Round #1 for New Regulations for ARMs for Sub-Prime Borrowers

Bank regulators from a number of federal agencies issued new regulations for banks concerning ARMs for sub-prime borrowers (Bloomberg). The new regs did not outlaw stated income and min doc loans, but it did put make it more difficult to make these types of loans.

The reason I called this Round #1 is because these regs are: 1) not strong enough so there will be another round of rule making; 2) for banks and most ARM mortgages using stated income or min doc underwriting criteria are completed by brokers, so these new rules need to float down to the state regulators; and 3) probably going to be unacceptable to consumer advocacy groups.

U.S. banking regulators told mortgage lenders to tighten standards for subprime home loans in a belated effort to end abuses that led to a surge in defaults and the highest foreclosure rate in five years.

``This guidance on adjustable-rate mortgages underscores that the Federal Reserve and other banking regulators expect lenders to make sure subprime borrowers not only can afford their monthly payments while the introductory rate is in effect, but also after the interest rate resets,''

``Stated-income and reduced-documentation loans should be accepted only if there are mitigating factors that clearly minimize the need for direct verification'' of the borrower's ability to repay, the regulators said.

The banking regulators' guidelines may have a limited effect, because about 70 percent of loans are issued by mortgage brokers, who are regulated by the states, said John Taylor, president of the Washington-based National Community Reinvestment Coalition.

``Good intentions, guidance and best practices are all nice things,'' Taylor said. ``The problem is that brokers are going to do what gives them the highest fee and doesn't break the law.'' (my emphasis).

Borrowers should be able to refinance subprime loans at least 60 days before the interest rate changes without facing penalties, according to the guidelines.

Mortgage Bankers Association Chairman John Robbins said the new standards will ``constrain consumer credit choices.'' The Washington-based group, which represents the mortgage industry, also discouraged Congress from passing legislation that would subject lenders to ``rigid underwriting standards and litigation risk,'' according to Robbins's statement.

My response to the MBA is - borrowing is not a right, it is a privilege. Cramming the unaware into a home with a mortgage they cannot afford is also not a right of the mortgage lending industry.