans and to deter irresponsible lending, which injures individual consumers. The Board determined that imposing the burden to prove “pattern or practice” on an individual consumer would leave many consumers with a lesser remedy, such as those provided under some State laws, or without any remedy, for loans made without regard to repayment ability. The Board further determined that removing this burden would not only improve remedies for individual consumers, it would also increase deterrence of irresponsible lending. 7 Specifically, the rule prohibits a creditor from extending a higher-priced mortgage loan based on the collateral and without regard to the consumer's repayment ability, and prohibits a creditor from relying on income or assets to assess repayment ability unless the creditor verifies such amounts using third party documents that provide reasonably reliable evidence of the consumer's income and assets. For further information, see the Bureau's 2012 HOEPA Proposal, 77 FR 49090 (Aug. 15, 2012). 8 Subsequently renumbered by the Dodd-Frank Act as TILA section 129(p)(2). C. The Dodd-Frank Act In 2007, Congress held hearings focused on the extent to which lending practices contributed to rising subprime foreclosure rates. Consumer advocates testified that certain lending terms or practices contributed to the foreclosures, including a failure to consider the consumer's ability to repay, low- or no-documentation loans, hybrid adjustable-rate mortgages, and prepayment penalties. Industry representatives, on the other hand, testified that adopting substantive restrictions on subprime loan terms would risk reducing access to credit for some consumers. In response to these hearings, the House of Representatives passed the Mortgage Reform and Anti-Predatory Lending Act, both in 2007 and again in 2009. H.R. 3915, 110th Cong. (2007); H.R. 1728, 111th Cong. (2009). Both bills would have amended TILA to provide consumer protections for mortgages, including ability-to-repay requirements, but neither bill was passed by the Senate. Instead, both houses shifted their focus to enacting comprehensive financial reform legislation, and the Senate passed its own version of ability-to-repay requirements as part of that effort, called the Restoring American Financial Stability Act of 2010. S. 3217, 111th Cong. (2010). After several months of additional debate and negotiations, the Dodd-Frank Act was signed into law on July 21, 2010. Public Law 111-203, 124 Stat. 1376 (2010). In the Dodd-Frank Act, Congress established the Bureau and, under sections 1061 and 1100A, consolidated the rulemaking authority for many consumer financial protection statutes, including the two primary Federal consumer protection statutes governing mortgage credit, TILA and the Real Estate Settlement Procedures Act (RESPA), in the Bureau. 9 Congress also provided the Bureau with supervision authority for certain consumer financial protection statutes over certain entities, including insured depository institutions with total assets over $10 billion and their affiliates, and all mortgage-related non-depository financial service providers. 10 9 Sections 1011 and 1021 of the Dodd-Frank Act, in title X, the “Consumer Financial Protection Act,” Public Law 111-203, sections 1001-1100H, codified at 12 U.S.C. 5491, 5511. The Consumer Financial Protection Act is substantially codified at 12 U.S.C. 5481-5603. Section 1029 of the Dodd-Frank Act excludes from this transfer of authority, subject to certain exceptions, any rulemaking authority over a motor vehicle dealer that is predominantly engaged in the sale and servicing of motor vehicles, the leasing and servicing of motor vehicles, or both. 12 U.S.C. 5519. 10 Sections 1024 through 1026 of the Dodd-Frank Act, codified at 12 U.S.C. 5514 through 5516. At the same time, Congress significantly amended the statutory requirements governing mortgage practices with the intent to restrict the practices that contributed to the crisis. Title XIV of the Dodd-Frank Act, titled the Mortgage Reform and Anti-Predatory Lending Act, contains several new regulations designed to prevent the mortgage lending practices that harmed consumers and contributed to the financial crisis. 11 Sections 1411, 1412, and 1414 of the Dodd-Frank Act created new TILA section 129C, which establishes, among other things, new ability-to-repay requirements and new limits on prepayment penalties. Section 1402 of the Dodd-Frank Act states that Congress created new TILA section 129C upon a finding that “economic stabilization would be enhanced by the protection, limitation, and regulation of the terms of residential mortgage credit and the practices related to such credit, while ensuring that responsible, affordable mortgage credit remains available to consumers.” TILA section 129B(a)(1), 15 U.S.C. 1639b(a)(1). Section 1402 of the Dodd-Frank Act further states that the purpose of TILA section 129C is to “assure that consumers are offered and receive residential mortgage loans on terms that reasonably reflect their ability to repay the loans.” TILA section 129B(a)(2), 15 U.S.C. 1639b(a)(2). 11 Although S. Rpt. No. 111-176 contains general legislative history concerning the Dodd-Frank Act and the Senate ability-to-repay provisions, it does not address the House Mortgage Reform and Anti-Predatory Lending Act. Separate legislative history for the predecessor House bills is available in H. Rpt. No. 110-441 for H.R. 3915 (2007), and H. Rpt. No. 111-194 for H.R. 1728 (2009). Specifically, TILA section 129C: • Expands coverage of the ability-to-repay requirements to any consumer credit transaction secured by a dwelling, except an open-end credit plan, credit secured by an interest in a timeshare plan, reverse mortgage, or temporary loan. • Prohibits a creditor from making a mortgage loan unless the creditor makes a reasonable and good faith determination, based on verified and documented information, that the consumer has a reasonable ability to repay the loan according to its terms, and all applicable taxes, insurance, and assessments. • Provides a presumption of compliance with the ability-to-repay requirements if the mortgage loan is a “qualified mortgage,” which does not contain certain risky features and limits points and fees on the loan. The statutory ability-to-repay standards reflect Congress's belief that certain lending practices (such as low- or no-documentation loans) and terms (such as hybrid adjustable-rate mortgages and loans with negative amortization) led to consumers having mortgages they could not afford, resulting in high default and foreclosure rates. Accordingly, new TILA section 129C prohibits a creditor from making a residential mortgage loan unless the creditor makes a reasonable and good faith determination, based on verified and documented information, that the consumer has a reasonable ability to repay the loan according to its terms. To provide more certainty to creditors while protecting consumers from unaffordable loans, the Dodd-Frank Act provides a presumption of compliance with the ability-to-repay requirements for certain “qualified mortgages.” Qualified mortgages are prohibited from containing certain features that Congress considered to increase risks to consumers and must comply with certain limits on points and fees. The Act states that a creditor or assignee may presume that a loan has met the repayment ability requirement if the loan is a qualified mortgage, but does not address whether the presumption is conclusive or, if it can be rebutted, on what grounds it may be challenged. The Dodd-Frank Act creates special remedies for violations of TILA section 129C. As amended by section 1416 of the Dodd-Frank Act, TILA section 130(a) provides that a consumer who brings a timely action against a creditor for a violation of TILA section 129C(a) (the ability-to-repay requirements) may be able to recover special statutory damages equal to the sum of all finance charges and fees paid by the consumer, unless the creditor demonstrates that the failure to comply is not material. 15 U.S.C. 1640(a). This recovery is in addition to actual damages; statutory damages in an individual action or class action, up to a prescribed threshold; and court costs and attorney fees that would be available for violations of other TILA provisions. In addition, the statute of limitations for an action for a violation of TILA section 129C is three years from the date of the occurrence of the violation (as compared to one year for most other TILA violations). TILA section 130(e), 15 U.S.C. 1640(e). Moreover, as amended by section 1413 of the Dodd-Frank Act, TILA section 130(k) provides that when a creditor or an assignee initiates a foreclosure action, a consumer may assert a violation of TILA section 129C(a) “as a matter of defense by recoupment or setoff.” 15 U.S.C. 1640(k). There is no time limit on the use of this defense, nor is there any requirement that the violation be apparent to the assignee on the face of the documents obtained from the creditor. However, the amount of special statutory damages that may be recovered in recoupment or setoff is limited to no more than three years of finance charges and fees. In addition to the foregoing ability-to-repay provisions, the Dodd-Frank Act established other new standards concerning a wide range of mortgage lending practices, including compensation of mortgage loan originators, 12 Federal mortgage loan disclosures 13 and mortgage loan servicing. 14 Those and other Dodd-Frank Act provisions are the subjects of other rulemakings by the Bureau. For additional information on these rulemakings, see part III of the Bureau's 2013 ATR Final Rule. 12 Sections 1402 through 1405 of the Dodd-Frank Act, codified at 15 U.S.C. 1639b. 13 Section 1032(f) of the Dodd-Frank Act, codified at 12 U.S.C. 5532(f). 14 Sections 1418, 1420, 1463, and 1464 of the Dodd-Frank Act, codified at 12 U.S.C. 2605; 15 U.S.C. 1638, 1638a, 1639f, and 1639g. D. The Board's Proposed and the Bureau's Final Rules In 2011, the Board published for public comment a proposed rule amending Regulation Z to implement the foregoing ability-to-repay amendments to TILA made by the Dodd-Frank Act. See 76 FR 27390 (May 11, 2011) (Board's 2011 ATR Proposal or Board's proposal). Consistent with the Dodd-Frank Act, the Board's proposal applied the ability-to-repay requirements to any consumer credit transaction secured by a dwelling (including vacation homes and home equity loans), except an open-end credit plan, extension of credit secured by a consumer's interest in a timeshare plan, reverse mortgage, or temporary loan with a term of 12 months or less. The Board's proposal provided four options for complying with the ability-to-repay requirement. First, the proposal would have allowed a creditor to meet the general ability-to-repay standard by originating a mortgage loan for which the creditor considered and verified eight underwriting factors in determining repayment ability, and the mortgage payment calculation is based on the fully indexed rate. 15 Second, the proposal would have allowed a creditor to meet the general ability-to-repay standard by refinancing a “non-standard mortgage” into a “standard mortgage.” 