Vol. 78 Wednesday, No. 20 January 30, 2013

Part II

Bureau of Consumer Financial Protection

12 CFR Part 1026 Ability-to-Repay and Qualified Mortgage Standards under the Truth in Lending Act (Regulation Z); Final Rule

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BUREAU OF CONSUMER FINANCIAL community-based lenders, housing particular underwriting models. At a PROTECTION stabilization programs, certain minimum, creditors generally must refinancing programs of the Federal consider eight underwriting factors: (1) 12 CFR Part 1026 National Mortgage Association (Fannie Current or reasonably expected income [CFPB–2011–0008; CFPB–2012–0022] Mae) or the Federal Home or assets; (2) current employment status; Mortgage Corporation (Freddie Mac) (3) the monthly payment on the covered RIN 3170–AA17 (collectively, the GSEs) and Federal transaction; (4) the monthly payment on agencies, and small portfolio creditors. any simultaneous loan; (5) the monthly Ability-to-Repay and Qualified The Bureau expects to finalize the payment for mortgage-related Mortgage Standards Under the Truth in concurrent proposal this spring so that obligations; (6) current obligations, Lending Act (Regulation Z) affected creditors can prepare for the alimony, and child support; (7) the AGENCY: Bureau of Consumer Financial January 2014 effective date. monthly debt-to-income ratio or residual income; and (8) credit history. Protection. Background ACTION: Final rule; official Creditors must generally use reasonably During the years preceding the interpretations. reliable third-party records to verify the mortgage crisis, too many mortgages information they use to evaluate the SUMMARY: The Bureau of Consumer were made to consumers without regard factors. Financial Protection (Bureau) is to the consumer’s ability to repay the The rule provides guidance as to the amending Regulation Z, which . Loose underwriting practices by application of these factors under the implements the Truth in Lending Act some creditors—including failure to statute. For example, monthly payments (TILA). Regulation Z currently prohibits verify the consumer’s income or must generally be calculated by a creditor from making a higher-priced and qualifying consumers for mortgages assuming that the loan is repaid in without regard to the based on ‘‘teaser’’ rates that substantially equal monthly payments consumer’s ability to repay the loan. would cause monthly payments to jump during its term. For adjustable-rate The final rule implements sections 1411 to unaffordable levels after the first few mortgages, the monthly payment must and 1412 of the Dodd-Frank Wall Street years—contributed to a mortgage crisis be calculated using the fully indexed Reform and Consumer Protection Act that led to the nation’s most serious rate or an introductory rate, whichever (Dodd-Frank Act), which generally recession since the Great Depression. is higher. Special payment calculation require creditors to make a reasonable, In response to this crisis, in 2008 the rules apply for loans with balloon good faith determination of a Federal Reserve Board (Board) adopted payments, interest-only payments, or consumer’s ability to repay any a rule under the Truth in Lending Act negative amortization. consumer credit transaction secured by which prohibits creditors from making The final rule also provides special a dwelling (excluding an open-end ‘‘higher-price mortgage loans’’ without rules to encourage creditors to refinance credit plan, timeshare plan, reverse assessing consumers’ ability to repay the ‘‘non-standard mortgages’’—which mortgage, or temporary loan) and loans. Under the Board’s rule, a creditor include various types of mortgages establishes certain protections from is presumed to have complied with the which can lead to payment shock that liability under this requirement for ability-to-repay requirements if the can result in default—into ‘‘standard ‘‘qualified mortgages.’’ The final rule creditor follows certain specified mortgages’’ with fixed rates for at least also implements section 1414 of the underwriting practices. This rule has five years that reduce consumers’ Dodd-Frank Act, which limits been in effect since October 2009. monthly payments. Presumption for Qualified Mortgages. prepayment penalties. Finally, the final In the 2010 Dodd-Frank Wall Street The Dodd-Frank Act provides that rule requires creditors to retain evidence Reform and Consumer Protection Act, ‘‘qualified mortgages’’ are entitled to a of compliance with the rule for three Congress required that for residential presumption that the creditor making years after a covered loan is mortgages, creditors must make a the loan satisfied the ability-to-repay consummated. reasonable and good faith determination based on verified and documented requirements. However, the Act did not DATES: The rule is effective January 10, information that the consumer has a specify whether the presumption of 2014. reasonable ability to repay the loan compliance is conclusive (i.e., creates a FOR FURTHER INFORMATION CONTACT: according to its terms. Congress also safe harbor) or is rebuttable. The final Joseph Devlin, Gregory Evans, David established a presumption of rule provides a safe harbor for loans that Friend, Jennifer Kozma, Eamonn K. compliance for a certain category of satisfy the definition of a qualified Moran, or Priscilla Walton-Fein, mortgages, called ‘‘qualified mortgages.’’ mortgage and are not ‘‘higher-priced,’’ Counsels; Thomas J. Kearney or Mark These provisions are similar, but not as generally defined by the Board’s 2008 Morelli, Senior Counsels; or Stephen identical to, the Board’s 2008 rule and rule. The final rule provides a rebuttable Shin, Managing Counsel, Office of cover the entire mortgage market rather presumption for higher-priced mortgage Regulations, at (202) 435–7700. than simply higher-priced mortgages. loans, as described further below. SUPPLEMENTARY INFORMATION: The Board proposed a rule to implement The line the Bureau is drawing is one the new statutory requirements before that has long been recognized as a rule I. Summary of the Final Rule authority passed to the Bureau to of thumb to separate prime loans from The Consumer Financial Protection finalize the rule. subprime loans. Indeed, under the Bureau (Bureau) is issuing a final rule existing regulations that were adopted to implement laws requiring mortgage Summary of Final Rule by the Board in 2008, only higher-priced lenders to consider consumers’ ability to The final rule contains the following mortgage loans are subject to an ability- repay home loans before extending them key elements: to-repay requirement and a rebuttable credit. The rule will take effect on Ability-to-Repay Determinations. The presumption of compliance if creditors January 10, 2014. final rule describes certain minimum follow certain requirements. The new The Bureau is also releasing a requirements for creditors making rule strengthens the requirements proposal to seek comment on whether to ability-to-repay determinations, but needed to qualify for a rebuttable adjust the final rule for certain does not dictate that they follow presumption for subprime loans and

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defines with more particularity the payments be calculated based on the underwriting standards; debt-to-income grounds for rebutting the presumption. highest payment that will apply in the ratios must be considered but are not Specifically, the final rule provides that first five years of the loan and that the subject to the 43 percent general consumers may show a violation with consumer have a total (or ‘‘back-end’’) requirement. regard to a subprime qualified mortgage debt-to-income ratio that is less than or Creditors are only eligible to make by showing that, at the time the loan equal to 43 percent. The appendix to the rural balloon-payment qualified was originated, the consumer’s income rule details the calculation of debt-to- mortgages if they originate at least 50 and debt obligations left insufficient income for these purposes, drawing percent of their first-lien mortgages in residual income or assets to meet living upon Federal Housing Administration counties that are rural or underserved, expenses. The analysis would consider guidelines for such calculations. The have less than $2 billion in assets, and the consumer’s monthly payments on Bureau believes that these criteria will (along with their affiliates) originate no the loan, loan-related obligations, and protect consumers by ensuring that more than 500 first-lien mortgages per any simultaneous loans of which the creditors use a set of underwriting year. The Bureau will designate a list of creditor was aware, as well as any requirements that generally safeguard ‘‘rural’’ and ‘‘underserved’’ counties recurring, material living expenses of affordability. At the same time, these each year, and has defined coverage which the creditor was aware. Guidance criteria provide bright lines for creditors more broadly than originally had been accompanying the rule notes that the who want to make qualified mortgages. proposed. Creditors must generally hold longer the period of time that the The Bureau also believes that there the loans on their portfolios for three consumer has demonstrated actual are many instances in which individual years in order to maintain their ability to repay the loan by making consumers can afford a debt-to-income ‘‘qualified mortgage’’ status. timely payments, without modification ratio above 43 percent based on their Other Final Rule Provisions. The final or accommodation, after consummation particular circumstances, but that such rule also implements Dodd-Frank Act or, for an adjustable-rate mortgage, after loans are better evaluated on an provisions that generally prohibit recast, the less likely the consumer will individual basis under the ability-to- prepayment penalties except for certain be able to rebut the presumption based repay criteria rather than with a blanket fixed-rate, qualified mortgages where on insufficient residual income. presumption. In light of the fragile state the penalties satisfy certain restrictions With respect to prime loans—which of the mortgage market as a result of the and the creditor has offered the are not currently covered by the Board’s recent mortgage crisis, however, the consumer an alternative loan without ability-to-repay rule—the final rule Bureau is concerned that creditors may such penalties. To match with certain applies the new ability-to-repay initially be reluctant to make loans that statutory changes, the final rule also requirements but creates a strong are not qualified mortgages, even though lengthens to three years the time presumption for those prime loans that they are responsibly underwritten. The creditors must retain records that constitute qualified mortgages. Thus, if final rule therefore provides for a evidence compliance with the ability-to- a prime loan satisfies the qualified second, temporary category of qualified repay and prepayment penalty mortgage criteria described below, it mortgages that have more flexible provisions and prohibits evasion of the will be conclusively presumed that the underwriting requirements so long as rule by structuring a closed-end creditor made a good faith and they satisfy the general product feature extension of credit that does not meet reasonable determination of the prerequisites for a qualified mortgage the definition of open-end credit as an consumer’s ability to repay. and also satisfy the underwriting open-end plan. General Requirements for Qualified requirements of, and are therefore Summary of Concurrent Proposal Mortgages. The Dodd-Frank Act sets eligible to be purchased, guaranteed or certain product-feature prerequisites insured by either (1) the GSEs while The concurrent proposal seeks and affordability underwriting they operate under Federal comment on whether the general ability- requirements for qualified mortgages conservatorship or receivership; or (2) to-repay and qualified mortgage rule and vests discretion in the Bureau to the U.S. Department of Housing and should be modified to address potential decide whether additional underwriting Urban Development, Department of adverse consequences on certain or other requirements should apply. The Veterans Affairs, or Department of narrowly-defined categories of lending final rule implements the statutory Agriculture or Rural Housing Service. programs. Because those measures were criteria, which generally prohibit loans This temporary provision will phase out not proposed by the Board originally, with negative amortization, interest- over time as the various Federal the Bureau believes additional public only payments, balloon payments, or agencies issue their own qualified input would be helpful. Specifically, the terms exceeding 30 years from being mortgage rules and if GSE proposal seeks comment on whether it qualified mortgages. So-called ‘‘no-doc’’ conservatorship ends, and in any event would be appropriate to exempt loans where the creditor does not verify after seven years. designated non-profit lenders, income or assets also cannot be Rural Balloon-Payment Qualified homeownership stabilization programs, qualified mortgages. Finally, a loan Mortgages. The final rule also and certain Federal agency and GSE generally cannot be a qualified mortgage implements a special provision in the refinancing programs from the ability- if the points and fees paid by the Dodd-Frank Act that would treat certain to-repay requirements because they are consumer exceed three percent of the balloon-payment mortgages as qualified subject to their own specialized total loan amount, although certain mortgages if they are originated and underwriting criteria. ‘‘bona fide discount points’’ are held in portfolio by small creditors The proposal also seeks comment on excluded for prime loans. The rule operating predominantly in rural or whether to create a new category of provides guidance on the calculation of underserved areas. This provision is qualified mortgages, similar to the one points and fees and thresholds for designed to assure credit availability in for rural balloon-payment mortgages, for smaller loans. rural areas, where some creditors may loans without balloon-payment features The final rule also establishes general only offer balloon-payment mortgages. that are originated and held on portfolio underwriting criteria for qualified Loans are only eligible if they have a by small creditors. The new category mortgages. Most importantly, the term of at least five years, a fixed- would not be limited to lenders that general rule requires that monthly interest rate, and meet certain basic operate predominantly in rural or

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underserved areas, but would use the United States since the Great some consumers who would have same general size thresholds and other Depression.2 qualified for ‘‘prime’’ loans were steered criteria as the rural balloon-payment The expansion in this market is into subprime loans as well.7 The Alt- rules. The proposal also seeks comment commonly attributed to both particular A category of loans permitted on whether to increase the threshold economic conditions (including an era consumers to take out mortgage loans separating safe harbor and rebuttable of low interest rates and rising housing while providing little or no presumption qualified mortgages for prices) and to changes within the documentation of income or other both rural balloon-payment qualified industry. Interest rates dropped evidence of repayment ability. Because significantly—by more than 20 these loans involved additional risk, mortgages and the new small portfolio 3 qualified mortgages, in light of the fact percent—from 2000 through 2003. they were typically more expensive to Housing prices increased dramatically— that small creditors often have higher consumers than ‘‘prime’’ mortgages, about 152 percent—between 1997 and costs of funds than larger creditors. although many of them had very low 2006.4 Driven by the decrease in interest introductory interest rates. In 2003, Specifically, the Bureau is proposing a rates and the increase in housing prices, subprime and Alt-A origination volume threshold of 3.5 percentage points above the volume of refinancings increased was about $400 billion; in 2006, it had APOR for first-lien loans. rapidly, from about 2.5 million loans in reached $830 billion.8 II. Background 2000 to more than 15 million in 2003.5 So long as housing prices were In the mid-2000s, the market continuing to increase, it was relatively For over 20 years, consumer experienced a steady deterioration of easy for consumers to refinance their advocates, legislators, and regulators credit standards in mortgage lending, existing loans into more affordable have raised concerns about creditors with evidence that loans were made products to avoid interest rate resets and originating mortgage loans without solely against collateral, or even against other adjustments. When housing prices regard to the consumer’s ability to repay expected increases in the value of began to decline in 2005, however, the loan. Beginning in about 2006, these collateral, and without consideration of refinancing became more difficult and concerns were heightened as mortgage ability to repay. This deterioration of delinquency rates on subprime and Alt- delinquencies and rates credit standards was particularly A products increased dramatically.9 increased dramatically, caused in part evidenced by the growth of ‘‘subprime’’ More and more consumers, especially and ‘‘Alt-A’’ products, which consumers those with subprime and Alt-A loans, by the loosening of underwriting 6 standards. See 73 FR 44524 (July 30, were often unable to repay. Subprime were unable or unwilling to make their products were sold primarily to 2008). The following discussion mortgage payments. An early sign of the consumers with poor or no credit provides background information, mortgage crisis was an upswing in early history, although there is evidence that payment defaults—generally defined as including a brief summary of the borrowers being 60 or more days legislative and regulatory responses to 2 See Thomas F. Siems, Branding the Great delinquent within the first year. Prior to the foregoing concerns, which Recession, Fin. Insights (Fed. Reserve Bank of Dall.) 2006, 1.1 percent of mortgages would May 13, 2012, at 3, available at http:// culminated in the enactment of the end up 60 or more days delinquent Dodd-Frank Act on July 21, 2010, the www.dallasfed.org/assets/documents/banking/firm/ fi/fi1201.pdf (stating that the [great recession] ‘‘was within the first two years.10 Taking a Board’s May 11, 2011, proposed rule to the longest and deepest economic contraction, as more expansive definition of early implement certain amendments to TILA measured by the drop in real GDP, since the Great payment default to include 60 days made by the Dodd-Frank Act, and now Depression.’’). 3 See U.S. Dep’t of Hous. & Urban Dev., An delinquent within the first two years, the Bureau’s issuance of this final rule Analysis of Mortgage Refinancing, 2001–2003, at 2 this figure was double the historic to implement sections 1411, 1412, and (2004) (‘‘An Analysis of Mortgage Refinancing, average during 2006, 2007 and 2008.11 1414 of that act. 2001–2003’’), available at www.huduser.org/ In 2006, 2007, and 2008, 2.3 percent, 2.1 Publications/pdf/MortgageRefinance03.pdf; percent, and 2.3 percent of mortgages A. The Mortgage Market Souphala Chomsisengphet & Anthony Pennington- Cross, The Evolution of the Subprime Mortgage ended up 60 or more days delinquent Overview of the Market and the Market, 88 Fed. Res. Bank of St. Louis Rev. 31, 48 within the first two years, respectively. Mortgage Crisis (2006), available at http://research.stlouisfed.org/ By the summer of 2006, 1.5 percent of publications/review/article/5019. loans less than a year old were in The mortgage market is the single 4 U.S. Fin. Crisis Inquiry Comm’n, The Financial Crisis Inquiry Report: Final Report of the National largest market for consumer financial Commission on the Causes of the Financial and 7 For example, the Federal Reserve Board on July products and services in the United Economic Crisis in the United States 156 (Official 18, 2011, issued a consent cease and desist order Gov’t ed. 2011) (‘‘FCIC Report’’), available at and assessed an $85 million civil money penalty States, with approximately $9.9 trillion against Wells Fargo & Company of San Francisco, 1 http://www.gpo.gov/fdsys/pkg/GPO-FCIC/pdf/GPO- in mortgage loans outstanding. During FCIC.pdf. a registered bank holding company, and Wells the last decade, the market went 5 An Analysis of Mortgage Refinancing, 2001– Fargo Financial, Inc., of Des Moines. The order through an unprecedented cycle of 2003, at 1. addresses allegations that Wells Fargo Financial employees steered potential prime-eligible 6 FCIC Report at 88. These products included expansion and contraction that was consumers into more costly subprime loans and most notably 2/28 and 3/27 hybrid adjustable rate fueled in part by the securitization of separately falsified income information in mortgage mortgages (ARMs) and option ARM products. Id. at applications. In addition to the civil money penalty, mortgages and creation of increasingly 106. A hybrid ARM is an adjustable rate mortgage the order requires that Wells Fargo compensate loan that has a low fixed introductory rate for a sophisticated derivative products. So affected consumers. See Press Release, Fed. Reserve certain period of time. An option ARM is an many other parts of the American Bd. (July 20, 2011), available at http:// adjustable rate mortgage loan that has a scheduled www.federalreserve.gov/newsevents/press/ financial system were drawn into loan payment that may result in negative enforcement/20110720a.htm. mortgage-related activities that, when amortization for a certain period of time, but that 8 the housing market collapsed in 2008, it expressly permits specified larger payments in the Inside Mortg. Fin., Mortgage Originations by Product, in 1. The 2011 Mortgage Market Statistical sparked the most severe recession in the contract or servicing documents, such as an interest-only payment or a fully amortizing Annual 20 (2011). payment. For these loans, the scheduled negatively 9 FCIC Report at 215–217. 1 Fed. Reserve Sys., Flow of Funds Accounts of amortizing payment was typically described in 10 CoreLogic’s TrueStandings Servicing (reflects the United States, at 67 tbl.L.10 (2012), available at marketing and servicing materials as the ‘‘optional first-lien mortgage loans) (data service accessible http://www.federalreserve.gov/releases/z1/Current/ payment.’’ These products were often marketed to only through paid subscription). z1.pdf (as of the end of the third quarter of 2012). subprime customers. 11 Id.

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default, and this figure peaked at 2.5 foreclosure rates remain at foreclosure.19 Since 2008, several other percent in late 2007, well above the 1.0 unprecedented levels.17 Federal government efforts have percent peak in the 2000 recession.12 endeavored to keep the country’s Response and Government Programs First payment defaults—mortgages housing finance system functioning, taken out by consumers who never In light of these conditions, the including the Treasury Department’s made a single payment—exceeded 1.5 Federal government began providing and the Federal Reserve System’s percent of loans in early 2007.13 In support to the mortgage markets in 2008 mortgage-backed securities (MBS) addition, as the economy worsened, the and continues to do so at extraordinary purchase programs to help keep interest rates of serious delinquency (90 or more levels today. The Housing and rates low and the Federal Housing days past due or in foreclosure) for the Economic Recovery Act of 2008, which Administration’s (FHA’s) increased subprime and Alt-A products began a became effective on October 1, 2008, market presence. As a result, mortgage steep increase from approximately 10 provided both new safeguards and credit has remained available, albeit percent in 2006, to 20 percent in 2007, increased regulation for and with more restrictive underwriting to more than 40 percent in 2010.14 Freddie Mac, as well as provisions to terms that limit or preclude some The impact of this level of assist troubled borrowers and to the consumers’ access to credit. These same delinquencies was severe on creditors hardest hit communities. Fannie Mae government agencies together with the who held loans on their books and on and Freddie Mac, which supported the GSEs and other market participants private investors who purchased loans mainstream mortgage market, have also undertaken a series of efforts directly or through securitized vehicles. experienced heavy losses and were to help families avoid foreclosure Prior to and during the bubble, the placed in conservatorship by the through loan-modification programs, evolution of the securitization of Federal government in 2008 to support loan-refinance programs and foreclosure 20 mortgages attracted increasing the collapsing mortgage market.18 alternatives. involvement from financial institutions Because private investors have Size and Volume of the Current that were not directly involved in the withdrawn from the mortgage Mortgage Origination Market extension of credit to consumers and securitization market and there are no Even with the economic downturn from investors worldwide. other effective secondary market and tightening of credit standards, Securitization of mortgages allows mechanisms in place, the GSEs’ approximately $1.28 trillion in mortgage originating creditors to sell off their continued operations help ensure that loans were originated in 2011.21 In loans (and reinvest the funds earned in the secondary mortgage market exchange for an extension of mortgage making new ones) to investors who continues to function and to assist credit, consumers promise to make want an income stream over time. consumers in obtaining new mortgages regular mortgage payments and provide Securitization had been pioneered by or refinancing existing mortgages. The their home or real as collateral. what are now called government- Troubled Asset Relief Program (TARP), The overwhelming majority of sponsored enterprises (GSEs), including created to implement programs to homebuyers continue to use mortgage the Federal National Mortgage stabilize the financial system during the loans to finance at least some of the Association (Fannie Mae) and the financial crisis, was authorized through Federal Home Loan Mortgage the Emergency Economic Stabilization 19 The Making Home Affordable Program (MHA) Corporation (Freddie Mac). But by the Act of 2008 (EESA), as amended by the is the umbrella program for Treasury’s homeowner early 2000s, large numbers of private American Recovery and Reinvestment assistance and foreclosure mitigation efforts. The financial institutions were deeply Act of 2009, and includes programs to main MHA components are the Home Affordable involved in creating increasingly Modification Program (HAMP), a Treasury program help struggling homeowners avoid that uses TARP funds to provide incentives for complex mortgage-related investment mortgage servicers to modify eligible first-lien vehicles through securities and 17 Lender Processing Servs., PowerPoint mortgages, and two initiatives at the GSEs that use derivative products. The private Presentation, LPS Mortgage Monitor: May 2012 non-TARP funds. Incentive payments for securitization-backed subprime and Alt- Mortgage Performance Observations, Data as of modifications to loans owned or guaranteed by the April 2012 Month End, 3, 11 (May 2012), available GSEs are paid by the GSEs, not TARP. Treasury A mortgage market ground to a halt in at http://www.lpsvcs.com/ over time expanded MHA to include sub-programs 2007 in the face of the rising LPSCorporateInformation/CommunicationCenter/ designed to overcome obstacles to sustainable delinquencies on subprime and Alt-A DataReports/Pages/Mortgage-Monitor.aspx. HAMP modifications. Treasury also allocated TARP products.15 18 The Housing and Economic Recovery Act of funds to support two additional housing support 2008 (HERA), which created the Federal Housing efforts: An FHA refinancing program and TARP Six years later, the United States Finance Agency (FHFA), granted the Director of funding for 19 state housing finance agencies, continues to grapple with the fallout. FHFA discretionary authority to appoint FHFA called the Housing Finance Agency Hardest Hit The fall in housing prices is estimated conservator or receiver of the Enterprises ‘‘for the Fund. In the first half of 2012, Treasury extended purpose of reorganizing, rehabilitating, or winding the application period for HAMP by a year to to have resulted in about $7 trillion in December 31, 2013, and opened HAMP to non- 16 up the affairs of a regulated entity.’’ Housing and household wealth losses. In addition, Economic Recovery Act of 2008, section 1367 (a)(2), owner-occupied rental and to consumers distressed homeownership and amending the Federal Housing Enterprises with a wider range of debt-to-income ratios under Financial Safety and Soundness Act of 1992, 12 ‘‘HAMP Tier 2.’’ U.S.C. 4617(a)(2). On September 6, 2008, FHFA 20 The Home Affordable Refinance Program 12 Id. at 215. (CoreLogic Chief Economist Mark exercised that authority, placing the Federal (HARP) is designed to help eligible homeowners Fleming told the FCIC that the early payment National Mortgage Association (Fannie Mae) and refinance their mortgage. HARP is designed for default rate ‘‘certainly correlates with the increase the Federal Home Loan Mortgage Corporation those homeowners who are current on their in the Alt-A and subprime shares and the turn of (Freddie Mac) into conservatorships. The two GSEs mortgage payments but have been unable to get the housing market and the sensitivity of those loan have since received more than $180 billion in traditional refinancing because the value of their products.’’). support from the Treasury Department. Through the homes has declined. For a mortgage to be 13 Id. second quarter of 2012, Fannie Mae has drawn considered for a HARP refinance, it must be owned 14 Id. at 217. $116.1 billion and Freddie Mac has drawn $71.3 or guaranteed by the GSEs. HARP ends on 15 Id. at 124. billion, for an aggregate draw of $187.5 billion from December 31, 2013. 16 The U.S. Housing Market: Current Conditions the Treasury Department. Fed. Hous. Fin. Agency, 21 Moody’s Analytics, Credit Forecast 2012 (2012) and Policy Considerations, at 3 (Fed. Reserve Bd., Conservator’s Report on the Enterprises’ Financial (‘‘Credit Forecast 2012’’), available at http:// White Paper, 2012), available at http:// Performance, at 17 (Second Quarter 2012), available www.economy.com/default.asp (reflects first-lien www.federalreserve.gov/publications/other-reports/ at http://www.fhfa.gov/webfiles/24549/ mortgage loans) (data service accessibly only files/housing-white-paper-20120104.pdf. ConservatorsReport2Q2012.pdf. through paid subscription).

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purchase price of their property. In GSEs have bought or guaranteed roughly loans originated in 2011, consumers had 2011, 93 percent of all home purchases three of every four mortgages originated a FICO score over 700 and a DTI less were financed with a mortgage credit in the country. Mortgages guaranteed by than 44 percent.32 According to the transaction.22 FHA make up most of the rest.27 Federal Reserve’s Senior Loan Officer Consumers may obtain mortgage Outside of the securitization available Opinion Survey on Bank Lending credit to purchase a home, to refinance through the Government National Practices, in April 2012 nearly 60 an existing mortgage, to access home Mortgage Association (Ginnie Mae) for percent of creditors reported that they equity, or to finance home loans primarily backed by FHA, there would be much less likely, relative to improvement. Purchase loans and are very few alternatives in place today 2006, to originate a conforming home- refinancings together produced 6.3 to assume the secondary market purchase mortgage 33 to a consumer million new first-lien mortgage loan functions served by the GSEs.28 with a 10 percent down payment and a 23 credit score of 620—a traditional marker originations in 2011. The proportion Continued Fragility of the Mortgage for those consumers with weaker credit of loans that are for purchases as Market opposed to refinances varies with the histories.34 The Federal Reserve Board interest rate environment and other The current mortgage market is calculates that the share of mortgage market factors. In 2011, 65 percent of especially fragile as a result of the recent borrowers with credit scores below 620 the market was refinance transactions mortgage crisis. Tight credit remains an has fallen from about 17 percent of and 35 percent was purchase loans, by important factor in the contraction in consumers at the end of 2006 to about volume.24 Historically the distribution mortgage lending seen over the past few 5 percent more recently.35 Creditors also has been more even. In 2000, refinances years. Mortgage loan terms and credit appear to have pulled back on offering accounted for 44 percent of the market standards have tightened most for these consumers loans insured by the while purchase loans comprised 56 consumers with lower credit scores and FHA, which provides mortgage percent; in 2005, the two products were with less money available for a down insurance on loans made by FHA- split evenly.25 payment. According to CoreLogic’s approved creditors throughout the With a home equity transaction, a TrueStandings Servicing, a proprietary United States and its territories and is homeowner uses his or her equity as data service that covers about two-thirds especially structured to help promote collateral to secure consumer credit. of the mortgage market, average affordability.36 The credit proceeds can be used, for underwriting standards have tightened The Bureau is acutely aware of the example, to pay for home considerably since 2007. Through the high levels of anxiety in the mortgage improvements. Home equity credit first nine months of 2012, for consumers market today. These concerns include that have received closed-end first-lien the continued slow pace of recovery, the transactions and home equity lines of 29 credit resulted in an additional 1.3 mortgages, the weighted average FICO confluence of multiple major regulatory million mortgage loan originations in score was 750, the loan-to-value (LTV) and capital initiatives, and the 26 ratio was 78 percent, and the debt-to- compliance burdens of the various 2011. 30 The market for higher-priced income (DTI) ratio was 34.5 percent. Dodd-Frank Act rulemakings (including mortgage loans remains significant. Data In comparison, in the peak of the uncertainty on what constitutes a reported under the Home Mortgage housing bubble in 2007, the weighted qualified residential mortgage (QRM), Disclosure Act (HMDA) show that in average FICO score was 706, the LTV which, as discussed below, relates to the was 80 percent, and the DTI was 39.8 Dodd-Frank Act’s credit risk retention 2011 approximately 332,000 31 transactions, including subordinate percent. requirements and mortgage In this tight credit environment, the liens, were reportable as higher-priced securitizations). These concerns are data suggest that creditors are not mortgage loans. Of these transactions, causing discussion about whether willing to take significant risks. In terms refinancings accounted for creditors will consider exiting the of the distribution of origination approximately 44 percent of the higher- business. The Bureau acknowledges that characteristics, for 90 percent of all the it will likely take some time for the priced mortgage loan market, and 90 Fannie Mae and Freddie Mac mortgage percent of the overall higher-priced mortgage market to stabilize and that creditors will need to adjust their mortgage loan market involved first-lien 27 Fed. Hous. Fin. Agency, A Strategic Plan for transactions. The median first-lien operations to account for several major Enterprise Conservatorships: The Next Chapter in a regulatory and capital regimes. higher-priced mortgage loan was for Story that Needs an Ending, at 14 (2012) (‘‘FHFA $81,000, while the interquartile range Report’’), available at http://www.fhfa.gov/webfiles/ B. TILA and Regulation Z (quarter of the transactions are below, 23344/StrategicPlanConservatorshipsFINAL.pdf. 28 FHFA Report at 8–9. Secondary market In 1968, Congress enacted the Truth quarter of the transactions are above) issuance remains heavily reliant upon the explicitly in Lending Act (TILA), 15 U.S.C. 1601 was $47,000 to $142,000. government guaranteed securities of FNMA, FHLMC, and GNMA. Through the first three GSE-eligible loans, together with the 32 quarters of 2012, approximately $1.2 trillion of the Id. other federally insured or guaranteed 33 $1.33 trillion in mortgage originations have been A conforming mortgage is one that is eligible loans, cover the majority of the current securitized, less than $10 billion of the $1.2 trillion for purchase or credit guarantee by Fannie Mae or mortgage market. Since entering were non-agency mortgage backed securities. Inside Freddie Mac. conservatorship in September 2008, the Mortgage Finance (Nov. 2, 2012), at 4. 34 Fed. Reserve Bd., Senior Loan Officer Opinion 29 FICO is a type of credit score that makes up a Survey on Bank Lending Practices, available at substantial portion of the credit report that lenders http://www.federalreserve.gov/boarddocs/ 22 Inside Mortg. Fin., New Homes Sold by use to assess an applicant’s credit risk and whether SnLoanSurvey/default.htm. Financing, in 1 The 2012 Mortgage Market to extend a loan 35 Federal Reserve Board staff calculations based Statistical Annual 12 (2012). 30 CoreLogic, TrueStandings Servicing Database, on the Federal Reserve Bank of New York 23 Credit Forecast 2012. available at http://www.truestandings.com (data Consumer Credit Panel. The 10th percentile of 24 Inside Mortg. Fin., Mortgage Originations by reflects first-lien mortgage loans) (data service credit scores on mortgage originations rose from 585 Product, in The 2012 Mortgage Market Statistical accessible only through paid subscription). in 2006 to 635 at the end of 2011. Annual 17 (2012). According to CoreLogic’s TrueStandings Servicing, 36 FHA insures mortgages on single family and 25 Id. These percentages are based on the dollar FICO reports that in 2011, approximately 38 percent multifamily homes including manufactured homes amount of the loans. of consumers receiving first-lien mortgage credit and hospitals. It is the largest insurer of mortgages 26 Credit Forecast (2012) (reflects open-end and had a FICO score of 750 or greater. in the world, insuring over 34 million properties closed-end home equity loans). 31 Id. since its inception in 1934.

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et seq., based on findings that the and Equity Protection Act (HOEPA) as consumer based on the consumer’s informed use of credit resulting from part of the Riegle Community collateral without regard to the consumers’ awareness of the cost of Development and Regulatory consumer’s repayment ability, including credit would enhance economic Improvement Act of 1994. Public Law the consumer’s current and expected stability and competition among 103–325, 108 Stat. 2160. HOEPA was income, current obligations, and consumer credit providers. One of the enacted as an amendment to TILA to employment. TILA section 129(h); 15 purposes of TILA is to promote the address abusive practices in refinancing U.S.C. 1639(h). informed use of consumer credit by and home-equity mortgage loans with In addition to the disclosures and requiring disclosures about its costs and high interest rates or high fees.37 Loans limitations specified in the statute, terms. See 15 U.S.C. 1601. TILA that meet HOEPA’s high-cost triggers are HOEPA expanded the Board’s requires additional disclosures for loans subject to special disclosure rulemaking authority, among other secured by consumers’ homes and requirements and restrictions on loan things, to prohibit acts or practices the permits consumers to rescind certain terms, and consumers with high-cost Board found to be unfair and deceptive transactions secured by their principal mortgages have enhanced remedies for 40 dwellings when the required disclosures violations of the law.38 in connection with mortgage loans. are not provided. 15 U.S.C. 1635, 1637a. The statute applied generally to In 1995, the Board implemented the Section 105(a) of TILA directs the closed-end mortgage credit, but HOEPA amendments at §§ 226.31, Bureau (formerly directed the Board of excluded purchase money mortgage 226.32, and 226.33 41 of Regulation Z. Governors of the Federal Reserve loans and reverse mortgages. Coverage See 60 FR 15463 (Mar. 24, 1995). In System) to prescribe regulations to carry was triggered where a loan’s annual particular, § 226.32(e)(1) 42 implemented out TILA’s purposes and specifically percentage rate (APR) exceeded TILA section 129(h)’s ability-to-repay authorizes the Bureau, among other comparable Treasury securities by requirements to prohibit a creditor from things, to issue regulations that contain specified thresholds for particular loan engaging in a pattern or practice of such additional requirements, types, or where points and fees extending a high-cost mortgage based on classifications, differentiations, or other exceeded eight percent of the total loan the consumer’s collateral without regard provisions, or that provide for such amount or a dollar threshold.39 to the consumer’s repayment ability, adjustments and exceptions for all or For high-cost loans meeting either of including the consumer’s current any class of transactions, that in the those thresholds, HOEPA required income, current obligations, and Bureau’s judgment are necessary or creditors to provide special pre- employment status. proper to effectuate the purposes of disclosures, restricted prepayment In 2001, the Board published TILA, facilitate compliance thereof, or penalties and certain other loan terms, additional significant changes to expand prevent circumvention or evasion and regulated various creditor practices, both HOEPA’s protections to more loans therewith. See 15 U.S.C. 1604(a). such as extending credit without regard General rulemaking authority for to a consumer’s ability to repay the loan. by revising the TILA transferred to the Bureau in July HOEPA also provided a mechanism for (APR) threshold for first-lien mortgage 2011, other than for certain motor consumers to rescind covered loans that loans, expanded the definition of points vehicle dealers in accordance with the included certain prohibited terms and to and fees to include the cost of optional Dodd-Frank Act section 1029, 12 U.S.C. obtain higher damages than are allowed credit insurance and debt cancellation 5519. Pursuant to the Dodd-Frank Act for other types of TILA violations. premiums, and enhanced the and TILA, as amended, the Bureau Finally, HOEPA amended TILA section restrictions associated with high-cost published for public comment an 131, 15 loans. See 66 FR 65604 (Dec. 20, 2001). interim final rule establishing a new U.S.C. 1641, to provide that In addition, the ability-to-repay Regulation Z, 12 CFR part 1026, purchasers of high-cost loans generally provisions in the regulation were implementing TILA (except with respect are subject to all claims and defenses revised to provide for a presumption of to persons excluded from the Bureau’s against the original creditor with respect a violation of the rule if the creditor rulemaking authority by section 1029 of to the mortgage, including a creditor’s engages in a pattern or practice of the Dodd-Frank Act). 76 FR 79768 (Dec. failure to make an ability-to-repay making high-cost mortgages without 22, 2011). This rule did not impose any determination before making the loan. verifying and documenting the new substantive obligations but did HOEPA created special substantive consumer’s repayment ability. make technical and conforming changes protections for high-cost mortgages, to reflect the transfer of authority and such as prohibiting a creditor from 40 As discussed above, with the enactment of the certain other changes made by the engaging in a pattern or practice of Dodd-Frank Act, general rulemaking authority for TILA, including HOEPA, transferred from the Board Dodd-Frank Act. The Bureau’s extending a high-cost mortgage to a to the Bureau on July 21, 2011. Regulation Z took effect on December 41 Subsequently renumbered as sections 1026.31, 30, 2011. The Official Staff 37 HOEPA amended TILA by adding new sections 1026.32, and 1026.33 of Regulation Z. As discussed Interpretations interpret the 103(aa) and 129, 15 U.S.C. 1602(aa) and 1639. above, pursuant to the Dodd-Frank Act and TILA, requirements of the regulation and 38 HOEPA defines a class of ‘‘high-cost as amended, the Bureau published for public mortgages,’’ which are generally closed-end home- comment an interim final rule establishing a new provides guidance to creditors in equity loans (excluding home-purchase loans) with Regulation Z, 12 CFR part 1026, implementing applying the rules to specific annual percentage rates (APRs) or total points and TILA (except with respect to persons excluded from transactions. See 12 CFR part 1026, fees exceeding prescribed thresholds. Mortgages the Bureau’s rulemaking authority by section 1029 Supp. I. covered by the HOEPA amendments have been of the Dodd-Frank Act). 76 FR 79768 (Dec. 22, referred to as ‘‘HOEPA loans,’’ ‘‘Section 32 loans,’’ 2011). The Bureau’s Regulation Z took effect on C. The Home Ownership and Equity or ‘‘high-cost mortgages.’’ The Dodd-Frank Act now December 30, 2011. 42 Protection Act (HOEPA) and HOEPA refers to these loans as ‘‘high-cost mortgages.’’ See Subsequently renumbered as section Dodd-Frank Act section 1431; TILA section 103(aa). 1026.32(e)(1) of Regulation Z. Rules For simplicity and consistency, this final rule uses 43 Along with the Board, the other Federal In response to evidence of abusive the term ‘‘high-cost mortgages’’ to refer to mortgages banking agencies included the Office of the covered by the HOEPA amendments. Comptroller of the Currency (OCC), the Federal practices in the home-equity lending 39 The Dodd-Frank Act adjusted the baseline for Deposit Insurance Corporation (FDIC), Office of market, in 1994 Congress amended the APR comparison, lowered the points and fees Thrift Supervision (OTS), and the National Credit TILA by enacting the Home Ownership threshold, and added a prepayment trigger. Union Administration (NCUA).

