Consumer Protection Topics - Mortgages
A mortgage is a document signed by a borrower when a home loan is made. The mortgage gives the lender a right to take possession of the property if the borrower fails to pay off the loan. Shopping around for a home loan, also known as a mortgage loan, will help you to get the best financing. A mortgage loan – whether it's for a home purchase, a refinancing, or a home equity loan – is a product, just like a car, so the price and terms are negotiable. You'll want to compare all the costs involved in obtaining a mortgage loan. Shopping, comparing, and negotiating can save you thousands of dollars.
Types of Mortgages
There are many types of home loans and the most common is a fixed rate loan that is repaid over 30 years. With a fixed rate loan, a borrower’s monthly principal and interest payments remain the same for the entire loan. Other loans have adjustable interest rates, which means a borrower’s principal and interest payments can increase (or decrease) over time. Less common, and perhaps more risky, are interest-only and negative amortization loans.
Consumer protections for home loans are in many cases determined by the type of loan. For example, there are disclosure requirements specifically tailored for adjustable rate loans so consumers know how their payments may increase. Other protections are particular to property located in flood zones. The next section lists some of these consumer protections, focusing on those that provide the most benefit to the greatest number of consumers.
Consumer Protections Available
Fair Lending Laws
Certain laws apply to mortgage lending and prohibit discrimination practices by lenders in the mortgage lending arena. The Equal Credit Opportunity Act (ECOA) prohibits lenders from discriminating against credit applicants in any aspect of a credit transaction on the basis of race, color, religion, national origin, sex, marital status, age, whether all or part of the applicant's income comes from a public assistance program, or whether the applicant has in good faith exercised a right under the Consumer Credit Protection Act. In addition, the Fair Housing Act prohibits discrimination in residential real estate transactions on the basis of race, color, religion, sex, handicap, familial status, or national origin. Under ECOA and the Fair Housing Act, it is illegal for a lender to refuse a loan based on these characteristics or charge more for a loan based on such characteristics. The laws apply throughout the loan process, from the time you inquire about a loan application until you pay off the loan.
Mortgage Disclosure Rule
In addition, a major regulation issued by the Consumer Financial Protection Bureau (CFPB) requires that lenders provide clear and accurate disclosures to consumers during the mortgage lending process. The regulation, which implements disclosure requirements under the Truth in Lending Act (TILA) and the Real Estate Settlement Procedures Act (RESPA), is referred to as the “Know Before You Owe” rule by the CFPB. The Dodd-Frank Wall Street Reform and Consumer Protection Act (DFA) required the CFPB to implement the “Know Before You Owe” rule to improve the process and content of mortgage disclosures provided to consumers.. A major objective of the changes was to promote informed decision making by consumers during the mortgage origination process.
The Know Before You Owe rule combines the disclosures required by TILA and RESPA into two forms. The first form, the Loan Estimate, emphasizes the key loan features, risks and costs of loans and is intended to aid in comparison shopping. The second form, the Closing Disclosure, highlights all the costs of the mortgage transaction. The two forms are designed to be used together to help consumers to understand the information in the forms, compare loan terms and prevent surprises for consumers at “closing.” Closing typically refers to the time when the loan applicant signs the agreement to pay the loan, gives the lender a mortgage on the applicant’s home, and becomes the owner of the home.
Importantly, the Know Before You Owe rules require lenders to give consumers time to review and consider the information that is provided in the Loan Estimate and Closing Disclosure. Other provisions limit when lenders may charge fees or require the submission of documents in support of a loan application to certain phases of the application process. The rule also requires the disclosures to provide fees accurately so that applicants can compare the costs of different loans offered by lenders.
Additional Consumer Protections
Regulations protect borrowers from other risks during the mortgage origination process. For example, there are special requirements for high-cost (or “higher-priced”) mortgages and reverse mortgages. Moreover, it is illegal for loan originators to direct consumers to a particular loan because that loan would make more money for the loan originator (exceptions apply for home equity lines of credit and timeshares). Certain practices are prohibited, such as kickbacks. There are limitations on the use of escrow accounts.
The Homeowners Protection Act of 1998 makes it easier for homeowners to cancel private mortgage insurance (PMI). PMI is insurance that protects lenders from the risk of default and foreclosure. PMI allows prospective buyers to obtain mortgage financing at affordable rates, even if they do not provide significant down payments. It is used extensively with loans where the borrower makes a down payment of less than 20%. In the past, homeowners have experienced problems in canceling PMI. At other times, lenders may have agreed to terminate coverage when the borrower’s equity reached 20%, but the policies and procedures used for canceling PMI varied widely among lenders.
The Homeowners Protection Act helps consumers cancel PMI in a few different ways:
- Written request. The homeowner sends a written request to their mortgage servicer to cancel PMI and the homeowner has made payments to reduce the loan balance to 80% of the original loan amount. For example, if the original sales price (or appraisal value at consummation, whichever is lower) and loan amount was $100,000 and regular payments have reduced the outstanding loan balance to $80,000, the homeowner can request to cancel PMI. Other factors matter as well, such as a good payment history and being current on your loan payments. But keep in mind that if the property value has decreased, cancelling PMI may not be possible.
- Automatic termination. For borrowers that are current on their loan, PMI automatically terminates once the principal balance reaches 78% of the original loan value. Using the same example, PMI would terminate for a loan with $100,000 original value once the homeowner reduced the outstanding balance to $78,000.
- Final termination. If a borrower took out a 30-year fixed rate loan, has made payments for 15 years, and is current on the loan, the loan servicer terminates PMI. In other words, more generally, the servicer terminates PMI coverage right after the borrower has reached the midpoint of the loan’s amortization period.