16 Under this option, the proposal would not have required the creditor to verify the consumer's income or assets. Third, the proposal would have allowed a creditor to meet the general ability-to-repay standard by originating a “qualified mortgage,” which provides special protection from liability for creditors. Because the Board determined that it was unclear whether that protection is intended to be a safe harbor or a rebuttable presumption of compliance with the repayment ability requirement, the Board proposed two alternative definitions of a “qualified mortgage.” 17 Finally, the proposal would have allowed a small creditor operating predominantly in rural or underserved areas to originate a balloon-payment qualified mortgage if the loan term is five years or more, and the payment calculation is based on the scheduled periodic payments, excluding the balloon payment. 18 The Board's proposal also would have implemented the Dodd-Frank Act's limits on prepayment penalties, lengthened the time creditors must retain evidence of compliance with the ability-to-repay and prepayment penalty provisions, and prohibited evasion of the rule by structuring a closed-end extension of credit as an open-end plan. 15 The eight proposed factors were: (1) Current or reasonably expected income or assets; (2) current employment status; (3) the monthly payment on the mortgage; (4) the monthly payment on any simultaneous loan; (5) the monthly payment for mortgage-related obligations; (6) current debt obligations; (7) the monthly debt-to-income ratio, or residual income; and (8) credit history. 16 The alternative is based on a Dodd-Frank Act provision that is meant to provide flexibility for certain refinancings, which are no- or low-documentation transactions designed to move consumers out of risky mortgage loans and into more stable mortgage loan products, what the proposal defined as mortgage loans that, among other things, do not contain negative amortization, interest-only payments, or balloon payments, and have limited points and fees. 17 The Board's proposed first alternative would have operated as a legal safe harbor and defined a “qualified mortgage” as a mortgage for which: (a) The loan does not contain negative amortization, interest-only payments, or balloon payments, or a loan term exceeding 30 years; (b) the total points and fees do not exceed 3 percent of the total loan amount; (c) the consumer's income or assets are verified and documented; and (d) the underwriting of the mortgage is based on the maximum interest rate in the first five years, uses a payment schedule that fully amortizes the loan over the loan term, and takes into account any mortgage-related obligations. The Board's proposed second alternative would have provided a rebuttable presumption of compliance and defined a “qualified mortgage” as including the criteria listed above in the first alternative as well as the following additional underwriting requirements from the ability-to-repay standard: the consumer's employment status, the monthly payment for any simultaneous loan, the consumer's current debt obligations, the total debt-to-income ratio or residual income, and the consumer's credit history. 18 As the Board's proposal noted, this standard is evidently meant to accommodate community banks that originate balloon loans to hedge against interest rate risk. As discussed above, the Bureau inherited rulemaking authority under TILA from the Board in July 2011, including the authority to finalize the Board's 2011 ATR Proposal. See sections 1061 and 1100A of the Dodd-Frank Act. The Bureau's 2013 ATR Final Rule implemented the ability-to-repay requirements. Consistent with TILA section 129C, the Bureau's 2013 ATR Final Rule adopted § 1026.43(a), which applies the ability-to-repay requirements to any consumer credit transaction secured by a dwelling, except an open-end credit plan, timeshare plan, reverse mortgage, or temporary loan. As adopted, § 1026.43(c) provides that a creditor is prohibited from making a covered mortgage loan unless the creditor makes a reasonable and good faith determination, based on verified and documented information, that the consumer will have a reasonable ability to repay the loan, including any mortgage-related obligations (such as property taxes and mortgage insurance). Section 1026.43(c) describes certain requirements for making ability-to-repay determinations, but does not provide comprehensive underwriting standards to which creditors must adhere. At a minimum, however, the creditor must consider and verify eight underwriting factors: (1) Current or reasonably expected income or assets; (2) current employment status; (3) the monthly payment on the covered transaction; (4) the monthly payment on any simultaneous loan; (5) the monthly payment for mortgage-related obligations; (6) current debt obligations; (7) the monthly debt-to-income ratio or residual income; and (8) credit history. Section 1026.43(c)(3) generally requires the creditor to verify the information relied on in determining a consumer's repayment ability using reasonably reliable third-party records, with special rules for verifying a consumer's income or assets. Section 1026.43(c)(5)(i) requires the creditor to calculate the monthly mortgage payment based on the greater of the fully indexed rate or any introductory rate, assuming monthly, fully amortizing payments that are substantially equal. Section 1026.43(c)(5)(ii) provides special payment calculation rules for loans with balloon payments, interest-only loans, and negative amortization loans. Section 1026.43(d) provides special rules for complying with the ability-to-repay requirements for a creditor refinancing a “non-standard mortgage” into a “standard mortgage.” This provision is based on TILA section 129C(a)(6)(E), which contains special rules for the refinancing of a “hybrid loan” into a “standard loan.” The purpose of this provision is to provide flexibility for creditors to refinance a consumer out of a risky mortgage into a more stable one without undertaking a full underwriting process. Under § 1026.43(d), a non-standard mortgage is defined as an adjustable-rate mortgage with an introductory fixed interest rate for a period of one year or longer, an interest-only loan, or a negative amortization loan. Under this option, a creditor refinancing a non-standard mortgage into a standard mortgage does not have to consider the eight specific underwriting criteria listed under § 1026.43(c), if certain conditions are met. Section 1026.43(e) specifies requirements for originating “qualified mortgages,” as well as standards for when the presumption of compliance with ability-to-repay requirements can be rebutted. Section 1026.43(e)(1)(i) provides a safe harbor under the ability-to-repay requirements for loans that satisfy the definition of a qualified mortgage and are not higher-priced covered transactions ( i.e., the APR does not exceed the Average Prime Offer Rate (APOR) 19 plus 1.5 percentage points for first-lien loans or 3.5 percentage points for subordinate-lien loans). Section 1026.43(e)(1)(ii) provides a rebuttable presumption for qualified mortgage loans that are higher-priced covered transactions ( i.e., the APR exceeds APOR plus 1.5 percent for first lien or 3.5 percent for subordinate lien). Section 1026.43 also provides three options for creditors to originate a qualified mortgage: 19 TILA section 129C(b)(2)(B) defines the Average Prime Offer Rate as “the average prime offer rate for a comparable transaction as of the date on which the interest rate for the transaction is set, as published by the Bureau.” 15 U.S.C. 1639c(b)(2)B). Qualified mortgage—general. Under the general definition for qualified mortgages in § 1026.43(e)(2), a creditor must satisfy the statutory criteria restricting certain product features and points and fees on the loan, consider and verify certain underwriting requirements that are part of the general ability-to-repay standard, and confirm that the consumer has a total (or “back-end”) debt-to-income ratio that is less than or equal to 43 percent. To determine whether the consumer meets the specific debt-to-income ratio requirement, the creditor must calculate the consumer's monthly debt-to-income ratio in accordance with appendix Q. A loan that satisfies these criteria and is not a higher-priced covered transaction receives a legal safe harbor from the ability-to-repay requirements. A loan that satisfies these criteria and is a higher-priced covered transaction receives a rebuttable presumption of compliance with the ability-to-repay requirements. Qualified mortgage—special rules. The second option for originating a qualified mortgage provides a temporary alternative to the general definition in § 1026.43(e)(2). This option is intended to avoid unnecessarily disrupting the mortgage market at a time when it is especially fragile, as a result of the recent mortgage crisis. Section 1026.43(e)(4) provides that a loan is a qualified mortgage if it meets the statutory limitations on product features and points and fees, satisfies certain other requirements, and is eligible for purchase, guarantee, or insurance by one of the following entities: • Fannie Mae or Freddie Mac, while operating under the conservatorship or receivership of the Federal Housing Finance Agency pursuant to section 1367 of the Federal Housing Enterprises Financial Safety and Soundness Act of 1992; • Any limited-life regulatory entity succeeding the charter of either Fannie Mae or Freddie Mac pursuant to section 1367(i) of the Federal Housing Enterprises Financial Safety and Soundness Act of 1992; • The U.S. Department of Housing and Urban Development under the National Housing Act (FHA); • The U.S. Department of Veterans Affairs (VA); • The U.S. Department of Agriculture (USDA); or • The U.S. Department of Agriculture Rural Housing Service (RHS). With respect to GSE-eligible loans, this temporary provision expires when conservatorship of the GSEs ends. With respect to each other category of loan, this provision expires on the effective date of a rule issued by each respective Federal agency pursuant to its authority under TILA section 129C(b)(3)(ii) to define a qualified mortgage. In any event, this temporary provision expires no later than January 10, 2021. Qualified mortgage—balloon-payment loans by certain creditors. The third option for originating qualified mortgages is included under § 1026.43(f), which provides that a small creditor operating predominantly in rural or underserved areas can originate a balloon-payment qualified mortgage. The Dodd-Frank Act generally prohibits balloon-payment mortgages from being qualified mortgages. However, the statute creates a limited exception, with special underwriting rules, for loans made by a creditor that: (1) Operates predominantly in rural or underserved areas; (2) together with affiliates, has total annual residential mortgage loan originations that do not exceed a limit set by the