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D. 2006 and 2007 Interagency E. 2008 HOEPA Final Rule Board concluded that a prohibition on Supervisory Guidance After the Board finalized the 2001 making individual loans without regard HOEPA rules, new consumer protection for repayment ability was necessary to In December 2005, the Federal ensure a remedy for consumers who are 43 issues arose in the mortgage market. In banking agencies responded to given unaffordable loans and to deter concerns about the rapid growth of 2006 and 2007, the Board held a series of national hearings on consumer irresponsible lending, which injures nontraditional mortgages in the individual consumers. The 2008 previous two years by proposing protection issues in the mortgage market. During those hearings, HOEPA Final Rule provides a supervisory guidance. Nontraditional presumption of compliance with the mortgages are mortgages that allow the consumer advocates and government officials expressed a number of higher-priced mortgage ability-to-repay consumer to defer repayment of requirements if the creditor follows principal and sometimes interest. The concerns, and urged the Board to prohibit or restrict certain underwriting certain procedures regarding guidance advised institutions of the underwriting the loan payment, need to reduce ‘‘risk layering’’ with practices, such as ‘‘stated income’’ or ‘‘low documentation’’ loans, and certain assessing the debt-to-income ratio or respect to these products, such as by residual income, and limiting the failing to document income or lending product features, such as prepayment penalties. See 73 FR 44527 (July 30, features of the loan, in addition to nearly the full appraised value of the following certain procedures mandated home. The final guidance issued in 2008). The Board was also urged to adopt additional regulations under for all creditors. See § 1026.34(a)(4)(iii) September 2006 specifically advised and (iv). However, the 2008 HOEPA creditors that layering risks in HOEPA, because, unlike the Interagency Supervisory Guidance, the regulations Final Rule makes clear that even if the nontraditional mortgage loans to creditor follows the required and would apply to all creditors and would consumers receiving subprime credit optional criteria, the creditor has merely be enforceable by consumers through may significantly increase risks to obtained a presumption of compliance civil actions. As discussed above, in consumers as well as institutions. See with the repayment ability requirement. 1995 the Board implemented TILA Interagency Guidance on Nontraditional The consumer can still rebut or section 129(h)’s ability-to-repay Mortgage Product Risks, 71 FR 58609 overcome that presumption by showing requirements for high-cost mortgage (Oct. 4, 2006) (2006 Nontraditional that, despite following the required and loans. In 2008, the Board exercised its Mortgage Guidance). optional procedures, the creditor authority under HOEPA to extend The Federal banking agencies nonetheless disregarded the consumer’s certain consumer protections addressed concerns about the subprime ability the loan. concerning a consumer’s ability to repay market in March 2007 with proposed and prepayment penalties to a new F. The Dodd-Frank Act supervisory guidance addressing the category of ‘‘higher-priced mortgage heightened risks to consumers and In 2007, Congress held numerous loans’’ (HPMLs) 45 institutions of adjustable-rate mortgages with APRs that are hearings focused on rising subprime with two- or three-year ‘‘teaser’’ interest lower than those prescribed for high- foreclosure rates and the extent to rates followed by substantial increases cost loans but that nevertheless exceed which lending practices contributed to in the rate and payment. The guidance, the average prime offer rate by them.46 Consumer advocates testified finalized in June of 2007, set out the prescribed amounts. This new category standards institutions should follow to of loans was designed to include 46 E.g., Progress in Administration and Other Efforts to Coordinate and Enhance Mortgage ensure consumers in the subprime subprime credit. Specifically, the Board exercised its authority to revise Foreclosure Prevention: Hearing before the H. market obtain loans they can afford to Comm. on Fin. Servs., 110th Cong. (2007); repay. Among other steps, the guidance HOEPA’s restrictions on high-cost loans Legislative Proposals on Reforming Mortgage based on a conclusion that the revisions Practices: Hearing before the H. Comm. on Fin. advised creditors: (1) To use the fully Servs., 110th Cong. (2007); Legislative and indexed rate and fully-amortizing were necessary to prevent unfair and deceptive acts or practices in Regulatory Options for Minimizing and Mitigating payment when qualifying consumers for Mortgage : Hearing before the H. loans with adjustable rates and connection with mortgage loans. 73 FR Comm. on Fin. Servs., 110th Cong. (2007); Ending potentially non-amortizing payments; 44522 (July 30, 2008) (2008 HOEPA Mortgage Abuse: Safeguarding Homebuyers: Final Rule). The Board determined that Hearing before the S. Subcomm. on Hous., Transp., (2) to limit stated income and reduced and Cmty. Dev. of the S. Comm. on Banking, Hous., documentation loans to cases where imposing the burden to prove ‘‘pattern and Urban Affairs, 110th Cong. (2007); Improving mitigating factors clearly minimize the or practice’’ on an individual consumer Federal Consumer Protection in Financial Services: Hearing before the H. Comm. on Fin. Servs., 110th need for full documentation of income; would leave many consumers with a lesser remedy, such as those provided Cong. (2007); The Role of the Secondary Market in and (3) to provide that prepayment Subprime Mortgage Lending: Hearing before the penalty clauses expire a reasonable under some State laws, or without any Subcomm. on Fin. Insts. and Consumer Credit of period before reset, typically at least 60 remedy for loans made without regard the H. Comm. on Fin. Servs., 110th Cong. (2007); to repayment ability. In particular, the Possible Responses to Rising Mortgage Foreclosures: days. See Statement on Subprime Hearing before the H. Comm. on Fin. Servs., 110th Mortgage Lending, 72 FR 37569 (July 10, Cong. (2007); Subprime Mortgage Market Turmoil: 45 Under the Board’s 2008 HOEPA Final Rule, a 2007) (2007 Subprime Mortgage Examining the Role of Securitization: Hearing higher-priced mortgage loan is a consumer credit before the Subcomm. on Secs., Ins., and Inv. of the 44 Statement). The Conference of State transaction secured by the consumer’s principal S. Comm. on Banking, Hous., and Urban Affairs, Bank Supervisors (CSBS) and the dwelling with an APR that exceeds the average 110th Cong. (2007); Subprime and Predatory American Association of Residential prime offer rate (APOR) for a comparable Lending: New Regulatory Guidance, Current Market transaction, as of the date the interest rate is set, by Conditions, and Effects on Regulated Financial Mortgage Regulators (AARMR) issued 1.5 or more percentage points for loans secured by Institutions: Hearing before the Subcomm. on Fin. parallel statements for state supervisors a first lien on the dwelling, or by 3.5 or more Insts. and Consumer Credit of the H. Comm. on Fin. to use with state-supervised entities, percentage points for loans secured by a Servs., 110th Cong. (2007); Mortgage Market and many states adopted the statements. subordinate lien on the dwelling. The definition of Turmoil: Causes and Consequences, Hearing before a ‘‘higher-priced mortgage loan’’ includes the S. Comm. on Banking, Hous., and Urban practically all ‘‘high-cost mortgages’’ because the Affairs, 110th Cong. (2007); Preserving the 44 The 2006 Nontraditional Mortgage Guidance latter transactions are determined by higher loan American Dream: Practices and and the 2007 Subprime Mortgage Statement will pricing threshold tests. See 12 CFR 226.35(a)(1), Home Foreclosures, Hearing before the S. Comm. on hereinafter be referred to collectively as the since codified in parallel by the Bureau at 12 CFR Banking, Hous., and Urban Affairs, 110th Cong. ‘‘Interagency Supervisory Guidance.’’ 1026.35(a)(1). (2007).

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that certain lending terms or practices providers.48 In addition, Congress residential mortgage credit and the contributed to the foreclosures, provided the Bureau with authority, practices related to such credit, while including a failure to consider the subject to certain limitations, to enforce ensuring that responsible, affordable consumer’s ability to repay, low- or no- the Federal consumer financial laws, mortgage credit remains available to documentation loans, hybrid adjustable- including the 18 enumerated consumer consumers.’’ TILA section 129B(a)(1), 15 rate mortgages, and prepayment laws. Title X of the Dodd-Frank Act, and U.S.C. 1639b(a)(1). Section 1402 of the penalties. Industry representatives, on rules thereunder. The Bureau can bring Dodd-Frank Act further states that the the other hand, testified that adopting civil actions in court and administrative purpose of TILA section 129C is to substantive restrictions on subprime enforcement proceedings to obtain ‘‘assure that consumers are offered and loan terms would risk reducing access remedies such as civil penalties and receive residential mortgage loans on to credit for some consumers. In cease-and-desist orders. terms that reasonably reflect their ability response to these hearings, the of At the same time, Congress to repay the loans.’’ TILA section Representatives passed the Mortgage significantly amended the statutory 129B(a)(2), 15 U.S.C. 1639b(a)(2). Reform and Anti-Predatory Lending Act, requirements governing mortgage Specifically, TILA section 129C: both in 2007 and again in 2009. H.R. practices with the intent to restrict the • Expands coverage of the ability-to- 3915, 110th Cong. (2007); H.R. 1728, practices that contributed to the crisis. repay requirements to any consumer 111th Cong. (2009). Both bills would Title XIV of the Dodd-Frank Act credit transaction secured by a dwelling, have amended TILA to provide contains a modified version of the except an open-end credit plan, credit consumer protections for mortgages, Mortgage Reform and Anti-Predatory secured by an interest in a timeshare including ability-to-repay requirements, Lending Act.49 The Dodd-Frank Act plan, , or temporary but neither bill was passed by the requires the Bureau to propose loan. Senate. Instead, both shifted consolidation of the major federal • Prohibits a creditor from making a their focus to enacting comprehensive mortgage disclosures, imposes new mortgage loan unless the creditor makes financial reform legislation. requirements and limitations to address a reasonable and good faith In December 2009, the House passed a wide range of consumer mortgage determination, based on verified and the Wall Street Reform and Consumer issues, and imposes credit risk retention documented information, that the Protection Act of 2009, its version of requirements in connection with consumer has a reasonable ability to comprehensive financial reform mortgage securitization. repay the loan according to its terms, legislation, which included an ability- Through the Dodd-Frank Act, and all applicable taxes, insurance, and to-repay and qualified mortgage Congress expanded HOEPA to apply to assessments. provision. H.R. 4173, 111th Cong. more types of mortgage transactions, • Provides a presumption of (2009). In May 2010, the Senate passed including purchase money mortgage compliance with the ability-to-repay its own version of ability-to-repay loans and home-equity lines of credit. requirements if the mortgage loan is a requirements in its own version of Congress also amended HOEPA’s ‘‘qualified mortgage,’’ which does not comprehensive financial reform existing high-cost triggers, added a contain certain risky features and does legislation, called the Restoring prepayment penalty trigger, and not exceed certain thresholds for points American Financial Stability Act of expanded the protections associated and fees on the loan and which meets 2010. S. 3217, 111th Cong. (2010). After with high-cost mortgages.50 such other criteria as the Bureau may conference committee negotiations, the In addition, sections 1411, 1412, and prescribe. Dodd-Frank Act was passed by both 1414 of the Dodd-Frank Act created new • Prohibits prepayment penalties houses of Congress and was signed into TILA section 129C, which establishes, unless the mortgage is a fixed-rate law on July 21, 2010. Public Law 111– among other things, new ability-to-repay qualified mortgage that is not a higher- 203, 124 Stat. 1376 (2010). requirements and new limits on priced mortgage loan, and the amount In the Dodd-Frank Act, Congress prepayment penalties. Section 1402 of and duration of the prepayment penalty established the Bureau and, under the Dodd-Frank Act states that Congress are limited. sections 1061 and 1100A, generally created new TILA section 129C upon a The statutory ability-to-repay consolidated the rulemaking authority finding that ‘‘economic stabilization standards reflect Congress’s belief that for Federal consumer financial laws, would be enhanced by the protection, certain lending practices (such as low- including TILA and RESPA, in the limitation, and regulation of the terms of or no-documentation loans or Bureau.47 Congress also provided the underwriting loans without regard to Bureau, among other things, with 48 Sections 1024 through 1026 of the Dodd-Frank principal repayment) led to consumers supervision authority for Federal Act, codified at 12 U.S.C. 5514 through 5516. having mortgages they could not afford, consumer financial laws over certain 49 Although S. Rept. No. 111–176 contains resulting in high default and foreclosure general legislative history concerning the Dodd- rates. Accordingly, new TILA section entities, including insured depository Frank Act and the Senate ability-to-repay institutions and credit unions with total provisions, it does not address the House Mortgage 129C generally prohibits a creditor from assets over $10 billion and their Reform and Anti-Predatory Lending Act. Separate making a residential mortgage loan affiliates, and mortgage-related non- legislative history for the predecessor House bills is unless the creditor makes a reasonable available in H. Rept. No. 110–441 for H.R. 3915 and good faith determination, based on depository financial services (2007), and H. Rept. No. 111–194 for H.R. 1728 (2009). verified and documented information, 47 Sections 1011 and 1021 of the Dodd-Frank Act, 50 Under the Dodd-Frank Act, HOEPA protections that the consumer has a reasonable in title X, the ‘‘Consumer Financial Protection Act,’’ would be triggered where: (1) A loan’s annual ability to repay the loan according to its Public Law 111–203, secs. 1001–1100H, codified at percentage rate (APR) exceeds the average prime terms. 12 U.S.C. 5491, 5511. The Consumer Financial offer rate by 6.5 percentage points for most first-lien Protection Act is substantially codified at 12 U.S.C. mortgages and 8.5 percentage points for subordinate To provide more certainty to creditors 5481–5603. Section 1029 of the Dodd-Frank Act lien mortgages; (2) a loan’s points and fees exceed while protecting consumers from excludes from this transfer of authority, subject to 5 percent of the total transaction amount, or a unaffordable loans, the Dodd-Frank Act certain exceptions, any rulemaking authority over a higher threshold for loans below $20,000; or (3) the provides a presumption of compliance motor vehicle dealer that is predominantly engaged creditor may charge a prepayment penalty more in the sale and servicing of motor vehicles, the than 36 months after loan consummation or account with the ability-to-repay requirements leasing and servicing of motor vehicles, or both. 12 opening, or penalties that exceed more than 2 for certain ‘‘qualified mortgages.’’ TILA U.S.C. 5519. percent of the amount prepaid. section 129C(b)(1) states that a creditor

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or assignee may presume that a loan has the mortgage was a high-cost mortgage. 15G requires the QRM agencies to met the repayment ability requirement if TILA section 131(d). jointly define what constitutes a QRM, the loan is a qualified mortgage. In addition to the foregoing ability-to- taking into consideration underwriting Qualified mortgages are prohibited from repay provisions, the Dodd-Frank Act and product features that historical loan containing certain features that Congress established other new standards performance data indicate result in a considered to increase risks to concerning a wide range of mortgage lower risk of default. See 15 U.S.C. 78o– consumers and must comply with lending practices, including 11(e)(4). Notably, section 15G also certain limits on points and fees. compensation of mortgage originators,51 provides that the definition of a QRM Federal mortgage disclosures,52 and shall be ‘‘no broader than’’ the The Dodd-Frank Act creates special mortgage servicing.53 Those and other definition of a ‘‘qualified mortgage,’’ as remedies for violations of TILA section Dodd-Frank Act provisions are the the term is defined under TILA section 129C. As amended by section 1416 of subjects of other rulemakings by the 129C(b)(2), as amended by the Dodd- the Dodd-Frank Act, TILA provides that Bureau. For additional information on Frank Act, and regulations adopted a consumer who brings a timely action those other rulemakings, see the thereunder. 15 U.S.C. 78o–11(e)(4)(C). against a creditor for a violation of TILA discussion below in part III.C. On April 29, 2011, the QRM agencies section 129C(a) (the ability-to-repay issued joint proposed risk retention G. Qualified Residential Mortgage requirements) may be able to recover rules, including a proposed QRM special statutory damages equal to the Rulemaking definition (2011 QRM Proposed Rule). sum of all finance charges and fees paid Section 15G of the Securities See 76 FR 24090 (Apr. 29, 2011). The by the consumer, unless the creditor Exchange Act of 1934, added by section proposed rule has not been finalized. demonstrates that the failure to comply 941(b) of the Dodd-Frank Act, generally Among other requirements, the 2011 is not material. TILA section 130(a). requires the securitizer of asset-backed QRM Proposed Rule incorporates the This recovery is in addition to: (1) securities (ABS) to retain not less than qualified mortgage restrictions on Actual damages; (2) statutory damages five percent of the credit risk of the negative amortization, interest-only, and in an individual action or class action, assets collateralizing the ABS. 15 U.S.C. balloon payments, limits points and fees up to a prescribed threshold; and (3) 78o–11. The Dodd-Frank Act’s credit to three percent of the loan amount, and court costs and attorney fees that would risk retention requirements are aimed at prohibits prepayment penalties. The be available for violations of other TILA addressing weaknesses and failures in proposed rule also establishes provisions. In addition, the statute of the securitization process and the underwriting standards designed to limitations for a violation of TILA securitization markets.54 By requiring ensure that QRMs have high credit section 129C is three years from the date that the securitizer retain a portion of quality, including: of the occurrence of the violation (as the credit risk of the assets being • A maximum ‘‘front-end’’ monthly compared to one year for most other securitized, the Dodd-Frank Act debt-to-income ratio (which looks at TILA violations, except for actions provides securitizers an incentive to only the consumer’s mortgage payment brought under section 129 or 129B, or monitor and ensure the quality of the relative to income, but not at other actions brought by a State attorney assets underlying a securitization debts) of 28 percent; • general to enforce a violation of section transaction. Six Federal agencies (not A maximum ‘‘back-end’’ monthly 129, 129B, 129C, 129D, 129E, 129F, including the Bureau) are tasked with debt-to-income ratio (which includes all 129G, or 129H, which may be brought implementing this requirement. Those of the consumer’s debt, not just the agencies are the Board, Office of the mortgage payment) of 36 percent; not later than 3 years after the date on • which the violation occurs, and private Comptroller of the Currency (OCC), A maximum loan-to-value (LTV) education loans under 15 U.S.C. Federal Deposit Insurance Corporation ratio of 80 percent in the case of a 1650(a), which may be brought not later (FDIC), Securities and Exchange purchase transaction (with a lesser than one year from the due date of first Commission (SEC), Federal Housing combined LTV permitted for refinance regular payment of principal). TILA Finance Agency (FHFA), and transactions); • A 20 percent down payment section 130(e). Moreover, as amended Department of Housing and Urban requirement in the case of a purchase by section 1413 of the Dodd-Frank Act, Development (HUD) (collectively, the transaction; and TILA provides that when a creditor, or QRM agencies). Section 15G of the Securities • Credit history verification and an assignee, other holder or their agent Exchange Act of 1934 provides that the documentation requirements. initiates a foreclosure action, a credit risk retention requirements shall The proposed rule also includes consumer may assert a violation of TILA not apply to an issuance of ABS if all appraisal requirements, restrictions on section 129C(a) ‘‘as a matter of defense of the assets that collateralize the ABS the assumability of the mortgage, and by recoupment or setoff.’’ TILA section are ‘‘qualified residential mortgages’’ requires the creditor to commit to 130(k). There is no time limit on the use (QRMs). See 15 U.S.C. 78o– certain servicing policies and of this defense and the amount of 11(c)(1)(C)(iii), (4)(A) and (B). Section procedures regarding loss mitigation. recoupment or setoff is limited, with See 76 FR at 24166–67. respect to the special statutory damages, 51 Sections 1402 through 1405 of the Dodd-Frank To provide clarity on the definitions, to no more than three years of finance Act, codified at 15 U.S.C. 1639b. calculations, and verification charges and fees. For high-cost loans an 52 Section 1032(f) of the Dodd-Frank Act, codified requirements for the QRM standards, assignee generally continues to be at 12 U.S.C. 5532(f). the 2011 QRM Proposed Rule subject to all claims and defenses, not 53 Sections 1418, 1420, 1463, and 1464 of the incorporates certain definitions and key Dodd-Frank Act, codified at 12 U.S.C. 2605; 15 only in foreclosure, with respect to that U.S.C. 1638, 1638a, 1639f, and 1639g. terms established by HUD and required mortgage that the consumer could assert 54 As noted in the legislative history of section to be used by creditors originating FHA- against the creditor of the mortgage, 15G of the Securities Exchange Act of 1934, insured residential mortgages. See 76 FR unless the assignee demonstrates, by a ‘‘[w]hen securitizers retain a material amount of at 24119. Specifically, the 2011 QRM preponderance of evidence, that a risk, they have ‘skin in the game,’ aligning their economic interest with those of investors in asset- Proposed Rule incorporates the reasonable person exercising ordinary backed securities.’’ See S. Rept. 176, 111th Cong., definitions and standards set out in the due diligence, could not determine that at 129 (2010). HUD Handbook 4155.1 (New Version),

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Mortgage Credit Analysis for Mortgage preparing this final rule, the Bureau has proposal would not have required the Insurance, as in effect on December 31, consulted regularly with the QRM creditor to verify the consumer’s income 2010, for determining and verifying the agencies to coordinate the qualified or assets. Third, the proposal would consumer’s funds and the consumer’s mortgage and qualified residential have allowed a creditor to originate a monthly housing debt, total monthly mortgage definitions. However, while qualified mortgage, which provides debt, and monthly gross income.55 the Bureau’s qualified mortgage special protection from liability for The qualified mortgage and QRM definition will set the outer boundary of creditors. Because the Board determined definitions are distinct and relate to a QRM, the QRM agencies have that it was unclear whether that different parts of the Dodd-Frank Act discretion under the Dodd-Frank Act to protection is intended to be a safe with different purposes, but both are define QRMs in a way that is stricter harbor or a rebuttable presumption of designed to address problems that had than the qualified mortgage definition. compliance with the repayment ability arisen in the mortgage origination requirement, the Board proposed two III. Summary of the Rulemaking process. The qualified mortgage alternative definitions of a qualified standard provides creditors with a Process mortgage.59 Finally, the proposal would presumption of compliance with the A. The Board’s Proposal have allowed a small creditor operating requirement in TILA section 129C(a) to In 2011, the Board published for predominantly in rural or underserved assess a consumer’s ability to repay a public comment a proposed rule areas to originate a balloon-payment residential mortgage loan. The purpose amending Regulation Z to implement qualified mortgage if the loan term is of these provisions is to ensure that the foregoing ability-to-repay five years or more, and the payment consumers are offered and receive amendments to TILA made by the calculation is based on the scheduled residential mortgage loans on terms that Dodd-Frank Act. See 76 FR 27390 (May periodic payments, excluding the reasonably reflect their ability to repay 60 11, 2011) (2011 ATR Proposal, the balloon payment. The Board’s the loans. See TILA section 129B(a)(2). Board’s proposal or the proposal). proposal also would have implemented The Dodd-Frank Act’s credit risk the Dodd-Frank Act’s limits on Consistent with the Dodd-Frank Act, the retention requirements are intended to prepayment penalties, lengthened the Board’s proposal applied the ability-to- address problems in the securitization time creditors must retain evidence of repay requirements to any consumer markets and in mortgage markets by compliance with the ability-to-repay credit transaction secured by a dwelling requiring that securitizers, as a general and prepayment penalty provisions, and (including vacation home loans and matter, retain an economic interest in prohibited evasion of the rule by home equity loans), except an open-end the credit risk of the assets they structuring a closed-end extension of credit plan, extension of credit secured securitize. The QRM credit risk credit that does not meet the definition by a consumer’s interest in a timeshare retention requirement was meant to of an open-end plan. As discussed plan, reverse mortgage, or temporary incentivize creditors to make more above, rulemaking authority under TILA loan with a term of 12 months or less. generally transferred from the Board to responsible loans because they will The Board’s proposal provided four 56 the Bureau in July 2011, including the need to keep some skin in the game. options for complying with the ability- Nevertheless, as discussed above, the authority under Dodd-Frank Act section to-repay requirement, including by Dodd-Frank Act requires that the QRM 1412 to prescribe regulations to carry making a ‘‘qualified mortgage.’’ First, definition be ‘‘no broader than’’ the out the purposes of the qualified the proposal would have allowed a qualified mortgage definition. Therefore, mortgage rules. 12 U.S.C. 5512; 12 creditor to meet the general ability-to- in issuing the 2011 QRM Proposed Rule, U.S.C. 5581; 15 U.S.C. 1639c. As repay standard by originating a covered the QRM agencies sought to incorporate discussed above, TILA section 105(a) mortgage loan for which the creditor the statutory qualified mortgage directs the Bureau to prescribe considered and verified eight standards, in addition to other regulations to carry out the purposes of underwriting factors in determining requirements, into the QRM definition. repayment ability, and, for adjustable 76 FR at 24118. This approach was 59 The Board’s proposed first alternative would rate loans, the mortgage payment designed to minimize the potential for have operated as a legal safe harbor and define a calculation is based on the fully indexed ‘‘qualified mortgage’’ as a mortgage for which: (a) conflicts between the QRM standards in rate.57 Second, the proposal would have The loan does not contain negative amortization, the proposed rule and the qualified interest-only payments, or balloon payments, or a allowed a creditor to refinance a ‘‘non- mortgage definition that the Bureau loan term exceeding 30 years; (b) the total points standard mortgage’’ into a ‘‘standard and fees do not exceed 3 percent of the total loan would ultimately adopt in a final rule. mortgage.’’ 58 Under this option, the amount; (c) the consumer’s income or assets are In the 2011 QRM Proposed Rule, the verified and documented; and (d) the underwriting QRM agencies stated their expectation of the mortgage is based on the maximum interest 57 to monitor the rules adopted by the The eight factors are: (1) Current or reasonably rate in the first five years, uses a payment schedule expected income or assets; (2) current employment that fully amortizes the loan over the loan term, and Bureau under TILA to define a qualified status; (3) the monthly payment on the mortgage; takes into account any mortgage-related obligations. mortgage and to review those rules to (4) the monthly payment on any simultaneous loan; The Board’s proposed second alternative would ensure that the definition of QRM in the (5) the monthly payment for mortgage-related have provided a rebuttable presumption of final rule is ‘‘no broader’’ than the obligations; (6) current debt obligations; (7) the compliance and defined a ‘‘qualified mortgage’’ as monthly debt-to-income ratio, or residual income; including the criteria listed above in the first definition of a qualified mortgage and to and (8) credit history. alternative as well as considering and verifying the appropriately implement the Dodd- 58 This alternative is based on a Dodd-Frank Act following additional underwriting requirements Frank Act’s credit risk retention provision that is meant to provide flexibility for from the ability-to-repay standard: The consumer’s requirement. See 76 FR at 24118. In certain streamlined refinancings, which are no- or employment status, the monthly payment for any low-documentation transactions designed to simultaneous loan, the consumer’s current debt refinance a consumer quickly under certain obligations, the total debt-to-income ratio or 55 See U.S. Dep’t of Hous. & Urban Dev., Housing circumstances, when such refinancings would residual income, and the consumer’s credit history. Handbook 4155.1, Mortgage Credit Analysis for move consumers out of risky mortgages and into 60 This alternative is based on statutory provision. (rev. Mar. 2011) (‘‘HUD more stable mortgage products—what the proposal TILA section 129C(b)(2)(E); 15 U.S.C. 1639c. As the Handbook 4155.1’’), available at http:// defined as mortgage loans that, among other things, Board’s proposal noted, this standard is evidently portal.hud.gov/hudportal/HUD?src=/ do not contain negative amortization, interest-only meant to accommodate community banks that program_offices/administration/hudclips/ payments, or balloon payments, and have limited originate balloon-payment mortgages in lieu of handbooks/hsgh/4155.1. points and fees. TILA section 129C(a)(6)(E); 15 adjustable-rate mortgages to hedge against interest 56 See S. Rept. 176, 111th Cong., at 129 (2010). U.S.C. 1639c(a)(6)(E). rate risk.

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TILA. Except with respect to the Bureau has considered these comments homeownership counseling, including a substantive restrictions on high-cost in adopting this final rule. requirement that creditors provide lists mortgages provided in TILA section of homeownership counselors to C. Other Rulemakings 129, TILA section 105(a) authorizes the applicants for federally related mortgage Bureau to prescribe regulations that may In addition to this final rule, the loans, pursuant to RESPA section 5(c), contain additional requirements, Bureau is adopting several other final as amended by Dodd-Frank Act section classifications, differentiations, or other rules and issuing one proposal, all 1450. 12 U.S.C. 2604(c). The Bureau’s provisions, and may provide for such relating to mortgage credit to implement final rule is referred to as the 2013 adjustments and exceptions for all or requirements of title XIV of the Dodd- HOEPA Final Rule. any class of transactions that the Bureau Frank Act. The Bureau is also issuing a • Servicing: Following its August determines are necessary or proper to final rule jointly with other Federal 2012 proposals (the 2012 RESPA effectuate the purposes of TILA, to agencies to implement requirements for Servicing Proposal and 2012 TILA prevent circumvention or evasion mortgage appraisals in title XIV. Each of Servicing Proposal),63 the Bureau is thereof, or to facilitate compliance the final rules follows a proposal issued adopting final rules to implement Dodd- therewith. in 2011 by the Board or in 2012 by the Frank Act requirements regarding force- Bureau alone or jointly with other placed insurance, error resolution, B. Comments and Post-Proposal Federal agencies. Collectively, these information requests, and payment Outreach proposed and final rules are referred to crediting, as well as requirements for The Board received numerous as the Title XIV Rulemakings. mortgage loan periodic statements and comments on the proposal, including • Ability to Repay: Simultaneously adjustable-rate mortgage reset comments regarding the criteria for a with this final rule (the 2013 ATR Final disclosures, pursuant to section 6 of ‘‘qualified mortgage’’ and whether a Rule), the Bureau is issuing a proposal RESPA and sections 128, 128A, 129F, qualified mortgage provides a safe to amend certain provisions of the final and 129G of TILA, as amended or harbor or a presumption of compliance rule, including by the addition of established by Dodd-Frank Act sections with the repayment ability exemptions for certain nonprofit 1418, 1420, 1463, and 1464. 12 U.S.C. requirements. As noted above, in creditors and certain homeownership 2605; 15 U.S.C. 1638, 1638a, 1639f, and response to the proposed rule, the Board stabilization programs and a definition 1639g. The Bureau also is finalizing received approximately 1,800 letters of a ‘‘qualified mortgage’’ for certain rules on early intervention for troubled from commenters, including members of loans made and held in portfolio by and delinquent consumers, and loss Congress, creditors, consumer groups, small creditors (the 2013 ATR mitigation procedures, pursuant to the trade associations, mortgage and real Concurrent Proposal). The Bureau Bureau’s authority under section 6 of estate market participants, and expects to act on the 2013 ATR RESPA, as amended by Dodd-Frank Act individual consumers. As of July 21, Concurrent Proposal on an expedited section 1463, to establish obligations for 2011, the Dodd-Frank Act generally basis, so that any exceptions or mortgage servicers that it finds to be transferred the Board’s rulemaking adjustments can take effect appropriate to carry out the consumer authority for TILA, among other Federal simultaneously with this final rule. protection purposes of RESPA, and its consumer financial laws, to the Bureau. • Escrows: The Bureau is finalizing a authority under section 19(a) of RESPA Accordingly, all comment letters on the rule, following a March 2011 proposal to prescribe rules necessary to achieve proposed rule were also transferred to issued by the Board (the Board’s 2011 the purposes of RESPA. The Bureau’s the Bureau. Materials submitted were Escrows Proposal),61 to implement final rule under RESPA with respect to filed in the record and are publicly certain provisions of the Dodd-Frank mortgage servicing also establishes available at http://www.regulations.gov. Act expanding on existing rules that requirements for general servicing Through various comment letters and require escrow accounts to be standards policies and procedures and the Bureau’s own collection of data, the established for higher-priced mortgage continuity of contact pursuant to its Bureau received additional information loans and creating an exemption for authority under section 19(a) of RESPA. and new data pertaining to the proposed certain loans held by creditors operating The Bureau’s final rules are referred to rule. Accordingly, in May 2012, the predominantly in rural or underserved as the 2013 RESPA Servicing Final Rule Bureau reopened the comment period in areas, pursuant to TILA section 129D as and the 2013 TILA Servicing Final Rule, order to solicit further comment on data established by Dodd-Frank Act sections respectively. and new information, including data 1461. 15 U.S.C. 1639d. The Bureau’s • Loan Originator Compensation: that may assist the Bureau in defining final rule is referred to as the 2013 Following its August 2012 proposal (the loans with characteristics that make it Escrows Final Rule. 2012 Loan Originator Proposal),64 the appropriate to presume that the creditor • HOEPA: Following its July 2012 Bureau is issuing a final rule to complied with the ability-to-repay proposal (the 2012 HOEPA Proposal),62 implement provisions of the Dodd- requirements or assist the Bureau in the Bureau is issuing a final rule to Frank Act requiring certain creditors assessing the benefits and costs to implement Dodd-Frank Act and loan originators to meet certain consumers, including access to credit, requirements expanding protections for duties of care, including qualification and covered persons, as well as the ‘‘high-cost mortgages’’ under the requirements; requiring the market share covered by, alternative Homeownership and Equity Protection establishment of certain compliance definitions of a ‘‘qualified mortgage.’’ Act (HOEPA), pursuant to TILA sections procedures by depository institutions; The Bureau received approximately 160 103(bb) and 129, as amended by Dodd- prohibiting loan originators, creditors, comments in response to the reopened Frank Act sections 1431 through 1433. and the affiliates of both from receiving comment period from a variety of 15 U.S.C. 1602(bb) and 1639. The compensation in various forms commenters, including creditors, Bureau also is finalizing rules to (including based on the terms of the consumer groups, trade associations, implement certain title XIV transaction) and from sources other than mortgage and market requirements concerning participants, individuals, small entities, 63 77 FR 57200 (Sept. 17, 2012) (RESPA); 77 FR the SBA’s Office of Advocacy, and FHA. 61 76 FR 11598 (Mar. 2, 2011). 57318 (Sept. 17, 2012) (TILA). As discussed in more detail below, the 62 77 FR 49090 (Aug. 15,2012). 64 77 FR 55272 (Sept. 7, 2012).

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the consumer, with specified Estate Settlement Procedures Act, exists between coordinating the exceptions; and establishing restrictions pursuant to Dodd-Frank Act section adoption of the Title XIV Rulemakings on mandatory arbitration and financing 1032(f) and sections 4(a) of RESPA and and facilitating industry’s of single premium credit insurance, 105(b) of TILA, as amended by Dodd- implementation of such a large set of pursuant to TILA sections 129B and Frank Act sections 1098 and 1100A, new requirements. Some have suggested 129C as established by Dodd-Frank Act respectively (the 2012 TILA–RESPA that the Bureau resolve this tension by sections 1402, 1403, and 1414(a). 15 Proposal).68 Accordingly, the Bureau adopting a sequenced implementation, U.S.C. 1639b, 1639c. The Bureau’s final already has issued a final rule delaying while others have requested that the rule is referred to as the 2013 Loan implementation of various affected title Bureau simply provide a longer Originator Final Rule. XIV disclosure provisions.69 The implementation period for all of the • Appraisals: The Bureau, jointly Bureau’s approaches to coordinating the final rules. with other Federal agencies,65 is issuing implementation of the Title XIV The Bureau recognizes that many of a final rule implementing Dodd-Frank Rulemakings and to the finance charge the new provisions will require Act requirements concerning appraisals proposal are discussed in turn below. creditors to make changes to automated for higher-risk mortgages, pursuant to systems and, further, that most TILA section 129H as established by Coordinated Implementation of Title administrators of large systems are Dodd-Frank Act section 1471. 15 U.S.C. XIV Rulemakings reluctant to make too many changes to 1639h. This rule follows the agencies’ As noted in all of its foregoing their systems at once. At the same time, August 2012 joint proposal (the 2012 proposals, the Bureau regards each of however, the Bureau notes that the Interagency Appraisals Proposal).66 The the Title XIV Rulemakings as affecting Dodd-Frank Act established virtually all agencies’ joint final rule is referred to as aspects of the mortgage industry and its of these changes to institutions’ the 2013 Interagency Appraisals Final regulations. Accordingly, as noted in its compliance responsibilities, and Rule. In addition, following its August proposals, the Bureau is coordinating contemplated that they be implemented 2012 proposal (the 2012 ECOA carefully the Title XIV Rulemakings, in a relatively short period of time. And, Appraisals Proposal),67 the Bureau is particularly with respect to their as already noted, the extent of issuing a final rule to implement effective dates. The Dodd-Frank Act interaction among many of the Title XIV provisions of the Dodd-Frank Act requirements to be implemented by the Rulemakings necessitates that many of requiring that creditors provide Title XIV Rulemakings generally will their provisions take effect together. applicants with a free copy of written take effect on January 21, 2013, unless Finally, notwithstanding commenters’ appraisals and valuations developed in final rules implementing those expressed concerns for cumulative connection with applications for loans requirements are issued on or before burden, the Bureau expects that secured by a first lien on a dwelling, that date and provide for a different creditors actually may realize some pursuant to section 701(e) of the Equal effective date. See Dodd-Frank Act efficiencies from adapting their systems Credit Opportunity Act (ECOA) as section 1400(c), 15 U.S.C. 1601 note. In for compliance with multiple new, amended by Dodd-Frank Act section addition, some of the Title XIV closely related requirements at once, 1474. 15 U.S.C. 1691(e). The Bureau’s Rulemakings are to take effect no later especially if given sufficient overall final rule is referred to as the 2013 than one year after they are issued. Id. time to do so. ECOA Appraisals Final Rule. The comments on the appropriate Accordingly, the Bureau is requiring The Bureau is not at this time effective date for this final rule are that, as a general matter, creditors and finalizing proposals concerning various discussed in detail below in part VI of other affected persons begin complying disclosure requirements that were this notice. In general, however, with the final rules on January 10, 2014. added by title XIV of the Dodd-Frank consumer advocates requested that the As noted above, section 1400(c) of the Act, integration of mortgage disclosures Bureau put the protections in the Title Dodd-Frank Act requires that some under TILA and RESPA, or a simpler, XIV Rulemakings into effect as soon as provisions of the Title XIV Rulemakings more inclusive definition of the finance practicable. In contrast, the Bureau take effect no later than one year after charge for purposes of disclosures for received some industry comments the Bureau issues them. Accordingly, closed-end mortgage transactions under indicating that implementing so many the Bureau is establishing January 10, Regulation Z. The Bureau expects to new requirements at the same time 2014, one year after issuance of this finalize these proposals and to consider would create a significant cumulative final rule and the Bureau’s 2013 whether to adjust regulatory thresholds burden for creditors. In addition, many Escrows and HOEPA Final Rules (i.e., under the Title XIV Rulemakings in commenters also acknowledged the the earliest of the title XIV final rules), connection with any change in the advantages of implementing multiple as the baseline effective date for most of calculation of the finance charge later in revisions to the regulations in a the Title XIV Rulemakings. The Bureau 2013, after it has completed quantitative coordinated fashion.70 Thus, a tension believes that, on balance, this approach testing, and any additional qualitative will facilitate the implementation of the testing deemed appropriate, of the forms 68 77 FR 51116 (Aug. 23, 2012). rules’ overlapping provisions, while that it proposed in July 2012 to combine 69 77 FR 70105 (Nov. 23, 2012). also affording creditors sufficient time 70 Of the several final rules being adopted under to implement the more complex or TILA mortgage disclosures with the the Title XIV Rulemakings, six entail amendments good faith estimate (RESPA GFE) and to Regulation Z, with the only exceptions being the resource-intensive new requirements. settlement statement (RESPA settlement 2013 RESPA Servicing Final Rule (Regulation X) The Bureau has identified certain statement) required under the Real and the 2013 ECOA Appraisals Final Rule rulemakings or selected aspects thereof, (Regulation B); the 2013 HOEPA Final Rule also however, that do not present significant amends Regulation X, in addition to Regulation Z. 65 implementation burdens for industry. Specifically, the Board of Governors of the The six Regulation Z final rules involve numerous Federal Reserve System, the Office of the instances of intersecting provisions, either by cross- Accordingly, the Bureau is setting Comptroller of the Currency, the Federal Deposit references to each other’s provisions or by adopting Insurance Corporation, the National Credit Union parallel provisions. Thus, adopting some of those exist, which could undermine the ability of Administration, and the Federal Housing Finance amendments without also adopting certain other, creditors and other parties subject to the rules to Agency. closely related provisions would create significant understand their obligations and implement 66 77 FR 54722 (Sept. 5, 2012). technical issues, e.g., new provisions containing appropriate systems changes in an integrated and 67 77 FR 50390 (Aug. 21, 2012). cross-references to other provisions that do not yet efficient manner.

