Partners (Summer 2000)

Consumer Corner
By Wayne Smith

Education of Consumers and Investors
An important element in combating predatory lending is education of both consumers who are potential victims of predatory lenders and of investors in subprime mortgage loans and securities backed by subprime loans.

A well-informed consumer is better equipped to avoid the predatory lender. Three basic considerations in this regard include the following:

  • Understanding one’s options for obtaining credit;
  • Using only responsible lenders; and
  • Being aware of the abuses used by those who prey on the vulnerable.
OTS Director Ellen Siedman noted in her Congressional testimony that community-based organizations can play a big role in helping to bridge the gap between financial institutions and communities vulnerable to predatory lending. Many already work with homebuyer education and counseling and can expand into post-purchase counseling to teach clients about how to be discerning homeowners and how to avoid potential home equity scams.

Learning what questions to ask and how to evaluate the answers—or where to find help—is critical to making informed choices. So is developing the discipline to say “no” to deals that are just too good to be true.

Reaching community residents who already own their own homes and are not involved in existing homeowner education and counseling programs is difficult. Community-based organizations and financial institutions whose constituents are likely to be targeted by predatory lenders need to reach out aggressively to potential borrowers and arm them with valuable information to give them a shield against the lies and deceit of predatory lenders. For example, community groups can:

  • Identify reliable home improvement contractors and home equity lenders;
  • Establish early warning networks and intervention game plans for implementation when unscrupulous contractors or lenders invade a neighborhood;
  • Encourage community members to build broad-based banking relationships with federally insured depository institutions, including, for example, electronic benefits transfer programs and first-time investor programs; and
  • Work with local schools, faith-based organizations, and seniors groups to get out the word about predatory lending scams—how to avoid them, where to report them, and how to get answers to questions.
As for investors, they must be more discerning in their purchase of securities backed by high-cost loans to avoid providing liquidity to the unscrupulous. The activities of large predatory lenders will quickly shrivel if they are denied financing. Participants in the secondary market are beginning to recognize that predatory loans are not good business—not just because they are unethical but also because they can damage their reputation and hurt their stock price.

It is critical, however, not to pursue this in a manner that threatens the viability of responsible subprime markets. There will still be a vital and large market for securities backed by subprime loans. The well-oiled machine of loan securitization will not seize up when it ceases to accept fraudulent or abusive loans. Fannie Mae and Freddie Mac have responded not as regulators, but as investors who recognize the hazards predatory loans bring to their loan portfolios.

Together, lenders, borrowers, secondary markets, and regulators must work together to eliminate these abusive practices.

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