Bureau; and (3) retains the balloon loans in portfolio. The purpose of this definition is to preserve credit availability in rural or underserved areas by assuring that small creditors offering loans that cannot be sold on the secondary market, and therefore must be placed on the creditor's balance sheet, are able to use a balloon-payment structure as a means of controlling interest rate risk. Section 1026.43(f)(1)(vi) limits eligibility to creditors that originated 500 or fewer covered transactions in the preceding calendar year and that have assets of no more than $2 billion (to be adjusted annually). In addition, to originate a balloon-payment qualified mortgage more than 50 percent of a creditor's total first-lien covered transactions must have been secured by properties in counties that are “rural” or “underserved,” as designated by the Bureau. A county is “rural” if, during a calendar year, it is located in neither a metropolitan statistical area nor a micropolitan statistical area adjacent to a metropolitan statistical area, as those terms are defined by the U.S. Office of Management and Budget. A county is “underserved” if no more than two creditors extend covered transactions five or more times in that county during a calendar year. Also, during the preceding and current calendar years, the creditor must not have sold or assigned legal title to any balloon-payment qualified mortgage originated pursuant to this provision. Balloon loans by such creditors are eligible for qualified mortgage status if they meet the statutory limitations on product features and points and fees, and if the creditor follows certain other requirements that are part of the general ability-to-repay standard. The Bureau's 2013 ATR Final Rule contains two additional requirements relevant to this proposal. Section 1026.43(g) implements the Dodd-Frank Act limits on prepayment penalties. Section 1026.43(h) prohibits a creditor from structuring a closed-end extension of credit as an open-end plan to evade the ability-to-repay requirements. III. The Mortgage Loan Market Overview For a complete discussion of the mortgage market, the financial crisis that precipitated the Dodd-Frank Act, and more recent efforts at stabilization, see part II of the Bureau's 2013 ATR Final Rule. The mortgage market is the single largest market for consumer financial products and services in the United States. In 2008 this market collapsed, greatly diminishing the wealth of millions of American consumers and sending the economy into a severe recession. A primary cause of the collapse was the steady deterioration of credit standards in mortgage lending. Evidence demonstrates that many mortgage loans were made solely against collateral and without consideration of ability to repay, particularly in the markets for “subprime” and “Alt-A” products, which more than doubled from $400 billion in originations in 2003 to $830 billion in originations in 2006. 20 Subprime products were sold primarily to consumers with poor or no credit history, while Alt-A loans were sold primarily to consumers who provided little or no documentation of income or other evidence of repayment ability. 21 20 Inside Mortg. Fin., The 2011 Mortgage Market Statistical Annual (2011). 21 There is evidence that some consumers who would have qualified for “prime” loans were steered into subprime loans as well. The Federal Reserve Board on July 18, 2011 issued a consent cease and desist order and assessed an $85 million civil money penalty against Wells Fargo & Company of San Francisco, a registered bank holding company, and Wells Fargo Financial, Inc., of Des Moines. The order addresses allegations that Wells Fargo Financial employees steered potential prime-eligible consumers into more costly subprime loans and separately falsified income information in mortgage applications. In addition to the civil money penalty, the order requires that Wells Fargo compensate affected consumers. See Press Release, Federal Reserve Board (July 20, 2011), available at http://www.federalreserve.gov/newsevents/press/enforcement/20110720a.htm. Because subprime and Alt-A loans involved additional risk, they were typically more expensive to consumers than “prime” mortgage loans, although many of them had very low introductory interest rates. While housing prices continued to increase, it was relatively easy for consumers to refinance their existing loans into more affordable products to avoid interest rate resets and other adjustments. When housing prices began to decline in 2005, however, refinancing became more difficult and delinquency rates on subprime and Alt-A products increased dramatically. 22 By the summer of 2006, 1.5 percent of loans less than a year old were in default, and this figure peaked at 2.5 percent in late 2007. 23 As the economy worsened, the rates of serious delinquency (90 or more days past due or in foreclosure) for the subprime and Alt-A products began a steep increase from approximately 10 percent in 2006, to 20 percent in 2007, to over 40 percent in 2010. 24 22 U.S. Fin. Crisis Inquiry Comm'n, The Financial Crisis Inquiry Report: Final Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States at 215-217 (Official Gov't ed. 2011) ( FCIC Report ), available at http://www.gpo.gov/fdsys/pkg/GPO-FCIC/pdf/GPO-FCIC.pdf. 23 FCIC Report at 215. CoreLogic Chief Economist Mark Fleming told the FCIC that the early payment default rate “certainly correlates with the increase in the Alt-A and subprime shares and the turn of the housing market and the sensitivity of those loan products.” Id. 24 FCIC Report at 217. Although the mortgage market is recovering, consumers today continue to feel the effects of the financial crisis. A. Community-Focused Lending Programs While governmental and nonprofit programs have always been an important source of assistance for low- to moderate-income (LMI) consumers, these programs have taken on even greater significance in light of current tight mortgage credit standards and Federal initiatives to stabilize the housing market. There are a variety of programs designed to assist LMI consumers with access to homeownership. These programs are generally offered through a nonprofit entity, local government, or a housing finance agency (HFA). These programs play a significant role in the housing sector of the economy. Types of Financial Assistance Available Community-focused lending programs typically provide LMI consumers with assistance ranging from housing counseling services to full mortgage loan financing. Some programs offer financial assistance through land trust programs, in which the consumer leases the real property and takes ownership of only the improvements. Many organizations provide “downpayment assistance” in connection with mortgage loan financing. This can be a gift, grant, or loan to the consumer to assist with the consumer's down payment, or to pay for some of the closing costs. These programs often rely on subsidies from Federal government funds (such as through the HUD HOME program), local government funds, foundations, or employer funding. 25 25 Abigail Pound, Challenges and Changes in Community-Based Lending for Homeownership, NeighborWorks America, Joint Center for Housing Studies of Harvard University (February 2011), available at http://www.jchs.harvard.edu/sites/jchs.harvard.edu/files/w11-2_pound.pdf. Some programs offer first-lien mortgage loans designed to meet the needs of LMI consumers. These first-lien mortgage loans may have a discounted interest rate, limited origination fees, or permit high loan-to-value ratios. Many programs offer subordinate financing. Subordinate-financing options may be simple, such as a relatively inexpensive subordinate-lien loan to pay for closing costs. Other methods of subordinate financing may be complex. For example, one HFA program offers a 30-year, fixed-rate, subordinate-lien mortgage loan through partner creditors, with interest-only payments for the first 11 years of the loan's term, and which also provides the LMI consumer with an interest subsidy, resulting in a graduated monthly payment between the fifth and eleventh year of the loan; an additional 30-year deferred, 0 percent subordinate-lien mortgage loan is extended by the HFA equal to the amount of the subsidy. 26 Some of the loans offered by these programs, whether first-lien or subordinate-financing, are structured as hybrid grant products that commonly will be forgiven. 26 See http://www.mhp.net/homeownership/homebuyer/soft_second_works.php, describing the SoftSecond program offered by the Massachusetts Housing Partnership. Housing Finance Agencies For over 50 years, HFAs have provided LMI consumers with opportunities for affordable homeownership. 27 HFAs are quasi-governmental entities, chartered by either a State or a municipality, that engage in diverse housing financing activities for the promotion of affordable housing. Some HFAs are chartered to promote affordable housing goals across an entire state, while others' jurisdiction extends to only particular cities or counties. 28 These agencies are generally funded through tax-exempt bonds. 29 HFAs issue these tax-exempt bonds, also known as Mortgage Revenue Bonds, and use the proceeds of the bond sale to finance affordable mortgage loans to LMI consumers. As of June, 2012, the 51 State HFAs (SHFAs) had $107 billion in outstanding tax-free municipal debt available. These Mortgage Revenue Bonds funded approximately 100,000 first-time homeowners per year. HFAs may also receive funding through Federal programs, such as HUD's HOME Investment Partnerships Program, which is the largest Federal block grant for affordable housing. 30 27 The first State housing finance agency was established in New York in 1960. See New York State Housing Finance Agency Act, 1960 Laws of New York, 183rd Session, Chap. 671. 28 For example, the Louisiana Housing Corporation administers affordable housing programs across all of Louisiana, while The Finance Authority of New Orleans administers programs only in Orleans Parish. See www.lhfa.state.la.us and www.financeauthority.org. 29 Bonds issued by SHFAs are tax-exempt if the proceeds are used to provide assistance to first-time or LMI-homebuyers. See 26 U.S.C. 143. 30 See www.hud.gov/homeprogram. HFAs employ several methods of promoting affordable homeownership. These agencies may partner with local governments to develop and implement long-term community-development strategies. For example, HFAs may provide tax credits to companies that build or rehabilitate affordable housing. 31 These agencies may also administer affordable housing trust funds or other State programs to facilitate the affordable housing development. 32 Many HFAs also provide education or training courses to first-time or LMI consumers. 31 The Tax Reform Act of 1986, Public Law 99-514, 100 Stat. 2085 (1986), included the Low-Income Housing Tax Credit Program. Under this program, the IRS provides tax credits to SHFAs. SHFAs may transfer these tax credits to developers of affordable housing. Developers then sell these credits to fund the development program. See http://portal.hud.gov/hudportal/HUD?src=/program_offices/comm_planning/affordablehousing/training/web/lihtc/basics. 