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earlier effective dates for those final adjustments to the affected regulatory July 21, 2011, section 1061 of the Dodd- rules or certain aspects thereof, as thresholds to counteract this Frank Act transferred to the Bureau the applicable. Those effective dates are set unintended effect. First, the Board and ‘‘consumer financial protection forth and explained in the Federal then the Bureau proposed to adopt a functions’’ previously vested in certain Registers notices for those final rules. ‘‘transaction coverage rate’’ for use as other Federal agencies, including the the metric to determine coverage of Board. The term ‘‘consumer financial More Inclusive Finance Charge Proposal these regimes in place of the APR. The protection function’’ is defined to As noted above, the Bureau proposed transaction coverage rate would have include ‘‘all authority to prescribe rules in the 2012 TILA–RESPA Proposal to been calculated solely for coverage or issue orders or guidelines pursuant to make the definition of finance charge determination purposes and would not any Federal consumer financial law, more inclusive, thus rendering the have been disclosed to consumers, who including performing appropriate finance charge and annual percentage still would have received only a functions to promulgate and review rate a more useful tool for consumers to disclosure of the expanded APR. The such rules, orders, and guidelines.’’ 72 compare the cost of credit across transaction coverage rate calculation TILA is defined as a Federal consumer different alternatives. 77 FR 51116, would exclude from the prepaid finance financial law.73 Accordingly, the Bureau 51143 (Aug. 23, 2012). Because the new charge all costs otherwise included for has authority to issue regulations definition would include additional purposes of the APR calculation except pursuant to TILA. costs that are not currently counted, it charges retained by the creditor, any A. TILA Ability-to-Repay and Qualified would cause the finance charges and mortgage broker, or any affiliate of Mortgage Provisions APRs on many affected transactions to either. Similarly, the Board and Bureau increase. This in turn could cause more proposed to reverse the effects of the As discussed above, the Dodd-Frank such transactions to become subject to more inclusive finance charge on the Act amended TILA to generally prohibit various compliance regimes under calculation of points and fees; the points a creditor from making a residential Regulation Z. Specifically, the finance and fees figure is calculated only as a mortgage loan without a reasonable and charge is central to the calculation of a HOEPA and qualified mortgage coverage good faith determination that, at the transaction’s ‘‘points and fees,’’ which metric and is not disclosed to time the loan is consummated, the in turn has been (and remains) a consumers. The Bureau also sought consumer has a reasonable ability to coverage threshold for the special comment on other potential mitigation repay the loan, along with taxes, protections afforded ‘‘high-cost measures, such as adjusting the numeric insurance, and assessments. TILA mortgages’’ under HOEPA. Points and thresholds for particular compliance section 129C(a), 15 U.S.C. 1639c(a). As fees also will be subject to a 3-percent regimes to account for the general shift described below in part IV.B, the Bureau limit for purposes of determining in affected transactions’ APRs. has authority to prescribe regulations to whether a transaction is a ‘‘qualified The Bureau’s 2012 TILA–RESPA carry out the purposes of TILA pursuant mortgage’’ under this final rule. Proposal sought comment on whether to to TILA section 105(a). 15 U.S.C. Meanwhile, the APR serves as a finalize the more inclusive finance 1604(a). In particular, it is the purpose coverage threshold for HOEPA charge proposal in conjunction with the of TILA section 129C, as amended by protections as well as for certain Title XIV Rulemakings or with the rest the Dodd-Frank Act, to assure that protections afforded ‘‘higher-priced of the TILA–RESPA Proposal consumers are offered and receive mortgage loans’’ under § 1026.35, concerning the integration of mortgage residential mortgage loans on terms that including the mandatory escrow disclosure forms. 77 FR 51116, 51125 reasonably reflect their ability to repay account requirements being amended by (Aug. 23, 2012). Upon additional the loans and that are understandable the 2013 Escrows Final Rule. Finally, consideration and review of comments and not unfair, deceptive, and abusive. because the 2013 Interagency Appraisals received, the Bureau decided to defer a TILA section 129B(a)(2); 15 U.S.C. Final Rule uses the same APR-based decision whether to adopt the more 1639b(a)(2). coverage test as is used for identifying inclusive finance charge proposal and The Dodd-Frank Act also provides higher-priced mortgage loans, the APR any related adjustments to regulatory creditors originating ‘‘qualified affects that rulemaking as well. Thus, thresholds until it later finalizes the mortgages’’ special protection from the proposed more inclusive finance TILA–RESPA Proposal. 77 FR 54843 liability under the ability-to-repay charge would have had the indirect (Sept. 6, 2012); 77 FR 54844 (Sept. 6, requirements. TILA section 129C(b), 15 effect of increasing coverage under 2012).71 Accordingly, this final rule and U.S.C. 1639c(b). TILA generally defines HOEPA and the escrow and appraisal the 2013 Escrows, HOEPA, and a ‘‘qualified mortgage’’ as a residential requirements for higher-priced mortgage Interagency Appraisals Final Rules all mortgage loan for which: the loan does loans, as well as decreasing the number are deferring any action on their not contain negative amortization, of transactions that may be qualified respective proposed adjustments to interest-only payments, or balloon mortgages—even holding actual loan regulatory thresholds. payments; the term does not exceed 30 terms constant—simply because of the IV. Legal Authority years; the points and fees generally do increase in calculated finance charges, not exceed three percent of the loan and consequently APRs, for closed-end The final rule was issued on January amount; the income or assets are mortgage transactions generally. 10, 2013, in accordance with 12 CFR considered and verified; and the As noted above, these expanded 1074.1. The Bureau issued this final rule underwriting is based on the maximum coverage consequences were not the pursuant to its authority under TILA rate during the first five years, uses a intent of the more inclusive finance and the Dodd-Frank Act. See TILA charge proposal. Accordingly, as section 105(a), 15 U.S.C. 1604(a). On 72 12 U.S.C. 5581(a)(1). discussed more extensively in the 73 Dodd-Frank Act section 1002(14), 12 U.S.C. Escrows Proposal, the HOEPA Proposal, 71 These notices extended the comment period on 5481(14) (defining ‘‘Federal consumer financial the ATR Proposal, and the Interagency the more inclusive finance charge and law’’ to include the ‘‘enumerated consumer laws’’ corresponding regulatory threshold adjustments and the provisions of title X of the Dodd-Frank Act), Appraisals Proposal, the Board and under the 2012 TILA–RESPA and HOEPA Dodd-Frank Act section 1002(12), 12 U.S.C. subsequently the Bureau (and other Proposals. It did not change any other aspect of 5481(12) (defining ‘‘enumerated consumer laws’’ to agencies) sought comment on certain either proposal. include TILA).

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payment schedule that fully amortizes interest rate over the entire term of the 105(a), 15 U.S.C. 1604(a), directs the the loan over the loan term, and takes loan is a fixed rate equal to the fully Bureau to prescribe regulations to carry into account all mortgage-related indexed rate at the time of the loan out the purposes of TILA, and provides obligations. TILA section 129C(b)(2), 15 closing, without considering the that such regulations may contain U.S.C. 1639c(b)(2). In addition, to introductory rate. 15 U.S.C. additional requirements, classifications, constitute a qualified mortgage a loan 1639c(a)(6)(D)(i) through (iii). However, differentiations, or other provisions, and must meet ‘‘any guidelines or TILA section 129C(a)(6)(D) authorizes may provide for such adjustments and regulations established by the Bureau the Bureau to prescribe regulations for exceptions for all or any class of relating to ratios of total monthly debt calculating the payment obligation for transactions that the Bureau judges are to monthly income or alternative loans that require more rapid repayment necessary or proper to effectuate the measures of ability to pay regular (including balloon payments), and purposes of TILA, to prevent expenses after payment of total monthly which have an annual percentage rate circumvention or evasion thereof, or to debt, taking into account the income that does not exceed a certain rate facilitate compliance therewith. A levels of the borrower and such other threshold. 15 U.S.C. 1639c(a)(6)(D). purpose of TILA is ‘‘to assure a factors as the Bureau may determine are With respect to the qualified mortgage meaningful disclosure of credit terms so relevant and consistent with the provisions, the Dodd-Frank Act contains that the consumer will be able to purposes described in [TILA section several specific grants of rulewriting compare more readily the various credit 129C(b)(3)(B)(i)].’’ authority. First, as described above, for terms available to him and avoid the The Dodd-Frank Act also provides the purposes of defining ‘‘qualified uninformed use of credit.’’ TILA section Bureau with authority to prescribe mortgage,’’ TILA section 102(a), 15 U.S.C. 1601(a). This stated regulations that revise, add to, or 129C(b)(2)(A)(vi) provides the Bureau purpose is informed by Congress’s subtract from the criteria that define a with authority to establish guidelines or finding that ‘‘economic stabilization qualified mortgage upon a finding that regulations relating to monthly debt-to- would be enhanced and the competition such regulations are necessary or proper income ratios or alternative measures of among the various financial institutions to ensure that responsible, affordable ability to pay. Second, TILA section and other firms engaged in the mortgage credit remains available to 129C(b)(2)(D) provides that the Bureau extension of consumer credit would be consumers in a manner consistent with shall prescribe rules adjusting the strengthened by the informed use of the purposes of the ability-to-repay qualified mortgage points and fees credit[.]’’ TILA section 102(a). Thus, requirements; or are necessary and limits described above to permit strengthened competition among appropriate to effectuate the purposes of creditors that extend smaller loans to financial institutions is a goal of TILA, the ability-to-repay requirements, to meet the requirements of the qualified achieved through the effectuation of prevent circumvention or evasion mortgage provisions. 15 U.S.C. TILA’s purposes. thereof, or to facilitate compliance with 1639c(b)(2)(D)(ii). In prescribing such Historically, TILA section 105(a) has TILA sections 129B and 129C. TILA rules, the Bureau must consider their served as a broad source of authority for section 129C(b)(3)(B)(i), 15 U.S.C. potential impact on rural areas and rules that promote the informed use of 1639c(b)(3)(B)(i). In addition, TILA other areas where home values are credit through required disclosures and section 129C(b)(3)(A) provides the lower. Id. Third, TILA section substantive regulation of certain Bureau with authority to prescribe 129C(b)(2)(E) provides the Bureau with practices. However, Dodd-Frank Act regulations to carry out the purposes of authority to include in the definition of section 1100A clarified the Bureau’s the qualified mortgage provisions, such ‘‘qualified mortgage’’ loans with balloon section 105(a) authority by amending as to ensure that responsible, affordable payment features, if those loans meet that section to provide express authority mortgage credit remains available to certain underwriting criteria and are to prescribe regulations that contain consumers in a manner consistent with originated by creditors that operate ‘‘additional requirements’’ that the the purposes of TILA section 129C. predominantly in rural or underserved Bureau finds are necessary or proper to TILA section 129C(b)(3)(A), 15 U.S.C. areas, have total annual residential effectuate the purposes of TILA, to 1939c(b)(3)(A). As discussed in the mortgage originations that do not exceed prevent circumvention or evasion section-by-section analysis below, the a limit set by the Bureau, and meet any thereof, or to facilitate compliance Bureau is issuing certain provisions of asset size threshold and any other therewith. This amendment clarified the this rule pursuant to its authority under criteria as the Bureau may establish, authority to exercise TILA section TILA section 129C(b)(3)(B)(i). consistent with the purposes of TILA. 105(a) to prescribe requirements beyond The Dodd-Frank Act provides the 15 U.S.C. 1639c(b)(2)(E). As discussed those specifically listed in the statute Bureau with other specific grants of in the section-by-section analysis below, that meet the standards outlined in rulewriting authority with respect to the the Bureau is issuing certain provisions section 105(a). The Dodd-Frank Act also ability-to-repay and qualified mortgage of this rule pursuant to its authority clarified the Bureau’s rulemaking provisions. With respect to the ability- under TILA sections 129C(a)(6)(D), authority over high-cost mortgages to-repay provisions, TILA section (b)(2)(A)(vi), (b)(2)(D), and (b)(2)(E). under HOEPA pursuant to section 129C(a)(6)(D)(i) through (iii) provides 105(a). As amended by the Dodd-Frank that when calculating the payment B. Other Rulemaking and Exception Act, TILA section 105(a) authority to obligation that will be used to determine Authorities make adjustments and exceptions to the whether the consumer can repay a This final rule also relies on other requirements of TILA applies to all covered transaction, the creditor must rulemaking and exception authorities transactions subject to TILA, except use a fully amortizing payment schedule specifically granted to the Bureau by with respect to the substantive and assume that: (1) The loan proceeds TILA and the Dodd-Frank Act, provisions of TILA section 129, 15 are fully disbursed on the date the loan including the authorities discussed U.S.C. 1639, that apply to the high-cost is consummated; (2) the loan is repaid below. mortgages defined in TILA section in substantially equal, monthly 103(bb), 15 U.S.C. 1602(bb). amortizing payments for principal and TILA TILA, as amended by the Dodd-Frank interest over the entire term of the loan TILA section 105(a). As amended by Act, states that it is the purpose of the with no balloon payment; and (3) the the Dodd-Frank Act, TILA section ability-to-repay requirements of TILA

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section 129C to assure that consumers mortgage loans that the Bureau finds to clarification that administrative are offered and receive residential be abusive, unfair, deceptive, predatory, agencies responsible for enforcing mortgage loans on terms that reasonably necessary or proper to ensure that Regulation Z may require creditors reflect their ability to repay the loans responsible, affordable mortgage credit under the agency’s jurisdiction to retain and that are understandable and not remains available to consumers in a records for a longer period, if necessary unfair, deceptive, or abusive. TILA manner consistent with the purposes of to carry out the agency’s enforcement section 129B(a)(2). The Bureau TILA section 129C, necessary or proper responsibilities under TILA section 108, interprets this addition as a new to effectuate the purposes of sections 15 U.S.C. 1607. Under TILA section purpose of TILA. Therefore, the Bureau 129B and 129C, to prevent 130(e), as amended by Dodd-Frank, the believes that its authority under TILA circumvention or evasion thereof, or to statute of limitations for civil liability section 105(a) to make exceptions, facilitate compliance with such for a violation of other sections of TILA adjustments, and additional provisions, sections, or are not in the interest of the remains one year after the date a among other things, that the Bureau consumer. In developing rules under violation occurs, except for private finds are necessary or proper to TILA section 129B(e), the Bureau has education loans under 15 U.S.C. effectuate the purposes of TILA, to considered whether the rules are in the 1650(a), actions brought under section prevent circumvention or evasion interest of the consumer, as required by 129 or 129B, or actions brought by a thereof, or to facilitate compliance the statute. As discussed in the section- State attorney general to enforce a therewith applies with respect to the by-section analysis below, the Bureau is violation of section 129, 129B, 129C, purpose of section 129C as well as the issuing portions of this rule pursuant to 129D, 129E, 129F, 129G, or 129H. 15 purpose described in section TILA its authority under TILA section U.S.C. 1640(e). Moreover, as amended section 129B(a)(2). 129B(e). by section 1413 of the Dodd-Frank Act, The purpose of TILA section 129C is TILA provides that when a creditor, an The Dodd-Frank Act informed by the findings articulated in assignee, other holder or their agent section 129B(a) that economic Dodd-Frank Act section 1022(b). initiates a foreclosure action, a stabilization would be enhanced by the Section 1022(b)(1) of the Dodd-Frank consumer may assert a violation of TILA protection, limitation, and regulation of Act authorizes the Bureau to prescribe section 129C(a) ‘‘as a matter of defense the terms of residential mortgage credit rules ‘‘as may be necessary or by recoupment or setoff.’’ TILA section and the practices related to such credit, appropriate to enable the Bureau to 130(k). There is no time limit on the use while ensuring that responsible and administer and carry out the purposes of this defense. affordable mortgage credit remains and objectives of the Federal consumer As discussed below, the Bureau is available to consumers. financial laws, and to prevent evasions adopting minor modifications to As discussed in the section-by-section thereof.’’ 12 U.S.C. 5512(b)(1). TILA and § 1026.25(a) and adding in new analysis below, the Bureau is issuing title X of the Dodd-Frank Act are § 1026.25(c) to reflect section 1416 of regulations to carry out TILA’s Federal consumer financial laws. the Dodd-Frank Act, in § 1026.25(c)(3) purposes, including such additional Accordingly, the Bureau is exercising its as well as other exceptional record requirements, adjustments, and authority under Dodd-Frank Act section retention requirements related to exceptions as, in the Bureau’s judgment, 1022(b) to prescribe rules that carry out mortgage loans. are necessary and proper to carry out the purposes and objectives of TILA and the purposes of TILA, prevent title X and prevent evasion of those 25(c) Records Related to Certain circumvention or evasion thereof, or to laws. Requirements for Mortgage Loans facilitate compliance therewith. In The Bureau is adopting the revision V. Section-by-Section Analysis developing these aspects of the final proposed in § 226.25(a) to require a rule pursuant to its authority under Section 1026.25 Record Retention creditor to retain records demonstrating TILA section 105(a), the Bureau has compliance with § 1026.43 consistent 25(a) General Rule considered the purposes of TILA, with the extended statute of limitations including the purposes of TILA section Section 1416 of the Dodd-Frank Act for violations of that section, though the 129C, and the findings of TILA, revised TILA section 130(e) to extend Bureau is adopting this requirement in including strengthening competition the statute of limitations for civil § 1026.25(c)(3) to provide additional among financial institutions and liability for a violation of TILA section clarity. As the 2012 TILA–RESPA promoting economic stabilization, and 129C, as well as sections 129 and 129B, Proposal proposed new § 1026.25(c)(1) the findings of TILA section 129B(a)(1), to three years after the date a violation and the 2012 Loan Originator Proposal that economic stabilization would be occurs. Existing § 1026.25(a) requires proposed new § 1026.25(c)(2), the enhanced by the protection, limitation, that creditors retain evidence of Bureau concludes that adding new and regulation of the terms of compliance with Regulation Z for two § 1026.25(c)(3) eases compliance burden residential mortgage credit and the years after disclosures must be made or by placing all record retention practices related to such credit, while action must be taken. Accordingly, the requirements that are related to ensuring that responsible, affordable Board proposed to revise § 226.25(a) 74 mortgage loans and which differ from mortgage credit remains available to to require that creditors retain records the general record retention in one consumers. The Bureau believes that that show compliance with proposed section, § 1026.25(c). Likewise, the ensuring that mortgage credit is offered § 226.43, which would implement TILA Bureau is amending § 1026.25(a) to and received on terms consumers can section 129C, for at least three years reflect that certain record retention afford ensures the availability of after consummation. The Board did not requirements, such as records related to responsible, affordable mortgage credit. propose to alter the regulation’s existing minimum standards for transactions TILA section 129B(e). Dodd-Frank Act secured by a dwelling, are governed by section 1405(a) amended TILA to add 74 This section-by-section analysis discusses the § 1026.43(c). new section 129B(e), 15 U.S.C. Board’s proposal by reference to the Board’s Commenters did not provide the Regulation Z, 12 CFR part 226, which the Board 1639B(e). That section authorizes the proposed to amend, and discusses the Bureau’s Bureau with significant, specific Bureau to prohibit or condition terms, final rule by reference to the Bureau’s Regulation feedback with respect to proposed acts, or practices relating to residential Z, 12 CFR part 1026, which this final rule amends. § 226.25(a), although industry

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commenters generally expressed The Board proposed comment 25(a)– proposed, renumbered as comment concern with respect to the compliance 7 to provide guidance on retaining 25(c)(3)–2. Comment 25(c)(3)–2 also burden of the 2011 ATR Proposal. records evidencing compliance with the clarifies that, to demonstrate Increasing the period a creditor must requirement to offer a consumer an compliance with § 1026.43(g)(4), the retain records from two to three years alternative covered transaction without creditor must retain a record of (1) the may impose some marginal increase in a prepayment penalty, as discussed alternative covered transaction without the creditor’s compliance burden in the below in the section-by-section analysis a prepayment penalty presented to the form of incremental cost of storage. of § 1026.43(g)(3) through (5). The mortgage broker pursuant to However, the Bureau believes that even Bureau believes the requirement to offer § 1026.43(g)(4)(i), such as a rate sheet, absent the rule, responsible creditors a transaction without a prepayment and (2) the agreement with the mortgage will likely elect to retain records of penalty under TILA section 129C(c)(4) broker required by § 1026.34(g)(4)(ii). compliance with § 1026.43 for a period is intended to ensure that consumers of time well beyond three years, given Section 1026.32 Requirements for who choose an alternative covered High-Cost Mortgages that the statute allows consumers to transaction with a prepayment penalty bring a defensive claim for recoupment do so voluntarily. The Bureau further 32(b) Definitions or setoff in the event that a creditor or believes it is unnecessary, and contrary 32(b)(1) assignee initiates foreclosure to the Bureau’s efforts to streamline its proceedings. Indeed, at least one regulations, facilitate regulatory Points and Fees—General commenter noted this tension and compliance, and minimize compliance Section 1412 of the Dodd-Frank Act requested that the Bureau provide burden, for a creditor to document added TILA section 129C(b)(2)(A)(vii), further regulatory instruction, although compliance with the requirement to which defines a ‘‘qualified mortgage’’ as the Bureau does not deem it necessary offer an alternative covered transaction a loan for which, among other things, to mandate recordkeeping burdens without a prepayment penalty when a the total ‘‘points and fees’’ do not beyond what is required by section 1416 consumer does not choose a transaction exceed 3 percent of the total loan of the Dodd-Frank Act. Furthermore, the with a prepayment penalty or if the amount. The limits on points and fees record-keeping burden imposed by the covered transaction is not for qualified mortgages are implemented rule is tailored only to show compliance consummated. Accordingly, the Bureau in new § 1026.43(e)(3). with § 1026.43, and the Bureau believes is adopting as proposed comment 25(a)– TILA section 129C(b)(2)(C) generally is justified to protect the of 7 as comment 25(c)(3)–2, to clarify that defines ‘‘points and fees’’ for qualified both creditors and consumers in the a creditor must retain records that mortgages to have the same meaning as event that an affirmative claim is document compliance with that in TILA section 103(aa)(4) (renumbered brought during the first three years after requirement if a transaction subject to as section 103(bb)(4)), which defines consummation. § 1026.43 is consummated with a ‘‘points and fees’’ for the purpose of The Bureau believes that calculating prepayment penalty, but need not retain determining whether a transaction the record retention period under such records if a covered transaction is qualifies as a high-cost mortgage under § 1026.43 from loan consummation consummated without a prepayment HOEPA.75 TILA section 103(aa)(4) is facilitates compliance by establishing a penalty or a covered transaction is not implemented in current § 1026.32(b)(1). single, clear start to the period, even consummated. See § 1026.43(g)(6). Accordingly, the Board proposed in though a creditor will take action (e.g., § 226.43(b)(9) that, for a qualified underwriting the covered transaction The Board proposed comment 25(a)– 7 also to provide specific guidance on mortgage, ‘‘points and fees’’ has the and offering a consumer the option of a same meaning as in § 226.32(b)(1). covered transaction without a retaining records evidencing compliance with the requirement to The Board also proposed in the 2011 prepayment penalty) over several days ATR Proposal to amend § 226.32(b)(1) to or weeks prior to consummation. The offer a consumer an alternative covered transaction without a prepayment implement revisions to the definition of Bureau is thus adopting the timeframe ‘‘points and fees’’ under section 1431 of as proposed to reduce compliance penalty when a creditor offers a transaction through a mortgage broker. the Dodd-Frank Act. Among other burden. things, the Dodd-Frank Act excluded Existing comment 25(a)–2 clarifies As discussed in detail below in the certain private mortgage insurance that, in general, a creditor need retain section-by-section analysis of premiums from, and added loan only enough information to reconstruct § 1026.43(g)(4), the Board proposed that originator compensation and the required disclosures or other if the creditor offers a covered prepayment penalties to, the definition records. The Board proposed, and the transaction with a prepayment penalty of ‘‘points and fees’’ that had previously Bureau is adopting, amendments to through a mortgage broker, the creditor comment 25(a)–2 and a new comment must present the mortgage broker an 75 The Dodd-Frank Act renumbered existing TILA 25(c)(3)–1 to clarify that, if a creditor alternative covered transaction without section 103(aa), which contains the definition of must verify and document information a prepayment penalty. Also, the creditor ‘‘points and fees,’’ for the high-cost mortgage points used in underwriting a transaction must provide, by agreement, for the and fees threshold, as section 103(bb). See subject to § 1026.43, the creditor must mortgage broker to present to the § 1100A(1)(A) of the Dodd-Frank Act. However, in defining points and fees for the qualified mortgage retain evidence sufficient to consumer that transaction or an points and fees limits, TILA section 129C(b)(2)(C) demonstrate having done so, in alternative covered transaction without refers to TILA section 103(aa)(4) rather than TILA compliance with § 1026.25(a) and a prepayment penalty offered by another section 103(bb)(4). To give meaning to this § 1026.25(c)(3). In an effort to reduce creditor that has a lower interest rate or provision, the Bureau concludes that the reference to TILA section in 103(aa)(4) in TILA section compliance burden, comment 25(c)(3)– a lower total dollar amount of 129C(b)(2)(C) is mistaken and therefore interprets 1 also clarifies that creditors need not origination points or fees and discount TILA section 129C(b)(2)(C) as referring to the points retain actual paper copies of the points than the creditor’s presented and fees definition in renumbered TILA section documentation used to underwrite a alternative covered transaction. The 103(bb)(4). This proposal generally references TILA section 103(aa) to refer to the pre-Dodd-Frank transaction but that creditors must be Bureau did not receive significant provision, which is in effect until the Dodd-Frank able to reproduce those records comment on this clarification, and is Act’s amendments take effect, and TILA section accurately. adopting the comment largely as 103(bb) to refer to the provision as amended.

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applied to high-cost mortgage loans the phrase ‘‘payable at or before generally, industry commenters argued under HOEPA. In the Bureau’s 2012 closing’’ from the high-cost mortgage that they would have difficulty HOEPA Proposal, the Bureau points and fees test in TILA section calculating charges that would be paid republished the Board’s proposed 103(aa)(1)(B). See TILA section after closing and that including such revisions to § 226.32(b)(1), with only 103(bb)(1)(A)(ii). Prior to the Dodd- charges in points and fees would create minor changes, in renumbered Frank Act, fees and charges were uncertainty and litigation risk. In § 1026.32(b)(1). included in points and fees for the high- response to the Bureau’s 2012 HOEPA The Bureau noted in its 2012 HOEPA cost mortgage points and fees test only Proposal, one consumer advocate noted Proposal that it was particularly if they were payable at or before closing. that there are inconsistent and interested in receiving comments The phrase ‘‘payable at or before confusing standards for when charges concerning any newly-proposed closing’’ is also not in TILA’s provisions must be payable to be included in language and the application of the on the points and fees cap for qualified points and fees. This commenter definition in the high-cost mortgage mortgages. See TILA section recommended that the Bureau adopt a context. The Bureau received numerous 129C(b)(2)(A)(vii), (b)(2)(C). Thus, the ‘‘known at or before closing’’ standard, comments from both industry and Board stated that, with a few exceptions, arguing that this standard would clarify consumer advocacy groups, the majority the statute provides that any charge that that financed points are included, of which were neither specific to newly- falls within the ‘‘points and fees’’ would prevent creditors from evading proposed language nor to the definition must be counted toward the the points and fees test by requiring application of the definition to high-cost limits on points and fees for both high- consumers to pay charges after mortgages. These comments largely cost mortgages and qualified mortgages, consummation, and would provide reiterated comments that the Board and even if it is payable after loan closing. certainty to creditors that must know the Bureau had received in the ATR The Board noted that the exceptions are the amount of points and fees at or rulemaking docket. The Bureau is mortgage insurance premiums and before closing. addressing comments received in charges for credit insurance and debt The Bureau appreciates that creditors response to 2012 HOEPA Proposal in cancellation and suspension coverage. need certainty in calculating points and the 2013 HOEPA Final Rule. Similarly, The statute expressly states that these fees so they can ensure that they are comments received in response to the premiums and charges are included in originating qualified mortgages (or are Board’s 2011 ATR Proposal are points and fees only if payable at or not exceeding the points and fees discussed in this final rule. The Bureau before closing. See TILA section thresholds for high-cost mortgages). The is carefully coordinating the 2013 103(bb)(1)(C) (for mortgage insurance) Dodd-Frank Act provides that for the HOEPA and ATR Final Rules to ensure and TILA section 103(bb)(4)(D) (for points and fees tests for both qualified a consistent and cohesive regulatory credit insurance and debt cancellation mortgages and high-cost mortgages, only framework. The Bureau is now and suspension coverage). charges ‘‘payable in connection with’’ finalizing § 1026.32(b)(1), (b)(3), The Board expressed concern that the transaction are included in points (b)(4)(i), (b)(5), and (b)(6)(i) in this rule some fees that occur after closing, such and fees. See TILA sections in response to the comments received as fees to modify a loan, might be 103(bb)(1)(A)(ii) (high-cost mortgages) on both proposals. The Bureau is deemed to be points and fees. If so, the and 129C(b)(2)(A)(vii) (qualified finalizing § 1026.32(b)(2), (b)(4)(ii), and Board cautioned that calculating the mortgages). The Bureau interprets this (b)(6)(ii) in the 2013 HOEPA Final Rule. points and fees to determine whether a ‘‘in connection with’’ requirement as Existing § 1026.32(b)(1) defines transaction is a qualified mortgage may limiting the universe of charges that ‘‘points and fees’’ by listing included be difficult because the amount of future need to be included in points and fees. charges in § 1026.32(b)(1)(i) through fees (e.g., loan modification fees) cannot To clarify when charges or fees are ‘‘in (iv). As discussed below, the Board be known prior to closing. The Board connection with’’ a transaction, the proposed revisions to § 226.32(b)(1)(i) noted that creditors might be exposed to Bureau is specifying in § 1026.32(b)(1) through (iv) and proposed to add new excessive litigation risk if consumers that fees or charges are included in § 226.32(b)(1)(v) and (vi). In the 2012 were able at any point during the life of points and fees only if they are ‘‘known HOEPA Proposal, the Bureau proposed a mortgage to argue that the points and at or before consummation.’’ to add the phrase ‘‘in connection with fees for the loan exceed the qualified The Bureau is also adding new a closed-end mortgage loan’’ to mortgage limits due to fees imposed comment 32(b)(1)–1, which provides § 1026.32(b)(1) to clarify that its after loan closing. The Board expressed examples of fees and charges that are definition of ‘‘points and fees’’ would concern that creditors therefore might and are not known at or before have applied only for closed-end be discouraged from making qualified consummation. The comment explains mortgages. The Bureau also proposed to mortgages, which would undermine that charges for a subsequent loan define ‘‘points and fees’’ in Congress’s goal of increasing incentives modification generally would not be § 1026.32(b)(3) for purposes of defining for creditors to make more stable, included in points and fees because, at which open-end credit plans qualify as affordable loans. The Board requested consummation, the creditor would not ‘‘high-cost mortgages’’ under HOEPA. comment on whether any other types of know whether a consumer would seek However, that section is not relevant to fees should be included in points and to modify the loan and therefore would this rulemaking because the ability-to- fees only if they are ‘‘payable at or not know whether charges in repay requirement in TILA section 129C before closing.’’ connection with a modification would does not apply to open-end credit. Several industry commenters stated ever be imposed. Indeed, loan Accordingly, the Bureau is adopting that charges paid after closing should modification fees likely would not be § 1026.32(b)(1) with the clarification not be included in points and fees and included in the finance charge under that its definition of ‘‘points and fees’’ requested that the Bureau clarify § 1026.4, as they would not be charges is ‘‘in connection with a closed-end whether such charges are included. For imposed by creditor as an incident to or mortgage loan.’’ example, some industry commenters a condition of the extension of credit. Payable at or before consummation. sought confirmation that charges for a Thus, this clarification is consistent In the 2011 ATR Proposal, the Board subsequent loan modification would not with the definition of the finance noted that the Dodd-Frank Act removed be included in points and fees. More charge. Comment 32(b)(1)–1 also

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clarifies that the maximum prepayment The Bureau is adopting renumbered ‘‘any charge payable directly or penalties that may be charged or § 1026.32(b)(1)(i) and (i)(A) substantially indirectly by the consumer and imposed collected under the terms of a mortgage as proposed, with certain clarifications directly or indirectly by the creditor as loan are included in points and fees in the commentary and in other parts of an incident to or a condition of the under § 1026.32(b)(1)(v). In addition, the rule as discussed below to address extension of credit.’’ However, comment 32(b)(1)–1 notes that, under commenters’ requests for clarification. § 226.4(c)(7) expressly provides that § 1026.32(b)(1)(i)(C)(1) and (iv), For consistency with the language in appraisal fees are not finance charges. premiums or other charges for private § 1026.4, the Bureau is revising Therefore, under the general rule in mortgage insurance and credit insurance § 1026.32(b)(1)(i) to refer to ‘‘items proposed § 226.32(b)(1)(i) providing that payable after consummation are not included in the finance charge’’ rather finance charges must be counted as included in points and fees. This means than ‘‘items considered to be a finance points and fees, a fee imposed by the that such charges may be included in charge.’’ creditor for an appraisal performed by points and fees only if they are payable As noted above, several commenters an employee of the creditor would not at or before consummation. Thus, even requested clarification regarding have been counted in points and fees. if the amounts of such premiums or whether certain types of charges would Proposed § 226.32(b)(1)(iii), however, other charges are known at or before be included in points and fees. With would have expressly included in consummation, they are included in respect to closing agent charges, points and fees items listed in points and fees only if they are payable § 1026.4(a)(2) provides a specific rule § 226.4(c)(7) (including appraisal fees) if at or before consummation. for when such charges must be included the creditor receives compensation in in the finance charge. If they are not connection with the charge. A creditor 32(b)(1)(i) included in the finance charge, they would receive compensation for an Points and Fees—Included in the would not be included in points and appraisal performed by its own Finance Charge fees. Moreover, as discussed below and employee. Thus, the appraisal fee in this in new comment 32(b)(1)(i)(D)–1, example would have been included in TILA section 103(aa)(4)(A) specifies certain closing agent charges may also the calculation of points and fees. that ‘‘points and fees’’ includes all items be excluded from points and fees as The Bureau did not receive included in the finance charge, except bona fide third-party charges that are substantial comment on this proposed interest or the time-price differential. not retained by the creditor, loan guidance. The Bureau is adopting This provision is implemented in originator, or an affiliate of either. comment 32(b)(1)(i)–1, with certain current § 1026.32(b)(1)(i). Section 1431 The Board also proposed to revise revisions for clarity. As revised, of the Dodd-Frank Act added TILA comment 32(b)(1)(i)–1, which states that comment 32(b)(1)(i)–1 explains that section 103(bb)(1)(C), which excludes § 226.32(b)(1)(i) includes in the total certain items that may be included in from points and fees certain types and ‘‘points and fees’’ items defined as the finance charge under amounts of mortgage insurance finance charges under § 226.4(a) and § 1026.32(b)(1)(i) are excluded under premiums. 226.4(b). The comment explains that § 1026.32(b)(1)(i)(A) through (F). items excluded from the finance charge The Board proposed to revise Mortgage Insurance § 226.32(b)(1)(i) to implement these under other provisions of § 226.4 are not Under existing § 1026.32(b)(1)(i), provisions. The Board proposed to move included in the total ‘‘points and fees’’ mortgage insurance premiums are the exclusion of interest or the time- under § 226.32(b)(1)(i), but may be included in the finance charge and price differential to new included in ‘‘points and fees’’ under therefore are included in points and fees § 226.32(b)(1)(i)(A). The Board also § 226.32(b)(1)(ii) and (iii). The Board proposed to revise this comment to state if payable at or before closing. As noted proposed to add § 226.32(b)(1)(i)(B) to that items excluded from the finance above, the Board proposed new implement the new exclusion for certain charge under other provisions of § 226.4 § 226.32(b)(1)(i)(B) to implement TILA mortgage insurance. In § 226.32(b)(1)(i), may be included in ‘‘points and fees’’ section 103(bb)(1)(C), which provides the Board proposed to revise the phrase under § 226.32(b)(1)(ii) through (vi).76 that points and fees shall exclude ‘‘all items required to be disclosed The proposed revision was intended to certain charges for mortgage insurance under § 226.4(a) and 226.4(b)’’ to read reflect the additional items added to the premiums. Specifically, the statute ‘‘all items considered to be a finance definition of ‘‘points and fees’’ by the excludes: (1) Any premium charged for charge under § 226.4(a) and 226.4(b)’’ Dodd-Frank Act and corrected the insurance provided by an agency of the because § 226.4 does not itself require previous omission of § 226.32(b)(1)(iv). Federal Government or an agency of a disclosure of the finance charge. See proposed § 226.32(b)(1)(v) and (vi). State; (2) any amount that is not in One industry commenter argued that The proposed comment also would excess of the amount payable under the definition of points and fees was have added an example of how this rule policies in effect at the time of overbroad because it included all items would operate. Under that example, a origination under section 203(c)(2)(A) of considered to be a finance charge. The fee imposed by the creditor for an the National Housing Act, provided that commenter asserted that several items appraisal performed by an employee of the premium, charge, or fee is required that are included in the finance charge the creditor meets the general definition to be refundable on a pro-rated basis under § 1026.4(b) are vague or of ‘‘finance charge’’ under § 226.4(a) as and the refund is automatically issued inapplicable in the context of mortgage upon notification of the satisfaction of transactions or duplicate items 76 Proposed comment 32(b)(1)(i)–1 contained a the underlying mortgage loan; and (3) specifically addressed in other typographical error. It stated that ‘‘[i]tems excluded any premium paid by the consumer from the finance charge under other provisions of provisions. Several industry § 226.4 are not excluded in the total ‘‘points and after closing. commenters also requested clarification fees’’ under § 226.32(b)(1)(i), but may be included The Board noted that the exclusions about whether certain types of fees and in ‘‘points and fees’’ under § 226.32(b)(1)(ii) through for certain premiums could plausibly be charges are included in points and fees. § 226.32(b)(1)(vi).’’ (emphasis added). It should interpreted to apply to the definition of have read that such items ‘‘are not included in the At least two commenters asked that the total ‘‘points and fees’’ under § 226.32(b)(1)(i), but points and fees solely for purposes of Bureau clarify that closing agent costs may be included in ‘‘points and fees’’ under high-cost mortgages and not for are not included in points and fees. § 226.32(b)(1)(ii) through § 226.32(b)(1)(vi).’’ qualified mortgages. TILA section

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129C(b)(2)(C)(i) cross-references TILA The Board also expressed concern and proper to effectuate the purposes of, section 103(aa)(4) (renumbered as about the increased risk of confusion and facilitate compliance with the 103(bb)(4)) for the definition of ‘‘points and compliance error if points and fees purposes of, the ability-to-repay and fees,’’ but the provision on mortgage were to have two separate meanings in requirements in TILA section 129C. insurance appears in TILA section TILA—one for determining whether a Similarly, the Bureau finds that it is 103(bb)(1)(C) and not in section loan is a high-cost mortgage and another necessary and proper to use its authority 103(bb)(4). The Board also noted that for determining whether a loan is a under TILA section 129C(b)(3)(B)(i) to certain provisions in the Dodd-Frank qualified mortgage. The Board stated revise, add to, or subtract from the Act’s high-cost mortgage section that the proposal is intended to facilitate criteria that define a qualified mortgage. regarding points and fees are repeated in compliance by applying the mortgage As noted above, construing the mortgage the qualified mortgage section on points insurance provision to the meaning of insurance provision as applying to and fees. For example, both the high- points and fees for both high-cost qualified mortgages will reduce the cost mortgage provisions and the mortgages and qualified mortgages. likelihood that consumers who obtain qualified mortgage provisions expressly In addition, the Board expressed qualified mortgages will pay excessive exclude from points and fees ‘‘bona fide concern that market distortions could private mortgage insurance premiums, third party charges not retained by the result due to different treatment of and therefore will help ensure that mortgage originator, creditor, or an mortgage insurance in calculating points responsible, affordable credit remains affiliate of the creditor or mortgage and fees for high-cost mortgages and available to consumers in a manner originator.’’ TILA sections qualified mortgages. ‘‘Points and fees’’ consistent with the purposes of TILA 103(bb)(1)(A)(ii) (for high-cost for both high-cost mortgages and section 129C. mortgages), 129C(b)(2)(C)(i) (for qualified mortgages generally excludes Proposed § 226.32(b)(1)(i)(B) tracked qualified mortgages). The mortgage ‘‘bona fide third party charges not the substance of the statute with one insurance provision, however, does not retained by the mortgage originator, exception. The Board interpreted the separately appear in the qualified creditor, or an affiliate of the creditor or statute as excluding from points and mortgage section. mortgage originator.’’ TILA sections fees not only up-front mortgage Nonetheless, the Board concluded 103(bb)(1)(A)(ii), 129C(b)(2)(C)(i). Under insurance premiums under government that the better interpretation of the this general provision standing alone, programs but also charges for mortgage statute is that the mortgage insurance premiums for up-front private mortgage guaranties under government programs. provision in TILA section 103(bb)(1)(C) insurance would be excluded from The Board noted that it was proposing applies to the meaning of points and points and fees. However, as noted, the the exclusion from points and fees of fees for both high-cost mortgages and statute’s specific provision on mortgage both mortgage insurance premiums and qualified mortgages. The Board noted insurance (TILA section 103(bb)(1)(C)) guaranty fees under government that the statute’s structure reasonably imposes certain limitations on the programs pursuant to its authority supports this view: by its plain amount and conditions under which up- under TILA section 105(a) to make language, the mortgage insurance front premiums for private mortgage adjustments to facilitate compliance provision prescribes how points and insurance are excluded from points and with TILA and its purposes and to fees should be computed ‘‘for purposes fees. Applying the mortgage insurance effectuate the purposes of TILA. The of paragraph (4),’’ i.e., for purposes of provision to the definition of points and Board also found that the exclusion is TILA section 103(bb)(4). The mortgage fees only for high-cost mortgages would further supported by the Board’s insurance provision contains no caveat mean that any premium amount for up- authority under TILA section 129B(e) to limiting its application solely to the front private mortgage insurance could condition terms, acts or practices points and fees calculation for high-cost be charged on qualified mortgages; in relating to residential mortgage loans mortgages. Thus, the Board determined most cases, none of that amount would that the Board finds necessary or proper that the cross-reference in the qualified be subject to the cap on points and fees to effectuate the purposes of TILA. The mortgage provisions to TILA section for qualified mortgages because it would purposes of TILA include ‘‘assur[ing] 103(bb)(4) should be read to include be excluded as a ‘‘bona fide third party that consumers are offered and receive provisions that expressly prescribe how fee’’ that is not retained by the creditor, residential mortgage loan on terms that points and fees should be calculated loan originator, or an affiliate of either. reasonably reflect their ability to repay under TILA section 103(bb)(4), The Board noted that, as a result, the loans.’’ TILA section 129B(a)(2). wherever located. consumers who obtain qualified The Board noted that both the U.S. The Board noted that its proposal to mortgages could be vulnerable to paying Department of Veterans Affairs (VA) and apply the mortgage insurance provision excessive up-front private mortgage the U.S. Department of Agriculture to the meaning of points and fees for insurance costs. The Board concluded (USDA) expressed concerns that, if up- both high-cost mortgages and qualified that this outcome would undercut front charges for guaranties provided by mortgages is also supported by the Congress’s clear intent to ensure that those agencies and State agencies were Board’s authority under TILA section qualified mortgages are products with included in points and fees, their loans 105(a) to make adjustments to facilitate limited fees and more safe features. might exceed high-cost thresholds and compliance with TILA. The Board also For the reasons noted by the Board, exceed the cap for qualified mortgages, cited its authority under TILA section the Bureau interprets the mortgage thereby disrupting these programs and 129B(e) to condition terms, acts or insurance provision in TILA section jeopardizing an important source of practices relating to residential mortgage 103(bb)(1)(C) as applying to the meaning credit for many consumers. The Board loans that the Board finds necessary or of points and fees for both high-cost requested comment on its proposal to proper to effectuate the purposes of mortgages and qualified mortgages. The exclude up-front charges for any TILA. The purposes of TILA include Bureau is also adopting this approach guaranty under a Federal or State ‘‘assur[ing] that consumers are offered pursuant to its authority under TILA government program, as well as any up- and receive residential mortgage loan on sections 105(a) and 129C(b)(3)(B)(i). front mortgage insurance premiums terms that reasonably reflect their ability Applying the mortgage insurance under government programs. to repay the loans.’’ TILA section provision to the meaning of points and Several industry commenters argued 129B(a)(2). fees for qualified mortgages is necessary that premiums for private mortgage

