WASHINGTON (AP) - Banks that package mortgage securities -- and the
institutional investors who buy them -- are fearful that lawmakers could in the
future make them legally responsible for fraud committed by lenders.
As the housing crisis worsens and foreclosures mount, federal predatory
lending legislation is moving to the front burner. But industry groups are
warning the Democratic-led Congress that imposing such liability would dry up
funding for mortgage loans.
Consumer advocates, meanwhile, say it is the best way to rein in Wall
Street's aggressive role in the increasingly complex mortgage market, which
boomed in recent years amid lax standards for borrowers with weak, or subprime,
credit.
Ira Rheingold, executive director of the National Association of Consumer
Advocates in Washington, foresees a heated battle on the issue this fall. If
companies that package mortgage securities and investors in them knew they could
be liable, "they might actually look at the loans that they're buying, which
they haven't' been doing," Rheingold said.
However, it is unrealistic for investors to be expected to check to see
whether loans were fraudulently issued, said George Miller, executive director
of the American Securitization Forum, which includes buyers and sellers of
securities backed by mortgages and other assets. "The investor isn't sitting
there when a lender and broker are...at the table," he said.
The issue of assigning liability is gaining attention as lawsuits stemming
from foreclosures rise.
"Many of those borrowers didn't know what kind of loans they were getting
and have a good argument that misrepresentations were made," said Kurt Eggert, a
professor at Chapman University's law school.
Nevertheless, in the majority of states, most borrowers are not able to hold
the current owners of their home loans responsible for the actions of the
original lender, Eggert said.
That prevents borrowers, even if they are the victim of predatory loans,
from successfully arguing in court to stop foreclosures, consumer groups say.
Seven states -- North Carolina, New Jersey, New Mexico, New York, Illinois,
Massachusetts and Rhode Island -- have some level of mortgage liability for
investors, according to the Center for Responsible Lending, a Durham, N.C.
consumer group. Federal law currently limits that liability to the loans defined
as "high-cost" by the government, of which few are made.
If investors in mortgage-backed bonds face broad, unlimited liability, "the
market will dry up," said Scott DeFife, co-head of legislative affairs at the
Securities Industry and Financial Markets Association, which spent $2.6 million
lobbying the federal government in the first half of the year.
Traditionally, banks and thrifts made home loans to borrowers and held them
on their books. But residential mortgages have increasingly been packaged into
securities, sliced into different levels of risk and then sold to investors in a
process called securitization.
At a hearing earlier this year, Republicans warned against overzealous
efforts to create legal responsibilities, citing Georgia's experience as a
textbook case. Georgia's 2002 predatory lending law allowed borrowers to seek
punitive damages from anyone who bought a loan or a security that included the
loan.
In response, major credit-rating agencies decided they would no longer rate
the quality of securities containing Georgia home loans, leading to a mass
withdrawal of lenders from the state. Georgia lawmakers subsequently changed
their law limiting liability for loan abuses to original lenders.
House lawmakers, led by Rep. Barney Frank, D-Mass., chairman of the House
Financial Services Committee, plan to introduce multifaceted mortgage
legislation in the coming weeks. The details are still being worked out, but
Frank said in an interview last month that investment banks that package
mortgages into securities should have the responsibility to make sure loans are
not predatory.
Rep. Brad Miller, D.-N.C., who plans to co-sponsor a bill with Frank, said
the House bill will probably include protections against lawsuits for loans that
don't show obvious signs of being predatory. Among those signs, he said, are
requirements that borrowers pay penalties if they want to pay off their loans
early.
"What we want to do is end predatory loans, but make sure that we don't
regulate lending to death," Miller said.
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