32 The Massachusetts Affordable Housing Trust Fund provides funds to governmental subdivisions, nonprofit organizations, and other entities seeking to provide for the development of affordable housing. See www.masshousing.com. New York State's Mitchell-Lama program provides subsidies such as property tax exemptions to affordable housing developers. See http://www.nyshcr.org/Programs/mitchell-lama/. HFAs also provide financial assistance directly to consumers. Typically, HFAs offer the first-lien mortgage loan, subordinate financing, and downpayment assistance programs described above. HFAs may also establish pooled loss reserves to self-insure mortgage loans originated pursuant to the program, thereby permitting LMI consumers to avoid private mortgage insurance. In 2010, HFAs provided about $10 billion in affordable financing. 33 In 2010, 89 percent of SHFAs provided down payment assistance loan or grant assistance and 57 percent of SHFAs provided assistance in conjunction with FHA or USDA programs. 34 However, HFAs generally do not provide direct financing to LMI consumers. HFAs partner with creditors, such as local banks, that extend credit pursuant to the HFA's program guidelines. 33 National Council of State Housing Agencies, State HFA Factbook (2010), p. 33. 34 Id. at 21-22, 35-36. Private Organizations While entities such as HFAs develop and finance affordable housing programs, these mortgage loans are generally extended by private organizations. These organizations often are structured as nonprofit 501(c)(3) organizations. Under Internal Revenue Code section 501(c)(3), the designation is for nonprofit, tax-exempt, charitable organizations not operated for the benefit of private interests. 35 Under Federal tax law, 501(c)(3) organizations are restricted from lobbying activities, while 501(c)(4) organizations, which must exist to promote social welfare, may engage in political campaigning and lobbying. 36 Most organizations that provide support to LMI consumers are structured as 501(c)(3) organizations. However, some organizations are structured as nonprofit 501(c)(4) organizations. 35 See http://www.irs.gov/Charities-&-Non-Profits/Charitable-Organizations/Exemption-Requirements—Section-501(c)(3)-Organizations. 36 See http://www.irs.gov/Charities-&-Non-Profits/Other-Non-Profits/Social-Welfare-Organizations. Various Federal programs establish eligibility requirements and provide ongoing monitoring of specific types of creditors that receive Federal grants and other support. For example, Community Development Financial Institutions (CDFIs) are approved by the U.S. Department of the Treasury (Treasury Department) to receive monetary awards from the Treasury Department's CDFI Fund, which was established to promote capital development and growth in underserved communities. Promoting homeownership and providing safe lending alternatives are among the Fund's main goals. The Treasury Department created the CDFI designation to identify and support small-scale creditors that are committed to community-focused lending, but have difficulty raising the capital needed to provide affordable housing services. 37 CDFIs may operate on a for-profit or nonprofit basis, provided the CDFI has a primary mission of promoting community development. 38 These programs are also subject to other eligibility requirements. 39 As of July 2012 there were 999 such organizations in the U.S., 62 percent of which are classified as Community Development (CD) Loan Funds, 22 percent as CD Credit Unions, while the rest are CD Banks, Thrifts, or CD Venture Capital Funds. 40 37 See 68 FR 5704 (Feb. 4, 2003). 38 See 12 CFR 1805.201(b). 39 Id. Treasury Department eligibility requirements for CDFIs stipulate that an approved organization must: Be a legal entity at the time of certification application; have a primary mission of promoting community development; be a financing entity; primarily serve one or more target markets; provide development services in conjunction with its financing activities; maintain accountability to its defined target market; and be a non-government entity and not be under control of any government entity (Tribal governments excluded). 40 See http://www.cdfifund.gov/docs/certification/cdfi/CDFI List—07-31-12.xls. The U.S. Department of Housing and Urban Development (HUD) may designate nonprofits engaging in affordable housing activities as Downpayment Assistance through Secondary Financing Providers (DAPs). 41 HUD established this designation as part of an effort to promote nonprofit involvement in affordable housing programs. 42 HUD- approved nonprofits may participate in FHA single-family programs that allow them to purchase homes at a discount, finance FHA-insured mortgages with the same terms and conditions as owner-occupants, or be able to finance secondary loans for consumers obtaining FHA-insured mortgages. A DAP must be approved by HUD if it is a nonprofit or nonprofit instrumentality of government that provides downpayment assistance as a lien in conjunction with an FHA first mortgage; government entity DAPs and gift programs do not require approval. 43 As of November 2012 HUD lists 233 nonprofit agencies and nonprofit instrumentalities of government in the U.S. that are authorized to provide secondary financing. 44 HUD performs field reviews and requires annual reports of participating nonprofit agencies. Additionally, HUD's quality control plan requires periodic review for deficient policies and procedures and corrective actions. These approval and subsequent review procedures are intended to ensure that DAPs operate in compliance with HUD requirements and remain financially viable. 45 However, HUD recognizes that these nonprofits have limited resources and gives consideration to DAP viability when crafting regulations. 46 41 See 24 CFR 200.194. 42 “Nonprofit organizations are important participants in HUD's efforts to further affordable housing opportunities for low- and moderate-income persons through the FHA single family programs. FHA's single family regulations recognize a special role for nonprofit organizations in conjunction with the * * * provision of secondary financing.” See 67 FR 39238 (June 6, 2002). 43 See http://portal.hud.gov/hudportal/HUD?src=/program_offices/housing/sfh/np/sfhdap01. 44 See https://entp.hud.gov/idapp/html/f17npdata.cfm. 45 “It is vital that the Department periodically and uniformly assess the management and financial ability of participating nonprofit agencies to ensure they are not overextending their capabilities and increasing HUD's risk of loss as a mortgage insurance provider.” 65 FR 9285, 9286 (Feb. 24, 2000). 46 “HUD continues to strongly encourage the participation of nonprofit organizations, including community and faith-based organizations, in its programs. This proposed rule is not designed to place particular burdens on participation by nonprofit organizations. Rather, the proposed rule is designed to ensure that nonprofit organizations have the capacity, experience, and interest to participate in HUD's housing programs.” 69 FR 7324, 7325 (Feb. 13, 2004). Creditors may also be certified by HUD as Community Housing Development Organizations (CHDOs) in connection with HUD's HOME Investment Partnership Program, which provides grants to fund a wide range of activities that promote affordable homeownership. 47 HUD Participating Jurisdictions confer CHDO certification only on community-focused nonprofits that are both dedicated to furthering a community's affordable housing goals and capable of complying with the requirements of the HOME Program. 48 Creditors designated as CHDOs are eligible to receive special CHDO set-aside funds from HUD's HOME program to fund local homebuyer assistance programs. 49 Applicants seeking CHDO status must meet rigorous requirements. For example, a CHDO must be designated as a nonprofit under section 501(c)(3) or (c)(4) of the Internal Revenue Code, adhere to strict standards of financial accountability, have among its purposes the provision of decent and affordable housing for LMI consumers, maintain accountability to the community, and have a proven record of capably and effectively serving low-income communities. 50 After the CHDO designation is obtained, CHDO creditors must operate under the supervision of a Participating Jurisdiction and in accordance with the requirements of the HUD HOME Program. 51 HUD conducts annual performance reviews to determine whether funds have been used in accordance with program requirements. 52 While HUD continues to support affordable housing programs involving CHDOs, current market conditions have affected CHDO viability. 53 47 See http://portal.hud.gov/hudportal/HUD?src=/program_offices/comm_planning/affordablehousing/programs/home. 48 “The Department believes that there was specific statutory intent to create an entitlement for community based nonprofit organizations who would own, sponsor or develop HOME assisted housing. While partnerships with State and local government are critical to the development of affordable housing, these organizations are viewed as private, independent organizations separate and apart from State or local governments. One of the major objectives of the Department's technical assistance program is to increase the number of capable, successful CHDOs able and willing to use the CHDO set-aside [fund].” 61 FR 48736, 48737 (Sept. 16, 1996). 49 See 24 CFR 92.300 et. seq. 50 See 24 CFR 92.2. 51 For example, no more than 5 percent of a Participating Jurisdiction's fiscal year HOME allocation may be used for CHDO operating expenses. 24 CFR 92.208(a). 52 See 24 CFR 92.550 et. seq. 53 “[Participating jurisdictions] have encountered new challenges in administering their programs and in managing their growing portfolios of older HOME projects. These challenges include reduced availability of states or local funding sources, reduced private lending, changes in housing property standards, and energy codes and reductions in states and local government workforces throughout the Nation. These challenges have been magnified by current housing and credit market conditions.” 76 FR 78343, 78345 (Dec. 16, 2011). Nonprofit creditors may engage in community-focused lending without obtaining one of the designations described above. Such nonprofits often rely on HFA or Federal programs for funding, lending guidelines, and other support. However, some nonprofits offer credit to LMI consumers independent of these State or Federal programs. For example, nonprofits may make mortgage loans in connection with a GSE affordable housing program. The Federal Home Loan Bank (FHLB) System, Fannie Mae (FNMA), and Freddie Mac (FHLMC) offer several programs to support affordable housing by facilitating mortgage financing for LMI consumers. For example, the FHLB Affordable Housing Program provides grants to member banks to fund programs that assist with closing costs or down payments, buy down principal amounts or interest rates, refinance an existing loan, or assist with rehabilitation or construction costs. 