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insurance should be excluded important source of affordable financing private mortgage insurance premium altogether, even if the premiums do not for many consumers. This exclusion would be included in points and fees. satisfy the statutory standard for helps ensure that loans do not The Bureau is clarifying in exclusion. These commenters noted that unnecessarily exceed the points and § 1026.32(b)(1)(i)(C)(2) that only the private mortgage insurance provides fees limits for qualified mortgages, portion of the private mortgage substantial benefits, allowing consumers which is consistent with the purpose, insurance premium that exceeds the who cannot afford a down payment an stated in TILA section 129B(a)(2), of FHA premium must be included in alternative for obtaining credit. Another assuring that consumers are offered and points and fees. With respect to the commenter noted that the refundability receive residential mortgage loans on comments requesting that all private requirement of the rule would make terms that reasonably reflect their ability mortgage insurance premiums be private mortgage insurance more to repay the loans and with the purpose excluded from points and fees, the expensive. stated in TILA section 129C(b)(3)(B)(i) Bureau notes that TILA section One industry commenter asserted that of ensuring that responsible, affordable 103(bb)(1)(C) prescribes specific and the language in proposed mortgage credit remains available to detailed conditions for excluding § 226.32(b)(1)(i)(B)(2) was inconsistent consumers in a manner consistent with private mortgage insurance premiums. with the statutory language and the the purposes of TILA section 129C. Under these circumstances, the Bureau example in the commentary. The Proposed comment 32(b)(1)(i)–2 does not believe it would be appropriate commenter suggested that a literal provided an example of a mortgage to exercise its exception authority to reading of proposed insurance premium that is not counted reverse Congress’s decision. § 226.32(b)(1)(i)(B)(2) would require in points and fees because the loan was Proposed comment 32(b)(1)(i)–3 exclusion of the entire premium if it insured by the FHA. The Bureau is explained that private mortgage exceeded the FHA insurance premium, renumbering this comment as insurance premiums payable at or rather than merely exclusion of that 32(b)(1)(i)(B)–1 and revising it to add an before consummation need not be portion of the premium in excess of the additional example to clarify that included in points and fees to the extent FHA premium. Another industry mortgage guaranty fees under that the premium does not exceed the commenter maintained that the term government programs, such as VA and amount payable under policies in effect ‘‘upfront’’ is vague and that the Bureau USDA funding fees, are excluded from at the time of origination under section instead should use the phrase ‘‘payable points and fees. The Bureau is also 203(c)(2)(A) of the National Housing Act at or before closing.’’ deleting the reference to ‘‘up-front’’ and the premiums are required to be The Bureau is adopting proposed premiums and charges. Under the refunded on a pro-rated basis and the § 226.32(b)(1)(i)(B) as reunumbered statute, premiums for mortgage refund is automatically issued upon § 1026.32(b)(1)(i)(B) with no substantive insurance or guaranty fees in connection notification of satisfaction of the changes but with revisions for clarity. with a Federal or State government underlying mortgage loan. Proposed The Bureau is dividing proposed program are excluded from points and comment 32(b)(1)(i)–3 also provided an § 226.32(b)(1)(i)(B) into two parts. The fees whenever paid. The statutory example of this exclusion. Proposed first part, § 1026.32(b)(1)(i)(B), addresses provision excluding premiums or comment 32(b)(1)(i)–4 explained that insurance premiums and guaranty charges paid after consummation private mortgage insurance premiums charges under government programs. applies only to private mortgage that do not qualify for an exclusion The second part, § 1026.32(b)(1)(i)(C), insurance. must be included in points and fees addresses premiums for private The Bureau is addressing exclusions whether paid at or before mortgage insurance. for private mortgage insurance in consummation, in cash or financed, Consistent with the Board’s proposal, § 1026.32(b)(1)(i)(C). For private whether optional or required, and § 1026.32(b)(1)(i)(B) excludes from mortgage insurance premiums payable whether the amount represents the points and fees charges for mortgage after consummation, entire premium or an initial payment. guaranties under government programs, § 1026.32(b)(1)(i)(C)(1) provides that the The Bureau did not receive as well as premiums for mortgage entire amount of the premium is substantial comments on these proposed insurance under government programs. excluded from points and fees. For interpretations. The Bureau is adopting The Bureau concurs with the Board’s private mortgage insurance premiums comments 32(b)(1)(i)–3, and –4 with interpretation that, in addition to payable at or before consummation, certain revisions for clarity and mortgage insurance premiums under § 1026.32(b)(1)(i)(C)(1) provides that the renumbered as comments 32(b)(1)(i)(C)– government programs, the statute also portion of the premium not in excess of 1 and –2. Comment 32(b)(1)(i)(C)–1.i is excludes from points and fees charges the amount payable under policies in revised to specify that private mortgage for mortgage guaranties under effect at the time of origination under insurance premiums paid after government programs. Like the Board, section 203(c)(2)(A) of the National consummation are excluded from points the Bureau believes that this conclusion Housing Act is excluded from points and fees. The Bureau also adopts is further supported by TILA sections and fees, provided that the premium is clarifying changes that specify that 105(a) and 129C(b)(3)(B)(i) and that it is required to be refundable on a pro-rated creditors originating conventional necessary and proper to invoke this basis and the refund is automatically loans—even such loans that are not authority. The exclusion from points issued upon notification of the eligible to be FHA loans (i.e., because and fees of charges for mortgage satisfaction of the underlying mortgage their principal balance is too high)— guaranties under government programs loan. should look to the permissible up-front is necessary and proper to effectuate the As noted by one commenter, the premium amount for FHA loans, as purposes of TILA. The Bureau is language in proposed § 226.32(b)(1)(i)(B) implemented by applicable regulations concerned that including such charges could be read to conflict with the statute and other written authorities issued by in points and fees could cause loans and the commentary because it the FHA (such as Mortgagee Letters). offered through government programs to suggested that, if a private mortgage For example, pursuant to HUD’s exceed high-cost mortgage thresholds insurance premium payable at or before Mortgagee Letter 12–4 (published March and qualified mortgage points and fees consummation exceeded the FHA 6, 2012), the allowable up-front FHA limits, potentially disrupting an insurance premium, then the entire premium for single-family homes is 1.75

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percent of the base loan amount.77 proposed § 1026.32(b)(5) for the points fide third party charge not retained by Finally, the Bureau clarifies that only and fees threshold for high-cost the creditor, mortgage originator, or an the portion of the single or up-front PMI mortgages. The Bureau noted that affiliate of either to be excluded from premium in excess of the allowable proposed § 1026.32(b)(5) was generally ‘‘points and fees.’’ Thus, proposed FHA premium (i.e., rather than any consistent with the Board’s proposed § 226.43(e)(3)(ii)(A) would have monthly premium or portion thereof) § 226.43(e)(3)(ii)(A) through (C). excluded from points and fees any bona must be included in points and fees. The Bureau believes that it is fide third party charge not retained by Comments 32(b)(1)(i)(C)–1 and –2 also appropriate to consolidate these the creditor, loan originator, or an have both been revised for clarity and exclusions in a single provision. The affiliate of either unless the charges consistency. For example, the comments Bureau is now finalizing both rules, and were premiums for private mortgage as adopted refer to premiums ‘‘payable the exclusions are nearly identical for insurance that were included in points at or before consummation’’ rather than both the qualified mortgage and high- and fees under § 226.32(b)(1)(i)(B). ‘‘up-front’’ premiums and to cost mortgage contexts. Moreover, under The Board noted that, in setting the ‘‘consummation’’ rather than ‘‘closing.’’ the Board’s ATR Proposal, the points purchase price for specific loans, Fannie The Bureau notes that the statute refers and fees calculation for the qualified Mae and Freddie Mac make loan-level to ‘‘closing’’ rather than mortgage points and fees threshold price adjustments (LLPAs) to ‘‘consummation.’’ However, for already would have cross-referenced the compensate offset added risks, such as consistency with the terminology in definition of points and fees for high- a high LTV or low credit score, among Regulation Z, the Bureau is using the cost mortgages in § 226.32(b)(1). Given many other risk factors. Creditors may, term ‘‘consummation.’’ that the points and fees calculations for but are not required to, increase the both the qualified mortgage and high- interest rate charged to the consumer so Bona Fide Third-Party Charges and cost mortgage points and fees thresholds as to offset the impact of the LLPAs or Bona Fide Discount Points will use the same points and fees increase the costs to the consumer in the The Dodd-Frank Act amended TILA definition in § 1026.32(b)(1), the Bureau form of points to offset the lost revenue to add nearly identical provisions believes it is unnecessary to implement resulting from the LLPAs. The Board excluding certain bona fide third-party nearly identical exclusions from points noted that, during outreach, some charges and bona fide discount points and fees in separate provisions for creditors argued that these points from the calculation of points and fees qualified mortgages and high-cost should not be counted in points and for both qualified mortgages and high- mortgages. Accordingly, the Bureau is fees for qualified mortgages under the cost mortgages.78 Specifically, section consolidating the exclusions for certain exclusion for ‘‘bona fide third party 1412 of the Dodd-Frank Act added new bona fide third-party charges and bona charges not retained by the loan TILA section 129C(b)(2)(C), which fide discount points for both qualified originator, creditor, or an affiliate of excludes certain bona fide third-party mortgages and high-cost mortgages in either’’ in TILA section 129C(b)(2)(C). charges and bona fide discount points new § 1026.32(b)(1)(i)(D) through (F). In The Board acknowledged creditors’ from the calculation of points and fees addition, the definition of ‘‘bona fide concerns about exceeding the qualified for the qualified mortgage points and discount points’’ for the purposes of mortgage points and fees thresholds due fees threshold. Similarly, section 1431 § 1026.32(b)(1)(i)(E) and (F), which the to LLPAs required by the GSEs. of the Dodd-Frank Act amended TILA 2011 ATR Proposal would have However, the Board questioned whether section 103(bb)(1)(A)(ii) and added implemented in § 226.43(e)(3)(iv), is an exemption for LLPAs would be TILA section 103(dd) to provide for instead being implemented in consistent with congressional intent in nearly identical exclusions in § 1026.32(b)(3). limiting points and fees for qualified calculating points and fees for the high- Bona fide third-party charges. TILA mortgages. The Board noted that points cost mortgage threshold. Section 129C(b)(2)(C)(i) excludes from charged to meet GSE risk-based price In the 2011 ATR Proposal, the Board points and fees ‘‘bona fide third party adjustment requirements are arguably proposed to implement in charges not retained by the mortgage no different than other points charged § 226.43(e)(3)(ii)(A) through (C) the originator, creditor, or an affiliate of the on loans sold to any secondary market exclusion of certain bona fide third- creditor or mortgage originator.’’ purchaser to compensate that purchaser party charges and bona fide discount Tracking the statute, proposed for added loan-level risks. Congress points only for the calculation of points § 226.43(e)(3)(ii)(A) would have clearly contemplated that discount and fees for the qualified mortgage excluded from ‘‘points and fees’’ for points generally should be included in points and fees threshold. In the 2012 qualified mortgages any bona fide third points and fees for qualified mortgages. HOEPA Proposal, the Bureau proposed party charge not retained by the The Board noted that an exclusion for to implement these exclusions in creditor, loan originator, or an affiliate points charged by creditors in response of either. Proposed § 226.43(e)(3)(iii) to secondary market LLPAs also would 77 See Department of Housing and Urban would have specified that the term raise questions about the appropriate Development, Mortgagee Letter 12–4 (Mar. 6, 2012), ‘‘loan originator’’ has the same meaning treatment of points charged by creditors available at http://portal.hud.gov/hudportal/ as in § 226.36(a)(1). to offset loan-level risks on mortgage documents/huddoc?id=12-04ml.pdf. Proposed § 226.43(e)(3)(ii)(A) would loans that they hold in portfolio. The 78 The exclusions differ in only one respect. To exclude two or one bona fide discount points from also have implemented TILA section Board reasoned that, under normal the points and fees test for determining whether a 103(bb)(1)(C), which requires that circumstances, these points are retained loan is a high-cost mortgage, TILA section premiums for private mortgage by the creditor, so it would not be 103(dd)(1)(B) and (C) specified that the interest rate insurance be included in ‘‘points and appropriate to exclude them from points for personal property loans before the discount must be within 1 or 2 percentage points, fees’’ as defined in TILA section and fees under the ‘‘bona fide third respectively, of the average rate on a loan in 103(bb)(4) under certain circumstances. party charge’’ exclusion. However, the connection with which insurance is provided under Applying general rules of statutory Board cautioned that requiring that title I of the National Housing Act. TILA section construction, the Board concluded that these points be included in points and 129C(b)(2)(C), which prescribes conditions for excluding bona fide discount points from points the more specific provision on private fees, when similar charges on loans sold and fees for qualified mortgages, does not contain mortgage insurance supersedes the more into the secondary market are excluded, analogous provisions. general provision permitting any bona may create undesirable market

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imbalances between loans sold to the responsible for finalizing the 2011 QRM charges are required to be included secondary market and loans held in Proposed Rule to avoid unintended under § 1026.32(b)(1)(i)(C), (iii), or (iv). portfolio. consequences. The 2011 ARM Proposed The Bureau acknowledges that TILA The Board also noted that creditors Rule, if adopted, would require, in sections 103(bb)(1)(A)(ii) and may offset risks on their portfolio loans certain circumstances, that sponsors of 129C(b)(2)(C) could plausibly be read to (or on loans sold into the secondary MBS create premium capture cash provide for a two-step calculation of market) by charging a higher rate rather reserve accounts to limit sponsors’ points and fees: first, the creditor would than additional points and fees; ability to monetize the excess spread calculate points and fees as defined in however, the Board recognized the between the proceeds from the sale of TILA section 103(bb)(4); and, second, limits of this approach to loan-level risk the interests and the par value of those the creditor would exclude all bona fide mitigation due to concerns such as interests. See 76 FR 24113. The third-party charges not retained by the exceeding high-cost mortgage rate commenter stated that this would result mortgage originator, creditor, or an thresholds. Nonetheless, the Board in any premium in the price of a affiliate of either, as provided in TILA noted that in practice, an exclusion from sections 103(bb)(1)(A)(ii) (for high-cost securitization backed by residential the qualified mortgage points and fees mortgages) and 129C(b)(2)(C) (for mortgage loans being placed in a first- calculation for all points charged to qualified mortgages). Under this loss position in the securitization. The offset loan-level risks may create reading, charges for, e.g., private compliance and enforcement commenter argued that this would make mortgage insurance could initially, in difficulties. The Board questioned premium loans too expensive to step one, be included in points and fees whether meaningful distinctions originate and that creditors would not but then, in step two, be excluded as between points charged to offset loan- be able to recover LLPAs through bona fide third-party charges under level risks and other points and fees interest rate adjustments. The TILA sections 103(bb)(1)(A)(ii) or charged on a loan could be made clearly commenter maintained that if the 129C(b)(2)(C). and consistently. In addition, the Board LLPAs were included in the calculation To give meaning to the specific observed that such an exclusion could for the qualified mortgage points and statutory provisions regarding mortgage be overbroad and inconsistent with fees limit, creditors would also be insurance, real estate related fees, and Congress’s intent that points generally severely constrained in recovering credit insurance, the Bureau believes be counted toward the points and fees LLPAs through points. The commenter that the better reading is that these threshold for qualified mortgages. argued that LLPAs therefore should be specific provisions should govern The Board requested comment on excluded from the points and fees whether such charges are included in whether and on what basis the final rule calculation for qualified mortgages. points and fees, rather than the general should exclude from points and fees for The Bureau is adopting provisions excluding certain bona fide qualified mortgages points charged to § 226.43(e)(3)(ii)(A), with certain third-party charges. For example, meet risk-based price adjustment revisions, as renumbered Congress added TILA section requirements of secondary market § 1026.32(b)(1)(i)(D). As revised, 103(bb)(1)(C), which prescribes certain purchasers and points charged to offset § 1026.32(b)(1)(i)(D) provides that a conditions under which private loan-level risks on mortgages held in bona fide third party charge not retained mortgage insurance premiums would be portfolio. by the creditor, loan originator, or an included in points and fees. The Bureau Consumer advocates did not comment affiliate of either the general is excluded believes that the purpose of this on this issue. Many industry provision is to help ensure that from points and fees unless the charge commenters argued that LLPAs should consumers with a qualified mortgage are is required to be included under be excluded from points and fees as not charged excessive private mortgage § 1026.32(b)(1)(i)(C) (for mortgage bona fide third party charges. The GSE insurance premiums. If such premiums insurance premiums), (iii) (for real commenters agreed that LLPAs should could be excluded as bona fide third- estate related fees), or (iv) (for credit be excluded as bona fide third party party charges under TILA sections charges, noting that they are not insurance premiums). As noted above, 103(bb)(1)(A)(ii) or 129C(b)(2)(C), then retained by the creditor. One GSE the Board proposed that the specific the purpose of this provision would be commenter noted that LLPAs are set provision regarding mortgage insurance, undermined. In further support of its fees that are transparent and accessible TILA section 103(bb)(1)(C), should interpretation, the Bureau is invoking its via the GSEs’ Web sites. Some industry govern the exclusion of private mortgage authority under TILA section 105(a) to commenters contended that including insurance premiums of points and fees, make such adjustments and exceptions LLPAs in points and fees would cause rather than TILA section 129C(b)(2)(C), as are necessary and proper to effectuate many loans to exceed the points and which provides generally for the the purposes of TILA, including that fees cap for qualified mortgages. Other exclusion of certain bona fide third- consumers are offered and receive industry commenters argued that party charges. The Bureau likewise residential mortgage loans on terms that requiring LLPAs to be included in believes that the specific statutory reasonably reflect their ability to repay points and fees would force creditors to provisions regarding real estate related the loans. Similarly, the Bureau finds recover the costs through increases in fees and credit insurance premiums in that it is necessary, proper and the interest rate. One of the GSE TILA section 103(bb)(4)(C) and (D) appropriate to use its authority under commenters acknowledged the concern should govern whether these charges are TILA section 129C(b)(3)(B)(i) to revise that creditors holding loans in portfolio included in points and fees rather than and subtract from the statutory could be at a disadvantage if LLPAs the more general provisions regarding language. This use of authority ensures were excluded from points and fees and exclusion of bona fide third-party that responsible, affordable mortgage suggested that the Bureau consider charges, TILA sections 103(bb)(1)(A)(ii) credit remains available to consumers in allowing such creditors to exclude (for high-cost mortgages) or a manner consistent with the purpose of published loan level risk adjustment 129C(b)(2)(C) (for qualified mortgages). TILA section 129C, referenced above, as fees. Thus, § 1026.32(b)(1)(i)(D) provides that well as effectuating that purpose. One industry commenter urged the the general exclusion for bona fide As noted above, several industry Bureau to coordinate with the agencies third-party charges applies unless the commenters argued that points charged

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by creditors to offset LLPAs should be The Board proposed comment have to include in ‘‘points and fees’’ excluded from points and fees under 43(e)(3)(ii)–1 to clarify the meaning in premiums or charges payable at or § 1026.32(b)(1)(i)(D). In setting the proposed § 226.43(e)(3)(ii)(A) of before consummation for any private purchase price for loans, the GSEs ‘‘retained by’’ the loan originator, guaranty or insurance protecting the impose LLPAs to offset certain credit creditor, or an affiliate of either. creditor against the consumer’s default risks, and creditors may but are not Proposed comment 43(e)(3)(ii)–1 or other credit loss to the extent that the required to recoup the revenue lost as a provided that if a creditor charges a premium or charge exceeds the amount result of the LLPAs by increasing the consumer $400 for an appraisal payable under policies in effect at the costs to consumers in the form of points. conducted by a third party not affiliated time of origination under section The Bureau believes that the manner in with the creditor, pays the third party 203(c)(2)(A) of the National Housing Act which creditors respond to LLPAs is appraiser $300 for the appraisal, and (12 U.S.C. 1709(c)(2)(A)). The proposed better viewed as a fundamental retains $100, the creditor may exclude comment also would have explained component of how the pricing of a $300 of this fee from ‘‘points and fees’’ that these premiums or charges would mortgage loan is determined rather than but must count the $100 it retains in be included if the premiums or charges as a third party charge. As the Board ‘‘points and fees.’’ were not required to be refundable on a noted, allowing creditors to exclude As noted above, several commenters pro-rated basis, or the refund is not points charged to offset LLPAs could expressed confusion about the automatically issued upon notification create market imbalances between loans relationship between proposed of the satisfaction of the underlying sold on the secondary market and loans § 226.43(e)(3)(ii)(A), which would have mortgage loan. The comment would held in portfolio. While such excluded bona fide third party charges have clarified that, under these imbalances could be addressed by not retained by the loan originator, circumstances, even if the premiums excluding risk adjustment fees more creditor, or an affiliate of either, and and charges were not retained by the broadly, including fees charged by proposed § 226.32(b)(1)(iii), which creditor, loan originator, or an affiliate creditors for loans held in portfolio, the would have excluded certain real estate of either, they would be included in the Bureau agrees with the Board that this related charges if they are reasonable, if ‘‘points and fees’’ calculation for could create compliance and the creditor receives no direct or qualified mortgages. The comment also enforcement difficulties. Thus, the indirect compensation in connection would have cross-referenced proposed Bureau concludes that points charged to with the charges, and the charges are comments 32(b)(1)(i)–3 and –4 for offset LLPAs may not be excluded from not paid to an affiliate of the creditor. further discussion of including private points and fees under As explained above, the Bureau mortgage insurance premiums in the § 1026.32(b)(1)(i)(D). To the extent that interprets the more specific provision points and fees calculation. creditors offer consumers the governing the inclusion in points and The Bureau is adopting proposed opportunity to pay points to lower the fees of real estate related charges comment 43(e)(3)(ii)–2 substantially as interest rate that the creditor would (implemented in § 1026.32(b)(1)(iii)) as proposed, renumbered as comment otherwise charge to recover the lost taking precedence over the more general 32(b)(i)(D)–2. In addition, the Bureau revenue from the LLPAs, such points exclusion for bona fide third party also is adopting new comments may, if they satisfy the requirements of charges in renumbered 32(b)(i)(D)–3 and –4 to explain that the § 1026.32(b)(1)(i)(E) or (F), be excluded § 1026.32(b)(1)(i)(D). Accordingly, the exclusion of bona fide third party Bureau does not believe that the charges under § 1026.32(b)(1)(i)(D) does from points and fees as bona fide example in proposed comment not apply to real estate-related charges discount points. 43(e)(3)(ii)–1 is appropriate for and credit insurance premiums. The As noted above, one commenter illustrating the exclusion for bona fide inclusion of these items in points and expressed concern that if the third party charges because the subject fees is specifically addressed in requirements for premium capture cash of the example, appraisals, is § 1026.32(b)(iii) and (iv), respectively. reserve accounts proposed in the 2011 specifically addressed in Bona fide discount points. TILA QRM Proposed Rule were adopted, § 1026.32(b)(1)(iii). section 129C(b)(2)(C)(ii) excludes up to creditors would have difficulty in The Bureau therefore is revising two bona fide discount points from recovering the costs of LLPAs through renumbered comment 32(b)(1)(i)(D)–1 points and fees under certain rate and that, because of the points and by using a settlement agent charge to circumstances. Specifically, it excludes fees limits for qualified mortgages, illustrate the exclusion for bona fide up to two bona fide discount points if creditors would also have trouble third party charges. By altering this the interest rate before the discount does recovering the costs of LLPAs through example to address closing agent not exceed the average prime offer rate up-front charges to consumers. The charges, the Bureau is also responding by more than two percentage points. Bureau notes that, as proposed, the to requests from commenters that the Alternatively, it excludes up to one premium capture cash reserve account Bureau provide more guidance on discount point if the interest rate before requirement would not apply to whether closing agent charges are the discount does not exceed the securities sponsored by the GSEs and included in points and fees. As noted average prime offer rate by more than would not apply to securities comprised above, proposed § 226.43(e)(3)(iii) one percentage point. The Board solely of QRMs. See 76 FR 24112, would have specified that the term proposed to implement this provision in 24120. Thus, it is not clear, that even if ‘‘loan originator,’’ as used in proposed proposed § 226.43(e)(3)(ii)(B) and (C). it were adopted, the requirement would § 226.43(e)(3)(ii)(A), has the same Proposed § 226.43(e)(3)(ii)(B) would have as substantial an impact as meaning as in § 226.36(a)(1). The have permitted a creditor to exclude suggested by the commenter. In any Bureau is moving the cross-reference to from points and fees for a qualified event, the requirement has merely been the definition of ‘‘loan originator’’ in mortgage up to two bona fide discount proposed, not finalized. The Bureau will § 226.36(a)(1) to comment 32(b)(1)(i)(D)– points paid by the consumer in continue to coordinate with the agencies 1. connection with the covered responsible for finalizing the 2011 QRM The Board proposed comment transaction, provided that: (1) The Proposed Rule to consider the combined 43(e)(3)(ii)–2 to explain that, under interest rate before the rate is effects of that rule and the instant rule. § 226.32(b)(1)(i)(B), creditors would discounted does not exceed the average

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prime offer rate, as defined in One commenter noted that proposed discount points to lower their interest § 226.45(a)(2)(ii), by more than one § 226.43(e)(3)(ii)(B) and (C) would rates. Nevertheless, the Bureau does not percent; and (2) the average prime offer require that, for the discount points or believe it would be appropriate to rate used for purposes of paragraph point to be excluded from points and exercise its exception authority. 43(e)(3)(ii)(B)(1) is the same average fees, the interest rate before the discount Congress apparently concluded that prime offer rate that applies to a must not exceed the average prime offer there was a greater probability of comparable transaction as of the date rate by more than one or two ‘‘percent,’’ consumer injury when consumers the discounted interest rate for the respectively. The commenter purchased more than two discount covered transaction is set. recommended that, for clarity and points or when the consumers were Proposed § 226.43(e)(3)(ii)(C) would consistency with the statute, the using discount points to buy down have permitted a creditor to exclude requirement should instead require that higher interest rates. The Bureau also from points and fees for a qualified the interest rate before the discount be notes that, in other sections of the Dodd- mortgage up to one bona fide discount within one or two ‘‘percentage points’’ Frank Act, Congress prescribed different point paid by the consumer in of the average prime offer rate. thresholds above the average prime offer connection with the covered The Bureau is adopting proposed rate for jumbo loans. See TILA sections transaction, provided that: (1) The § 226.43(e)(3)(ii)(B) and (C), renumbered 129C(c)(1)(B) (prepayment penalties) interest rate before the discount does as § 1026.32(b)(1)(i)(E) and (F), with and 129H(f)(2) (appraisals). Congress not exceed the average prime offer rate, certain revisions. As suggested by a did not do so in the provision regarding as defined in § 226.45(a)(2)(ii), by more commenter, the Bureau is revising both exclusion of bona fide discount points. than two percent; (2) the average prime § 1026.32(b)(1)(i)(E)(1) and (F)(1) to The Bureau is adding new comment offer rate used for purposes of require that, to exclude the discount 32(b)(1)(i)(E)–2 to note that the term § 226.43(e)(3)(ii)(C)(1) is the same points or point, the interest rate must be ‘‘bona fide discount point’’ is defined in average prime offer rate that applies to within one or two ‘‘percentage points’’ § 1026.32(b)(3). To streamline the rule, a comparable transaction as of the date (rather than ‘‘percent’’) of the average the Bureau is moving into new comment the discounted interest rate for the prime offer rate. This formulation is 32(b)(1)(i)(E)–2 the explanation that the covered transaction is set; and (3) two clearer and consistent with the statutory average prime offer rate used for bona fide discount points have not been language. The Bureau is also adding purposes of for both § 1026.32(b)(1)(i)(E) excluded under § 226.43(e)(3)(ii)(B). § 1026.32(b)(1)(i)(E)(2) and (F)(2) to and (F) is the average prime offer rate Several industry commenters argued implement TILA section 103(dd)(1)(B) that applies to a comparable transaction that creditors should be permitted to and (C), which specify that, to exclude as of the date the discounted interest exclude from points and fees more than discount points from points and fees for rate for the covered transaction is set. two discount points. Some industry purposes of determining whether a loan The Board proposed comment commenters maintained that creditors is a high-cost mortgage, the interest rate 43(e)(3)(ii)–5 to clarify that the average should be permitted to exclude as many for personal property loans before the prime offer rate table indicates how to discount points as consumers choose to discount must be within one or two identify the comparable transaction. The pay. Another commenter contended that percentage points, respectively, of the Bureau is adding the language from creditors should be able to exclude as average rate on a loan in connection proposed comment 43(e)(3)(ii)–5 to new many as three discount points. with which insurance is provided under comment 32(b)(1)(i)(E)–2, with a A few industry commenters requested title I of the National Housing Act. This eliminating the requirement that, for the provision does not apply to the points revision to the cross-reference for the discount points to be bona fide, the and fees limit for qualified mortgages, comment addressing ‘‘comparable interest rate before the discount must be regardless of whether a loan is a high- transaction.’’ within one or two percentage points of cost mortgage. The provision is Proposed comment 43(e)(3)(ii)–3 the average prime offer rate. One included in the final rule for would have included an example to industry commenter argued that this completeness. Finally, in illustrate the rule permitting exclusion requirement is too inflexible. Several § 1026.32(b)(1)(i)(F), the Bureau is of two bona fide discount points. The commenters recommended that this clarifying that bona fide discount points example would have assumed a covered requirement be adjusted for jumbo loans cannot be excluded under transaction that is a first-lien, purchase and for second homes. Another § 1026.32(b)(1)(i)(F) if any bona fide money home mortgage with a fixed commenter claimed that this discount points already have been interest rate and a 30-year term. It requirement would limit the options for excluded under § 1026.32(b)(1)(i)(E). would also have assumed that the consumers paying higher interest rates As noted above, several commenters consumer locks in an interest rate of 6 and that these are the consumers for urged the Bureau to alter or eliminate percent on May 1, 2011, that was whom it would be most beneficial to the limitations on how many discount discounted from a rate of 6.5 percent pay down their interest rates. points may be excluded and the because the consumer paid two Several commenters argued that the requirement that the pre-discount discount points. Finally, assume that effect of these two limitations for interest rate must be within one or two the average prime offer rate as of May excluding discount points from points points of the average prime offer rate. A 1, 2011 for first-lien, purchase money and fees—the limit on the number of few industry commenters also requested home mortgages with a fixed interest discount points that could be excluded that the Bureau adjust the limitation on rate and a 30-year term is 5.5 percent. and the requirement that the pre- the pre-discount interest rate In this example, the creditor would have discount rate be within one or two specifically for jumbo loans and loans been able to exclude two discount points of the average prime offer rate— for vacation homes. These commenters points from the ‘‘points and fees’’ would have a negative impact on noted that interest rates for such loans calculation because the rate from which consumers. They maintained that these otherwise would often be too high to the discounted rate was derived limitations would prevent consumers qualify for the exclusion for bona fide exceeded the average prime offer rate for from choosing their optimal discount points. The Bureau recognizes a comparable transaction as of the date combination of interest rate and points that these limitations may circumscribe the rate on the covered transaction was for their financial circumstances. the ability of consumers to purchase set by only 1 percent.

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The Bureau is adopting proposed in existing § 1026.32(b)(1)(ii), which before closing’’ from the high-cost comment 43(e)(3)(ii)–3 substantially as requires that all compensation paid by mortgage points and fees test and did proposed but renumbered as comment consumers directly to mortgage brokers not apply the ‘‘payable at or before 32(b)(1)(i)(E)–3. The Bureau is also be included in points and fees, but does closing’’ limitation to the points and adding new comment 32(b)(1)(i)(F)–1 to not address compensation paid by fees cap for qualified mortgages. See explain that comments 32(b)(1)(i)(E)–1 creditors to mortgage brokers or TILA sections 103(bb)(1)(A)(ii) and and –2 provide guidance concerning the compensation paid by any company to 129C(b)(2)(A)(vii), (b)(2)(C). Thus, the definitions of ‘‘bona fide discount individual employees (such as loan statute appears to contemplate that even point’’ and ‘‘average prime offer rate,’’ officers who are employed by a creditor compensation paid to mortgage brokers respectively. or mortgage broker). and other loan originators after Proposed comment 43(e)(3)(ii)–4 The Dodd-Frank Act substantially consummation should be counted would have provided an example to expanded the scope of compensation toward the points and fees thresholds. illustrate the rule permitting exclusion included in points and fees for both the This change is one of several of one bona fide discount point. The high-cost mortgage threshold in HOEPA provisions in the Dodd-Frank Act that example assumed a covered transaction and the qualified mortgage points and focus on loan originator compensation that is a first-lien, purchase money fees limits.80 Section 1431 of the Dodd- and regulation, in apparent response to home mortgage with a fixed interest rate Frank Act amended TILA to require that concerns that industry compensation and a 30-year term. The example also ‘‘all compensation paid directly or practices contributed to the mortgage would have assumed that the consumer indirectly by a consumer or creditor to market crisis by creating strong locks in an interest rate of 6 percent on a mortgage originator from any source, incentives for brokers and retail loan May 1, 2011, that was discounted from including a mortgage originator that is officers to steer consumers into higher- a rate of 7 percent because the consumer also the creditor in a table-funded priced loans. Specifically, loan paid four discount points. Finally, the transaction,’’ be included in points and originators were often paid a example would have assumed that the fees. TILA section 103(bb)(4)(B) commission by creditors that increased average prime offer rate as of May 1, (emphasis added). Under amended with the interest rate on a transaction. 2011, for first-lien, purchase money TILA section 103(bb)(4)(B), These commissions were funded by home mortgages with a fixed interest compensation paid to anyone that creditors through the increased revenue rate and a 30-year term is 5 percent. qualifies as a ‘‘mortgage originator’’ is to 81 received by the creditor as a result of the In this example, the creditor would be included in points and fees. Thus, higher rate paid by the consumer and have been able to exclude one discount in addition to compensation paid to were closely tied to the price the point from the ‘‘points and fees’’ mortgage brokerage firms and individual creditor expected to receive for the loan calculation because the rate from which brokers, points and fees also includes on the secondary market as a result of the discounted rate was derived (7 compensation paid to other mortgage that higher rate.82 In addition, many percent) exceeded the average prime originators, including employees of a mortgage brokers charged consumers creditor (i.e., loan officers). In addition, offer rate for a comparable transaction as up-front fees to cover some of their costs as noted above, the Dodd-Frank Act of the date the rate on the covered at the same time that they accepted removed the phrase ‘‘payable at or transaction was set (5 percent) by only backend payments from creditors out of 2 percent. The Bureau is adopting the rate. This may have contributed to have had lower expenses and would have been able proposed comment 43(e)(3)(ii)–4 to charge a lower rate. Other commenters use the consumer confusion about where the substantially as proposed but term ‘‘yield spread premium’’ more narrowly to brokers’ loyalties lay. renumbered as comment 32(b)(1)(i)(F)– refer only to a payment from a creditor to a The Dodd-Frank Act took a number of 2. mortgage broker that is based on the interest rate, i.e., the mortgage broker receives a larger payment steps to address loan originator 32(b)(1)(ii) if the consumer agrees to a higher interest rate. To compensation issues, including: (1) avoid confusion, the Bureau is limiting its use of Adopting requirements that loan When HOEPA was enacted in 1994, it the term and is instead more specifically describing originators be ‘‘qualified’’ as defined by required that ‘‘all compensation paid to the payment at issue. 80 Bureau regulations; (2) generally mortgage brokers’’ be counted toward Currently, the points and fees threshold for determining whether a loan is a high-cost mortgage prohibiting compensation based on rate the threshold for points and fees that is the greater of 8 percent of the total loan amount and other terms (except for loan triggers special consumer protections or $400 (adjusted for inflation). Section 1431 of the amount) and prohibiting a loan under the statute. Specifically, TILA Dodd-Frank Act lowered the points and fees threshold for determining whether a loan is a high- originator from receiving compensation section 103(aa)(4) provided that charges cost mortgage to 5 percent of the total transaction from both consumers and other parties are included in points and fees only if amount for loans of $20,000 or more and to the in a single transaction; (3) requiring the they are payable at or before lesser of 8 percent of the total transaction amount promulgation of additional rules to consummation and did not expressly or $1,000 for loans less than $20,000. prohibit steering consumers to less address whether ‘‘backend’’ payments 81 ‘‘Mortgage originator’’ is generally defined to include ‘‘any person who, for direct or indirect advantageous transactions; (4) requiring from creditors to mortgage brokers compensation or gain, or in the expectation of the disclosure of loan originator funded out of the interest rate direct or indirect compensation or gain—(i) takes a compensation; and (5) restricting loan (commonly referred to as yield spread residential mortgage loan application; (ii) assists a originator compensation under HOEPA consumer in obtaining or applying to obtain a premiums) are included in points and and the qualified mortgage provisions 79 residential mortgage loan; or (iii) offers or negotiates fees. This requirement is implemented terms of a residential mortgage loan.’’ TILA section by including such compensation within 103(dd)(2). The statute excludes certain persons the points and fees calculations. See 79 Some commenters use the term ‘‘yield spread from the definition, including a person who TILA sections 103(bb)(4)(A)(ii), (B); premium’’ to refer to any payment from a creditor performs purely administrative or clerical tasks; an to a mortgage broker that is funded by increasing employee of a retailer of manufactured homes who the interest rate that would otherwise be charged to does not take a residential mortgage application or 82 For more detailed discussions, see the Bureau’s the consumer in the absence of that payment. These offer or negotiate terms of a residential mortgage 2012 Loan Originator Proposal and the final rule commenters generally assume that any payment to loan; and, subject to certain conditions, real estate issued by the Board in 2010. 77 FR 55272, 55276, the brokerage firm by the creditor is funded out of brokers, sellers who finance three or fewer 55290 (Sept. 7, 2012); 75 FR 58509, 5815–16, the interest rate, reasoning that had the consumer properties in a 12-month period, and servicers. 58519–20 (Sept. 24, 2010) (2010 Loan Originator paid the brokerage firm directly, the creditor would TILA section 103(dd)(2)(C) through (F). Final Rule).

