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Senate, House financial overhaul targets lending practices of mortgage crisis

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By Dina ElBoghdady
Washington Post Staff Writer
Thursday, May 27, 2010

Tucked into the landmark financial legislation making its way through Congress are little-publicized provisions aimed at preventing a repeat of the mortgage meltdown that ultimately doomed global financial markets.

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The measures are designed to curb abusive lending practices that lured people into ill-suited loans prone to foreclosure. The overarching goal is to align the financial incentives of lenders with the financial well-being of consumers.

The provisions would change the way loan officers are compensated, hold lenders responsible for the loans they make, require them to extend mortgages only to borrowers who can repay them and limit penalties for those who pay off their loans early.

"It would have been unthinkable to get through financial reform without addressing the mortgage market because this is why were are in the mess we're in," said Julia Gordon, senior policy counsel at the Center for Responsible Lending, which supports the provisions.

Advocates for the mortgage industry, who have resisted federal regulation in the past, are likely to push back on some of the finer points of the measures. But the industry has accepted that some of the changes are inevitable. The measures are included in both the House and Senate versions of the financial overhaul legislation, and a final bill is scheduled to reach President Obama for his signature this summer.

Limiting compensation

One of the key provisions deals with the compensation of loan officers and mortgage brokers, who act as middlemen between borrowers and lenders. Loan officers and brokers have often been rewarded with extra fees for placing borrowers in loans with higher interest rates than they qualified for.

The House and Senate bills would end that practice by barring lenders from sweetening compensation for loans with higher rates or other features, such as prepayment penalties. The Federal Reserve has been working on a similar proposal since summer.

Consumer advocates have long argued that incentive-based pay contributed to the mortgage meltdown by encouraging brokers and loan officers to steer borrowers toward mortgages they wouldn't be able to keep paying. Critics say many borrowers did not understand they were being sold loans that were bad for them but good for the lenders.

"The consumer and the lender often were not acting with the same information and the same sophistication," said Barry Zigas, housing policy director at the Consumer Federation of America.

Industry representatives deny that the extra fees motivated lenders to betray the borrower's best interest. Industry officials say higher-rate loans can be justified if a lender is willing to close on a loan more quickly than a competitor or if a lender accepts lower credit scores or higher debt loans.

"But the reality is that when you have the Senate, the House and the Fed all looking at compensation, we will see a change in compensation," said John A. Courson, chief executive of the Mortgage Bankers Association.

Loan officers also would not be paid extra for issuing mortgages with prepayment penalties, large fees imposed on borrowers who pay off their original loans early. Those loans were considered more valuable to investors because they crimped a borrower's ability to refinance when they got a cheaper offer.


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