54 Fannie Mae and Freddie Mac also offer two programs focused on community-focused lending. 55 54 The Federal Home Loan Bank of Des Moines provides funds for member bank programs related to rural homeownership, urban first-time homebuyers, and Native American homeownership. See http://www.fhlbdm.com/community-investment/down-payment-assistance-programs/ . The Federal Home Loan Bank of Chicago provides funds for member bank programs related to down payment and closing cost assistance or eligible rehabilitation costs for the purchase of a home. See http://ci.fhlbc.com/Grant_Pgms/DPP.shtml. 55 FNMA offers first-lien mortgage loans through the My Community Mortgage program and subordinate-lien loans through the Community Seconds program. FHLMC offers both first- and subordinate-lien mortgage loans through the Home Possible program. Other options exist for nonprofits seeking to develop and fund community-focused lending programs. For example, a nonprofit may originate mortgage loans to LMI consumers and subsequently sell the loans to a bank, credit union, or other investor as part of a Community Reinvestment Act partnership program. 56 Other nonprofits may operate a limited affordable housing assistance fund, funded entirely by private donations, under which LMI consumers may obtain subordinate financing. Nonprofits such as these often rely on the underwriting performed by the creditor for the first-lien mortgage loan, which is often a bank or credit union, to process, underwrite, and approve the LMI consumer's application. In addition, some nonprofits are self-supporting and offer full financing to LMI consumers. These nonprofits often establish lending programs with unique guidelines, such as requirements that LMI consumers devote a minimum number of hours towards the construction of affordable housing. 56 Under the Community Reinvestment Act (12 U.S.C. 2901), depository institutions may meet community reinvestment goals by directly originating or purchasing mortgage loans provided to LMI consumers. See 12 CFR 228.22. B. Homeownership Stabilization and Foreclosure Prevention Programs During the early stages of the financial crisis the mortgage market significantly tightened mortgage loan underwriting requirements in response to uncertainty over the magnitude of potential losses due to delinquencies, defaults, and foreclosures. 57 This restriction in credit availability coincided with increasing unemployment, falling home values, and the onset of subprime ARM resets. As a result, many subprime ARM consumers could not afford their mortgage payments and were not able to obtain refinancings. This led to increases in delinquencies and foreclosures, which prompted further tightening of underwriting standards. Other subprime ARM consumers were able to remain current, but were not able to refinance because of a decrease in their loan-to-value ratio or an increase in their debt-to-income ratio. 58 However, these consumers devoted most of their disposable income to mortgage payments, thereby lowering overall consumer demand and further weakening the national economy. 59 57 A 2011 OCC survey shows that 56 percent of banks tightened residential real estate underwriting requirements between 2007 and 2008, and 73 percent tightened underwriting requirements between 2008 and 2009. See Office of the Comptroller of the Currency, Survey of Credit Underwriting Practices 2011, p. 11. 58 “[W]ith house prices becoming flat or declining in many parts of the country during 2007, it has become increasingly difficult for many subprime ARM borrowers to refinance. While many such borrowers remain current on their loans or are still able to refinance at market rates or into FHA products, an increasing number have either fallen behind on their existing payments or face the prospect of falling behind when rates reset and they are unable to refinance.” Accelerating Loan Modifications, Improving Foreclosure Prevention and Enhancing Enforcement, 110th Cong. (Dec. 6, 2007) (testimony of John C. Dugan, Comptroller, Office of the Comptroller of the Currency). 59 By the third quarter of 2007, the ratio of mortgage-related financial obligations (which is comprised of mortgage debt, homeowners' insurance, and property tax) to disposable personal income reached an all-time high of 11.3 percent. See http://www.federalreserve.gov/releases/housedebt/. Policymakers became concerned that the losses incurred from foreclosures on subprime mortgage loans would destabilize the entire mortgage market. 60 There was a particular concern that the uncertainty surrounding exposure to these losses would lead to a fear-induced downward economic spiral. 61 As the crisis worsened, industry stakeholders attempted to stop this self-reinforcing cycle through a series of measures intended to stabilize homeownership and prevent foreclosure. Beginning in late 2008, the Federal government, Federal agencies, and GSEs implemented programs designed to facilitate refinancings and loan modifications. 60 “[A]nalysts are concerned that mortgage foreclosures will climb significantly higher and, along with falling housing prices, overwhelm the ability of mortgage markets to restructure or refinance loans for creditworthy borrowers.” Congressional Budget Office, Options for Responding to Short-Term Economic Weakness, p. 21 (January 2008). 61 “[A] breakdown of mortgage markets could put the economy on a self-reinforcing downward spiral of less lending, weaker economic activity, lower house prices, more foreclosures, even less lending, and so on, either causing or significantly worsening a recession.” Id. p. 21-22. The Troubled Asset Relief Program. The U.S. government enacted and implemented several programs intended to promote economic recovery by stabilizing homeownership and preventing foreclosure. The Emergency Economic Stabilization Act of 2008, 62 as amended by the American Recovery and Reinvestment Act of 2009, 63 authorizes the Treasury Department to “use loan guarantees and credit enhancements to facilitate loan modifications to prevent avoidable foreclosures.” 64 Pursuant to this authority, the Treasury Department established the Troubled Asset Relief Program (TARP), under which two programs were created to provide financial assistance directly to homeowners in danger of losing their homes: the Making Home Affordable (MHA) program and the Hardest Hit Fund (HHF) program. The MHA program is operated by the Treasury Department and seeks to provide Federally directed assistance to consumers who are at risk of default, foreclosure, or were otherwise harmed by the financial crisis. 65 The HHF program provides funds to certain SHFAs in States where the Treasury Department has determined that locally-directed stabilization programs are required. 66 62 12 U.S.C. 5201 et. seq.; Pub. L. 110-343 (Oct. 3, 2008). 63 See Sec. 7002 of Public Law 111-5 (January 6, 2009). 64 12 U.S.C. 5219(a)(1). 65 See www.makinghomeaffordable.gov. 66 See http://www.treasury.gov/initiatives/financial-stability/TARP-Programs/housing/hhf/Pages/default.aspx. MHA began with the introduction of the Home Affordable Modification Program (HAMP) in March 2009. 67 HAMP, which is intended to assist employed homeowners by replacing the consumer's current mortgage loan with a more affordable mortgage loan, was immediately successful; nearly 500,000 trial modifications were begun during the first six months of the program. 68 MHA offerings expanded with the creation of the Second Lien Modification Program in August 2009 and the Home Affordable Foreclosure Alternatives Program in November 2009. 69 The Treasury Department subsequently modified these programs several times in response to the changing needs of distressed consumers and the mortgage market. 70 67 See Press Release, Treasury Department, Relief for Responsible Homeowners (March 4, 2009), available at: http://www.treasury.gov/press-center/press-releases/Pages/200934145912322.aspx. 68 See Troubled Asset Relief Program (TARP) Monthly Report to Congress—September 2009. 69 See United States Department of the Treasury Office of Financial Stability, “Troubled Asset Relief Program: Two Year Retrospective” (October 2010). 70 See e.g., Supplemental Directive 10-02 (March 24, 2010), modifying HAMP, Supplemental Directive 11-07 (July 25, 2011), expanding eligibility for the Home Affordable Unemployment Program, and Supplemental Directive 12-02 (March 9, 2012), expanding HAMP eligibility. MHA programs are currently scheduled to expire on December 31, 2013, although there is continuing debate about whether to extend them. 71 As of December 2012, ten programs have been established under MHA. The Treasury Department operates five MHA programs. 72 The remaining five MHA programs are operated in conjunction with FHA, VA, or USDA programs. 73 Many consumers facing default or foreclosure have received assistance under these programs. For example, from the beginning of the HAMP program to October 2012, over 1.1 million permanent HAMP modifications have been completed, saving distressed consumers an estimated $16.2 billion. 74 71 Press Release, Treasury Department, Expanding Our Efforts to Help More Homeowners and Strengthen Hard-hit Communities (Jan. 27, 2012), available at http://www.treasury.gov/connect/blog/Pages/Expanding-our-efforts-to-help-more-homeowners-and-strengthen-hard-hit-communities.aspx. 72 In addition to HAMP, the Second Lien Modification Program, and the Home Affordable Foreclosure Alternatives Program, the Treasury Department also operates the Principal Reduction Alternative Program and the Home Affordable Unemployment Program. 73 These programs are the FHA Home Affordable Modification Program, USDA Special Loan Servicing, Veterans Affairs Home Affordable Modification, FHA Second Lien Modification Program, and the FHA Short Refinance Program. 74 See October 2012 Making Home Affordable Report. In March 2010 the Treasury Department established the HHF program to enable the States most affected by the financial crisis to develop innovative assistance programs. 75 Nineteen programs have been established under the HHF fund, which is currently scheduled to expire on December 31, 2017. These programs provide assistance to homeowners in the District of Columbia and the 18 states most affected by the economic crisis. 76 The HHF provides funds directly to HFAs in these States, which are used to create foreclosure-avoidance programs. As of November 2012, $1.7 billion has been allocated to support the 57 programs established to assist distressed consumers in these localities. 77 In California alone, nearly 17,000 consumers have received over $166 million in assistance since the beginning of the program. 78 75 See Hardest Hit Fund Program Guidelines Round 1, available at: http://www.treasury.gov/initiatives/financial-stability/TARP-Programs/housing/Documents/HFA_Proposal_Guidelines_-_1st_Rd.pdf. 76 The HHF provides funds to SHFAs located in Alabama, Arizona, California, Florida, Georgia, Illinois, Indiana, Kentucky, Michigan, Mississippi, Nevada, New Jersey, North Carolina, Ohio, Oregon, Rhode Island, South Carolina, Tennessee, and Washington, DC. 77 See Troubled Asset Relief Program (TARP) Monthly Report to Congress—November 2012. 