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128(a)(18); 129B(b), (c); or a creditor to a loan originator, as originator compensation in points and 129C(b)(2)(A)(vii), (C)(i). defined in § 1026.36(a)(1), would be fees, urging the Bureau to use its The Board proposed revisions to included in points and fees. Proposed exception authority to exclude loan § 226.32(b)(1)(ii) to implement the comment 32(b)(1)(ii)–1 also stated that originator compensation from points inclusion of more forms of loan loan originator compensation already and fees altogether. Several industry originator compensation into the points included in points and fees because it commenters contended that other and fees thresholds. Those proposed is included in the finance charge under statutory provisions and rules, revisions tracked the statutory language, § 226.32(b)(1)(i) would not be counted including the Secure and Fair with two exceptions. First, proposed again under § 226.32(b)(1)(ii). Enforcement for Mortgage Licensing Act § 226.32(b)(1)(ii) did not include the Proposed comment 32(b)(1)(ii)–2.i of 2008 (SAFE Act), the Board’s 2010 phrase ‘‘from any source.’’ The Board stated that, in determining points and Loan Originator Final Rule, and certain noted that the statute covers fees, loan originator compensation Dodd-Frank Act provisions (including compensation paid ‘‘directly or includes the dollar value of those proposed to be implemented in indirectly’’ to the loan originator, and compensation paid to a loan originator the Bureau’s 2012 Loan Originator concluded that it would be redundant to for a specific transaction, such as a Proposal), adequately regulate loan cover compensation ‘‘from any source.’’ bonus, commission, yield spread originator compensation and prohibit or Second, for consistency with Regulation premium, award of merchandise, restrict problematic loan originator Z, the proposal used the term ‘‘loan services, trips, or similar prizes, or compensation practices. Accordingly, originator’’ as defined in § 226.36(a)(1), hourly pay for the actual number of they argued it is therefore unnecessary rather than the term ‘‘mortgage hours worked on a particular to include loan originator compensation originator’’ that appears in section 1401 transaction. Proposed comment in points and fees. of the Dodd-Frank Act. See TILA section 32(b)(1)(ii)–2.ii clarified that loan Many industry commenters also 103(cc)(2). The Board explained that it originator compensation excludes asserted that the amount of interpreted the definitions of mortgage compensation that cannot be attributed compensation paid to loan originators originator under the statute and loan to a transaction at the time of has little or no bearing on a consumer’s originator under existing Regulation Z origination, including, for example, the ability to repay a mortgage, and thus to be generally consistent, with one base salary of a loan originator that is that including loan originator exception that the Board concluded was also the employee of the creditor, or compensation in points and fees under not relevant for purposes of the points compensation based on the performance this rulemaking is unnecessary. They and fees thresholds. Specifically, the of the loan originator’s loans or on the further asserted that including loan statutory definition refers to ‘‘any overall quality of a loan originator’s loan originator compensation in points and person who represents to the public, files. Proposed comment 32(b)(1)(ii)–2.i fees would greatly increase compliance through advertising or other means of also explained that compensation paid burdens on creditors, discourage communicating or providing to a loan originator for a covered creditors from making qualified information (including the use of transaction must be included in the mortgages, and ultimately reduce access business cards, stationery, brochures, points and fees calculation for that to credit and increase the cost of credit. signs, rate lists, or other promotional transaction whenever paid, whether at Several industry commenters argued items), that such person can or will or before closing or any time after that, if the Bureau does not exclude all provide’’ the services listed in the closing, as long as the compensation loan originator compensation from definition (such as offering or amount can be determined at the time points and fees, then the Bureau should negotiating loan terms), while the of closing. In addition, proposed at least exclude compensation paid to existing Regulation Z definition does comment 32(b)(1)(ii)–2.i provided three individual loan originators (i.e., loan not include persons solely on this basis. examples of compensation paid to a officers who are employed by creditors The Board concluded that it was not loan originator that would have been or mortgage brokerage firms). They necessary to add this element of the included in the points and fees argued that compensation paid to definition to implement the points and calculation. individual loan originators is already fees calculations anyway, reasoning that Proposed comment 32(b)(1)(ii)–3 included in the cost of the loan, either the calculation of points and fees is stated that loan originator compensation in the interest rate or in origination fees. concerned only with loan originators includes amounts the loan originator They maintained that including that receive compensation for retains and is not dependent on the compensation paid to individual loan performing defined origination label or name of any fee imposed in originators in points and fees would functions in connection with a connection with the transaction. therefore constitute double counting. consummated loan. The Board noted Proposed comment 32(b)(1)(ii)–3 offered Several industry commenters also that a person who merely represents to an example of a loan originator claimed that they would face significant the public that such person can offer or imposing and retaining a ‘‘processing challenges in determining the amount of negotiate mortgage terms for a consumer fee’’ and stated that such a fee is loan compensation for individual loan has not yet received compensation for originator compensation, regardless of originators. They noted that creditors that function, so there is no whether the loan originator expends the need clear, objective standards for compensation to include in the fee to process the consumer’s determining whether loans satisfy the calculation of points and fees for a application or uses it for other expenses, qualified mortgage standard, and that particular transaction. such as overhead. the complexity of apportioning In the proposed commentary, the The Board requested comment on the compensation to individual loans at the Board explained what compensation types of loan originator compensation time of each closing to determine the would and would not have been that must be included in points and amount of loan originator compensation included in points and fees under fees. The Board also sought comment on to count toward the points and fees cap proposed § 226.32(b)(1)(ii). The Board the appropriateness of specific examples would create uncertainty. They also proposed to revise existing comment given in the commentary. noted that having to track individual 32(b)(1)(ii)–1 to clarify that Many industry commenters objected loan originators’ compensation and compensation paid by either a consumer to the basic concept of including loan allocate that compensation to individual

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loans would create additional provided examples illustrating that, as a agree to above-market interest rates. compliance burdens, particularly for result of this difference, loans obtained They expressed concern that, compensation paid after closing. Several through a mortgage broker could have particularly in the subprime market, industry commenters also stated that interest rates and fees identical to those loan originators could specialize in estimating loan originator compensation in a loan obtained directly through a originating transactions with above- in table-funded transactions would creditor but could have significantly market interest rates, with the prove difficult because the funding higher loan originator compensation expectation they could arrange to assignee may not know the amount paid included in points and fees. Thus, receive above-market compensation for by the table-funded creditor to the particularly for smaller loan amounts, all of their transactions. Consumer individual loan originator. commenters expressed concern that it advocates argued that counting all Several industry commenters also would be difficult for loans originated methods of loan originator asserted that including compensation through mortgage brokers to remain compensation toward the points and paid to individual loan originators under the points and fees limits for fees thresholds was intended to deter would lead to anomalous results: qualified mortgages. such conduct. Otherwise identical loans could have A nonprofit loan originator Consumer advocates also pointed out significant differences in points and fees commenter also argued that including that in the wholesale context, the depending on the timing of the mortgage loan originator compensation in points consumer has the option of paying the loan or the identity of the loan officer. and fees could undercut programs that brokerage firm directly for its services. They noted, for example, that a loan that help low and moderate income Such payments have always been qualifies a loan officer for a substantial consumers obtain affordable mortgages. included within the calculation of bonus because it enables a loan officer This commenter noted that it relies on points and fees for HOEPA purposes. to satisfy a long-term (e.g., annual) payments from creditors to help it The advocates argued that when a origination-volume target or a loan that provide services to consumers and that consumer elects not to make the up- is originated by a high-performing loan counting such payments as loan front payment but instead elects to fund officer could have substantially higher originator compensation and including the same amount of money for the loan originator compensation, and thus them in points and fees could brokerage through an increased rate, substantially higher points and fees, jeopardize its programs. The commenter there is no justification for treating the than an otherwise identical loan. requested that this problem be money received by the brokerage as a Because the consumers would not be addressed by excluding nonprofit result of the consumer’s decision any paying higher fees or interest rates organizations from the definition of loan differently. because of such circumstances, the originator or by excluding payments by The Bureau has carefully considered commenters argued that the result creditors to nonprofit organizations the comments received in light of the would not further the goals of the from points and fees. concerns about various issues with statute. Consumer advocates approved of regard to loan originator compensation Some industry commenters made a including loan originator compensation practices, the general concerns about the separate argument that the proposed in points and fees, regardless of when impacts of the ability-to-repay/qualified method for including loan originator and by whom the compensation is paid. mortgage rule and revised HOEPA compensation in points and fees would They asserted that including loan thresholds on a market in which access create an unfair playing field for originator compensation would promote to mortgage credit is already extremely mortgage brokers. These commenters more consistent treatment by ensuring tight, differences between the retail and noted that, since a brokerage firm can be that all payments that loan originators wholesale origination channels, and paid by only one source under the receive count toward the points and fees practical considerations regarding both Board’s 2010 Loan Originator Final Rule thresholds, regardless of whether the the burdens of day-to-day and related provisions of the Dodd- payment is made by the consumer or the implementation and the opportunities Frank Act, a payment by a creditor to a creditor and whether it is paid through for evasion by parties who wish to mortgage broker must cover both the the rate or through up-front fees. They engage in rent-seeking. As discussed broker’s overhead costs and the cost of maintained that the provision was further below, the Bureau is concerned compensating the individual that intended to help prevent consumers about implementation burdens and worked on the transaction. The from paying excessive amounts for loan anomalies created by the requirement to creditor’s entire payment to the origination services. More specifically, include loan originator compensation in mortgage broker is loan originator some consumer advocates argued that points and fees, the impacts that it compensation that is included in points the Dodd-Frank Act provision requiring could have on pricing and access to and fees, so that loan originator inclusion of loan originator credit, and the risks that rent-seekers compensation in a wholesale compensation in points and fees is an will continue to find ways to evade the transaction includes both the important part of a multi-pronged statutory scheme. Nevertheless, the compensation received from the creditor approach to address widespread Bureau believes that, in light of the to cover the overhead costs of the steering of consumers into more historical record and of Congress’s mortgage broker and the compensation expensive mortgage transactions, and in evident concern with loan originator that the broker passes through to the particular, to address the role of compensation practices, it would not be individual employee who worked on commissions funded through the appropriate to waive the statutory the transaction. By contrast, in a loan interest rate in such steering. The requirement that loan originator obtained directly from a creditor, the consumer advocates noted that separate compensation be included in points and creditor would have to include in points prohibitions on compensation based on fees. The Bureau has, however, worked and fees the compensation paid to the terms and on a loan originator’s to craft the rule that implements loan officer, but could choose to recover receiving compensation from both the Congress’s judgment in a way that is its overhead costs through the interest consumer and another party do not limit practicable and that reduces potential rate rather than an up-front charge that the amount of compensation a loan negative impacts of the statutory would count toward the points and fees originator can receive or prevent a loan requirement, as discussed below. The thresholds. One industry commenter originator from inducing consumers to Bureau is also seeking comment in the

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concurrent proposal being published originator compensation should not be environment or different brokerage elsewhere in today’s Federal Register included in points and fees because firms in a wholesale environment may on whether additional measures would other statutory provisions and rules earn different commissions from the better protect consumers and reduce already regulate loan originator creditor without that translating in implementation burdens and compensation, because loan originator differences in costs to the consumer. In unintended consequences. compensation is already included in the addition, there are anomalies Accordingly, the Bureau in adopting costs of mortgage loans, and because introduced by the fact that ‘‘loan § 1026.32(b)(1)(ii) has generally tracked including loan originator compensation originator’’ is defined to include the statutory language and the Board’s in points and fees would push many mortgage broker firms and individual proposal in the regulation text, but has loans over the 3 percent cap on points employees hired by either brokers or expanded the commentary to provide and fees for qualified mortgages (or even creditors, but not creditors themselves. more detailed guidance to clarify what over the points and fees limits for As a result, counting the total compensation must be included in determining whether a loan is a high- compensation paid to a mortgage broker points and fees. The Dodd-Frank Act cost mortgage under HOEPA), which firm will capture both the firm’s requires inclusion in points and fees of would increase costs and impair access overhead costs and the compensation ‘‘all compensation paid directly or to credit. that the firm passes on to its individual indirectly by a consumer or creditor to The Bureau views the fact that other loan officer. By contrast, in a retail a mortgage originator from any source, provisions within the Dodd-Frank Act transaction, the creditor would have to including a mortgage originator that is address other aspects of loan originator include in points and fees the also the creditor in a table-funded compensation and activity as evidence compensation that it paid to its loan transaction.’’ See TILA section of the high priority that Congress placed officer, but would continue to have the 103(bb)(4)(B). Consistent with the on regulating such compensation. The option of recovering its overhead costs Board’s proposal, revised other provisions pointed to by the through the interest rate, instead of an § 1026.32(b)(ii) does not include the commenters address specific up-front charge, to avoid counting them phrase ‘‘from any source.’’ The Bureau compensation practices that created toward the points and fees thresholds. agrees that the phrase is unnecessary particularly strong incentives for loan Indeed, the Bureau expects that the new because the provision expressly covers originators to ‘‘upcharge’’ consumers on requirement may prompt creditors to compensation paid ‘‘directly or a loan-by-loan basis and particular shift certain other expenses into rate to indirectly’’ to the loan originator. Like confusion about loan originators’ stay under the thresholds. the Board’s proposal, the final rule also loyalties. The Bureau believes that the Nevertheless, to the extent there are uses the term ‘‘loan originator’’ as inclusion of loan originator anomalies from including loan defined in § 1026.36(a)(1), not the term compensation in points and fees has originator compensation in points and ‘‘mortgage originator’’ under section distinct purposes. In addition to fees, these anomalies appear to be the 1401 of the Dodd-Frank Act. See TILA discouraging more generalized rent- result of deliberate policy choices by section 103(cc)(2). The Bureau agrees seeking and excessive loan originator Congress to expand the historical that the definitions are consistent in compensation, the Bureau believes that definition of points and fees to include relevant respects and notes that it is in Congress may have been focused on all methods of loan originator the process of amending the regulatory particular risks to consumers. Thus, compensation, whether derived from definition to harmonize it even more with respect to qualified mortgages, up-front charges or from the rate, closely with the Dodd-Frank Act including loan originator compensation without attempting to capture all definition of ‘‘mortgage originator.’’ 83 in points and fees helps to ensure that, overhead expenses by creditors or the Accordingly, the Bureau believes use of in cases in which high up-front gain on sale that the creditor can realize consistent terminology in Regulation Z compensation might otherwise cause upon closing a mortgage. The Bureau will facilitate compliance. Finally, as the creditor and/or loan originator to be agrees that counting loan originator revised, § 1026.32(b)(1)(ii) also does not less concerned about long-term compensation that is structured through include the language in proposed sustainability, the creditor is not able to rate toward the points and fees § 226.32(b)(1)(ii) that specified that the invoke a presumption of compliance if thresholds could cause some loans not provision also applies to a loan challenged to demonstrate that it made to be classified as qualified mortgages originator that is the creditor in a table- a reasonable and good faith and to trigger HOEPA protections, funded transaction. The Bureau has determination of the consumer’s ability compared to existing treatment under concluded that that clarification is to repay the loan. Similarly in HOEPA, HOEPA and its implementing unnecessary because a creditor in a the threshold triggers additional regulation. However, the Bureau views table-funded transaction is already consumer protections, such as enhanced this to be exactly the result that included in the definition of loan disclosures and housing counseling, for Congress intended. originator in § 1026.36(a)(1). To clarify the loans with the highest up-front In light of the express statutory what compensation must be included in pricing. language and Congress’s evident points and fees, revised The Bureau recognizes that the concern with increasing consumer § 1026.32(b)(1)(ii) specifies that method that Congress chose to protections in connection with high compensation must be included if it can effectuate these goals does not ensure levels of loan originator compensation, be attributed to the particular entirely consistent results as to whether the Bureau does not believe that it is transaction at the time the interest rate a loan is a qualified mortgage or a high- appropriate to use its exception or is set. These limitations are discussed in cost transaction. For instance, loans that adjustment authority in TILA section more detail below. are identical to consumers in terms of 105(a) or in TILA section In adopting the general rule, the up-front costs and interest rate may 129C(b)(3)(B)(i) to exclude loan Bureau carefully considered arguments nevertheless have different points and originator compensation entirely from by industry commenters that loan fees based on the identity of the loan points and fees for qualified mortgages originator who handled the transaction and HOEPA. As discussed below, 83 See 2012 Loan Originator Proposal, 77 FR for the consumer, since different however, the Bureau is attempting to 55283–88. individual loan originators in a retail implement the points and fees

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requirements with as much sensitivity compensation paid to individual loan implementation issues among other as practicable to potential impacts on originators would exacerbate the matters. the pricing of and availability of credit, differential treatment between the retail As noted above, the Bureau is revising anomalies and unintended and wholesale channels concerning § 1026.32(b)(1)(ii) to clarify that consequences, and compliance burdens. overhead costs. As noted above, compensation must be counted toward The Bureau also carefully considered compensation paid by the consumer or the points and fees thresholds if it can comments urging it to exclude creditor to the mortgage broker be attributed to the particular compensation paid to individual loan necessarily will include amounts for transaction at the time the interest rate originators from points and fees, but both the mortgage broker’s overhead and is set. The Bureau is also revising ultimately concluded that such a result profit and for the compensation the comment 32(b)(1)(ii)–1 to explain in would be inconsistent with the plain mortgage broker passes on to its loan general terms when compensation language of the statute and could officer. Excluding individual loan qualifies as loan originator exacerbate the potential inconsistent officer compensation on the retail side, compensation that must be included in effects of the rule on different mortgage points and fees. In particular, however, would effectively exempt origination channels. As noted above, compensation paid by a consumer or creditors from counting any loan many industry commenters argued that, creditor to a loan originator is included originator compensation at all toward even if loan originator compensation in the calculation of points and fees, were not excluded altogether, at least points and fees. Thus, for transactions provided that such compensation can be compensation paid to individual loan that would be identical from the attributed to that particular transaction originators should be excluded from consumer’s perspective in terms of at the time the interest rate is set. The points and fees. Under this approach, interest rate and up-front costs, the Bureau also incorporates part of only payments to mortgage brokers wholesale transaction could have proposed comment 32(b)(1)(ii)–3 into would be included in points and fees. significantly higher points and fees revised comment 32(b)(1)(ii)–1, The commenters contended that it (because the entire payment from the explaining that loan originator would be difficult to track creditor to the mortgage broker would compensation includes amounts the compensation paid to individual loan be captured in points and fees), while loan originator retains, and is not originators, particularly when that the retail transaction might include no dependent on the label or name of any compensation may be paid after loan origination compensation at all in fee imposed in connection with the consummation of the loan and that it points and fees. Such a result would put transaction. However, revised comment would create substantial compliance brokerage firms at a disadvantage in 32(b)(1)(ii)–1 does not include the problems. They also argued that their ability to originate qualified example from proposed comment including compensation paid to mortgages and put them at significantly 32(b)(1)(ii)–3, which stated that, if a individual loan originators in points greater risk of originating HOEPA loans. loan originator imposes a processing fee and fees would create anomalies, in This in turn could constrict the supply and retains the fee, the fee is loan which identical transactions from the of loan originators and the origination originator compensation under consumer’s perspective (i.e., the same channels available to consumers to their § 1026.32(b)(1)(ii) whether the originator interest rate and up-front costs) could detriment. expends the fee to process the nevertheless have different points and The Bureau recognizes that including consumer’s application or uses it for fees because of loan originator compensation paid to individual loan other expenses, such as overhead. That compensation. originators, such as loan officers, with example may be confusing in this As explained above, the Bureau does respect to individual transactions may context because a processing fee paid to not believe it is appropriate to use its impose additional burdens. For a loan originator likely would be a exception authority to exclude loan example, creditors will have to track finance charge under § 1026.4 and originator compensation from points would therefore already be included in employee compensation for purposes of and fees, and even using that exception points and fees under § 1026.32(b)(1)(i). complying with the rule, and the authority more narrowly to exclude Revised comment 32(b)(1)(ii)–2.i compensation paid to individual loan calculation of points and fees will be explains that compensation, such as a originators could undermine Congress’s more complicated. However, the Bureau bonus, commission, or an award of apparent goal of providing stronger notes that creditors and brokers already merchandise, services, trips or similar consumer protections in cases of high have to monitor compensation more prizes, must be included only if it can loan originator compensation. Although carefully as a result of the 2010 Loan be attributed to a particular transaction. earlier versions of legislation focused Originator Final Rule and the related The requirement that compensation is specifically on compensation to Dodd-Frank Act restrictions on included in points and fees only if it can ‘‘mortgage brokers,’’ which is consistent compensation based on terms and on be attributed to a particular transaction with existing HOEPA, the Dodd-Frank dual compensation. The Bureau also is consistent with the statutory Act refers to compensation to ‘‘mortgage believes that these concerns can be language. The Dodd-Frank Act provides originators,’’ a term that is defined in reduced by providing clear guidance on that, for the points and fees tests for detail elsewhere in the statute to issues such as what types of both qualified mortgages and high-cost include individual loan officers compensation are covered, when mortgages, only charges that are ‘‘in employed by both creditors and brokers, compensation is determined, and how connection with’’ the transaction are in addition to the brokers themselves. to avoid ‘‘double-counting’’ payments included in points and fees. See TILA To the extent that Congress believed that are already included in points and sections 103(bb)(1)(A)(ii) (high-cost that high levels of loan originator fees calculations. The Bureau has mortgages) and 129C(b)(2)(A)(vii) compensation evidenced additional risk therefore revised the Board’s proposed (qualified mortgages). Limiting loan to consumers, excluding individual loan regulation and commentary to provide originator compensation to originators from consideration appears more detailed guidance, and is seeking compensation that is attributable to the inconsistent with this policy judgment. comment in the proposal published transaction implements the statutory Moreover, the Bureau notes that using elsewhere in the Federal Register today requirement that points and fees are ‘‘in exception authority to exclude on additional guidance and potential connection’’ with the transaction. This

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limitation also makes the rule more is therefore seeking comment on issues suggest that compensation should be workable. Compensation is included in relating to hourly wages, including counted as it flows downstream from points and fees only if it can be whether to require estimates of the one party to another so that it is counted attributed to a specific transaction to hours to be worked between rate set and each time that it reaches a loan facilitate compliance with the rule and consummation. originator, whatever the previous avoid over-burdening creditors with New comment 32(b)(1)(ii)–3 explains source. complex calculations to determine, for that loan originator compensation must The Bureau believes the statute would example, the portion of a loan officer’s be included in the points and fees be read to require that loan originator salary that should be counted in points calculation for a transaction whenever compensation be treated as additive to and fees.84 For clarity, the Bureau has the compensation is paid, whether the other elements of points and fees. moved the discussion of the timing of before, at or after closing, as long as that The Bureau believes that an automatic loan originator compensation into new compensation amount can be attributed literal reading of the statute in all cases, comment 32(b)(1)(ii)–3, and has added to the particular transaction at the time however, would not be in the best additional examples to 32(b)(1)(ii)–4, to the interest rate is set. Some industry interest of either consumers or industry. illustrate the types and amount of commenters expressed concern that it For instance, the Bureau does not compensation that should be included would be difficult to determine the believe that it is necessary or in points and fees. amount of compensation that would be appropriate to count the same payment Revised comment 32(b)(1)(ii)–2.ii paid after consummation and that made by a consumer to a mortgage explains that loan originator creditors might have to recalculate loan broker firm twice, simply because it is compensation excludes compensation originator compensation (and thus both part of the finance charge and loan that cannot be attributed to a particular points and fees) after underwriting if, originator compensation. Similarly, the transaction at the time the interest rate for example, a loan officer became Bureau does not believe that, where a is set, including, for example, eligible for higher compensation payment from either a consumer or a compensation based on the long-term because other transactions had been creditor to a mortgage broker is counted performance of the loan originator’s consummated. The Bureau appreciates toward points and fees, it is necessary loans or on the overall quality of the that industry participants need certainty or appropriate to count separately funds loan originator’s loan files. The base at the time of underwriting as to that the broker then passes on to its salary of a loan originator is also whether transactions will exceed the individual employees. In each case, any excluded, although additional points and fees limits for qualified costs and risks to the consumer from compensation that is attributable to a mortgages (and for high-cost mortgages). high loan originator compensation are particular transaction must be included To address this concern, the comment adequately captured by counting the in points and fees. The Bureau has 32(b)(1)(ii)–3 explains that loan funds a single time against the points decided to seek further comment in the originator compensation should be and fees cap; thus, the Bureau does not concurrent proposal regarding treatment calculated at the time the interest rate is believe the purposes of the statute of hourly wages for the actual number set. The Bureau believes that the date would be served by counting some or all of hours worked on a particular the interest rate is set is an appropriate of the funds a second time, and is transaction. The Board’s proposal would standard for calculating loan originator concerned that doing so could have have included hourly pay for the actual compensation. It would allow creditors negative impacts on the price and number of hours worked on a particular to be able to calculate points and fees availability of credit. transaction in loan originator with sufficient certainty so that they Determining the appropriate compensation for purposes of the points know early in the process whether a accounting rule is significantly more and fees thresholds, and the Bureau transaction will be a qualified mortgage complicated, however, in situations in agrees that such wages are attributable or a high-cost mortgage. which a consumer pays some up-front to the particular transaction. However, As noted above, several industry charges to the creditor and the creditor the Bureau is unclear as to whether commenters argued that including loan pays loan originator compensation to industry actually tracks compensation originator compensation in points and either its own employee or to a mortgage this way in light of the administrative fees would result in double counting. broker firm. Because money is fungible, burdens. Moreover, while the general They stated that creditors often will tracking how a creditor spends money it rule provides for calculation of loan recover loan originator compensation collects in up-front charges versus originator compensation at the time the costs through origination charges, and amounts collected through the rate to interest rate is set for the reasons these charges are already included in cover both loan originator compensation discussed above, the actual hours of points and fees under § 1026.32(b)(1)(i). and its other overhead expenses would hours worked on a transaction would However, the underlying statutory be extraordinarily complex and not be known at that time. The Bureau provisions as amended by the Dodd- cumbersome. To facilitate compliance, Frank Act do not express any limitation the Bureau believes it is appropriate and 84 In contrast, the existing restrictions on on its requirement to count loan necessary to adopt one or more particular loan originator compensation structures originator compensation toward the generalized rules regarding the in § 1026.36 apply to all compensation such as points and fees test. Rather, the literal accounting of various payments. salaries, hourly wages, and contingent bonuses because those restrictions apply only at the time language of TILA section 103(bb)(4) as However, the Bureau does not believe it such compensation is paid, and therefore they can amended by the Dodd-Frank Act defines yet has sufficient information with be applied with certainty. Moreover, those rules points and fees to include all items which to choose definitively between also provide for different treatment of compensation included in the finance charge (except the additive approach provided for in that is not ‘‘specific to, and paid solely in connection with, the transaction,’’ where such a interest rate), all compensation paid the statutory language and other distinction is necessary for reasons of practical directly or indirectly by a consumer or potential methods of accounting for application of the rule. See comment 36(d)(2)–1 creditor to a loan originator, ‘‘and’’ payments in light of the multiple (prohibition of loan originator receiving various other enumerated items. The practical and complex policy compensation directly from consumer and also from any other person does not prohibit consumer use of ‘‘and’’ and the references to ‘‘all’’ considerations involved. payments where loan originator also receives salary compensation paid ‘‘directly or The potential downstream effects of or hourly wage). indirectly’’ and ‘‘from any source’’ different accounting methods are

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significant. Under the additive approach and the provisions that the Bureau is affiliated title companies were where no offsetting consumer payments separately finalizing in connection with concerned they would have difficulty against creditor-paid loan originator the Bureau’s 2012 Loan Originator meeting the lower threshold for points compensation is allowed, creditors Compensation Proposal. and fees for qualified mortgages. The whose combined loan originator Finally, comment 32(b)(1)(ii)–4 Board, however, did not propose to compensation and up-front charges includes revised versions of examples in exempt fees paid to creditor-affiliated would otherwise exceed the points and proposed comment 32(b)(1)(ii)–2, as settlement service providers, noting that fees limits would have strong incentives well as additional examples to provide Congress appeared to have rejected to cap their up-front charges for other additional guidance regarding what excluding such fees from points and overhead expenses under the threshold compensation qualifies as loan fees. and instead recover those expenses by originator compensation that must be Industry commenters criticized the increasing interest rates to generate included in points and fees. These Board’s proposed treatment of fees paid higher gains on sale. This would examples illustrate when compensation to affiliates as overbroad. Industry adversely affect consumers who prefer a can be attributed to a particular commenters argued that a creditor’s lower interest rate and higher up-front transaction at the time the interest rate affiliation with a service provider, such costs and, at the margins, could result is set. New comment 32(b)(1)(ii)–5 adds as a title insurance agency, does not in some consumers being unable to an example explaining how salary is have any impact on the consumer’s qualify for credit. Additionally, to the treated for purposes of loan originator ability to repay a loan. They maintained extent creditors responded to a ‘‘no compensation for calculating points and that studies over the past two decades offsetting’’ rule by increasing interest fees. have shown that title services provided by affiliated businesses are competitive rates, this could increase the number of 32(b)(1)(iii) qualified mortgages that receive a in cost compared to services provided rebuttable rather than conclusive TILA section 103(aa)(4)(C) provides by unaffiliated businesses. They presumption of compliance. that points and fees include certain real contended that the rule should instead One alternative would be to allow all estate-related charges listed in TILA focus solely on whether the fee is bona consumer payments to offset creditor- section 106(e) and is implemented in fide. paid loan originator compensation. § 1026.32(b)(1)(iii). The Dodd-Frank Act These commenters also argued that However, a ‘‘full offsetting’’ approach did not amend TILA section the largest real estate-related charge, would allow creditors to offset much 103(aa)(4)(C) (but did renumber it as title insurance fees, are often either higher levels of up-front points and fees section 103(bb)(4)(C)). Although the mandated by State law or required to be against expenses paid through rate Board indicated in the Supplementary filed with the relevant state authority before the heightened consumer Information that it was not proposing and do not vary. Regardless of whether protections required by the Dodd-Frank any changes, proposed § 226.32(b)(1)(iii) the State sets the rate or requires that Act would apply. Particularly under would have added the phrase ‘‘payable the rate be filed, these commenters HOEPA, this may raise tensions with at or before closing of the mortgage’’ argued that there are so few insurers Congress’s apparent intent. Other loan and would have separated the that rates tend to be nearly identical alternatives might use a hybrid elements into three new paragraphs (A) among providers. approach depending on the type of through (C). Thus, proposed These commenters also argued that expense, type of loan, or other factors, § 226.32(b)(1)(iii) would have included including fees to affiliates would but would involve more compliance in points and fees ‘‘all items listed in negatively affect consumers. They complexity. § 226.4(c)(7) (other than amounts held claimed that the inclusion of fees paid In light of the complex for future payment of taxes) payable at to affiliates would cause loans that considerations, the Bureau believes it is or before closing of the mortgage loan, would otherwise be qualified mortgages necessary to seek additional notice and unless: (A) The charge is reasonable; (B) to exceed the points and fees cap, comment. The Bureau therefore is the creditor receives no direct or resulting in more expense to the finalizing this rule without qualifying indirect compensation in connection creditor, which would be passed the statutory result and is proposing two with the charge; and (C) the charge is through to consumers in the form of alternative comments in the concurrent not paid to an affiliate of the creditor.’’ higher interest rates or fees, or in more proposal, one of which would explicitly The Board noted that the statute did not denials of credit. They also claimed that preclude offsetting, and the other of exclude these charges if they were the proposal would harm consumers by which would allow full offsetting of any payable after closing and questioned reducing competition among settlement consumer-paid charges against creditor- whether such a limitation was necessary service providers and by eliminating paid loan originator compensation. The because these charges could reasonably operational efficiencies. One industry Bureau is also proposing comments to be viewed as charges that by definition trade association reported that some of clarify treatment of compensation paid are payable only at or before closing. As its members with affiliates would by consumers to mortgage brokers and noted in the section-by-section analysis discontinue offering mortgages, which by mortgage brokers to their individual of § 1026.32(b)(1), the Board requested would reduce competition among employees. The Bureau is seeking comment on whether there are any other creditors, especially for creditors comment on all aspects of this issue, types of fees that should be included in offering smaller loans, since these loans including the market impacts and points and fees only if they are payable would be most affected by the points whether adjustments to the final rule at or before closing. and fees cap. They claimed that treating would be appropriate. In addition, the The Board noted that during outreach affiliated and unaffiliated providers Bureau is seeking comment on whether creditors had raised concerns about differently would incentivize creditors it would be helpful to provide for including in points and fees real-estate to use unaffiliated third-party service additional adjustment of the rules or related fees paid to an affiliate of the providers to stay within the qualified additional commentary to clarify any creditor, such as an affiliated title mortgage points and fees cap. overlaps in definitions between the company. Although these fees always Several industry commenters noted points and fees provisions in this have been included in points and fees that RESPA permits affiliated business rulemaking and the HOEPA rulemaking for high-cost loans, creditors using arrangements and provides protections

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for consumers, including a prohibition that for purposes of the qualified the inclusion or exclusion of real-estate against requiring that consumers use mortgage points and fees test, bona fide related charges. The Bureau did not affiliates, a requirement to disclose third-party charges are excluded other receive substantial comment on the affiliation to consumers, and a than charges ‘‘retained by * * * an proposed comment. The Bureau is limitation that compensation include affiliate of the creditor or mortgage therefore adopting comment only return on ownership interest. originator.’’ Similarly, TILA section 32(b)(1)(ii)–1 substantially as proposed, These commenters argued that charges 129B(c)(2)(B)(ii), added by section 1403 with revisions for clarity. paid to affiliates should be excluded of the Dodd-Frank Act, restricts the 32(b)(1)(iv) from points and fees as long the RESPA payment of points and fees but permits requirements are satisfied. Several the payment of bona fide third-party As amended by section 1431 of the industry commenters objected to the charges unless those charges are Dodd-Frank Act, TILA section requirement that charges be ‘‘retained by * * * an affiliate of the 103(bb)(4)(D) includes in points and ‘‘reasonable’’ to be excluded from points creditor or originator.’’ In light of these fees premiums for various forms of and fees. They argued that the considerations, the Bureau does not credit insurance and charges for debt requirement was vague and that it believe there is sufficient justification to cancellation or suspension coverage. would be difficult for a creditor to judge use its exception authority in this The Board proposed § 226.32(b)(1)(iv) to whether a third-party charge met the instance as the Bureau cannot find, implement this provision. The Board standard. Several commenters also given Congress’s clear determination, also proposed to revise comment argued that the Dodd-Frank Act that excluding affiliate fees from the 32(b)(1)(iv)–1 to reflect the revised provision permitting exclusion of calculation of points and fees is statutory language and to add new certain bona fide third-party charges necessary or proper to effectuate the comment 32(b)(1)(iv)–2 to clarify that should apply rather than the three-part purposes of TILA, to prevent ‘‘credit property insurance’’ includes test for items listed in § 1026.4(c)(7). See circumvention or evasion thereof, or to insurance against loss or damage to TILA section 129C(b)(2)(C)(i). facilitate compliance therewith. personal property such as a houseboat Two consumer advocates commented As noted above, some commenters or manufactured home. on this aspect of the proposal. They objected to the requirement that charges Several commenters argued that supported including in points and fees be ‘‘reasonable.’’ The Bureau notes that proposed § 226.32(b)(1)(iv) did not all fees paid to any settlement service a ‘‘reasonable’’ requirement has been in accurately implement the provision in provider affiliated with the creditor. place for many years before the Dodd- Dodd-Frank Act section 1431 that The Bureau is adopting Frank Act. TILA section 103(aa)(4)(C) specifies that ‘‘insurance premiums or § 226.32(b)(1)(iii) as proposed but specifically provides that charges listed debt cancellation or suspension fees renumbered as § 1026.32(b)(1)(iii). TILA in TILA section 106(e) are included in calculated and paid in full on a monthly section 103(bb)(4) specifically mandates points and fees for high-cost mortgages basis shall not be considered financed that fees paid to and retained by unless, among other things, the charge by the creditor.’’ They argued that affiliates of the creditor be included in is reasonable. This requirement is comment 32(b)(1)(iv)–1 should be points and fees. The Bureau implemented in existing revised so that it expressly excludes acknowledges that including fees paid § 1026.32(b)(1)(iii). Similarly, a charge monthly premiums for credit insurance to affiliates in points and fees could may be excluded from the finance from points and fees, including such make it more difficult for creditors using charge under § 1026.4(c)(7) only if it is premiums payable in the first month. At affiliated service providers to stay under reasonable. In the absence of any least one industry commenter also the points and fees cap for qualified evidence that this requirement has been argued that voluntary credit insurance mortgages and that, as a result, creditors unworkable, the Bureau declines to alter premiums should not be included in could be disincented from using it. The fact that a transaction for such points and fees. Consumer advocates affiliated service providers. This is services is conducted at arms-length supported inclusion of credit insurance especially true with respect to affiliated ordinarily should be sufficient to make premiums in points and fees, noting that title insurers because of the cost of title the charge reasonable. The these services can add significant costs insurance. On the other hand, despite reasonableness requirement is not to mortgages. RESPA’s regulation of fees charged by intended to invite an inquiry into The Bureau is adopting affiliates, concerns have nonetheless whether a particular appraiser or title § 226.32(b)(1)(iv) substantially as been raised that fees paid to an affiliate insurance company is imposing proposed, with revisions for clarity, as pose greater risks to the consumer, since excessive charges. renumbered § 1026.32(b)(1)(iv). As affiliates of a creditor may not have to Some commenters also maintained revised, § 1026.32(b)(1)(iv) states that compete in the market with other that the provision permitting exclusion premiums or other charges for ‘‘any providers of a service and thus may of certain bona fide third-party charges other life, accident, health, or loss-of- charge higher prices that get passed on should apply rather than the three-part income insurance’’ are included in to the consumer. The Bureau believes test for items listed in § 1026.4(c)(7). See points and fees only if the insurance is that Congress weighed these competing TILA section 129C(b)(2)(C)(i). As for the benefit of the creditor. The considerations and made a deliberate discussed in more detail in the section- Bureau is also adopting proposed decision not to exclude fees paid to by-section analysis of comments 32(b)(1)(iv)–1 and –2 affiliates. This approach is further § 1026.32(b)(1)(i)(D), the Bureau substantially as proposed, with reflected throughout title XIV, which concludes that § 1026.32(b)(1)(iii), revisions for clarity and consistency repeatedly amended TILA to treat fees which specifically addresses exclusion with terminology in Regulation Z. The paid to affiliates as the equivalent to of items listed in § 1026.4(c)(7), takes Bureau is also adopting new comment fees paid to a creditor or loan originator. precedence over the more general 32(b)(1)(iv)–3 to clarify that premiums See, e.g., Dodd-Frank Act sections 1403, exclusion in § 1026.32(b)(1)(i)(D). or other charges for ‘‘any other life, 1411, 1412, 1414, and 1431. For The Board’s proposed comment accident, health, or loss-of-income example, as noted above, TILA section 32(b)(1)(iii)–1 was substantially the insurance’’ are included in points and 129C(b)(2)(C)(i), as added by section same as existing comment 32(b)(1)(ii)–2. fees only if the creditor is a beneficiary 1412 of the Dodd-Frank Act, provides It would have provided an example of of the insurance.

