Congress was urged yesterday to tighten regulations on the nation's $100 billion home equity loan market.
Rep. Frank Annunzio (D-Ill.) said the amount of such loans outstanding has grown fivefold since 1981 to $100 billion last year. In little more than a year the home equity loan has become one of the hottest products in the banking industry.
A home equity loan essentially is a second mortgage. Because of changes last year in the federal tax law, consumers are using home equity loans to finance such things as education and vacations as well as home improvements. The new federal tax law allows consumers to deduct interest payments on home equity loans while phasing out the interest deductions for other consumer loans.
Annunzio said the home equity loan -- which carries the risk of foreclosure in case of default -- could do "more damage to American homes than termites." He called for contingency planning "so that both the borrower and the lender know what is expected if interest rates suddenly rise."
Deceptive advertising and lack of timely information about terms are the principal drawbacks as the loans are now marketed, said Rep. David E. Price (D-N.C.), who has introduced legislation to require more disclosure.
This approach is similar to that of the Federal Reserve. Martha R. Seger, the Federal Reserve governor, told the hearing yesterday that the Fed next month will recommend amendments to the Truth in Lending Act to make it apply to home equity loans.
Rep. Charles E. Schumer (D-N.Y.) yesterday recommended a tougher stance. He plans to introduce legislation that would outlaw the use of interest-only payments that result in balloon payments at the end of the loan period. He also would ban nonpublic indexes that allow lenders to raise variable interest rates as much as they wish. It would not allow the interest rate on a loan to rise more than 2 percentage points in any one year.
Schumer cited the case of a San Francisco bank that offers a home equity loan allowing the customer to pay only 1.5 percent of the balance for five years and then requires a balloon payment of the entire amount of the loan. The minimum line of credit is $25,000.
Alan Fox of the Consumer Federation of America and Michelle Meier of Consumers Union said that some banks have unilaterally changed the contract terms after the loan is granted. They said a Bank of America spokesman volunteered that the lender had changed the formula for determining the variable rate on the loan.
Seger acknowledged that there were some "slime balls" making home equity loans, but said the Fed had received no complaints from consumers.
Studies by the American Bankers Association and the Consumer Bankers Association show that lenders and borrowers are taking a conservative approach to home equity loans. Home owners are drawing only about half of the credit line authorized by bankers and are not using it for frivolous purposes, the studies say.
Industry representatives generally agreed that more disclosures about the rates, fees and other provisions of the loans should be required in advertising. However, they objected to any attempt by Congress to impose substantive changes in terms such as rate caps or termination-at-will clauses.