78 See Keep Your Home California 2012 Fourth Quarterly Report. As with the MHA programs discussed above, these HHF programs have evolved over time. The Treasury Department originally encouraged SHFAs to establish programs for mortgage modifications, principal forbearance, short sales, principal reduction for consumers with high loan-to-value ratios, unemployment assistance, and second-lien mortgage loan reduction or modification. 79 No SHFAs were able to establish all of these programs in the early stages of the HHF. However, through 2011 and 2012 State HHF programs were significantly modified and expanded. 80 The 19 SHFAs continue to modify these programs to develop more effective and efficient methods of providing assistance to at-risk consumers. For example, in September 2012 the Nevada HHF program was amended for the tenth time. 81 79 See Hardest Hit Fund Program Guidelines Round 1, available at: http://www.treasury.gov/initiatives/financial-stability/TARP-Programs/housing/Documents/HFA_Proposal_Guidelines_-_1st_Rd.pdf. 80 From 2011-2012, the program agreements between the 19 SHFAs and the Treasury Department were modified 55 times. See http://www.treasury.gov/initiatives/financial-stability/TARP-Programs/housing/hhf/Pages/Archival-information.aspx. 81 See Tenth Amendment to Commitment to Purchase Financial Instrument and HFA Participation Agreement, available at http://www.treasury.gov/initiatives/financial-stability/TARP-Programs/housing/Pages/Program-Documents.aspx. Federal agency programs. In response to the financial crisis, the FHA, the VA, and the USDA expanded existing programs and implemented new programs intended to facilitate refinancings for consumers at risk of delinquency or default. Some of these programs operate in conjunction with the Treasury Department's MHA program, while others are run solely by the particular Federal agency. In 2008 Congress expanded access to refinancings under the VA's Interest Rate Reduction Refinancing Loan program by raising the maximum loan-to-value ratio to 100 percent and increasing the maximum loan amount of loans eligible to be guaranteed under the program. 82 In February 2009 HUD increased the maximum loan amount for FHA-insured mortgages. 83 This change expanded access to refinancings available under the FHA's Streamline Refinance Program. 84 Several months later, the FHA created the Short Refinance Option program to assist consumers with non-FHA mortgage loans. 85 This program, which operates in conjunction with TARP, permits underwater consumers to refinance if the current creditor agrees to write down 10 percent of the outstanding principal balance. Similarly, in August 2010 the Rural Housing Service of the USDA (RHS) adopted rules intended to facilitate loan modifications for consumers struggling to make payments on USDA Guaranteed Loans. 86 The USDA subsequently created the Single Family Housing Guaranteed Rural Refinance Pilot Program, which was intended to refinance USDA borrowers into more stable and affordable mortgage loans. 87 82 See Sec. 504 of the Veterans' Benefits Improvement Act of 2008, Public Law 110-389 (Oct. 10, 2008). 83 See HUD Mortgagee Letter 2009-07. Section 1202(b) of the American Recovery and Reinvestment Act of 2009, Pub. L. 111-5 (January 6, 2009), authorized the Secretary of Housing and Urban Development to increase the loan limit. 84 The FHA Streamline Refinance Program contains reduced underwriting requirements for consumers with FHA mortgage loans seeking to refinance into a new FHA mortgage loan with a reduced interest rate. The FHA has offered streamline refinances for over thirty years. See HUD Mortgagee Letter 1982-23. 85 See HUD Mortgagee Letter 2010-23. 86 See 75 FR 52429 (Aug. 26, 2010). 87 See Rural Dev. Admin. Notice No. 4615 (1980-D) (Feb. 1, 2012). These efforts have enabled many consumers to receive refinancings under these programs. In 2011, the FHA accounted for 5.6 percent of the mortgage refinance market, with originations totaling $59 billion. 88 However, the number of consumers receiving assistance under these programs varies. For example, between April 2009 and December 2011, the FHA started 5.6 million mortgage loan modifications. 89 During a similar time period, nearly 997,000 FHA Streamline Refinances were consummated. 90 In contrast, between February 2010 and September 2012, only 1,772 mortgage loans were refinanced under the Short Refinance Option program. 91 Efforts continue to develop and enhance these programs to assist distressed homeowners while improving the performance of existing mortgage loans owned, insured, or guaranteed by these agencies. 88 This number represents FHA's market share by dollar volume. By number of originations, the FHA controlled 6.5 percent of the refinance market, with 312,385 refinances originated. See FHA-Insured Single-Family Mortgage Originations and Market Share Report 2012—Q2, available at http://portal.hud.gov/hudportal/documents/huddoc?id=fhamktq2_2012.pdf. 89 See Hearing on FY13 Federal Housing Administration's Budget Request, 112th Cong. (Mar. 8, 2012) (testimony of Carol Galante, Acting Assistant Secretary for Housing/Federal Housing Administration Commissioner for the U.S. Department of Housing and Urban Development). 90 A total of 996,871 mortgage loans were endorsed under the FHA Streamline Refinance program from Fiscal Year 2009 through 2012. See FHA Outlook Reports for Fiscal Years 2009, 2010, 2011, and 2012, available at http://portal.hud.gov/hudportal/HUD?src=/program_offices/housing/rmra/oe/rpts/ooe/olmenu. 91 See Office of the Special Inspector General for the Troubled Asset Relief Program, Quarterly Report to Congress, p. 64 (Oct. 25, 2012). HARP and other GSE refinancing programs. After the GSEs were placed into conservatorship in late 2008, the Federal Housing Finance Agency (FHFA) took immediate steps to reduce GSE losses by mitigating foreclosures. 92 In November 2008 FHFA and the GSEs, in coordination with the Treasury Department and other stakeholders, announced the Streamlined Modification Program, which was intended to help delinquent consumers avoid foreclosure by affordably restructuring mortgage payments. 93 This program was the precursor to the Home Affordable Refinance Program (HARP) that was announced in March 2009. 94 The HARP program was originally set to expire in June 2010 and limited to consumers with a loan-to-value ratio that did not exceed 105 percent. However, HARP was modified over time to account for the deteriorating mortgage market. In July 2010 the maximum loan-to-value ratio was increased from 105 percent to 125 percent. 95 Nine months later FHFA extended the HARP expiration date by one year, to June 30, 2011. 96 92 See Press Release, FHFA, Statement of FHFA Director James B. Lockhart (September 7, 2008), available at: http://www.fhfa.gov/webfiles/23/FHFAStatement9708final.pdf. 93 See Press Release, FHFA, FHFA Announces Implementation Plans for Streamlined Loan Modification Program, (Dec. 18, 2008), available at http://www.fhfa.gov/webfiles/267/SMPimplementation121808.pdf. 94 See Press Release, Treasury Department, Relief for Responsible Homeowners (March 4, 2009), available at: http://www.treasury.gov/press-center/press-releases/Pages/200934145912322.aspx. 95 See Press Release, FHFA, FHFA Authorized Fannie Mae and Freddie Mac to Expand Home Affordable Refinance Program to 125 Percent Loan-to-Value (July 1, 2009), available at: http://www.fhfa.gov/webfiles/13495/125_LTV_release_and_fact_sheet_7_01_09%5B1%5D.pdf. 96 See Press Release, FHFA, FHFA Extends Refinance Program By One Year (March 1, 2010), available at: http://www.fhfa.gov/webfiles/15466/HARPEXTENDED3110%5B1%5D.pdf. Many of the nearly five million eligible consumers were expected to receive refinancings under HARP. 97 However, by mid-2011 fewer than one million consumers had received HARP refinances. Fannie Mae, Freddie Mac, and FHFA responded by significantly altering the HARP program. 98 Perhaps most significantly, the maximum loan-to-value ratio was removed, facilitating refinances for all underwater consumers who otherwise fit HARP's criteria. These changes were immediately successful. More HARP refinances were completed during the first six months of 2012 than in all of 2011. 99 These changes were especially effective in assisting consumers with high loan-to-value ratios. In September 2012, consumers with loan-to-value ratios in excess of 125 percent received 26 percent of all HARP refinances. 100 97 See Treasury Department Press Release supra note 94. 98 See Press Release, FHFA, FHFA, Fannie Mae and Freddie Mac Announce HARP Changes to Reach More Borrowers (Oct. 24, 2011), available at: http://www.fhfa.gov/webfiles/22721/HARP_release_102411_Final.pdf. 99 See Federal Housing Finance Agency Refinance Report (June 2012). 100 See Federal Housing Finance Agency Refinance Report (September 2012). The GSEs have implemented other streamline refinance programs intended to facilitate the refinancing of existing GSE consumers into more affordable mortgage loans. These programs are available for consumers who are not eligible for a refinancing under HARP. For example, a consumer with a loan-to-value ratio of less than 80 percent is eligible for a streamline refinancing through Fannie Mae's Refi Plus program or Freddie Mac's Relief Refinance program. These programs comprise a significant share of GSE refinancing activity. From January through September 2012, 45 percent of GSE streamline refinances were non-HARP refinances. 101 FHFA and the GSEs remain committed to continue modifying these programs to enhance access to refinancing credit for distressed consumers. 102 101 Id. 102 “Today, we continue to meet with lenders to ensure HARP is helping underwater borrowers refinance at today's historical low interest rates. As we continue to gain insight from the program we will make additional operational adjustments as needed to enhance access to this program.” Edward J. DeMarco, Acting Director Federal Housing Finance Agency, Remarks at the American Mortgage Conference (Sept. 10, 2012), available at http://www.fhfa.gov/webfiles/24365/2012DeMarcoNCSpeechFinal.pdf. C. The Mortgage Loan Market for Small Portfolio Creditors Securitization fundamentally altered mortgage lending practices. Traditionally, underwriting standards were determined at the branch or local bank level. These practices heavily emphasized the relationship between the bank and the consumer. 103 Starting in the mid-1990s, much of the mortgage market began to move toward standardized underwriting practices based on quantifiable and verifiable data points, such as a consumer's credit score. 104 The shift toward standardized, electronic underwriting lowered costs for creditors and consumers, thereby increasing access to mortgage credit. Standardized loan-level data made it easier to analyze individual loans for compliance with underwriting requirements, which facilitated the expansion of private mortgage securitizations. This shift from portfolio-focused to securitization-focused mortgage lending also altered the traditional risk calculations undertaken by creditors, as creditors no longer retained the risks associated with poorly underwritten loans. 