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As noted above, several commenters by the Dodd-Frank Act, such as TILA invoking its exception and adjustment argued that premiums paid monthly, section 129C(c)), Congress sought to authority under TILA sections 105(a) including the first such premium, limit and deter the use of prepayment and 129C(b)(3)(B)(i). The Bureau should not be included in points and penalties, and the Bureau does not believes that adjusting the statutory fees. The statute requires that premiums believe that it would be appropriate to language to more precisely target the ‘‘payable at or before closing’’ be exercise its exception authority in a entities that would benefit from included in points and fees; it provides manner that could undermine that goal. refinancing loans with prepayment only that premiums ‘‘calculated and 32(b)(1)(vi) penalties will more effectively deter paid in full on a monthly basis shall not loan to collect prepayment be considered financed by the creditor.’’ New TILA section 103(bb)(4)(F) penalties and help preserve consumers’ TILA section 103(bb)(4)(D). Thus, if the requires that points and fees include access to safe, affordable credit. It also first premium is payable at or before ‘‘all prepayment fees or penalties that will lessen the compliance burden on closing, that payment is included in are incurred by the consumer if the loan other entities that lack the incentive for points and fees even though the refinances a previous loan made or loan flipping, such as a creditor that subsequent monthly payments are not. currently held by the same creditor or originated the existing loan but no Another commenter argued that an affiliate of the creditor.’’ The Board’s longer holds the loan. For these reasons, voluntary credit insurance premiums proposed § 226.32(b)(1)(vi) would have the Bureau believes that use of its should be excluded from points and implemented this provision by exception and adjustment authority is fees. However, under the current rule, including in points and fees the total necessary and proper under TILA voluntary credit insurance premiums prepayment penalty, as defined in section 105(a) to effectuate the purposes are included in points and fees. In light § 226.43(b)(10), incurred by the of TILA and to facilitate compliance of the fact that the Dodd-Frank Act consumer if the mortgage loan is with TILA and its purposes, including expanded the types of credit insurance refinanced by the current holder of the the purpose of assuring that consumers that must be included in points and existing mortgage loan, a servicer acting are offered and receive residential fees, the Bureau does not believe it on behalf of the current holder, or an mortgage loans on terms that reasonably would be appropriate to reconsider affiliate of either. The Board stated its reflect their ability to repay the loans. whether voluntary credit insurance belief that this provision is intended in Similarly, the Bureau finds that it is premiums should be included in points part to curtail the practice of ‘‘loan necessary, proper, and appropriate to and fees. flipping,’’ which involves a creditor use its authority under TILA section refinancing an existing loan for financial 129C(b)(3)(B)(i) to revise and subtract 32(b)(1)(v) gain resulting from prepayment from statutory language. This use of As added by the Dodd-Frank Act, new penalties and other fees that a consumer authority ensures that responsible, TILA section 103(bb)(4)(E) includes in must pay to refinance the loan— affordable mortgage credit remains points and fees ‘‘the maximum regardless of whether the refinancing is available to consumers in a manner prepayment penalties which may be beneficial to the consumer. The Board consistent with and effectuates the charged or collected under the terms of noted that it departed from the statutory purpose of TILA section 129C, the credit transaction.’’ The Board’s language to use the phrases ‘‘current referenced above, and facilitates proposed § 226.32(b)(1)(v) closely holder of the existing mortgage loan’’ compliance with section 129C of TILA. tracked the statutory language, but it and ‘‘servicer acting on behalf of the cross-referenced proposed current holder’’ in proposed 32(b)(2) § 226.43(b)(10) for the definition of § 226.32(b)(1)(vi) because, as a practical Proposed Provisions Not Adopted ‘‘prepayment penalty.’’ matter, these are the entities that would Few commenters addressed this refinance the loan and directly or As noted in the section-by-section provision. One industry commenter indirectly gain from associated analysis of § 1026.32(b)(1)(ii) above, argued that the maximum prepayment prepayment penalties. section 1431(c) of the Dodd-Frank Act penalty should not be included in Few commenters addressed this amended TILA to require that all points and fees because a prepayment provision. Two consumer groups compensation paid directly or indirectly that triggers the penalty may never expressed support for including these by a consumer or a creditor to a occur and thus the fee may never be prepayment penalties in points and fees, ‘‘mortgage originator’’ be included in assessed. arguing that many consumers were points and fees for high-cost mortgages The Bureau is adopting victimized by loan flipping and the and qualified mortgages. As also noted § 226.32(b)(1)(v) substantially as resulting fees and charges. above, the Board’s 2011 ATR Proposal proposed but renumbered as The Bureau is adopting proposed to implement this statutory § 1026.32(b)(1)(v), with a revision to its § 226.32(b)(1)(vi) substantially as change in proposed § 226.32(b)(1)(ii) definitional cross-reference. As revised, proposed but renumbered as using the term ‘‘loan originator,’’ as § 1026.32(b)(1)(v) refers to the definition § 1026.32(b)(1)(vi). In addition to defined in existing § 1026.36(a)(1), of prepayment penalty in revising for clarity, the Bureau has also rather than the statutory term ‘‘mortgage § 1026.32(b)(6)(i). With respect to the revised § 1026.32(b)(1)(vi) to refer to the originator.’’ In turn, the Board proposed comment arguing that prepayment definition of prepayment penalty in new § 226.32(b)(2) to exclude from penalties should not be included in § 1026.32(b)(6)(i). Like the Board, the points and fees compensation paid to points and fees, the statute requires Bureau believes that it is appropriate for certain categories of persons specifically inclusion in points and fees of the § 1026.32(b)(1)(vi) to apply to the excluded from the definition of maximum prepayment penalties that current holder of the existing mortgage ‘‘mortgage originator’’ in amended TILA ‘‘may be charged or collected.’’ Thus, loan, the servicer acting on behalf of the section 103, namely employees of a under the statutory language, the current holder, or an affiliate of either. retailer of manufactured homes under imposition of the charge need not be These are the entities that would certain circumstances, certain real estate certain for the prepayment penalty to be refinance the loan and gain from the brokers, and servicers. included in points and fees. In this prepayment penalties on the previous The Bureau is not adopting proposed provision (and other provisions added loan. Accordingly, the Bureau is § 226.32(b)(2). The Bureau is amending

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the definition of ‘‘loan originator’’ transaction in the secondary market. receive on the secondary market. § 1026.36(a)(1) and the associated The Board observed that, based on Several industry commenters commentary to incorporate the statutory outreach with representatives of emphasized that the secondary market exclusion of these persons from the creditors and GSEs, the value of a rate test would be impracticable for creditors definition. Accordingly, to the extent reduction in a particular mortgage holding loans in portfolio. Consumer these persons are excluded from the transaction on the secondary market is groups did not comment on this issue. definition of loan originator based on many complex factors, which As noted above, the Bureau is compensation, their compensation is interact in a variety of complex ways. consolidating the exclusions for certain not loan originator compensation that The Board noted that these factors may bona fide third-party charges and bona must be counted in points and fees, and include, among others: fide discount points in the exclusions in proposed • The product type, such as whether § 1026.32(b)(1)(i)(D) through (F). As a § 226.32(b)(2) are no longer necessary. the loan is a fixed-rate or adjustable-rate result, the Bureau is adopting proposed Instead, in the 2013 HOEPA Final mortgage, or has a 30-year term or a 15- § 226.43(e)(3)(iv), with the revision Rule, the Bureau is finalizing the year term. discussed below, as renumbered • definition of points and fees for HELOCs How much the MBS market is § 1026.32(b)(3)(i). In the 2013 HOEPA in § 1026.32(b)(2). Current willing to pay for a loan at that interest Final Rule, the Bureau is adopting a § 1026.32(b)(2), which contains the rate and the liquidity of an MBS with definition of bona fide discount point loans at that rate. for open-end credit in definition of ‘‘affiliate,’’ is being • renumbered as § 1026.32(b)(5). How much the secondary market is § 1026.32(b)(3)(ii). willing to pay for excess interest on the After carefully considering the 32(b)(3) Bona Fide Discount Point loan that is available for capitalization comments, the Bureau is modifying the 32(b)(3)(i) Closed-End Credit outside of the MBS market. definition of ‘‘bona fide discount point.’’ • The amount of the guaranty fee Specifically, the Bureau believes it The Dodd-Frank Act defines the term required to be paid by the creditor to the would be difficult, if not impossible, for ‘‘bona fide discount points’’ as used in investor. many creditors to account for the § 1026.32(b)(1)(i)(E) and (F), which, as The Board indicated that it was secondary market compensation in discussed above, permit exclusion of offering a flexible proposal because of calculating interest rate reductions. This ‘‘bona fide discount points’’ from points its concern that a more prescriptive is particularly true for loans held in and fees for qualified mortgages. TILA interpretation would be operationally portfolio. Therefore, the Board is section 129C(b)(2)(C)(iii) defines the unworkable for most creditors and removing from § 1026.32(b)(3)(i) the term ‘‘bona fide discount points’’ as would lead to excessive legal and requirement that interest rate reductions ‘‘loan discount points which are regulatory risk. In addition, the Board take into account secondary market knowingly paid by the consumer for the also noted that, due to the variation in compensation. Instead, as revised, purpose of reducing, and which in fact inputs described above, a more § 1026.32(b)(3)(i) requires only that the result in a bona fide reduction of, the prescriptive rule likely would require calculation of the interest rate reduction interest rate or time-price differential continual updating, creating additional be consistent with established industry applicable to the mortgage.’’ TILA compliance burden and potential practices for determining the amount of section 129C(b)(2)(C)(iv) limits the types confusion. reduction in the interest rate or time- of discount points that may be excluded The Board also noted a concern that price differential appropriate for the from ‘‘points and fees’’ to those for small creditors such as community amount of discount points paid by the which ‘‘the amount of the interest rate banks that often hold loans in portfolio consumer. reduction purchased is reasonably rather than sell them on the secondary The Bureau finds that removing the consistent with established industry market may have difficulty complying secondary market component of the norms and practices for secondary with this requirement. The Board ‘‘bona fide’’ discount point definition is market transactions.’’ therefore requested comment on necessary and proper under TILA Proposed § 226.43(e)(3)(iv) would whether it would be appropriate to section 105(a) to effectuate the purposes have implemented these provisions by provide any exemptions from the of and facilitate compliance with TILA. defining the term ‘‘bona fide discount requirement that the interest rate Similarly, the Bureau finds that it is point’’ as ‘‘any percent of the loan reduction purchased by a ‘‘bona fide necessary and proper to use its authority amount’’ paid by the consumer that discount point’’ be tied to secondary under TILA section 129C(b)(3)(B)(i) to reduces the interest rate or time-price market factors. revise and subtract from the criteria that differential applicable to the mortgage Many industry commenters criticized define a qualified mortgage by removing loan by an amount based on a the second prong of the Board’s the secondary market component from calculation that: (1) Is consistent with proposal, which would have required the bona fide discount point definition. established industry practices for that the interest rate reduction account It will provide creditors sufficient determining the amount of reduction in for the amount of compensation that the flexibility to demonstrate that they are the interest rate or time-price creditor can reasonably expect to in compliance with the requirement differential appropriate for the amount receive from secondary market investors that, to be excluded from points and of discount points paid by the in return for the mortgage loan. Several fees, discount points must be bona fide. consumer; and (2) accounts for the industry commenters argued that this In clarifying the definition, it also will amount of compensation that the test would be complex and difficult to facilitate the use of bona fide discount creditor can reasonably expect to apply and that, if challenged, it would points by consumers to help create the receive from secondary market investors be difficult for creditors to prove that appropriate combination of points and in return for the mortgage loan. the calculation was done properly. Two rate for their financial situation, thereby The Board’s proposal would have industry commenters noted that helping ensure that consumers are required that the creditor be able to creditors do not always sell or plan to offered and receive residential mortgage show a relationship between the amount sell loans in the secondary market at the loan on terms that reasonably reflect of interest rate reduction purchased by time of origination and so would not their ability to repay the loans and that a discount point and the value of the know what compensation they would responsible, affordable mortgage credit

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remains available to consumers in a behalf of the consumer, minus any points and fees under § 226.32(b)(1) and manner consistent with the purposes of financed points and fees. Specifically, are financed by the creditor. The Board TILA as provided in TILA section 129C. under current comment 32(a)(1)(ii)–1, explained that the purpose of using the To provide some guidance on how the ‘‘total loan amount’’ is calculated by ‘‘principal loan amount’’ instead of the creditors may comply with this ‘‘taking the amount financed, as ‘‘amount financed’’ would be to requirement, the Bureau is adding new determined according to § 1026.18(b), streamline the calculation to facilitate comment 32(b)(3)(i)–1. This comment and deducting any cost listed in compliance and to ensure that no explains how creditors can comply with § 1026.32(b)(1)(iii) and charges other than financed points and ‘‘established industry practices’’ for § 1026.32(b)(1)(iv) that is both included fees are excluded from the ‘‘total loan calculating interest rate reductions. as points and fees under § 1026.32(b)(1) amount.’’ 85 In general, the revised Specifically, comment 32(b)(3)(i)–1 and financed by the creditor.’’ Section calculation would have yielded a larger notes that one way creditors can satisfy 1026.32(b)(1)(iii) and (b)(1)(iv) pertain ‘‘total loan amount’’ to which the this requirement is by complying with to ‘‘real estate-related fees’’ listed in percentage points and fees thresholds established industry norms and § 1026.4(c)(7) and premiums or other would have to be applied than would practices for secondary mortgage market charges for credit insurance or debt the proposed (and existing) ‘‘total loan transactions. Comment 32(b)(3)(i)–1 cancellation coverage, respectively. amount’’ calculation, because only then provides two examples. First a The Board proposed to revise this financed points and fees and no other creditor may rely on pricing in the to- comment to cross-reference additional financed amounts would be excluded. be-announced (TBA) market for MBS to financed points and fees described in Thus, creditors in some cases would be establish that the interest rate reduction proposed § 226.32(b)(1)(vi) as well. This able to charge more points and fees on is consistent with the compensation that addition would have required a creditor the same loan under the alternative the creditor could reasonably expect to also to deduct from the amount financed outlined by the Board than under either receive in the secondary market. any prepayment penalties that are the proposed or existing rule. Second, a creditor could comply with incurred by the consumer if the In the 2012 HOEPA Proposal, the established industry practices, such as mortgage loan refinances a previous Bureau proposed the following for guidelines from Fannie Mae or Freddie loan made or currently held by the organizational purposes: (1) To move Mac that prescribe when an interest rate creditor refinancing the loan or an the existing definition of ‘‘total loan reduction from a discount point is affiliate of the creditor—to the extent amount’’ for closed-end mortgage loans considered bona fide. However, because that the prepayment penalties are from comment 32(a)(1)(ii)–1 to proposed these examples from the secondary financed by the creditor. As a result, the § 1026.32(b)(6)(i); and (2) to move the market are merely illustrations of how a 3 percent limit on points and fees for examples showing how to calculate the creditor could comply with the qualified mortgages would have been total loan amount for closed-end ‘‘established industry practices’’ based on the amount of credit extended mortgage loans from existing comment requirement for bona fide interest rate to the consumer without taking into 32(a)(1)(ii)–1 to proposed comment reduction, creditors, and in particular account any financed points and fees. 32(b)(6)(i)–1. The Bureau proposed to The Board’s proposal also would have creditors that retain loans in portfolio, specify that the calculation applies to revised one of the commentary’s will have flexibility to use other closed-end mortgage loans because the examples of the ‘‘total loan amount’’ approaches for complying with this Bureau also proposed to define ‘‘total calculation. Specifically, the Board requirement. loan amount’’ separately for open-end proposed to revise the example of a credit plans. The Bureau also proposed 32(b)(4) Total Loan Amount $500 single premium for optional to amend the definition of ‘‘total loan ‘‘credit life insurance’’ used in comment 32(b)(4)(i) Closed-End Credit amount’’ in a manner similar to the 32(b)(1)(i)–1.iv to be a $500 single Board’s alternative proposal described As added by section 1412 of the premium for optional ‘‘credit above. The Bureau indicated this Dodd-Frank Act, TILA section unemployment insurance.’’ The Board proposed revision would streamline the 129C(b)(2)(A)(vii) defines a ‘‘qualified stated that this change was proposed mortgage’’ as a mortgage for which, because, under the Dodd-Frank Act, total loan amount calculation to among other things, ‘‘the total points single-premium credit insurance— facilitate compliance and would be and fees * * * payable in connection including credit life insurance—is sensible in light of the more inclusive with the loan do not exceed 3 percent prohibited in covered transactions definition of the finance charge of the total loan amount.’’ For purposes except for certain limited types of credit proposed in the Bureau’s 2012 TILA– of implementing the qualified mortgage unemployment insurance. See TILA RESPA Integration Proposal. provisions, the Board proposed to retain section 129C(d). The Board requested Few commenters addressed the existing comment 32(a)(1)(ii)–1 comment on the proposed revisions to Board’s proposal regarding total loan explaining the meaning of the term the comment explaining how to amount. Several industry commenters ‘‘total loan amount,’’ with certain minor calculate the ‘‘total loan amount,’’ recommended that the alternative revisions discussed below, while also including whether additional guidance method of calculating total loan amount seeking comment on an alternative is needed. be used because it would be easier to approach. The Board also requested comment on calculate. At least two industry The proposal would have revised the whether to streamline the calculation to commenters recommended that, for ‘‘total loan amount’’ calculation under ensure that the ‘‘total loan amount’’ simplicity, the amount recited in the current comment 32(a)(1)(ii)–1 to would include all credit extended other note be used for calculating the account for charges added to TILA’s than financed points and fees. permitted points and fees. definition of points and fees by the Specifically, the Board solicited After reviewing the comments, the Dodd-Frank Act. Under Regulation Z for comment on whether to revise the Bureau is following the 2012 HOEPA purposes of applying the existing points calculation of ‘‘total loan amount’’ to be 85 Specifically, under the alternative approach, and fees trigger for high-cost loans, the the ‘‘principal loan amount’’ (as defined prepaid finance charges would not be deducted ‘‘total loan amount’’ is calculated as the in § 226.18(b) and accompanying from the principal loan amount. Only financed amount of credit extended to or on commentary), minus charges that are points and fees would be deducted.

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Proposal and moving the definition of may be charged, starting at three percent consistent manner for purposes of all of total loan amount into the text of the in the first year after consummation and the Dodd-Frank Act’s amendments. This rule in § 1026.32(b)(4)(i). In 2013 decreasing annually by increments of definition is located in § 1026.32(b)(6). HOEPA Final Rule, the Bureau is one percentage point thereafter so that New § 1026.43(b)(10) cross-references adopting a definition of total loan no penalties may be charged after the this prepayment definition to provide amount for open-end credit in third year. The Board proposed to consistency. § 1026.32(b)(4)(ii). The examples implement TILA section 129C(c)(3) in TILA establishes certain disclosure showing how to calculate the total loan § 226.43(g)(2). requirements for transactions for which amount are moved to comment Second, section 1431(a) of the Dodd- a penalty is imposed upon prepayment, 32(b)(4)(i)–1. However, the Bureau has Frank Act amended TILA section but TILA does not define the term concluded that, at this point, the current 103(bb)(1)(A)(iii) to provide that a credit ‘‘prepayment penalty.’’ The Dodd-Frank approach to calculating the total loan transaction is a high-cost mortgage if the Act also does not define the term. TILA amount should remain in place. credit transaction documents permit the section 128(a)(11) requires that the Creditors are familiar with the method creditor to charge or collect prepayment transaction-specific disclosures for from using it for HOEPA points and fees fees or penalties more than 36 months closed-end consumer credit transactions calculations. Moreover, as noted above, after the transaction closing or if such disclose a ‘‘penalty’’ imposed upon the Bureau is deferring action on the fees or penalties exceed, in the prepayment in full of a closed-end more inclusive definition of the finance aggregate, more than two percent of the transaction, without using the term charge proposed in the Bureau’s 2012 amount prepaid. Moreover, under ‘‘prepayment penalty.’’ 15 U.S.C. TILA–RESPA Integration Proposal. If amended TILA section 129(c)(1), high- 1638(a)(11).86 Comment 18(k)(1)–1 the Bureau expands the definition of the cost mortgages are prohibited from clarifies that a ‘‘penalty’’ imposed upon finance charge, the Bureau will at the having a prepayment penalty. prepayment in full is a charge assessed same time consider the effect on Accordingly, any prepayment penalty in solely because of the prepayment of an coverage thresholds that rely on the excess of two percent of the amount obligation and includes, for example, finance charge or the APR. prepaid on any closed end mortgage ‘‘interest’’ charges for any period after would both trigger and violate the rule’s prepayment in full is made and a 32(b)(5) high-cost mortgage provisions. The minimum finance charge. The final rule renumbers existing Bureau’s 2012 HOEPA Proposal The Board’s 2011 ATR Proposal § 1026.32(b)(2) defining the term proposed to implement these proposed to implement the Dodd-Frank ‘‘affiliate’’ as § 1026.32(b)(5) for requirements with several minor Act’s prepayment penalty-related organizational purposes. clarifications in § 1026.32(a)(1)(iii). See amendments to TILA for qualified 77 FR 49090, 49150 (Aug. 15, 2012). mortgages by defining ‘‘prepayment 32(b)(6) Prepayment Penalty Third, both qualified mortgages and penalty’’ for most closed-end, dwelling- The Dodd-Frank Act’s Amendments to most closed-end mortgage loans and secured transactions in new TILA Relating to Prepayment Penalties open-end credit plans secured by a § 226.43(b)(10), and by cross-referencing consumer’s principal dwelling are Sections 1431 and 1432 of the Dodd- proposed § 226.43(b)(10) in the subject to additional limitations on proposed joint definition of points and Frank Act (relating to high-cost prepayment penalties through the mortgages) and section 1414 of the fees for qualified and high-cost inclusion of prepayment penalties in the mortgages in § 226.32(b)(1)(v) and (vi). Dodd-Frank Act (relating to qualified definition of points and fees for mortgages) amended TILA to restrict The definition of prepayment penalty qualified mortgages and high-cost proposed in the Board’s 2011 ATR and, in many cases, prohibit a creditor mortgages. See the section-by-section from imposing prepayment penalties in Proposal differed from the Board’s prior analysis of proposed § 226.32(b)(1)(v) proposals and existing guidance in the dwelling-secured credit transactions. and (vi); 77 FR 49090, 49109–10 (Aug. The Dodd-Frank Act restricted following respects: (1) Proposed 15, 2012). § 226.43(b)(10) defined prepayment prepayment penalties in three main Taken together, the Dodd-Frank Act’s penalty with reference to a payment of ways. amendments to TILA relating to ‘‘all or part of’’ the principal in a First, as the Board discussed in its prepayment penalties mean that most transaction covered by the provision, 2011 ATR Proposal, the Dodd-Frank Act closed-end, dwelling-secured added new TILA section 129C(c)(1) transactions: (1) May provide for a while § 1026.18(k) and associated relating to qualified mortgages, which prepayment penalty only if the commentary and the Board’s 2009 generally provides that a covered transaction is a fixed-rate, qualified Closed-End Proposal and 2010 Mortgage transaction (i.e., in general, a closed- mortgage that is neither high-cost nor Proposal referred to payment ‘‘in full;’’ end, dwelling-secured credit higher-priced under §§ 1026.32 and (2) the examples provided omitted transaction) may include a prepayment 1026.35; (2) may not, even if permitted reference to a minimum finance charge penalty only if it; (1) Is a qualified to provide for a prepayment penalty, and loan guarantee fees; and (3) mortgage, to be defined by the Board, (2) charge the penalty more than three years proposed § 226.43(b)(10) did not has an APR that cannot increase after following consummation or in an incorporate, and the Board’s 2011 ATR consummation, and (3) is not a higher- amount that exceeds two percent of the Proposal did not otherwise address, the priced mortgage loan. The Board amount prepaid; and (3) may be language in § 1026.18(k)(2) and proposed to implement TILA section required to limit any penalty even associated commentary regarding 129C(c)(1) in § 226.43(g)(1) and to further to comply with the points and 86 Also, TILA section 128(a)(12) requires that the define the term prepayment penalty in fees limitations for qualified mortgages transaction-specific disclosures state that the § 226.43(b)(10). Under new TILA section or to stay below the points and fees consumer should refer to the appropriate contract 129C(c)(3), moreover, even loans that trigger for high-cost mortgages. document for information regarding certain loan meet the statutorily prescribed criteria In the interest of lowering compliance terms or features, including ‘‘prepayment * * * penalties.’’ 15 U.S.C. 1638(a)(12). In addition, TILA (i.e., fixed-rate, non-higher-priced burden and to provide additional clarity section 129(c) limits the circumstances in which a qualified mortgages) are capped in the for creditors, the Bureau has elected to high-cost mortgage may include a ‘‘prepayment amount of prepayment penalties that define prepayment penalty in a penalty.’’ 15 U.S.C. 1639(c).

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disclosure of a rebate of a precomputed rulemakings. The definition of consistent with TILA 129C(c)(3)(D), finance charge, or the language in ‘‘prepayment penalty’’ under which prohibits any prepayment § 1026.32(b)(6) and associated § 1026.32(b)(6) thus will apply to penalty three years after loan commentary concerning prepayment prepayment penalty restrictions, as consummation, while accommodating penalties for high-cost mortgages. applied under § 1026.43(g). Section the concerns discussed above. The Board proposal generally 1026.32(b)(6) also contains requirements Moreover, § 1032(b)(6)(i) excludes from received support from industry and guidance related to the Bureau’s the definition of prepayment penalty commenters and consumer advocates 2013 HOEPA Final Rule, such as a only those charges that a creditor for accurately implementing section definition of prepayment penalty that imposes to recoup waived bona-fide 129C(c) by using a plain language applies to open-end credit. third party charges in such cases where definition of prepayment penalty. Many The Board’s 2011 ATR Proposal the consumer prepays in full. Thus, for commenters, particularly consumer included as an example of a prepayment example, if one month after loan groups, supported a rule that eliminates penalty a fee that the creditor waives consummation, the consumer prepays or tightly restricts the availability of unless the consumer prepays the $100 of principal earlier than it is due, prepayment penalties. Some industry covered transaction. Some industry where the total principal is $100,000, commenters, however, cautioned the commenters contended that such then any fee that the creditor imposes Bureau against implementing an conditional fee waivers should be for such prepayment is a prepayment overbroad definition of prepayment excluded from the definition of penalty under § 1032(b)(6)(i) and such a penalty, citing primarily a concern over prepayment penalties. The commenters fee is restricted in accordance with consumers’ access to credit. At least one argued that creditors imposed § 1026.43(g). commenter argued that a prepayment conditional fee waivers not to increase The Bureau believes that penalty ban should be more narrowly profit, but to ensure compensation for § 1026.32(b)(6) accurately implements focused on the subprime loan market, fixed costs associated with originating TILA section 129C(c), which noting that the proposal affected the loan. At least one commenter significantly limits the applicability and prepayment penalties on a wider variety directed the Bureau to a 1996 National duration of prepayment penalties. Some of products. Other industry commenters Credit Union Administration opinion commenters argued that restrictions on expressed a concern about the Board’s letter that concluded that a conditional prepayment penalties should be more approach to the monthly interest accrual waiver of closing costs by a credit union narrowly focused on specific products amortization method, as discussed in was a benefit to the consumer. Other or consumers, because not all more detail below as part of the comments characterized the conditional consumers need protection from the discussion of comment 32(b)(6)–1. fee waiver as a ‘‘reimbursement,’’ rather pitfalls of prepayment penalties. The The Bureau adopts the definition of than compensation. Bureau agrees that prepayment penalties prepayment penalty under The Bureau finds such comments are not always harmful to consumers § 1026.32(b)(6) largely as proposed by persuasive, particularly with respect to and that, in some cases, allowing a the Board in order to create a clear a situation in which the creditor waives creditor to charge a prepayment penalty application of the term prepayment a bona fide third-party charge (or may lead to increased consumer choice penalty that is consistent with the charges) on condition that the consumer and access to credit. Congress definitions proposed in the Bureau’s reimburse the creditor for the cost of recognized this balance by allowing a 2012 TILA–RESPA Proposal (which that charge if the consumer prepays the creditor to charge a prepayment penalty itself draws from the definition adopted loan. In such situations, the Bureau only in certain circumstances, such as in the Bureau’s 2013 HOEPA Final recognizes that the creditor receives no requiring the loan to be a qualified Rule). However, the Bureau adds to profit from imposing or collecting such mortgage, under TILA section § 1026.32(b)(6) an explicit exclusion charges and the Bureau believes that 129C(c)(1)(A), and by limiting a creditor from the definition of prepayment treating such charges as a prepayment to charging a prepayment penalty to no penalty for a waived bona fide third- penalty might very well have the effect more than three years following party charge that the creditor imposes if of reducing consumer choice without consummation, under TILA section the consumer, sooner than 36 months providing any commensurate consumer 129C(c)(3)(D). Section 1026.32(b)(6) after consummation, pays all of a benefit. In an effort to provide a sensible remains faithful to that balance, with covered transaction’s principal before way to permit a creditor to protect itself the Bureau’s minor clarification with the date on which the principal is due. from losing money paid at closing to respect to waived bona fide third party This addition is discussed in detail third parties on the consumer’s behalf, charges, as described above. below. Consistent with TILA section prior to such time as the creditor can The Board’s 2011 ATR Proposal 129(c)(1), existing § 1026.32(d)(6), and otherwise recoup such costs through the included several other examples of a the Board’s proposed § 226.43(b)(10) for interest rate on the mortgage loan, while prepayment penalty under proposed qualified mortgages, § 1026.32(b)(6)(i) balancing consumer protection interests, § 226.43(b)(10)(i). For clarity, the Bureau provides that, for a closed-end mortgage the Bureau has concluded that such fees incorporates these examples as loan, a ‘‘prepayment penalty’’ means a should be permissible for a limited time comment 32(b)(6)–1.i and ii, and the charge imposed for paying all or part of after consummation. The Bureau thus Bureau is adding comment 32(b)(6)–1.iii the transaction’s principal before the adopts § 1032(b)(6)(i) to clarify that the and iv to provide additional clarity. date on which the principal is due, term prepayment penalty does not Likewise, the Bureau is largely adopting though the Bureau has added a carve- include a waived bona fide third-party the Board’s proposed § 226.43(b)(10)(ii), out from this definition to accommodate charge imposed by the creditor if the an example of what is not a prepayment the repayment of certain conditionally consumer pays all of a covered penalty, as comment 32(b)(6)–3.i, as waived closing costs when the transaction’s principal before the date well as adding comment 32(b)(6)–3.ii. consumer prepays in full. The Bureau on which the principal is due sooner Comment 32(b)(6)–1.i through iv gives adopts this definition of prepayment than 36 months after consummation. the following examples of prepayment penalty under § 1026.32(b)(6), rather The Bureau concludes that limiting the penalties: (1) A charge determined by than under § 1026.43(b)(10), to facilitate duration of the possible charge to 36 treating the loan balance as outstanding compliance for creditors across months after consummation is for a period of time after prepayment in

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full and applying the interest rate to each payment as made on the receive loans on affordable terms and to such ‘‘balance,’’ even if the charge scheduled, monthly due date even if it facilitate compliance with TILA and its results from interest accrual is actually paid early or late (until the purposes while mitigating the risk of amortization used for other payments in expiration of any grace period). The disruption to the market. For purposes the transaction under the terms of the proposed comment also provides an of this rulemaking, the Bureau loan contract; (2) a fee, such as an example where a prepayment penalty of specifically notes that the inclusion of origination or other loan closing cost, $1,000 is imposed because a full interest charged consistent with the that is waived by the creditor on the month’s interest of $3,000 is charged monthly interest accrual amortization condition that the consumer does not even though only $2,000 in interest was method in the definition of prepayment prepay the loan; (3) a minimum finance earned in the month during which the penalty for purposes of determining charge in a simple interest transaction; consumer prepaid. whether a transaction is in compliance and (4) computing a refund of unearned With respect to FHA practices relating with the requirements of § 1026.43(g) interest by a method that is less to monthly interest accrual applies only to transactions favorable to the consumer than the amortization, the Bureau has consulted consummated on or after January 10, actuarial method, as defined by section extensively with HUD in issuing this 2014; for FHA loans, compliance with 933(d) of the Housing and Community final rule as well as the 2013 HOEPA this aspect of the definition of Development Act of 1992, 15 U.S.C. Final Rule. Based on these prepayment penalties is optional for 1615(d). consultations, the Bureau understands transactions consummated prior to Post-payoff interest charges. The that HUD must engage in rulemaking to January 21, 2015. Board proposal included as an example With regard to general concerns that end its practice of imposing interest of a prepayment penalty in proposed loans subject to these interest accrual charges on consumers for the balance of § 226.43(b)(10)(i)(A) a charge methods may be subject to higher prices the month in which consumers prepay determined by the creditor or servicer on the secondary market, the Bureau is in full. The Bureau further understands treating the loan balance as outstanding confident that the secondary market will that HUD requires approximately 24 for a period of time after prepayment in be able to price the increased risk of months to complete its rulemaking full. Some industry commenters prepayment, if any, that may occur as a process. Accordingly, in recognition of expressed reservations about treating result of the limits that will apply to the important role that FHA-insured this monthly interest accrual monthly interest accrual amortization- credit plays in the current mortgage amortization method as a prepayment related prepayment penalties. The penalty, arguing that such a rule might market and to facilitate FHA creditors’ secondary market already does so for cause higher resale prices in the ability to comply with this aspect of the various other types of prepayment risk secondary mortgage market to account 2013 ATR and HOEPA Final Rules, the on investor pools, such as the risk of for cash flow uncertainty. Other Bureau is using its authority under TILA refinancing or sale of the property. commenters noted that this calculation section 105(a) to provide for optional Comment 32(b)(6)–1.ii further method is currently used by FHA to compliance until January 15, 2015 with explains the 36 month carve-out for a compute interest on its loans (including § 1026.32(b)(6)(i) and the official waived bona fide third-party charge loans currently in Ginnie Mae pools), or interpretation of that provision in imposed by the creditor if the consumer that such charges were not customarily comment 32(b)(6)–1.i regarding monthly pays all of a covered transaction’s considered a prepayment penalty. Some interest accrual amortization. principal before the date on which the commenters expressed concern that the Specifically, § 1026.32(b)(6)(i) provides principal is due sooner than 36 months rule would disrupt FHA lending. that interest charged consistent with the after consummation, as included in After careful consideration of the monthly interest accrual amortization § 1026.32(b)(6)(i). The comment comments received, the Bureau method is not a prepayment penalty for explains that if a creditor waives $3,000 concludes that going forward (e.g., for FHA loans consummated before January in closing costs to cover bona fide third loans a creditor originates after the 21, 2015. FHA loans consummated on party charges but the terms of the loan effective date), it is appropriate to or after January 21, 2015 must comply agreement provide that the creditor may designate higher interest charges for with all aspects of the final rule. The recoup $4,500, in part to recoup waived consumers based on accrual methods Bureau is making this adjustment charges, then only $3,000 that the that treat a loan balance as outstanding pursuant to its authority under TILA creditor may impose to cover the for a period of time after prepayment in section 105(a), which provides that the waived bona fide third party charges is full as prepayment penalties under Bureau’s regulations may contain such considered not to be a prepayment § 1026.32(b)(6) and comment 32(b)(6)– additional requirements, classifications, penalty, while any additional $1,500 1.i. In such instances, the consumer differentiations, or other provisions, and charge for prepayment is a prepayment submits a payment before it is due, but may provide for such adjustments and penalty and subject to the restrictions the creditor nonetheless charges interest exceptions for all or any class of under § 1026.43(g). This comment also on the portion of the principal that the transactions as in the Bureau’s judgment demonstrates that the only amount creditor has already received. The are necessary or proper to effectuate the excepted from the definition of Bureau believes that charging a purposes of TILA, prevent prepayment penalty under consumer interest after the consumer circumvention or evasion thereof, or § 1026.32(b)(6)(i) is the actual amount has repaid the principal is the facilitate compliance therewith. 15 that the creditor pays to a third party for functional equivalent of a prepayment U.S.C. 1604(a). The purposes of TILA a waived, bona fide charge. penalty. Comment 32(b)(6)–1.i further include the purposes that apply to 129C, Minimum finance charges; unearned clarifies that ‘‘interest accrual to assure that consumers are offered and interest refunds. Although longstanding amortization’’ refers to the method by receive residential mortgage loans on Regulation Z commentary has listed a which the amount of interest due for terms that reasonably reflect their ability minimum finance charge in a simple each period (e.g., month) in a to repay the loan. See 15 U.S.C. interest transaction as an example of a transaction’s term is determined and 1639b(a)(2). The Bureau believes it is prepayment penalty, the Board notes, for example, that ‘‘monthly necessary and proper to make this proposed to omit that example from interest accrual amortization’’ treats adjustment to ensure that consumers proposed § 226.43(b)(10) because the

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Board reasoned that such a charge specified time period. The Bureau scope of the rule, described in the typically is imposed with open-end, believes that the concern expressed by section-by-section analysis of rather than closed-end, transactions. these commenters that the cost of credit § 1026.43(a), as well as the prepayment The Bureau did not receive substantial for these construction-to-permanent penalty restrictions, described in the comment on this omission, but the loans would increase if such charges section-by-section analysis of Bureau has elected to continue using were treated as prepayment penalties is § 1026.43(g), construction-to-permanent this example in comment 32(b)(6)–1.iii misplaced primarily because in many loans cannot be qualified mortgages, for consistency. Likewise, the Board did cases, such charges are not, in fact, a and thus under § 1026.43(g)(1)(ii)(B) not propose to include the example of prepayment penalty. A prepayment cannot include a prepayment penalty. computing a refund of unearned interest penalty is ‘‘a charge imposed for paying Construction-to-permanent loans are by a method that is less favorable to the all or part of a covered transaction’s discussed in more detail in the section- consumer than the actuarial method, but principal before the date on which the by-section analysis of § 1026.43(a). the Bureau is nonetheless using this principal is due.’’ First, the case where Open-end credit. The Bureau is example in comment 32(b)(6)–1.iv the creditor charges the consumer a fee concurrently adopting comments because similar language is found in for failing to convert a loan within a 32(b)(6)–3 and –4 to clarify its approach longstanding Regulation Z commentary. specified period after completing the Examples of fees that are not to prepayment penalties with respect to repayment of a construction loan as open-end credit. As the Board’s 2011 prepayment penalties. The Board scheduled is not a prepayment penalty; included in proposed § 226.43(b)(10)(ii) ATR Proposal did not address open-end the fee is not assessed for an early credit plans, the Bureau is not clarifying an example of a fee not considered a payment of principal, but rather for the prepayment penalty. For the sake of prepayment penalties with respect to consumer’s failure to take an action clarity, the Bureau is moving this open-end credit plans in this final rule. upon scheduled repayment of principal. example into comment 32(b)(6)–2.i, Instead, guidance is provided in Second, the case where a consumer does rather than keep the example in the text comments 32(b)(6)–3 and –4, which the convert the construction loan to a of the regulation. The Bureau also is Bureau is adopting in the concurrent permanent loan in a timely manner, but adding a second example in comment 2013 HOEPA Final Rule. incurs a fee for converting the loan with 32(b)(6)–2.ii. Section 1026.43 Minimum Standards for Comment 32(b)(6)–2.i explains that another creditor, is also likely not prepayment penalty. While such cases Transactions Secured by a Dwelling fees imposed for preparing and 43(a) Scope providing documents when a loan is depend highly on contractual wording, in the example above, the consumer is paid in full are not prepayment Sections 1411, 1412 and 1414 of the charged a fee not for his early payment penalties when such fees are imposed Dodd-Frank Act add new TILA section of principal, but rather for his use of whether or not the loan is prepaid or the 129C, which requires creditors to another creditor. Third, the case where consumer terminates the plan prior to determine a consumer’s ability to repay the creditor charges the consumer a fee the end of its term. Commenters did not a ‘‘residential mortgage loan’’ and for converting the construction loan to provide substantial feedback on this establishes new rules and prohibitions a permanent loan earlier than specified example, which the Bureau has on prepayment penalties. Section 1401 by agreement, even with the same reworded slightly from the Board of the Dodd-Frank Act adds new TILA creditor, likely is a prepayment penalty. proposal to provide conformity and section 103(cc),87 which defines While this example is not the same as clarity. ‘‘residential mortgage loan’’ to mean, the hypothetical described by most The Board proposed omitting text with some exceptions, any consumer commenters, who expressed concern if from preexisting commentary on credit transaction secured by a a consumer does not convert the Regulation Z stating that a prepayment mortgage, of trust, or other construction loan into a permanent loan penalty did not include loan guarantee equivalent consensual security interest with the same creditor within a fees, noting that loan guarantee fees are on ‘‘a dwelling or on residential real specified time period, this is an example not charges imposed for paying all or property that includes a dwelling.’’ of a prepayment penalty, as the creditor part of a loan’s principal before the date TILA section 103(v) defines ‘‘dwelling’’ has imposed a charge for paying all or on which the principal is due. The to mean a residential structure or mobile part of a covered transaction’s principal Bureau did not receive substantial home which contains one- to four- before the date on which the principal comment on this omission. While the family housing units, or individual was due. As the above examples Bureau agrees with the Board’s analysis, units of condominiums or cooperatives. demonstrate, whether a construction-to- the Bureau nonetheless elects to include Thus, a ‘‘residential mortgage loan’’ is a permanent loan contains a prepayment this example in comment 43(b)(6)–2.ii dwelling-secured consumer credit penalty is fact-specific, and the Bureau to clarify that loan guarantee fees transaction, regardless of whether the has decided that adding a comment continue to fall outside the definition of consumer credit transaction involves a specifically addressing such loans a prepayment penalty. Moreover, home purchase, refinancing, home would not be instructive. The Bureau including this example of a fee that is equity loan, first lien or subordinate sees no policy reason to generally not a prepayment penalty is consistent lien, and regardless of whether the exclude fees specific to construction-to- with the Bureau’s efforts to streamline dwelling is a principal residence, permanent loan from the definition of definitions and ease regulatory burden. second home, vacation home (other than Construction-to-permanent financing. prepayment penalty and its statutory a timeshare residence), a one- to four- Some industry commenters advocated limits. The Bureau was not presented unit residence, condominium, that, for construction-to-permanent with any evidence that the risks cooperative, mobile home, or loans, the Bureau should exclude from inherent in construction-to-permanent manufactured home. the definition of prepayment penalty loans could not be priced by creditors charges levied by a creditor if a through alternative means, such as the 87 examples described above, via interest Two TILA subsections designated 103(cc) exist consumer does not convert the due to a discrepancy in the instructions given by construction loan into a permanent loan rate, or charging closing costs. The the Dodd-Frank Act. See Dodd-Frank Act sections with the same creditor within a Bureau also notes that, because of the 1100A and 1401.

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However, the Dodd-Frank Act an extension of credit in commentary on business purpose loans. Second, specifically excludes from the term § 1026.3. vacation home loans are consumer ‘‘residential mortgage loan’’ an open- Numerous commenters requested credit transactions that can have marked end credit plan or an extension of credit additional exemptions from coverage effects on a consumer’s finances. If a secured by an interest in a timeshare beyond the statutory exemptions listed consumer is unable to repay a mortgage plan, for purposes of the repayment at proposed § 226.43(a)(1) through (3). on a vacation home, the consumer will ability and prepayment penalty The Bureau received requests for likely suffer severe financial provisions under TILA section 129C, exemptions from the rule for seller- consequences and the spillover effects among other provisions. See TILA financed transactions, loans secured by on property values and other consumers section 103(cc)(5); see also TILA section non-primary residences, community in the affected area can be substantial as 129C(i) (providing that timeshare development loans, downpayment well. Third, the Bureau understands transactions are not subject to TILA assistance loans, loans eligible for that default rates on vacation homes are section 129C). Further, the repayment purchase by GSEs, and housing generally higher than those on primary ability provisions of TILA section stabilization refinances. The requested residences, and an exemption could 129C(a) do not apply to reverse exemptions related to community increase this disparity. mortgages or temporary or ‘‘bridge’’ development loans, downpayment For the reasons discussed below, the loans with a term of 12 months or less, assistance loans, and housing general scope provision and the including a loan to purchase a new stabilization refinances are not being statutory exemptions in § 1026.43(a)(1) dwelling where the consumer plans to included in this final rule, but are through (3)(ii) are adopted substantially sell another dwelling within 12 months. addressed in the Bureau’s proposed rule as proposed, with minor changes as See TILA section 129C(a)(8). The regarding amendments to the ability-to- discussed in the relevant sections repayment ability provisions of TILA repay requirements, published below, and the addition of section 129C(a) also do not apply to elsewhere in today’s Federal Register. § 1026.43(a)(3)(iii) to provide an consumer credit transactions secured by The requested exemptions that are not exemption for the construction phase of vacant land. See TILA section 103(cc)(5) being included in the rule and are not a construction-to-permanent loan. and 129C(a)(1). being addressed in today’s concurrent The general scope provision at TILA Section 103(cc) defines proposal are discussed immediately § 1026.43(a) now includes language ‘‘residential mortgage loan’’ to mean a below. making clear that attached consumer credit transaction secured by The Bureau received numerous letters to a dwelling will be considered a part a mortgage or equivalent consensual from individuals concerned that the rule of the dwelling for purposes of security interest ‘‘on a dwelling or on would cover individual home sellers compliance with § 1026.43. Although as residential real property that includes a who finance the buyer’s purchase, either discussed above similar language was dwelling.’’ Under TILA and Regulation through a loan or an installment sale. included in the official commentary in Z, the term ‘‘dwelling’’ means a However, because the definition of the proposed rule, the Bureau believes residential structure with one to four ‘‘creditor’’ for mortgages generally this important legal requirement should units, whether or not the structure is covers only persons who extend credit be part of the regulatory text. attached to real property, and includes secured by a dwelling more than five Comment 43(a)–1 now includes a a condominium or cooperative unit, times in a calendar year, the reference to § 1026.20(a), which mobile home, and trailer, if used as a overwhelming majority of individual describes different types of changes to residence. See 15 U.S.C. 1602(v), seller-financed transactions will not be an existing loan that will not be treated § 1026.2(a)(19). To facilitate compliance covered by the rule. Those creditors as refinancings, to make clear that by using consistent terminology who self-finance six or more creditors may rely on that section in throughout Regulation Z, the proposal transactions in a calendar year, whether determining whether or not § 1026.43 used the term ‘‘dwelling,’’ as defined in through loans or installment sales, will will apply to a particular change to an § 1026.2(a)(19), and not the phrase need to comply with the ability-to-repay existing loan. ‘‘residential real property that includes provisions of § 1026.43, just as they a dwelling.’’ Proposed comment 43(a)– must comply with other relevant 43(a)(1) 2 clarified that, for purposes of provisions of Regulation Z. The Board’s proposal included an proposed § 226.43, the term ‘‘dwelling’’ An association of State bank exemption from the scope of section would include any real property to regulators suggested that the scope of 226.43 for ‘‘[a] home equity line of which the residential structure is the ability-to-repay requirements be credit subject to § 226.5b,’’ 89 which attached that also secures the covered limited to owner-occupied primary implemented the exclusion of HELOCs transaction. residences, stating that ability to repay from coverage in the statutory definition Proposed § 226.43(a) generally on vacation homes and investment of ‘‘residential mortgage loan.’’ Dodd- defined the scope of the ability-to-repay properties should be left to an Frank Act section 1401. The Bureau provisions to include any consumer institution’s business judgment. The received two comments asking that the credit transaction that is secured by a Bureau believes it is not appropriate or HELOC exemption be reconsidered. The dwelling, other than home equity lines necessary to exercise its exception commenters stated that HELOCs had of credit, mortgage transactions secured authority to change the scope of the contributed to the crisis in the mortgage by an interest in a timeshare plan, or for provision in this way for several market and that failure to include them certain provisions reverse mortgages or reasons. First, as discussed in proposed in the ability-to-repay rule’s coverage temporary loans with a term of 12 comment 43(a)–1, loans that have a would likely lead to more consumer months or less. Proposed comment business purpose 88 are not covered by abuse and systemic problems. 43(a)–1 clarified that proposed § 226.43 TILA, and so would not be covered by The Bureau notes that Congress would not apply to an extension of the ability-to-repay provisions as specifically exempted open-end lines of credit primarily for a business, proposed and adopted. Investment credit from the ability-to-repay commercial, or agricultural purpose and purpose loans are considered to be cross-referenced the existing guidance 89 The Regulation Z section on HELOCs has been on determining the primary purpose of 88 12 CFR 1026.3(a). relocated and is now at 12 CFR 1026.40.

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requirements, even though the Dodd- 43(a)(3) revisit the issue as part of its broader Frank Act extends other consumer 43(a)(3)(i) review of the ability-to-repay rule under protections to such loans, including the section 1022(d) of the Dodd-Frank Act, requirements for high-cost mortgages Proposed § 226.43(a)(3)(i) created an which requires the Bureau to conduct exemption from the ability-to-repay under HOEPA. The Bureau also notes an assessment of significant rules five requirements in § 226.43(c) through (f) that home equity lines of credit have years after they are adopted. for reverse mortgages, as provided in the One industry trade association consistently had lower delinquency statute. The Bureau did not receive rates than other forms of consumer commented on the wording of the comments on this exemption.91 temporary financing exemption, credit.90 Furthermore, the requirements Accordingly, the Bureau is adopting suggesting that the inclusion of the two contained in the Dodd-Frank Act with § 1026.43(a)(3)(i) as proposed. examples, bridge loans and construction respect to assessing a consumer’s ability 43(a)(3)(ii) loans, would create uncertainty as to to repay a residential mortgage, and the whether the exemption would apply to regulations the Bureau is adopting Proposed § 226.43(a)(3)(ii) provided temporary financing of other types. thereunder, were crafted to apply to the an exemption from the ability-to-repay However, the Bureau believes further underwriting of closed-end loans and requirements in § 226.43(c) through (f) clarification is not required because the are not necessarily transferrable to for ‘‘[a] temporary or ‘bridge’ loan with exemption applies to any temporary underwriting for an open-end line of a term of 12 months or less, such as a loan with a term of 12 months or less, credit secured by real estate. In light of loan to finance the purchase of a new and the examples are merely these considerations, the Bureau does dwelling where the consumer plans to illustrative. The Bureau is aware of and not believe there is sufficient sell a current dwelling within 12 provides clarifying examples of certain months or a loan to finance the initial justification to find it necessary or common loan products that are construction of a dwelling.’’ proper to use its adjustment and temporary or ‘‘bridge’’ loans. The Furthermore, proposed comment 43(a)– commenter did not note other common exception authority to expand the 3 provided that, ‘‘[w]here a temporary or ability-to-repay provisions to HELOCs at types of temporary loan products. The bridge loan is renewable, the loan term Bureau further believes that the rule this time. However, as discussed in does not include any additional period detail below, the Bureau is adopting the permits other types of temporary of time that could result from a renewal financing as long as the loan satisfies Board’s proposal to require creditors to provision.’’ The Board solicited consider and verify contemporaneous the requirements of the exemption. comment on whether a decision to treat Accordingly, § 1026.43(a)(3)(ii) and HELOCs in addition to other types of renewals in this manner would lead to associated commentary are adopted simultaneous loans for the purpose of evasion of the rule. The statute includes substantially as proposed. complying with the ability-to-repay the one-year exemption implemented in provisions. See the section-by-section the proposed rule but does not 43(a)(3)(iii) analysis of § 1026.43(b)(12) below. In specifically address renewals. TILA The Bureau also received comments addition, the final rule includes the section 129C(a)(8), 15 U.S.C. requesting clarification on how the Board’s proposed anti-evasion 1639c(a)(8). temporary financing exemption would provision, which forbids the structuring Generally, commenters did not apply to construction-to-permanent of credit that does not meet the specifically address the proposal’s loans, i.e., construction financing that definition of open-end credit as an request for comment on renewals of will be permanently financed by the open-end plan in order to evade the short-term financing; however, one same creditor. Typically, such loans requirements of this rule. See industry commenter stated that the have a short construction period, during statutory one-year limitation would § 1026.43(h). Accordingly, which payments are made of interest interfere with construction loans, which § 1026.43(a)(1) is adopted as proposed, only, followed by a fully amortizing often require more than a year to with the embedded citation updated. permanent period, often an additional complete. The Bureau understands that 30 years. Because of this hybrid form, However, the Bureau intends to monitor construction loans often go beyond a the loans do not appear to qualify for the HELOC exemption through its single year. Although the comment did the temporary financing exemption, nor supervision function and may revisit the not specify that disregarding potential would they be qualified mortgages issue as part of its broader review of the renewals would alleviate this concern, because of the interest-only period and ability-to-repay rule under section the Bureau believes that disregarding the fact that the entire loan term will 1022(d) of the Dodd-Frank Act, which renewals would facilitate compliance often slightly exceed 30 years. However, requires the Bureau to publish an and prevent unwarranted restrictions on such loans may have significant assessment of a significant rule or order access to construction loans. consumer benefits because they avoid not later than five years after its Commenters did not respond to the the inconvenience and expense of a effective date. Board’s query about whether or not second closing, and also avoid the risk disregarding renewals of transactions 43(a)(2) that permanent financing will be with one-year terms would lead to unavailable when the construction loan The Bureau did not receive comments evasion of the rule. Upon further is due. on the statutory timeshare exemption analysis, the Bureau believes that this The Bureau notes that existing included in proposed § 226.43(a)(2). concern does not warrant changing the § 1026.17(c)(6)(ii) provides that proposed commentary. However, the Accordingly, the Bureau is adopting construction-to-permanent loans may be Bureau intends to monitor the issue § 1026.43(a)(2) as proposed. disclosed as either a single transaction through its supervision function and to or as multiple transactions at the creditor’s option. Consistent with that 90 See Fed. Reserve Bank of N.Y., Quarterly 91 Comments were received regarding the possible provision, the Bureau is using its Report on Household Debt and Credit, at 9 (Nov. description of a reverse mortgage qualified 2012), available at http://www.newyorkfed.org/ mortgage, and they are discussed below. These adjustment and exception authority to research/national_economy/householdcredit/ commenters did not discuss or question the general allow the construction phase of a DistrictReport_Q32012.pdf. exemption from the ability-to-repay rule. construction-to-permanent loan to be

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exempt from the ability-to-repay construction phase that is one year or prevailing on a residential mortgage requirements as a temporary loan; less in duration. Comment 43(a)(3)–2 loan at the time the loan is made plus however, the permanent phase of the also makes clear that if the construction the margin that will apply after the loan is subject to § 1026.43. Because the phase of a construction-to-permanent expiration of any introductory interest permanent phase is subject to § 1026.43, loan is treated as exempt, the permanent rates.’’ it may be a qualified mortgage if it financing phase may be a qualified The term ‘‘fully indexed rate’’ satisfies the appropriate requirements. mortgage if it meets the appropriate appeared in proposed § 226.43(c)(5), As amended by the Dodd-Frank Act, requirements. which implemented TILA section TILA section 105(a), 15 U.S.C. 1604(a), Accordingly, § 1026.43(a)(3)(iii) and 129C(a)(6)(D)(iii) and provided the directs the Bureau to prescribe comment 43(a)(3)–2 are added to this payment calculation rules for covered regulations to carry out the purposes of final rule. transactions. The term also appeared in TILA, and provides that such proposed § 226.43(d)(5), which 43(b) Definitions regulations may contain additional provided special rules for creditors that requirements, classifications, 43(b)(1) refinance a consumer from a non- differentiations, or other provisions, and The definition of ‘‘covered standard mortgage to a standard may provide for such adjustments and transaction’’ restates the scope of the mortgage. exceptions for all or any class of rule, discussed above, which Proposed § 226.43(b)(3) defined the transactions that the Bureau judges are implements the statutory term term ‘‘fully indexed rate’’ as ‘‘the necessary or proper to effectuate the ‘‘residential mortgage loan’’ defined at interest rate calculated using the index purposes of TILA, to prevent TILA § 103(cc)(5). The Bureau did not or formula at the time of consummation circumvention or evasion thereof, or to receive any comments specifically on and the maximum margin that can facilitate compliance therewith. The this provision and is adopting it as apply at any time during the loan term.’’ main purpose of section 129C is proposed in § 1026.43(b)(1). For clarity, This proposed definition was consistent articulated in section 129B(a)(2)—‘‘to the Bureau has added comment with the statutory language of TILA assure that consumers are offered and 43(b)(1)–1 explaining that the term sections 129C(a)(6)(D)(iii) and receive residential mortgage loans on ‘‘covered transaction’’ restates the scope 129C(a)(7), but revised certain text to terms that reasonably reflect their ability of the rule as described in § 1026.43(a). provide clarity. First, for consistency to repay the loans and that are not with current Regulation Z and to unfair, deceptive or abusive.’’ Creditors’ 43(b)(2) facilitate compliance, the proposal ability to continue originating TILA section 129C(a)(3) requires that replaced the phrases ‘‘at the time of the construction-to-permanent loans in a ‘‘[a] creditor shall determine the ability loan closing’’ in TILA section cost effective manner will help to of the consumer to repay using a 129C(a)(6)(D)(iii) and ‘‘at the time the ensure that consumers are offered and payment schedule that fully amortizes loan is made’’ in TILA section receive loans on terms that reasonably the loan over the term of the loan.’’ In 129C(a)(7) with the phrase ‘‘at the time reflect their ability to repay. The implementing this provision, the of consummation’’ for purposes of construction-to-permanent product proposed rule defined a ‘‘fully identifying the fully indexed rate. The avoids the possibility of a consumer amortizing payment’’ as ‘‘a periodic Board interpreted these statutory being unable to repay a construction payment of principal and interest that phrases to have the same meaning as the loan, because the permanent financing will fully repay the loan amount over phrase ‘‘at the time of consummation.’’ is already part of the contract. Without the loan term.’’ The term ‘‘fully See current § 1026.2(a)(7), defining the the ability to treat the permanent amortizing payment’’ is used in the term ‘‘consummation’’ for purposes of financing as a qualified mortgage, and general ‘‘payment calculation’’ Regulation Z requirements as ‘‘the time the construction phase as exempt, it is provision in § 1026.43(c)(5)(i)(B), which that a consumer becomes contractually not clear how many creditors would requires the use of ‘‘[m]onthly, fully obligated on a credit transaction.’’ continue to offer such loans, especially amortizing payments that are In requiring that the fully indexed rate in the short term. In addition, substantially equal.’’ The Bureau has be determined using the specified index consumers will benefit from the determined that the definition of ‘‘fully at consummation, the Board was potentially lower costs associated with amortizing payment’’ enables accurate concerned that the possible existence of qualified mortgages. In addition to implementation of the payment loans that use more than one index effectuating the purpose of ensuring calculation process envisioned by the could complicate this determination. ability to repay, this exemption will statute, and no comments focused on or Given the increasing relevance of greatly facilitate compliance for questioned this definition. Accordingly, market indices, the Board solicited creditors providing this product. § 1026.43(b)(2) is adopted as proposed. comment on whether loan products Proposed comment 43(a)(3)–1 currently exist that base the interest rate provided that, where a temporary or 43(b)(3) on a specific index at consummation, ‘‘bridge’’ loan is renewable, the loan TILA section 129C(a)(6)(D) provides but then base subsequent rate term does not include any additional that, for purposes of making the adjustments on a different index, and period of time that could result from a repayment ability determination whether further guidance addressing renewal provision. The Bureau is required under TILA section 129C(a), how to calculate the fully indexed rate adding comment 43(a)(3)–2 to make the creditor must calculate the monthly for such loan products would be clear that if a construction-to-permanent payment on the mortgage obligation needed. loan is treated as multiple transactions based on several assumptions, including The proposed rule interpreted the in regard to compliance with the ability- that the monthly payment be calculated statutory reference to the margin that to-repay requirements, and the initial using the fully indexed rate at the time will apply ‘‘after the expiration of any one-year construction phase is of loan closing, without considering the introductory interest rates’’ as a renewable, the loan term of the introductory rate. See TILA section reference to the maximum margin that construction phase does not include any 129C(a)(6)(D)(iii). TILA section can apply ‘‘at any time during the loan additional period of time that could 129C(a)(7) defines the term ‘‘fully term.’’ The Bureau agrees with this result from a renewal of that indexed rate’’ as ‘‘the index rate interpretation, because the statutory use

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of the plural ‘‘rates’’ modified by the all- term ‘‘fully indexed rate’’ in the 2006 regarding the use of the index value at inclusive term ‘‘any’’ clearly indicates Nontraditional Mortgage Guidance and the time of consummation where the not only that something more than the 2007 Subprime Mortgage Statement. contract provides for a delay. See initial introductory rate is meant, but Proposed comment 43(b)(3)–1 noted comments 17(c)(1)–10.i and that ‘‘any’’ preliminary rate should be that in some adjustable-rate 18(s)(2)(iii)(C)–1, which address the disregarded. In addition, the statutory transactions, creditors may set an initial fully indexed rate for purposes of term itself, ‘‘fully indexed rate,’’ appears interest rate that is not determined by disclosure requirements. to require such a reading. Referencing the index or formula used to make later Proposed comment 43(b)(3)–3 the entire loan term as the relevant interest rate adjustments. This proposed explained that the creditor must period of time during which the creditor comment explained that this initial rate determine the fully indexed rate must identify the maximum margin that charged to consumers will sometimes be without taking into account any can occur under the loan makes the lower than the rate would be if it were periodic interest rate adjustment caps phrase ‘‘after the expiration of any calculated using the index or formula at that may limit how quickly the fully introductory interest rates’’ unnecessary consummation (i.e., a ‘‘discounted indexed rate may be reached at any time and allows for simplicity and rate’’); in some cases, this initial rate during the loan term under the terms of consistency with new TILA section may be higher (i.e., a ‘‘premium rate’’). the legal obligation. As the proposal 103(bb), the high cost mortgage The proposed comment clarified that noted, the guidance contained in provision. when determining the fully indexed rate proposed comment 43(b)(3)–3 differed Because the proposal required that the where the initial interest rate is not from guidance contained in current creditor use the ‘‘maximum’’ margin determined using the index or formula comment 17(c)(1)–10.iii, which states that can apply when determining the for subsequent interest rate adjustments, that, when disclosing the annual fully indexed rate, the creditor would be the creditor must use the interest rate percentage rate, creditors should give required to take into account the largest that would have applied had the effect to periodic interest rate margin that could apply under the terms creditor used such index or formula adjustment caps. of the legal obligation. The approach of plus margin at the time of Nonetheless, the Board believed the using the maximum margin that can consummation. The proposed comment approach in proposed comment apply at any time during the loan term further clarified that this means, in 43(b)(3)–3 was consistent with, and is consistent with the statutory language determining the fully indexed rate, the required by, the statutory language that contained in TILA section 103(bb), as creditor must not take into account any states that the fully indexed rate must be amended by section 1431 of the Dodd- discounted or premium rate. (In determined without considering any Frank Act, which defines a high-cost addition, to facilitate compliance, this introductory rate and by using the mortgage. This statutory provision comment directed creditors to margin that will apply after expiration of any introductory interest rates. See provides that, for purposes of the commentary that addresses payment TILA section 129C(a)(6)(D)(iii) and (7). definition of a ‘‘high-cost mortgage’’ calculations based on the greater of the In addition, the Board noted that the under HOEPA, for a mortgage with an fully indexed rate or ‘‘premium rate’’ for proposed definition of fully indexed interest rate that varies solely in purposes of the repayment ability rate, and its use in the proposed accordance with an index, the annual determination under proposed payment calculation rules, was designed percentage rate must be based on ‘‘the § 226.43(c)). See final rule to assess whether the consumer has the interest rate determined by adding the § 1026.43(c)(5)(i)(A) and comment 43(c)(5)(i)–2.) ability to repay the loan according to its index rate in effect on the date of Proposed comment 43(b)(3)–1 differed terms. TILA section 129B(a)(2), 15 U.S.C consummation of the transaction to the from guidance on disclosure 1639b(a)(2). This purpose differs from maximum margin permitted at any time 92 requirements in current comment the principal purpose of disclosure during the loan agreement.’’ 17(c)(1)–10.i, which provides that in requirements, which is to help ensure Furthermore, although the Board was cases where the initial interest rate is that consumers avoid the uninformed not aware of any current loan products not calculated using the index or use of credit. TILA section 102(a), 15 that possess more than one margin that formula for later rate adjustments, the U.S.C. 1601(a). Furthermore, the may apply over the loan term, the Board creditor should disclose a composite guidance contained in proposed proposed this clarification to address annual percentage rate that reflects both comment 43(b)(3)–3 was consistent with the possibility that creditors may create the initial rate and the fully indexed the Federal banking agencies’ use of the products that permit different margins rate. The Board believed the different term fully indexed rate in the 2006 to take effect at different points approach taken in proposed comment Nontraditional Mortgage Guidance and throughout the loan term. The proposal 43(b)(3)–1 was required by the statutory 2007 Subprime Mortgage Statement. solicited comment on this approach. language and was appropriate in the Proposed comment 43(b)(3)–4 The proposed definition of ‘‘fully present case where the purpose of the clarified that when determining the indexed rate’’ was also generally statute is to determine whether the fully indexed rate, a creditor may consistent with the definition of ‘‘fully consumer can repay the loan according choose, in its sole discretion, to take indexed rate’’ as used in the MDIA to its terms, including any potential into account the lifetime maximum Interim Final Rule,93 and with the increases in required payments. TILA interest rate provided under the terms of Federal banking agencies’ use of the section 129B(a)(2), 15 U.S.C 1639b(a)(2). the legal obligation. This comment Proposed comment 43(b)(3)–2 further explained, however, that where the 92 Previous to the passage of the Dodd-Frank Act, clarified that if the contract provides for creditor chooses to use the lifetime the annual percentage rate used for this determination was calculated the same way as for a delay in the implementation of maximum interest rate, and the loan the rest of the Truth in Lending Act, pursuant to changes in an index value or formula, agreement provides a range for the § 1026.14. the creditor need not use the index or maximum interest rate, the creditor 93 See 2010 MDIA Interim Final Rule, 75 FR formula in effect at consummation, and must use the highest rate in that range 58470, 58484 (Sept. 24, 2010) (defines fully indexed rate as ‘‘the interest rate calculated using the index provides an illustrative example. This as the maximum interest rate. In value and margin’’); see also 75 FR 81836 (Dec. 29, proposed comment was consistent with allowing creditors to use the lifetime 2010) (revising the MDIA Interim Final Rule). current guidance in Regulation Z maximum interest rate provided under

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the terms of the obligation, the Board and interest on any residential mortgage 5 or 10 years, or some other appropriate was apparently interested in simplifying loan by assuming’’ several factors, time horizon. compliance and benefiting consumers including the fully indexed rate, as The Bureau received few comments by encouraging reasonable lifetime defined in the statute (emphasis added). on the use of the maximum interest rate interest rate caps. In doing so, the Board See TILA section 129C(a)(6)(D). The that may apply at any time during the was apparently reading its proposed statutory definition of ‘‘residential loan term for step-rate mortgages. A definition of fully indexed rate to allow mortgage loan’’ includes loans with consumer group and a regulatory reform the maximum margin that can apply at variable-rate features that are not based group stated that this method was better any time during the loan term to refer on an index or formula, such as step- and more protective of consumers than to the maximum margin as determined rate mortgages. See TILA section using a seven- or ten-year horizon. An at consummation. In other words, when 103(cc); see also proposed § 226.43(a), organization representing state bank the index value is determined at which addressed the proposal’s scope, regulators suggested that the Bureau use consummation, the maximum margin and proposed § 226.43(b)(1), which a five-year horizon, provided that the that can apply at any time during the defined ‘‘covered transaction.’’ loan has limits on later rate increases. loan term will be the difference between However, because step-rate mortgages An industry trade association suggested the lifetime interest rate cap and that do not have a fully indexed rate, it was that the maximum rate only be applied index value. Consequently, adding the unclear what interest rate the creditor to the balance remaining when that index value at consummation to that should assume when calculating maximum rate is reached. maximum margin, as required by the payment amounts for the purpose of The Bureau believes that the fully indexed rate definition, will yield determining the consumer’s ability to proposal’s method of using the the lifetime interest rate cap as the fully repay the covered transaction. maximum interest rate that may apply at any time during the loan term for step- indexed rate. As discussed above, the proposal rate mortgages is appropriate. This Commenters generally did not focus interpreted the statutory requirement to approach most closely approximates the specifically on the definition of ‘‘fully use the ‘‘margin that can apply at any statutorily required fully indexed rate indexed rate’’ and associated time after the expiration of any because it employs the highest rate commentary proposed by the Board, or introductory interest rates’’ to mean that ascertainable at consummation, as does provide examples of loans with more the creditor must use the ‘‘maximum the fully indexed rate, and it applies than one index or more than one margin that can apply at any time that rate to the entire original principal margin. An organization representing during the loan term’’ when state bank regulators supported the use of the loan, as the calculation in determining the fully indexed rate. of the maximum margin that can apply § 1026.43(c)(5)(i) does with the fully Accordingly, consistent with this at any time during the loan term, indexed rate. In addition, this method approach, the proposal clarified in suggesting that it would prevent most effectively ensures the consumer’s proposed comment 43(b)(3)–5 that evasion. (Some commenter groups did ability to repay the loan. where there is no fully indexed rate urge the Bureau to use its adjustment For the reasons stated above, because the interest rate offered in the authority to require creditors to use a § 1026.43(b)(3) is adopted substantially loan is not based on, and does not vary rate higher than the fully indexed rate as proposed, with the clarification with, an index or formula, the creditor in assessing a consumer’s ability to discussed above specifying that the must use the maximum interest rate that repay; these comments are discussed index used in determining the fully below in the section-by-section analysis may apply at any time during the loan indexed rate is the index that will apply of § 1026.43(c)(5)(i)). The Bureau is term. Proposed comment 43(b)(3)–5 after the loan is recast. Issues regarding adopting the rule and commentary provided illustrative examples of how to the use of the fully indexed rate in the largely as proposed, with some determine the maximum interest rate for payment calculations required by modifications for clarity. Specifically, a step-rate and a fixed-rate mortgage. § 1026.43(c)(5) are discussed in the the Bureau decided to include language The Board believed this approach was section-by-section analysis of that in the definition that will make clear appropriate because the purpose of section below. TILA section 129C is to require creditors that the index used in determining the 43(b)(4) fully indexed rate is the index that will to assess whether the consumer can apply after the loan is recast, so that any repay the loan according to its terms, The Dodd-Frank Act added TILA index that might be used earlier in including any potential increases in section 129C(a)(6)(D)(ii)(II), which determining an initial or intermediate required payments. TILA section provides that a creditor making a rate would not be used. This new 129B(a)(2), 15 U.S.C 1639b(a)(2). balloon-payment loan with an APR at or language is included for clarification Requiring creditors to use the maximum above certain thresholds must only, and does not change the intended interest rate would help to ensure that determine ability to repay ‘‘using the meaning of the proposed definition. consumers could repay their loans. contract’s repayment schedule.’’ The In the proposed rule, the Board noted However, the Board was also concerned thresholds required by the statute are that the statutory construct of the that by requiring creditors to use the 1.5 or more percentage points above the payment calculation rules, and the maximum interest rate in a step-rate average prime offer rate (APOR) for a requirement to calculate payments mortgage, the monthly payments used to comparable transaction for a first lien, based on the fully indexed rate, apply determine the consumer’s repayment and 3.5 or more percentage points above to all loans that are subject to the ability might be overstated and APOR for a subordinate lien. These ability-to-repay provisions, including potentially restrict credit availability. thresholds are the same as those used in loans that do not base the interest rate Therefore, the Board solicited comment the Board’s 2008 HOEPA Final Rule 94 on an index and therefore, do not have on this approach, and whether authority to designate a new category of ‘‘higher- a fully indexed rate. Specifically, the under TILA sections 105(a) and 129B(e) priced mortgage loans’’ (HPMLs), which statute states that ‘‘[f]or purposes of should be used to provide an exception was amended by the Board’s 2011 making any determination under this for step-rate mortgages, possibly Jumbo Loans Escrows Final Rule to subsection, a creditor shall calculate the requiring creditors to use the maximum monthly payment amount for principal interest rate that occurs in only the first 94 73 FR 44522 (July 30, 2008).

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include a separate threshold for jumbo higher, APRs trigger certain application in other provisions of the loans for purposes of certain escrows requirements unnecessarily. The TCR final rule. For example, as discussed requirements.95 Implementing these includes fewer charges, and the Board’s below, the final rule varies the strength thresholds for use with the payment 2011 Escrows Proposal proposed to use of the presumption of compliance for underwriting determination for balloon- it in the threshold test for determining qualified mortgages. A qualified payment mortgages, the proposed rule application of those requirements. 76 FR mortgage designated as a higher-priced defined a ‘‘higher-priced covered 11598, 11626–11627 (Mar. 2, 2011). covered transaction will be presumed to transaction’’ as one in which the annual The only comment substantively comply with the ability-to repay- percentage rate (APR) ‘‘exceeds the discussing the possible substitution of provision at § 1026.43(c)(1), but will not average prime offer rate (APOR) for a the TCR for the APR was strongly qualify for the safe harbor provision. See comparable transaction as of the date opposed to the idea, stating that it § 1026.43(e)(1)(ii) and (i). the interest rate is set by 1.5 or more would create unnecessary compliance Specifically, the Bureau has percentage points for a first-lien covered difficulty and costs. The Bureau has considered whether to adopt a different transaction, or by 3.5 or more determined that possible transition to a threshold to define high price mortgage percentage points for a subordinate-lien TCR standard will implicate several loans for jumbo loans than for other covered transaction.’’ As explained rules and is not appropriate at the loans. The Bureau notes that the Board further below and provided for in the present time. However, the issue will be expressly addressed this issue in its statute, the designation of certain considered further as part of the 2008 HOEPA Final Rule and concluded covered transactions as higher-priced Bureau’s TILA/RESPA rulemaking. See not to do so. The Board explained that affects the ability-to-repay 77 FR 51116, 51126 (Aug. 23, 2012). although prime jumbo loans have determination for balloon-payment The Board also solicited comment on always had somewhat higher rates than mortgages, and requires that those whether or not to provide a higher prime conforming loans, the spread has higher-priced transactions be analyzed threshold for jumbo balloon-payment been quite volatile.96 The Board using the loan contract’s full repayment mortgages or for balloon-payment concluded that it was sounder to err on schedule, including the balloon mortgages secured by a residence that is the side of being over-inclusive than to payment. § 1026.43(c)(5)(ii)(A)(2). not the consumer’s principal dwelling, set a higher threshold for jumbo loans Proposed comment 43(b)(4)–1 e.g., a vacation home. 76 FR 27412. The and potentially fail to include subprime provided guidance on the term ‘‘average Board requested this information due to jumbo loans.97 The Bureau is persuaded prime offer rate.’’ Proposed comment its belief that higher interest rates by the Board’s reasoning. 43(b)(4)–2 stated that the table of charged for these loans might render The Bureau recognizes that in the average prime offer rates published by them unavailable without the Dodd-Frank Act Congress, in requiring the Board would indicate how to adjustment. The margin above APOR creditors to establish escrows accounts identify the comparable transaction for suggested for first-lien jumbo balloon- for certain transactions and in requiring a higher-priced covered transaction. payment mortgages was 2.5 percentage appraisals for certain transactions based Proposed comment 43(b)(4)–3 clarified points. upon the interest rate of the that a transaction’s annual percentage Two industry commenters supported transactions, did establish a separate rate is compared to the average prime the higher threshold for jumbo loans, threshold for jumbo loans. The Bureau offer rate as of the date the transaction’s arguing that the current thresholds is implementing that separate threshold interest rate is set (or ‘‘locked’’) before would interfere with credit accessibility. in its 2013 Escrows Final Rule which is consummation. This proposed comment One of these commenters also stated being issued contemporaneously with also explained that sometimes a creditor that the higher threshold should be this final rule. However, the Bureau also sets the interest rate initially and then available for all balloon-payment notes that in the ability-to-repay resets it at a different level before mortgages. No commenters discussed provision of the Dodd-Frank Act, consummation, and clarified that in the non-principal-dwelling threshold. Congress mandated underwriting rules these cases, the creditor should use the Many other commenters objected for balloon-payment mortgages which last date the interest rate is set before strongly to the statutory requirement, vary based upon the pricing of the loan, consummation. implemented in the proposed rule, that and in doing so Congress followed the The Board explained in its proposed the balloon payment be considered in thresholds adopted by the Board in its rule that it believed the ability-to-repay applying the ability-to-repay 2008 HOEPA Final Rule and did not requirements for higher-priced balloon- requirements to higher-priced covered add a separate threshold for jumbo payment loans was meant to apply to transaction balloon-payment mortgages. loans. The fact that the Act uses the the subprime market, but that use of the These industry commenters felt that the Board’s criteria in the ability to repay annual percentage rate could lead to percentage point thresholds were too context lends further support to the prime loans being exposed to this test. low, and that many loans currently Bureau’s decision to use those criteria as For this reason, the Board was being made would become unavailable. well in defining higher-priced loans concerned that the statutory formula for They did not, however, submit under the final rule. a higher-priced covered transaction sufficient data to help the Bureau assess Accordingly, the Bureau is not might be over-inclusive. Accordingly, these claims. Other commenters, providing for a higher threshold for the Board solicited comment on including several consumer protection jumbo or non-principal dwelling whether the ‘‘transaction coverage rate’’ advocacy organizations, argued that the balloon-payment mortgages at this time. (TCR) should be used for this higher-priced rule would be helpful in In regard to the possibility of a higher determination, instead of the annual ensuring consumers’ ability to repay threshold for non-principal dwellings percentage rate. 76 FR 27412. The TCR their loans. such as vacation homes, the Bureau had previously been proposed in The Bureau has evaluated the understands that such products have conjunction with a more inclusive proposed definition of ‘‘higher-priced historically been considered to be at version of the APR, in order to avoid covered transaction’’ not only in higher risk of default than loans on having the more inclusive, hence relation to its use in the payment determination for balloon-payment 96 See 73 FR 44537 (July 30, 2008) 95 See 76 FR 11319 (Mar. 2, 2011). mortgages, but also in the light of its 97 Id.