105 Additionally, in another departure from the traditional mortgage lending model, these creditors increasingly relied on the fees earned by originating and selling mortgage loans, as opposed to the interest revenue derived from the loan itself. 103 “[C]ommunity banks tend to base credit decisions on local knowledge and nonstandard data obtained through long-term relationships and are less likely to rely on the models-based underwriting used by larger banks.” Federal Deposit Insurance Corporation, FDIC Community Banking Study, p. 1-1 (December 2012) ( FDIC Community Banking Study ). 104 See FCIC Report at 72. 105 See FCIC Report at 89. Small community creditor access to the secondary mortgage market was limited. Many small creditors originated “non-conforming” loans which could not be purchased by the GSEs. Also, many community creditors chose to retain the relationship model of underwriting, rather than fully adopting standardized data models popular with larger banks. Retaining these traditional business methods had important consequences during the subprime crisis. While large lending institutions generally depended on the secondary market for liquidity, small community banks and credit unions generally remained reliant on interest income derived from mortgage loans held in portfolio. As a result, community creditors were less affected by the contraction in the secondary mortgage market during the financial crisis. 106 For example, the percentage of mortgage-backed securities in relation to the total assets of credit unions actually declined by more than 1.5 percent as subprime lending expanded. 107 106 Between 2005 and 2008, while loan originations at banks with assets in excess of $10 billion fell by 51 percent, loan originations at banks with assets between $1 and $10 billion declined by 31 percent, and loan originations at banks with less than $1 billion in assets declined by only 10 percent. See Federal Reserve Bank of Kansas City, Financial Industry Perspectives (December 2009). 107 In December 2003, the ratio of mortgage-backed securities to total assets at credit unions was 4.67 percent. By December 2006, this ratio had decreased to 3.21 percent. See Accelerating Loan Modifications, Improving Foreclosure Prevention and Enhancing Enforcement, 110th Cong. (Dec. 6, 2007) (testimony of Gigi Hyland, Board Member of the National Credit Union Administration). The magnitude of portfolio lending within this market remains an important influence on the underwriting practices of community banks and credit unions. These institutions generally rely on long-term relationships with a small group of consumers. Therefore, the reputation of these community banks and credit unions is largely dependent on serving their community in ways that cause no harm. Furthermore, by retaining mortgage loans in portfolio community creditors also retain the risk of delinquency or default on those loans. Thus, community creditors have an added incentive to engage in thorough underwriting to protect their balance sheet as well as their reputation. To minimize portfolio performance risk, small community creditors have developed underwriting standards that are different than those employed by larger institutions. Small creditors generally engage in “relationship banking,” in which underwriting decisions rely on qualitative information gained from personal relationships between creditors and consumers. 108 This qualitative information, often referred to as “soft” information, focuses on subjective factors such as consumer character and reliability, which “may be difficult to quantify, verify, and communicate through the normal transmission channels of a banking organisation.” 109 Evidence suggests that underwriting based on such “soft” information yields loan portfolios that perform better than those underwritten according to “hard” information, such as credit score and consumer income levels. 110 For example, one recent study found that delinquency and default rates were significantly lower for consumers receiving mortgage loans from institutions relying on soft information for underwriting decisions. 111 This is consistent with market-wide data demonstrating that mortgage loan delinquency and charge-off rates are significantly lower at smaller banks than larger ones. 112 Current data also suggests that that these relationship-based lending practices lead to more accurate underwriting decisions during cycles of both lending expansion and contraction. 113 108 “Many customers * * * value the intimate knowledge their banker has of their business and/or total relationship and prefer dealing consistently with the same individuals whom they do not have to frequently reeducate about their own unique financial and business situations. Such customers are consequently willing to pay relatively more for such service. Relationship lending thus provides a niche for community institutions that many large banks find less attractive or are less capable of providing.” See Federal Reserve Bank of Atlanta, On the Uniqueness of Community Banks (October 2005). 109 See Allen N. Berger and Gregory F. Udell, Small Business Credit Availability and Relationship Lending: The Importance of Bank Organisational Structure, Economic Journal (2002). 110 “Moreover, a comparison of loss rates on individual loan categories suggests that community banks may also do a better job of underwriting loans than noncommunity institutions (see Table 4.4).” FDIC Community Banking Study, p. 4-6. See also Sumit Agarwal, Brent W. Ambrose, Souphala Chomsisengphet, and Chunlin Liu, The Role of Soft Information in a Dynamic Contract Setting: Evidence from the Home Equity Market, 43 Journal of Money, Credit and Banking 633, 649 (Oct. 2011) (analyzing home equity lending, the authors “find that the lender's use of soft information can successfully reduce the risks associated with ex post credit losses.”). 111 “In particular, we find evidence that selection and soft information prior to purchase are significantly associated with reduced delinquency and default. And, in line with relationship lending, we find that this effect is most pronounced for borrowers with compromised credit (credit scores below 660), who likely benefit the most from soft information in the lending relationship. This suggests that for higher risk borrowers, relationship with a bank may be about more than the mortgage transaction.” O. Emre Ergungor and Stephanie Moulton, Beyond the Transaction: Depository Institutions and Reduced Mortgage Default for Low-Income Homebuyers, Federal Reserve Bank of Cleveland Working Paper 11-15 (August 2011). 112 Federal Reserve Board, Charge-Off and Delinquency Rates on Loans and Leases at Commercial Banks (Nov. 2012), available at http://www.federalreserve.gov/releases/chargeoff/default.htm. These data show that residential real estate charge-offs were higher at large banks than small ones for 12 of the previous 87 quarters, dating to the start of the small bank survey in 1991. For example, in the fourth quarter of 2009 large banks had a 3.16 percent charge-off rate, while the rate at small banks was 1.2 percent. Delinquency rates demonstrate a similar effect. 113 “In two retail loan categories — residential real estate loans and loans to individuals — community banks consistently reported lower average loss rates from 1991 through 2011, the period for which these data are available.” FDIC Community Banking Study, p. 4-6. Although the number of community banks has declined in recent years, these institutions remain an important source of nonconforming credit in areas commonly considered “rural” or “underserved.” In 2011, community banks held over 50 percent of all deposits in micropolitan areas and over 70 percent of all deposits held in rural areas. 114 Similarly, in 2011, there were more than 600 counties where community banks operated offices but where no noncommunity bank offices were present, and more than 600 additional counties where community banks operated offices but where fewer than three noncommunity bank offices were present. 115 These counties have a combined population of more than 16 million people and include both rural and metropolitan areas. 116 It is important to note that the cost of credit offered by these community institutions is generally higher than the cost of similar products offered by larger institutions. One reason for this increased expense stems from the nature of relationship-based underwriting decisions. Such qualitative evaluations of creditworthiness tend to take more time, and therefore are more expensive, than underwriting decisions based on standardized points of data. 117 Also, the cost of funds for community banks tends to be higher than the cost for larger institutions. 118 114 FDIC Community Banking Study, p. 3-6. 115 FDIC Community Banking Study, p. 3-5. 116 Id. 117 FCIC Report at 72. 118 FDIC Community Banking Study, p. 4-5. IV. Legal Authority The Bureau is issuing this proposed rule pursuant to its authority under TILA and the Dodd-Frank Act. See 15 U.S.C. 1604(a), 12 U.S.C. 5511(a) and (b), 5512(b)(1) and (2). On July 21, 2011, section 1061 of the Dodd-Frank Act transferred to the Bureau the “consumer financial protection functions” previously vested in certain other Federal agencies, including the Board. The term “consumer financial protection function” is defined to include “all authority to prescribe rules or issue orders or guidelines pursuant to any Federal consumer financial law, including performing appropriate functions to promulgate and review such rules, orders, and guidelines.” 119 TILA is defined as a Federal consumer financial law. 120 Accordingly, the Bureau has authority to issue regulations pursuant to TILA. 119 12 U.S.C. 5581(a)(1). 120 Dodd-Frank Act section 1002(14), 12 U.S.C. 5481(14) (defining “Federal consumer financial law” to include the “enumerated consumer laws” and the provisions of title X of the Dodd-Frank Act); Dodd-Frank Act section 1002(12), 12 U.S.C. 5481(12) (defining “enumerated consumer laws” to include TILA). A. TILA Ability-to-Repay and Qualified Mortgage Provisions As discussed above, the Dodd-Frank Act amended TILA to provide that, in accordance with regulations prescribed by the Bureau, no creditor may make a residential mortgage loan unless the creditor makes a reasonable and good faith determination based on verified and documented information that, at the time the loan is consummated, the consumer has a reasonable ability to repay the loan, according to its terms, and all applicable taxes, insurance (including mortgage guarantee insurance), and assessments. TILA section 129C(a)(1); 15 U.S.C. 1639c(a)(1). As described below in part IV.B, the Bureau has authority to prescribe regulations to carry out the purposes of TILA pursuant to TILA section 105(a). 15 U.S.C. 1604(a). In particular, it is the purpose of TILA section 129C, as amended by the Dodd-Frank Act, to assure that consumers are offered and receive residential mortgage loans on terms that reasonably reflect their ability to repay the loans and that are understandable and not unfair, deceptive, or abusive. TILA section 129B(a)(2); 15 U.S.C. 1639b(a)(2). The Dodd-Frank Act also provides creditors originating “qualified mortgages” special protection from liability under the ability-to-repay requirements. TILA section 129C(b), 15 U.S.C. 1639c(b). TILA generally defines a “qualified mortgage” as a residential mortgage loan for which: The loan does not contain negative amortization, interest-only payments, or balloon payments; the term does not exceed 30 years; the points and fees generally do not exceed 3 percent of the loan amount; the income or assets are considered and verified; and the underwriting is based on the maximum rate during the first five years, uses a payment schedule that fully amortizes the loan over the loan term, and takes into account all mortgage-related obligations. TILA section 129C(b)(2), 15 U.S.C. 1639c(b)(2). In addition, to constitute a qualified mortgage a loan must meet “any guidelines or regulations established by the Bureau relating to ratios of total monthly debt to monthly income or alternative measures of ability to pay regular expenses after payment of total monthly debt, taking into account the income levels of the borrower and such other factors as the Bureau may determine are relevant and consistent with the purposes described in [TILA section 129C(b)(3)(B)(i)].” TILA also provides the Bureau with authority to prescribe regulations that revise, add to, or subtract from the criteria that define a qualified mortgage upon a finding that such regulations are necessary or proper to ensure that responsible, affordable mortgage credit remains available to consumers in a manner consistent with the purposes of the ability-to-repay requirements; or are necessary and appropriate to effectuate the purposes of the ability-to-repay requirements, to prevent circumvention or evasion thereof, or to facilitate compliance with TILA sections 129B and 129C. TILA section 129C(b)(3)(B)(i), 15 U.S.C. 1639c(b)(3)(B)(i). In addition, TILA section 129C(b)(3)(A) provides the Bureau with authority to prescribe regulations to carry out the purposes of the qualified mortgage provisions, namely, to ensure that responsible, affordable mortgage credit remains available to consumers in a manner consistent with the purposes of TILA section 129C. TILA section 129C(b)(3)(A), 15 U.S.C. 1939c(b)(3)(A). As discussed in the section-by-section analysis below, the Bureau is issuing certain provisions of this rule pursuant to its authority under TILA section 129C(b)(3)(B)(i). With respect to the qualified mortgage provisions, the Dodd-Frank Act contains several specific grants of regulatory authority. First, for purposes of defining “qualified mortgage,” TILA section 129C(b)(2)(A)(vi) provides the Bureau with authority to establish guidelines or regulations relating to monthly debt-to-income ratios or alternative measures of ability to pay. Second, TILA section 129C(b)(2)(D) provides that the Bureau shall prescribe rules adjusting the qualified mortgage points and fees limits described above to permit creditors that extend smaller loans to meet the requirements of the qualified mortgage provisions. 15 U.S.C. 1639c(b)(2)(D)(ii). In prescribing such rules, the Bureau must consider their potential impact on rural areas and other areas where home values are lower. Id. Third, TILA section 129C(b)(2)(E) provides the Bureau with authority to include in the definition of “qualified mortgage” loans with balloon payment features, if those loans meet certain underwriting criteria and are originated by creditors that operate predominantly in rural or underserved areas, have total annual residential mortgage originations that do not exceed a limit set by the Bureau, and meet any asset size threshold and any other criteria as the Bureau may establish, consistent with the purposes of TILA. 15 U.S.C. 1639c(b)(2)(E). As discussed in the section-by-section analysis below, the Bureau is issuing certain provisions of this rule pursuant to its authority under TILA sections 129C(a)(6)(D), (b)(2)(A)(vi), (b)(2)(D), and (b)(2)(E). B. Other Rulemaking and Exception Authorities This proposed rule also relies on the rulemaking and exception authorities specifically granted to the Bureau by TILA and the Dodd-Frank Act, including the authorities discussed below. 121 121 As discussed in the introductory material to part IV above, prior to the Dodd-Frank Act, rulemaking authority over TILA was vested in the Board. The Dodd-Frank Act transferred rulemaking authority for TILA to the Bureau, effective July 21, 2011. See Dodd-Frank Act sections 1061, 1098, and 1100A. Thus, the Bureau proposes these amendments pursuant to its authorities in section 1061 of the Dodd-Frank Act. TILA TILA section 105(a). As amended by the Dodd-Frank Act, TILA section 105(a), 15 U.S.C. 1604(a), directs the Bureau to prescribe regulations to carry out the purposes of TILA, and provides that such regulations may contain additional requirements, classifications, differentiations, or other provisions, and may provide for such adjustments and exceptions for all or any class of transactions, that the Bureau judges are necessary or proper to effectuate the purposes of TILA, to prevent circumvention or evasion thereof, or to facilitate compliance therewith. A purpose of TILA is “to assure a meaningful disclosure of credit terms so that the consumer will be able to compare more readily the various credit terms available to him and avoid the uninformed use of credit.” TILA section 102(a), 15 U.S.C. 1601(a). This stated purpose is tied to Congress's finding that “economic stabilization would be enhanced and the competition among the various financial institutions and other firms engaged in the extension of consumer credit would be strengthened by the informed use of credit[.]” TILA section 102(a). Thus, strengthened competition among financial institutions is a goal of TILA, achieved through the effectuation of TILA's purposes. As amended by section 1402 of the Dodd-Frank Act, section 129B(a)(2) of TILA provides that the purpose of section 129C of TILA is “to assure that consumers are offered and receive residential mortgage loans on terms that reasonably reflect their ability to repay the loans.” This stated purpose is tied to Congress's finding that “economic stabilization would be enhanced by the protection, limitation, and regulation of the terms of residential mortgage credit and the practices related to such credit, while ensuring that responsible, affordable mortgage credit remains available to consumers.” Thus, ensuring that responsible, affordable mortgage credit remains available to consumers is a goal of TILA, achieved through the effectuation of TILA's purposes. Historically, TILA section 105(a) has served as a broad source of authority for rules that promote the informed use of credit through required disclosures and substantive regulation of certain practices. However, Dodd-Frank Act section 1100A clarified the Bureau's section 105(a) authority by amending that section to provide express authority to prescribe regulations that contain “additional requirements” that the Bureau finds are necessary or proper to effectuate the purposes of TILA, to prevent circumvention or evasion thereof, or to facilitate compliance. This amendment clarified the authority to exercise TILA section 105(a) to prescribe requirements beyond those specifically listed in the statute that meet the standards outlined in section 105(a). The Dodd-Frank Act also clarified the Bureau's rulemaking authority over certain high-cost mortgages pursuant to section 105(a). As amended by the Dodd-Frank Act, TILA section 105(a) authority to make adjustments and exceptions to the requirements of TILA applies to all transactions subject to TILA, except with respect to the provisions of TILA section 129, 15 U.S.C. 1639, that apply to the high-cost mortgages defined in TILA section 103(bb), 15 U.S.C. 1602(bb). As discussed in the section-by-section analysis below, the Bureau is proposing regulations to carry out TILA's purposes, including such additional requirements, adjustments, and exceptions as, in the Bureau's judgment, are necessary and proper to carry out the purposes of TILA, prevent circumvention or evasion thereof, or to facilitate compliance. In developing these aspects of the proposed rule pursuant to its authority under TILA section 105(a), the Bureau has considered the purposes of TILA, including ensuring that consumers are offered and receive residential mortgage loans on terms that reasonably reflect their ability to repay the loans, ensuring meaningful disclosures, facilitating consumers' ability to compare credit terms, and helping consumers avoid the uninformed use of credit, and the purposes of TILA, including regulating the terms of residential mortgage credit and the practices related to such credit to ensure that responsible, affordable mortgage credit remains available to consumers, strengthening competition among financial institutions, and promoting economic stabilization. TILA section 105(f). Section 105(f) of TILA, 15 U.S.C. 1604(f), authorizes the Bureau to exempt from all or part of TILA any class of transactions if the Bureau determines that TILA coverage does not provide a meaningful benefit to consumers in the form of useful information or protection. In exercising this authority, the Bureau must consider the factors identified in section 105(f) of TILA and publish its rationale at the time it proposes an exemption for public comment. Specifically, the Bureau must consider: (a) The amount of the loan and whether the disclosures, right of rescission, and other provisions provide a benefit to the consumers who are parties to such transactions, as determined by the Bureau; (b) The extent to which the requirements of this subchapter complicate, hinder, or make more expensive the credit process for the class of transactions; (c) The status of the borrower, including— (1) Any related financial arrangements of the borrower, as determined by the Bureau; (2) The financial sophistication of the borrower relative to the type of transaction; and (3) The importance to the borrower of the credit, related supporting property, and coverage under this subchapter, as determined by the Bureau; (d) Whether the loan is secured by the principal residence of the consumer; and (e) Whether the goal of consumer protection would be undermined by such an exemption. As discussed in the section-by-section analysis below, the Bureau is proposing to exempt certain transactions from the requirements of TILA pursuant to its authority under TILA section 105(f). In developin [Text truncated at 120,000 characters. The full text is on the page linked above.] --- Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/fr%3A2013-00739. Public record. Not legal advice.