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principal dwellings. Therefore, any advance loans and comment 17(c)(6)–2 calculation at § 1026.43(e)(2)(iv). The difference in rates is likely driven by the and –3. In these cases, the loan amount, Bureau did not receive any comments repayment risk associated with the as reflected in the promissory note or on this definition, and considers it to be product, and a rule meant to ensure a loan contract, does not accurately reflect an accurate and appropriate consumer’s ability to repay the loan the amount disbursed at consummation. implementation of the statutory should not provide an exemption under Thus, to reflect the statutory language. Accordingly, proposed these circumstances. And further, the requirement that the creditor assume the § 1026.43(b)(6) is adopted as proposed. Bureau did not receive and is not aware loan amount is fully disbursed at 43(b)(7) of any data supporting such an consummation, the Board clarified that exemption. creditors must use the entire loan The definition of ‘‘maximum loan The Bureau does not believe that amount as reflected in the loan contract amount’’ and the calculation for which these decisions regarding jumbo and or promissory note, even where the loan it is used implement the requirements non-principal-dwelling balloon- amount is not fully disbursed at regarding negative amortization loans in payment mortgages are likely to create consummation. Proposed comment new TILA section 129C(a)(6)(C) and (D). any credit accessibility problems. In this 43(b)(5)–1 provided an illustrative The statute requires that a creditor ‘‘take final rule at § 1026.43(f), the Bureau is example and stated that generally, into consideration any balance increase adopting a much wider area in which creditors should rely on § 1026.17(c)(6) that may accrue from any negative institutions that provide credit in rural and associated commentary regarding amortization provision.’’ or underserved areas may originate treatment of multiple-advance and The ‘‘maximum loan amount’’ is qualified mortgages that are balloon- construction loans that would be defined in the proposed rule as payment loans than did the proposed covered by the ability-to-repay including the loan balance and any rule. Because these are the areas in requirements (i.e., loans with a term amount that will be added to the which balloon-payment loans are greater than 12 months). See balance as a result of negative considered necessary to preserve access § 1026.43(a)(3) discussing scope of amortization assuming the consumer to credit, and higher-priced balloon- coverage and term length. makes only minimum payments and the payment mortgages in these areas can The Board specifically solicited maximum interest rate is reached at the meet the criteria for a qualified mortgage comment on whether further guidance earliest possible time. The ‘‘maximum and thus will not have to include the was needed regarding determination of loan amount’’ is used to determine a balloon payment in the ability-to-repay the loan amount for loans with multiple consumer’s ability to repay for negative evaluation, access to necessary balloon- disbursements. The Bureau did not amortization loans under payment mortgages will not be reduced. receive comments on the definition of § 1026.43(c)(5)(ii)(C) by taking into Accordingly, § 1026.43(b)(4) is ‘‘loan amount’’ or its application to account any loan balance increase that adopted as proposed. The associated loans with multiple disbursements. The may occur as a result of negative commentary is amended with revisions Bureau believes that the loan amount for amortization. The term ‘‘maximum loan to update information and citations. multiple disbursement loans that are amount’’ is also used for negative amortization loans in the ‘‘refinancing 43(b)(5) covered transactions must be determined assuming that ‘‘the loan of non-standard mortgages’’ provision, The proposed rule defined ‘‘loan proceeds are fully disbursed on the date at § 1026.43(d)(5)(i)(C)(3). The proposed amount’’ as ‘‘the principal amount the of consummation of the loan’’ 98 as rule included commentary on how to consumer will borrow as reflected in the required by the statute and the rule, and calculate the maximum loan amount, promissory note or loan contract.’’ This explained in comment 43(b)(5)–1. with examples. See comment 43(b)(7)– definition implemented the statutory Accordingly, the Bureau is adopting 1 through –3. language requiring that the monthly § 1026.43(b)(5) and associated The Bureau did not receive any payment be calculated assuming that commentary as proposed. comments on this definition and ‘‘the loan proceeds are fully disbursed considers it to be an accurate and on the date of consummation of the 43(b)(6) appropriate implementation of the loan.’’ Dodd-Frank Act section The interchangeable phrases ‘‘loan statute. Accordingly, § 1026.43(b)(7) and 1411(a)(2), TILA section term’’ and ‘‘term of the loan’’ appear in associated commentary are adopted as 129C(a)(6)(D)(i). The term ‘‘loan the ability-to-repay and qualified proposed. amount’’ was used in the proposed mortgage provisions of TILA, with no 43(b)(8) definition of ‘‘fully amortizing definition. See TILA section 129C(c)(3), payment’’ in § 226.43(b)(2), which was 129C(a)(6)(D)(ii), 129C(b)(2)(A)(iv) and TILA section 129C(a)(1) and (3), as then used in the general ‘‘payment (v); 15 U.S.C. 1639c(c)(3), added by section 1411 of the Dodd- calculation’’ at § 226.43(c)(5)(i)(B). The 1639c(a)(6)(D)(ii), 1639c(b)(2)(A)(iv) and Frank Act, requires creditors to consider payment calculation required the use of (v). The proposed rule defined ‘‘loan and verify mortgage-related obligations payments that pay off the loan amount term’’ as ‘‘the period of time to repay the as part of the ability-to-repay over the actual term of the loan. obligation in full.’’ Proposed comment determination ‘‘according to [the loan’s] The statute further requires that 43(b)(6)–1 clarified that the loan term is terms, and all applicable taxes, creditors assume that the loan amount is the period of time it takes to repay the insurance (including mortgage ‘‘fully disbursed on the date of loan amount in full, and provided an guarantee insurance), and assessments.’’ consummation of the loan.’’ See TILA example. The term is used in TILA section 129C(a)(2) provides that Section 129C(a)(6)(D)(i). The Board § 1026.43(b)(2), the ‘‘fully amortizing consumers must have ‘‘a reasonable recognized that some loans do not payment’’ definition, which is then used ability to repay the combined payments disburse the entire loan amount to the in § 1026.43(c)(5)(i), the payment of all loans on the same dwelling consumer at consummation, but may, calculation general rule. It is also used according to the terms of those loans for example, provide for multiple in the qualified mortgage payment and all applicable taxes, insurance disbursements up to an amount stated (including mortgage guarantee in the loan agreement. See current 98 Dodd-Frank Act section 1411(a)(2), TILA insurance), and assessments.’’ Although § 1026.17(c)(6), discussing multiple- section 129C(a)(6)(D)(i). the Dodd-Frank Act did not establish or

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define a single, collective term, the or insurance protecting the creditor industry commenters also foregoing requirements recite ongoing against the consumer’s default or other recommended that homeowners obligations that are substantially similar credit loss. The Board solicited association dues, and similar charges, be to the definition of ‘‘mortgage-related comment on how to address any issues included in the definition of mortgage- obligation’’ used elsewhere in that may arise in connection with related obligations. They argued that Regulation Z. Section 1026.34(a)(4)(i), homeowners association transfer fees such a requirement would further which was added by the 2008 HOEPA and costs associated with loans for transparency in the mortgage loan Final Rule, defines mortgage-related energy efficient improvements. origination process and would help obligations as expected property taxes, Proposed comment 43(b)(8)–1 would ensure that consumers receive only premiums for mortgage-related have clarified further that mortgage- credit they can reasonably expect to insurance required by the creditor as set related obligations include mortgage- repay. forth in the relevant escrow provisions related insurance premiums only if For the reasons discussed below, the of Regulation Z, and similar expenses. required by the creditor. This comment Bureau concludes that property taxes, Comment 34(a)(4)(i)–1 clarifies that, for would have explained that the creditor certain insurance premiums required by purposes of § 1026.34(a)(4)(i), similar need not include premiums for the creditor, obligations to community expenses include homeowners mortgage-related insurance that the governance associations, such as association dues and condominium or creditor does not require, such as cooperative, condominium, and cooperative fees. Section earthquake insurance or credit homeowners associations, ground rent, 1026.35(b)(3)(i), which addresses insurance, or fees for optional debt and payments should be included escrows, states that ‘‘premiums for suspension and debt cancellation in the definition of mortgage-related mortgage-related insurance required by agreements. To facilitate compliance, obligations. These obligations are the creditor, [include] insurance against this comment would have referred to incurred in connection with the loss of or damage to property, or against commentary associated with proposed mortgage loan transaction but are in liability arising out of the ownership or § 226.43(c)(2)(v), which sets forth the addition to the obligation to repay use of the property, or insurance requirement to take into account any principal and interest. Thus, the cost of protecting the creditor against the mortgage-related obligations for these obligations should be considered consumer’s default or other credit loss.’’ purposes of the repayment ability with the obligation to repay principal determination required under proposed and interest for purposes of determining Under the Board’s proposed § 226.43(c). a consumer’s ability to repay. Further, § 226.43(b)(8), ‘‘mortgage-related Industry commenters and consumer the Bureau believes that the word obligations’’ was defined to mean advocates generally supported the ‘assessments’ in TILA section 129C is property taxes; mortgage related Board’s proposed definition of most appropriately interpreted to refer insurance premiums required by the mortgage-related obligations. One to all obligations imposed on consumers creditor as set forth in proposed industry commenter opposed including in connection with ownership of the § 226.45(b)(1); homeowners association, community transfer fees, which are dwelling or real property, such as condominium, and cooperative fees; deed-based fees imposed upon the ground rent, lease payments, and, as ground rent or leasehold payments; and transfer of the property. This commenter discussed in detail below, obligations to special assessments. The Board’s was concerned that subjecting these fees community governance associations, proposed definition was substantially to Federal law might affect existing whether denominated as association similar to the definition under contracts, , and covenants related dues, special assessments, or otherwise. § 1026.34(a)(4)(i), with three to these fees, which are subject to State While the provision adopted by the clarifications. First, the proposed and local regulation, as well as common Bureau is substantially similar to the definition of mortgage-related law regarding the transfer of real provision proposed, the Bureau was obligations would have included a property. The commenter also asked persuaded by the comment letters that reference to ground rent or leasehold that special assessments not fall under additional clarity and guidance is payments, which are payments made to the definition of mortgage-related required. The Bureau is especially the real property owner or leaseholder obligations. The commenter sensitive to the fact that many of the for use of the real property. Second, the recommended that, if special loans that will be subject to the ability- proposed definition would have assessments are included, creditors be to-repay rules may be made by small included a reference to ‘‘special required to consider only current institutions, which are often unable to assessments.’’ Proposed comment special assessments, not future special devote substantial resources to analysis 43(b)(8)–1 would have clarified that assessments. The commenter noted that, of regulatory compliance. special assessments include, for while common assessments should be To address the concerns and feedback example, assessments that are imposed included in the definition of mortgage- raised in the comment letters, the on the consumer at or before related obligations, the Bureau should Bureau has revised § 1026.43(b)(8) and consummation, such as a one-time provide guidance to creditors on the related commentary in two ways. First, homeowners association fee that will substance of questionnaires seeking the language of § 1026.43(b)(8) is being not be paid by the consumer in full at information from third parties about modified to add additional clarity. As or before consummation. Third, mortgage-related obligations. adopted, § 1026.43(b)(8) refers to mortgage-related obligations would have Certain consumer advocates suggested premiums and similar charges identified referenced proposed § 226.45(b)(1), that voluntary insurance premiums be in § 1026.4(b)(5), (7), (8), or (10), if where the Board proposed to recodify included in the definition of mortgage- required by the creditor, instead of the the existing escrow requirement for related obligations. One consumer proposed language, which referred to higher-priced mortgage loans, to include advocate explained that premiums such ‘‘mortgage-related insurance.’’ Second, mortgage-related insurance premiums as these are technically voluntary, but the commentary is being significantly required by the creditor, such as many consumers believe them to be expanded to provide additional insurance against loss of or damage to required, or have difficulty cancelling clarification and guidance. property, or against liability arising out them if they choose to cancel them. As adopted, § 1026.43(b)(8) defines of the ownership or use of the property, Community advocates and several ‘‘mortgage-related obligations’’ to mean

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property taxes; premiums and similar related to protection against a and that the consumer purchases charges identified in § 1026.4(b)(5), (7), consumer’s default, credit loss, voluntarily are not mortgage-related (8), or (10) that are required by the collateral loss, or similar loss as obligations for purposes of creditor; fees and special assessments identified in § 1026.4(b)(5), (7), (8), or § 1026.43(b)(8). For example, if a imposed by a condominium, (10) except, as explained above, those creditor does not require earthquake cooperative, or homeowners association; premiums or charges that that are not insurance to be obtained in connection ground rent; and leasehold payments. required by the creditor. Comment with the mortgage loan, but the As proposed, comment 43(b)(8)–1 43(b)(8)–3 also contains illustrative consumer voluntarily chooses to discussed all components of the examples of this definition. For purchase such insurance, the proposed definition. To provide further example, if Federal law requires flood earthquake insurance premium is not a clarity, the final rule splits the content insurance to be obtained in connection mortgage-related obligation for purposes of proposed comment 43(b)(8)–1 into with the mortgage loan, the flood of § 1026.43(b)(8). Or, if a creditor four separate comments, each of which insurance premium is a mortgage- requires a minimum amount of coverage provides additional guidance. As related obligation for purposes of for homeowners’ insurance and the adopted by the Bureau, comment § 1026.43(b)(8). consumer voluntarily chooses to 43(b)(8)–1 contains general guidance Several commenters stated that purchase a more comprehensive amount and a cross-reference to insurance premiums and similar charges of coverage, the portion of the premium § 1026.43(c)(2)(v), which contains the should be included in the determination allocated to the minimum coverage is a requirement to take into account any even if the creditor does not require mortgage-related obligation for the mortgage-related obligations for them in connection with the loan purposes of § 1026.43(b)(8), while the purposes of determining a consumer’s transaction. The Bureau has carefully portion of the premium allocated to the ability to repay. considered these arguments, but has more comprehensive coverage The multitude of requests for determined that insurance premiums voluntarily purchased by the consumer additional guidance and clarification and similar charges should not be is not a mortgage-related obligation for suggests that additional clarification of considered mortgage-related obligations the purposes of § 1026.43(b)(8). the meaning of ‘‘property tax’’ is if such premiums and charges are not However, if the consumer purchases needed. Comment 43(b)(8)–2 further required by the creditor and instead non-required insurance or similar clarifies that § 1026.43(b)(8) includes have been voluntarily purchased by the coverage at consummation without obligations that are functionally having requested the specific non- equivalent to property taxes, even if consumer. The Bureau acknowledges that obligations such as these are required insurance or similar coverage such obligations follow a different and without having agreed to the naming convention. For example, usually paid from a consumer’s monthly income and, in a sense, affect a premium or charge for the specific non- governments may establish independent required insurance or similar coverage districts with the authority to impose consumer’s ability to repay. But the consumer is free to cancel recurring prior to consummation, the premium or recurring levies on properties within the charge is not voluntary for purposes of district to fund a special purpose, such obligations such as these at any time, provided they are truly voluntary. Thus, § 1026.43(b)(8) and is a mortgage-related as a local development bond district, obligation. water district, or other public purpose. they are not ‘‘obligations’’ in the sense These recurring levies may have a required by section 129C(a)(3) of TILA. Several commenters supported the variety of names, such as taxes, The Bureau shares the concern raised by inclusion of mortgage insurance in the assessments, or surcharges. Comment several commenters that unscrupulous definition of mortgage-related 43(b)(8)–2 clarifies that obligations such creditors may mislead consumers into obligations. The Bureau also has as these are property taxes based on the believing that these charges are not received several informal requests for character of the obligation, as opposed optional or cannot be cancelled. guidance regarding the meaning of the to the name of the obligation, and However, the Bureau does not believe term ‘‘mortgage insurance’’ in the therefore are mortgage-related that altering the ability-to-repay context of certain disclosures required obligations. calculation for all is the appropriate by Regulation Z. The Bureau has Most comments supported the method for combatting the harmful decided to clarify this issue with respect inclusion of insurance premiums in the actions of a few. The Bureau believes to the requirements of § 1026.43. Thus, ability-to-repay determination. that the better course of action is to comment 43(b)(8)–4 clarifies that However, the Bureau believes that some exclude such premiums and charges § 1026.43(b)(8) includes all premiums or modifications to the proposed from the definition of mortgage-related similar charges for coverage protecting ‘‘mortgage-related insurance premium’’ obligations only if they are truly the creditor against the consumer’s language are appropriate. The Bureau is voluntary, and is confident that default or other credit loss in the persuaded that additional clarification violations of this requirement will be determination of mortgage-related and guidance is important, and the apparent in specific cases from the facts. obligations, whether denominated as Bureau is especially sensitive to Also, in the scenarios described by mortgage insurance, guarantee concerns related to regulatory commenters where consumers are insurance, or otherwise, as determined complexity. The Bureau has determined misled into believing that such charges according to applicable State or Federal that the proposed language should be are required, the premium or charge law. For example, monthly ‘‘private clarified by revising the text to refer to would not be voluntary for purposes of mortgage insurance’’ payments paid to a the current definition of finance charge the definition of finance charge under non-governmental entity, annual under § 1026.4. The components of the § 1026.4(d), and would therefore be a ‘‘guarantee fee’’ payments required by a finance charge are long-standing parts of mortgage-related obligation for the Federal housing program, and a Regulation Z. Explicitly referring to purposes of § 1026.43(b)(8). Therefore, quarterly ‘‘mortgage insurance’’ existing language should facilitate comment 43(b)(8)–3 clarifies that payment paid to a State agency compliance. Therefore, § 1026.43(b)(8) insurance premiums and similar charges administering a housing program are all defines mortgage-related obligations to identified in § 1026.4(b)(5), (7), (8), or mortgage-related obligations for include all premiums or other charges (10) that are not required by the creditor purposes of § 1026.43(b)(8). Comment

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43(b)(8)–4 also clarifies that community transfer fee or traditional 43(b)(9) § 1026.43(b)(8) includes these charges in homeowners association dues. As with TILA section 129C(b)(2)(C) generally the definition of mortgage-related other obligations owed to defines ‘‘points and fees’’ for a qualified obligations if the creditor requires the condominium, cooperative, or mortgage to have the same meaning as consumer to pay them, even if the homeowners associations discussed in TILA section 103(bb)(4), which consumer is not legally obligated to pay above, the Bureau believes that the defines points and fees for the purpose the charges under the terms of the practical problems with these of determining whether a transaction insurance program. Comment 43(b)(8)–4 obligations relate to when such exceeds the HOEPA points and fees also contains several other illustrative obligations should be included in the threshold. Proposed § 226.43(b)(9) examples. determination of the consumer’s ability would have provided that ‘‘points and Several comment letters stressed the to repay, rather than whether the fees’’ has the same meaning as in importance of including homeowners obligations should be considered § 226.32(b)(1). The Bureau adopts this association dues and similar obligations mortgage-related obligations. Therefore, provision as renumbered in the determination of ability to repay. the Bureau has addressed the concerns § 1026.43(b)(9). These letters noted that, during the related to these obligations in the subprime crisis, the failure to account commentary to § 1026.43(c)(2)(v) and 43(b)(10) for these obligations led to many (c)(3). Sections 1414, 1431, and 1432 of the consumers qualifying for mortgage loans In response to the request for feedback Dodd-Frank Act amended TILA to that they could not actually afford. The in the 2011 ATR Proposal, several restrict, and in many cases, prohibit a Bureau agrees with these assessments. commenters addressed the proposed creditor from imposing prepayment Recurring financial obligations payable treatment of special assessments. Unlike penalties in dwelling-secured credit to community governance associations, community transfer fees, which are transactions. TILA does not, however, such as homeowners association dues, generally identified in the deed or define the term ‘‘prepayment penalty.’’ should be taken into consideration in master community plan, creditors may In an effort to address comprehensively determining whether a consumer has encounter difficulty determining prepayment penalties in a fashion that the ability to repay the obligation. While whether special assessments exist. eases compliance burden, as discussed several comment letters identified However, as with similar charges above, the Bureau is defining practical problems with including discussed above, these concerns relate prepayment penalty in § 1026.43(b)(10) obligations such as these in the to determining the consumer’s monthly by cross-referencing § 1026.32(b)(6). For calculation, these issues stemmed from payment for mortgage-related a full discussion of the Bureau’s difficulties that may arise in calculating, obligations, rather than whether these approach to defining prepayment estimating, or verifying these charges should be considered mortgage- penalties, see § 1026.32(b)(6), its obligations, rather than whether the related obligations. Special assessments commentary, and the section-by-section obligations should be included in the may be significant and may affect the analysis of those provisions above. ability-to-repay calculation. Based on consumer’s ability to repay a mortgage this feedback, § 1026.43(b)(8) includes loan. Thus, the Bureau has concluded 43(b)(11) obligations to a homeowners that special assessments should be TILA in several instances uses the association, condominium association, included in the definition of mortgage- term ‘‘reset’’ to refer to the time at or condominium association in the related obligations under § 1026.43(b)(8) which the terms of a mortgage loan are determination of mortgage-related and has addressed the concerns raised adjusted, usually resulting in higher obligations. The Bureau has addressed by commenters related to calculating, required payments. For example, TILA the concerns related to difficulties in estimating, or verifying these obligations section 129C(a)(6)(E)(ii) states that a calculating, estimating, or verifying in the commentary to § 1026.43(c)(2)(v) creditor that refinances a loan may, such obligations in the commentary to and (c)(3). under certain conditions, ‘‘consider if § 1026.43(c)(2)(v) and (c)(3). New comment 43(b)(8)–5 explains the extension of new credit would One comment letter focused that § 1026.43(b)(8) includes in the prevent a likely default should the extensively on community transfer fees, evaluation of mortgage-related original mortgage reset and give such which are deed-based fees imposed obligations premiums and similar concerns a higher priority as an upon the transfer of the property. The charges identified in § 1026.4(b)(5), (7), acceptable underwriting practice.’’ 15 Bureau recognizes that this topic is (8), or (10) that are required by the U.S.C. 1639c(a)(6)(E)(ii). The legislative complex and is often the subject of creditor. These premiums and similar history further indicates that, for special requirements imposed at the charges are mortgage-related obligations adjustable-rate mortgages with low, State and local level. However, the regardless of whether the premium or fixed introductory rates, Congress Bureau does not believe that the similar charge is excluded from the understood the term ‘‘reset’’ to mean the requirements of § 1026.43 implicate finance charge pursuant to § 1026.4(d). time at which low introductory rates these complex issues. The narrow For example, a premium for insurance convert to indexed rates, resulting in question is whether such obligations against loss or damage to the property ‘‘significantly higher monthly payments should be considered mortgage-related written in connection with the credit for homeowners.’’ 99 obligations for purposes of determining transaction is a premium identified in Outreach conducted prior to issuance the consumer’s ability to repay. The § 1026.4(b)(8). If this premium is of the proposed rule indicated that the Bureau agrees with the argument, required by the creditor, the premium is term ‘‘recast’’ is typically used in advanced by several commenters, that a mortgage-related obligation pursuant reference to the time at which fully the entirety of the consumer’s ongoing to § 1026.43(b)(8), regardless of whether amortizing payments are required for obligations should be included in the the premium is excluded from the interest-only and negative amortization determination. A responsible finance charge pursuant to loans and that the term ‘‘reset’’ is more determination of the consumer’s ability § 1026.4(d)(2). Commenters did not to repay requires an accounting of such request this guidance specifically, but 99 See Comm. on Fin. Servs., Report on H.R. 1728, obligations, whether the purpose of the the Bureau believes that this comment Mortgage Reform and Anti-Predatory Lending Act, obligation is to satisfy the payment of a is needed to provide additional clarity. H. Rept. 94, 111th Cong., at 52 (2009).

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frequently used to indicate the time at Commenters did not focus specifically this increased risk would be present which adjustable-rate mortgages with an on the definition of ‘‘recast,’’ except that whether the other mortgage obligation introductory fixed rate convert to a an association of State bank regulators was a closed-end credit obligation or a variable rate. For simplicity and clarity, agreed with the benefit of using a single HELOC. For these reasons, and several however, the Board proposed to use the term for the shift to higher payments for others explained in detail below, the term ‘‘recast’’ to cover the conversion to adjustable-rate, interest-only, and Board proposed to use its exception and generally less favorable terms and negative amortization loans. adjustment authority under TILA higher payments not only for interest- The Bureau considers the proposed section 105(a) to include HELOCs only loans and negative amortization provision to be an accurate and within the scope of new TILA section loans, but also for adjustable-rate appropriate implementation of the 129C(a)(2). 76 FR 27417–27418. Because mortgages. statute. Accordingly, the Bureau is one of the main reasons for including Proposed § 226.43(b)(11) defined the adopting proposed § 226.43(b)(11) as HELOCs was the likelihood of a term ‘‘recast,’’ which was used in two proposed, in renumbered consumer drawing on the credit line to provisions of proposed § 226.43: (1) § 1026.43(b)(11). provide the down payment in a Proposed § 226.43(c)(5)(ii) regarding 43(b)(12) purchase transaction, the Board certain required payment calculations New TILA section 129C(a)(2) provides solicited comment on whether this that creditors must consider in that ‘‘if a creditor knows, or has reason exception should be limited to purchase determining a consumer’s ability to to know, that 1 or more residential transactions. repay a covered transaction; and (2) mortgage loans secured by the same TILA section 105(a), as amended by proposed § 226.43(d) regarding payment dwelling will be made to the same section 1100A of the Dodd-Frank Act, calculations required for refinancings consumer,’’ that creditor must make the authorized the Board, and now the that are exempt from the ability-to-repay ability-to-repay determination for ‘‘the Bureau, to prescribe regulations to carry requirements in § 226.43(c). combined payments of all loans on the out the purposes of TILA and Specifically, proposed § 226.43(b)(11) same dwelling according to the terms of Regulation Z, to prevent circumvention defined the term ‘‘recast’’ as follows: (1) those loans and all applicable taxes, or evasion, or to facilitate compliance. For an adjustable-rate mortgage, as insurance (including mortgage 15 U.S.C. 1604(a). The inclusion of defined in § 1026.18(s)(7)(i),100 the guarantee insurance), and assessments.’’ HELOCs was further supported by the expiration of the period during which This section, entitled ‘‘multiple loans,’’ Board’s authority under TILA section payments based on the introductory follows the basic ability-to-repay 129B(e) to condition terms, acts or interest rate are permitted under the requirements for a single loan, in new practices relating to residential mortgage terms of the legal obligation; (2) for an TILA section 129C(a)(1). loans that the Board found necessary or interest-only loan, as defined in The proposed rule implemented the proper to effectuate the purposes of § 1026.18(s)(7)(iv),101 the expiration of main requirement of the ‘‘multiple TILA. 15 U.S.C. 1639b(e). One purpose the period during which interest-only loans’’ provision by mandating in of the statute is set forth in TILA section payments are permitted under the terms proposed § 226.43(c)(2)(iv) that a 129B(a)(2), which states that ‘‘[i]t is the of the legal obligation; and (3) for a creditor, in making its ability-to-repay purpose[] of * * * [S]ection 129C to negative amortization loan, as defined determination on the primary loan, take assure that consumers are offered and in § 1026.18(s)(7)(v),102 the expiration of into account the payments on any receive residential mortgage loans on the period during which negatively ‘‘simultaneous loan’’ about which the terms that reasonably reflect their ability amortizing payments are permitted creditor knows or has reason to know. to repay the loans.’’ 15 U.S.C. 1639b. under the terms of the legal obligation. ‘‘Simultaneous loan’’ was defined in For the reasons stated below, the Board Proposed comment 43(b)(11)–1 proposed § 226.43(b)(12) as ‘‘another believed that requiring creditors to explained that the date on which the covered transaction or home equity line consider simultaneous loans that are 103 ‘‘recast’’ occurs is the due date of the of credit subject to § 226.5b that will HELOCs for purposes of TILA section last monthly payment based on the be secured by the same dwelling and 129C(a)(2) would help to ensure that introductory fixed rate, the last interest- made to the same consumer at or before consumers are offered, and receive, only payment, or the last negatively consummation of the covered loans on terms that reasonably reflect amortizing payment, as applicable. transaction.’’ Thus, although the statute their ability to repay. First, the Board proposed in Proposed comment 43(b)(11)–1 also referred only to closed-end ‘‘residential § 226.43(c)(2)(vi) that the creditor must provided an illustration showing how to mortgage loans,’’ the Board proposed to consider current debt obligations in determine the date of the recast. expand the requirement to include consideration of simultaneous HELOCs. determining a consumer’s ability to repay a covered transaction. Consistent 100 ‘‘The term ‘‘adjustable-rate mortgage’’ means a The proposed definition did not include transaction secured by real property or a dwelling pre-existing mortgage obligations, which with current § 1026.34(a)(4), proposed for which the annual percentage rate may increase would be considered as ‘‘current debt § 226.43(c)(2)(vi) would not have after consummation.’’ 12 CFR 1026.18(s)(7)(i). obligations’’ under § 1026.43(c)(2)(vi). distinguished between pre-existing 101 ‘‘The term ‘‘interest-only’’ means that, under The Board chose to include HELOCs closed-end and open-end mortgage the terms of the legal obligation, one or more of the obligations. The Board believed periodic payments may be applied solely to accrued in the definition of ‘‘simultaneous loan’’ interest and not to loan principal; an ‘‘interest-only because it believed that new TILA consistency required that it take the loan’’ is a loan that permits interest-only section 129C(a)(2) was meant to help same approach when determining how payments.’’ 12 CFR 1026.18(s)(7)(iv). ensure that creditors account for the to consider mortgage obligations that 102 ‘‘[T]he term ‘‘negative amortization’’ means come into existence concurrently with a payment of periodic payments that will result in an increased risk of consumer delinquency increase in the principal balance under the terms or default on the covered transaction first-lien loan as would be taken for pre- of the legal obligation; the term ‘‘negative where more than one loan secured by existing mortgage obligations, whether amortization loan’’ means a loan, other than a the same dwelling is originated the first-lien is a purchase or non- reverse mortgage subject to section 1026.33, that purchase transaction (i.e., refinancing). provides for a minimum periodic payment that concurrently. The Board believed that covers only a portion of the accrued interest, Including HELOCs in the proposed resulting in negative amortization.’’ 12 CFR 103 The Board’s § 226.5b was recodified in the definition of ‘‘simultaneous loan’’ for 1026.18(s)(7)(v). Bureau’s Regulation Z as § 1026.40. purposes of TILA section 129C(a)(2) was

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also considered generally consistent except perhaps towards closing costs. to consider the combined payment with current comment 34(a)(4)–3, and Thus, the Board solicited comment on obligations of the consumer(s) obligated the 2006 Nontraditional Mortgage whether it should narrow the to repay the covered transaction). See Guidance regarding simultaneous requirement to consider simultaneous TILA § 129C(a)(2). second-lien loans.104 loans that are HELOCs to apply only to Both industry and consumer advocate Second, data indicate that where a purchase transactions. commenters overwhelmingly supported subordinate loan is originated Third, in developing this proposal inclusion of HELOCs as simultaneous concurrently with a first-lien loan to Board staff conducted outreach with a loans, with only one industry provide some or all of the down variety of participants that consistently commenter objecting. The objecting payment (i.e., a ‘‘piggyback loan’’), the expressed the view that second-lien commenter stated that there was no default rate on the first-lien loan loans significantly impact a consumer’s persuasive policy argument for increases significantly, and in direct performance on the first-lien loan, and deviating from the statute, but did not correlation to increasing combined loan- that many second-lien loans are provide any reason to believe that to-value ratios.105 The data does not HELOCs. One industry participant concurrent HELOCs are less relevant to distinguish between ‘‘piggyback loans’’ explained that the vast majority of an assessment of a consumer’s ability to that are closed-end or open-end credit ‘‘piggyback loans’’ it originated were repay than concurrent closed-end transactions, or between purchase and HELOCs that were fully drawn at the second liens. As explained in the non-purchase transactions. However, time of origination and used to assist in proposed rule, most industry empirical evidence demonstrates that the first-lien purchase transaction. participants are already considering approximately 60 percent of consumers Another outreach participant stated that HELOCs in the underwriting of senior- who open a HELOC concurrently with HELOCs make up approximately 90 lien loans on the same property. 76 FR a first-lien loan borrow against the line percent of its simultaneous loan book- 27418. of credit at the time of origination,106 of-business. Industry outreach For the reasons set forth by the Board suggesting that in many cases the participants generally indicated that it is and discussed above, the Bureau has HELOC may be used to provide some, a currently accepted underwriting determined that inclusion of HELOCs in or all, of the down payment on the first- practice to include HELOCs in the the definition of simultaneous loans is lien loan. repayment ability assessment on the an appropriate use of its TILA authority The Board recognized that consumers first-lien loan, and generally confirmed to make adjustments and additional have varied reasons for originating a that the majority of simultaneous liens requirements. HELOC concurrently with the first-lien considered during the underwriting TILA section 105(a), as amended by loan, for example, to reduce overall process are HELOCs. For these reasons, section 1100A of the Dodd-Frank Act, closing costs or for the convenience of the Board proposed to use its authority authorizes the Bureau to prescribe having access to an available credit line under TILA sections 105(a) and 129B(e) regulations that may contain such in the future. However, the Board to broaden the scope of TILA section additional requirements, classifications, believed concerns relating to HELOCs 129C(a)(2), and accordingly proposed to differentiations, or other provisions, and originated concurrently for savings or define the term ‘‘simultaneous loan’’ to may provide for such adjustments and convenience, and not to provide include HELOCs. exceptions for all or any class of payment towards the first-lien home Proposed comment 43(b)(12)–1 transactions, as in the judgment of the purchase loan, might be mitigated by clarified that the definition of Bureau are necessary or proper to the Board’s proposal to require that a ‘‘simultaneous loan’’ includes any loan effectuate the purposes of TILA, to creditor consider the periodic payment that meets the definition, whether made prevent circumvention or evasion of on the simultaneous loan based on the by the same creditor or a third-party TILA, or to facilitate compliance with actual amount drawn from the credit creditor, and provides an illustrative TILA. 15 U.S.C. 1604(a). The Bureau line by the consumer. See proposed example of this principle. finds that the inclusion of HELOCs is § 226.43(c)(6)(ii), discussing payment Proposed comment 43(b)(12)–2 necessary and proper to effectuate the calculation requirements for further clarified the meaning of the term purposes of TILA. The inclusion of simultaneous loans that are HELOCs. ‘‘same consumer,’’ and explained that HELOCs is further supported by the Still, the Board recognized that in the for purposes of the definition of Bureau’s authority under TILA section case of a non-purchase transaction (e.g., ‘‘simultaneous loan,’’ the term ‘‘same 129B(e) to condition terms, acts or a refinancing) a simultaneous loan that consumer’’ would include any practices relating to residential mortgage is a HELOC might be unlikely to be consumer, as that term is defined in loans that the Bureau finds necessary or originated and drawn upon to provide § 1026.2(a)(11), that enters into a loan proper to effectuate the purposes of payment towards the first-lien loan, that is a covered transaction and also TILA. 15 U.S.C. 1639b(e). TILA section enters into another loan (e.g., a second- 129B(a)(2) states that ‘‘[i]t is the 104 See 2006 Nontraditional Mortgage Guidance, lien covered transaction or HELOC) purpose[] of * * * [S]ection 129C to 71 FR 58609, 58614 (Oct. 4, 2006). secured by the same dwelling. This assure that consumers are offered and 105 Kristopher Gerardi et al., Making Sense of the comment further explained that where receive residential mortgage loans on Subprime Crisis, Brookings Papers on Econ. two or more consumers enter into a terms that reasonably reflect their ability Activity (Fall 2008), at 40 tbl.3. 106 The Board conducted independent analysis legal obligation that is a covered to repay the loans.’’ 15 U.S.C. 1639b. using data obtained from the FRBNY Consumer transaction, but only one of them enters Inclusion of HELOCs as simultaneous Credit Panel to determine the proportion of into another loan secured by the same loans will help to carry out this purpose piggyback HELOCs taken out in the same month as dwelling, the ‘‘same consumer’’ of TILA by helping to ensure that the first-lien loan that have a draw at the time of origination. Data used was extracted from credit includes the person that has entered consumers receive loans on affordable record data in years 2003 through 2010. See into both legal obligations. The Board terms, as further explained above. Donghoon Lee and Wilbert van der Klaauw, An believed this comment would reflect Accordingly, the Bureau is adopting Introduction to the FRBNY Consumer Credit Panel statutory intent to include any loan that § 1026.43(b)(12) and associated (Fed. Reserve Bd. Of N.Y.C., Staff Rept. No. 479, 2010), available at http://data.newyorkfed.org/ could impact the consumer’s ability to commentary as proposed, with research/staff_reports/sr479.pdf (providing further repay the covered transaction according clarifying edits to ensure that description of the database). to its terms (i.e., to require the creditor simultaneous loans scheduled after

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consummation will be considered in verification purposes, including the a self-employed consumer and reviewed determining ability to repay. creditor’s records regarding a by a third-party accountant is a third- consumer’s savings account held by the party record under § 1026.43(b)(13)(i). 43(b)(13) creditor, which qualifies as a third-party The Bureau is including comment TILA section 129C(a)(1) requires that record under § 1026.43(b)(13)(iii), or 43(b)(13)(i)–1 to explain how some first- a creditor determine a consumer’s employment records for a consumer party records, e.g., documents originally repayment ability using ‘‘verified and employed by the creditor, which prepared by the consumer, may become documented information,’’ and TILA qualifies as a third-party record under third-party records by virtue of an section 129C(a)(4) specifically requires § 1026.43(b)(13)(iv). appropriate, disinterested third-party’s the creditor to verify a consumer’s The Board proposed comment review or audit. It is the third party income or assets relied on to determine 43(b)(13)–1 to clarify that third-party review, the Bureau believes, that repayment ability using a consumer’s records would include records provides reasonably reliable evidence of tax return or ‘‘third-party documents’’ transmitted or viewed electronically, for the underlying information in the that provide reasonably reliable example, a credit report prepared by a document, just as if the document were evidence of the consumer’s income or consumer reporting agency and originally prepared by the third party. assets, as discussed in detail below in transmitted or viewed electronically. Moreover, this clarification allows the the section-by-section analysis of The Bureau did not receive significant creditor to consult a wider variety of § 1026.43(c)(3) and (4). The Board feedback on the proposed comment and documents in its determination of a proposed to define the term ‘‘third-party is adopting the comment largely as consumer’s ability to repay. Creditors record’’ to mean: (1) A document or proposed. The Bureau is clarifying that should be cautioned not to assume, other record prepared or reviewed by a an electronic third-party record should however, that merely because a person other than the consumer, the be transmitted electronically, such as document is a third-party record as creditor, any mortgage broker, as via email or if the creditor is able to defined by § 1026.43(b)(13), and the defined in § 1026.36(a)(2), or any agent click on a secure hyperlink to access a creditor uses the information provided of the creditor or mortgage broker; (2) a consumer’s credit report. The Bureau is by that document to make a copy of a tax return filed with the making this slight clarification to determination as to whether the Internal Revenue Service or a state convey that mere viewing of a record, consumer will have a reasonable ability taxing authority; (3) a record the without the ability to capture or to repay the loan according to its terms, creditor maintains for an account of the maintain the record, would likely be that the creditor has satisfied the consumer held by the creditor; or (4) if problematic with respect to record requirements of this rule. The creditor the consumer is an employee of the retention under § 1026.25(a) and (c). also must make a reasonable and good creditor or the mortgage broker, a While it seems unlikely that an faith determination at or before document or other record regarding the electronic record could be viewed consummation that the consumer will consumer’s employment status or without being transmitted as well, the have a reasonable ability, at the time of income. The Board explained that, in Bureau is making this alteration to avoid consummation, to repay the loan general, a creditor should refer to any confusion. according to its terms. For a full reasonably reliable records prepared by The Bureau is adopting the remaining discussion of the Bureau’s approach to or reviewed by a third party to verify comments to 43(b)(13) largely as this determination, see § 1026.43(c)(1), repayment ability under TILA section proposed by the Board. These comments its commentary, and the section-by- 129C(a), a principle consistent with did not elicit significant public section analysis of those provisions verification requirements previously feedback. Comment 43(b)(13)–1 assures below. outlined under the Board’s 2008 HOEPA creditors that a third-party record may Final Rule. See § 1026.34(a)(4)(ii). be transmitted electronically. Comment Finally, comment 43(b)(13)(iii)–1 Commenters generally supported the 43(b)(13)–2 explains that a third-party clarifies that a third-party record Board’s broad definition of a third-party record includes a form a creditor includes a record that the creditor record as a reasonable definition that provides to a third party for providing maintains for the consumer’s account. allows a creditor to use a wide variety information, even if the creditor Such examples might include records of of documents and sources, while completes parts of the form unrelated to a checking account, savings account, ensuring that the consumer does not the information sought. Thus, for and retirement account that the remain the sole source of information. example, a creditor may send a consumer holds, or has held, with the Some consumer advocates, however, Webform, or mail a paper form, created creditor. Comment 43(b)(13)(iii)–1 also cautioned the Bureau against relying by the creditor, to a consumer’s current provides the example of a creditor’s upon tax records to provide a basis for employer, on which the employer could records for an account related to a verifying income history, pursuant to check a box that indicates that the consumer’s outstanding obligations to amended TILA section 129C(a)(4)(A), to consumer works for the employer. The the creditor, such as the creditor’s avoid penalizing consumers who may creditor may even elect to fill in the records for a first-lien mortgage to a not have access to accurate tax records. creditor’s name, or other portions of the consumer who applies for a The Bureau does not address comments form, so long as those portions are subordinate-lien . This with respect to consumers who may not unrelated to the information that the comment helps assure industry that maintain accurate tax records because creditor seeks to verify, such as income such records are a legitimate basis for the definition provided in or employment status. determining a consumer’s ability to 1026.43(b)(13) of third-party record Comment 43(b)(13)(i)–1 clarifies that repay, and/or for verifying income and merely ensures that a creditor may use a third-party record includes a assets because it is unlikely to be in a any of a wide variety of documents, document or other record prepared by creditor’s interest to falsify such records including tax records, as a method of the consumer, the creditor, the mortgage for purposes of satisfying income verification without mandating broker, or an agent of the creditor or § 1026.43(b)(13), as falsifying records their use. Rather than rely solely on tax mortgage broker, if the record is would violate the good faith records, for example, a creditor might reviewed by a third party. For example, requirement of § 1026.43(c)(1). In look to other third-party records for a profit-and-loss statement prepared by addition, this comment should help

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assure creditors that the rule does not methods for verifying income and assets on that point. At least one commenter, inhibit a creditor’s ability to ‘‘cross-sell’’ as required by TILA section 129C(a)(1) an industry trade group, noted that products to consumers, by avoiding and (4). Proposed § 226.43(c)(5) and (6) FHA-insured loans constitute a small placing the creditor at a disadvantage would have specified how to calculate percentage of the mortgage market and with respect to verifying a consumer’s the monthly mortgage and simultaneous questioned whether FHA underwriting information by virtue of the creditor’s loan payments required to be standards therefore are widely accepted. existing relationship with the consumer. considered under proposed This commenter also questioned § 226.43(c)(2). Proposed § 226.43(c)(7) 43(c) Repayment Ability whether it is appropriate to encourage would have specified how to calculate creditors to apply FHA underwriting As enacted by the Dodd-Frank Act, the monthly debt-to-income ratio or standards other than with respect to TILA section 129C(a)(1) provides that monthly residual income required to be FHA-insured loans, as FHA programs no creditor may make a residential considered under proposed are generally designed to make mortgage mortgage loan unless the creditor makes § 226.43(c)(2). As discussed in detail credit available in circumstances where a reasonable and good faith below, the Bureau is adopting private creditors are unwilling to extend determination, based on verified and § 1026.43(c) substantially as proposed, such credit without a government documented information, that, at the with various modifications and guarantee. Finally, consumer group time the loan is consummated, the clarifications. commenters asserted that underwriting consumer has a reasonable ability to Proposed comment 43(c)–1 would standards do not accurately determine repay the loan according to its terms have indicated that creditors may look ability to repay merely because they are and all applicable taxes, insurance, and to widely accepted governmental or widely accepted and pointed to the assessments. TILA section 129C(a)(2) nongovernmental underwriting widespread proliferation of lax extends the same requirement to a standards, such as the handbook on underwriting standards that predated combination of multiple residential Mortgagee Credit Analysis for Mortgage the recent financial crisis. mortgage loans secured by the same Insurance on One- to Four-Unit The Bureau believes that the Board dwelling where the creditor knows or Mortgage Loans issued by FHA, to did not intend to require creditors to use has reason to know that such loans will evaluate a consumer’s ability to repay. any particular governmental be made to the same consumer. TILA The proposed comment would have underwriting standards, including FHA sections 129C(a)(3) and (a)(4) specify stated that creditors may look to such standards, in their entirety or to prohibit factors that must be considered in standards in determining, for example, creditors from using proprietary determining a consumer’s ability to whether to classify particular inflows, underwriting standards. The Bureau repay and verification requirements for obligations, or property as ‘‘income,’’ also does not believe that the Board income and assets considered as part of ‘‘debt,’’ or ‘‘assets’’; factors to consider intended to endorse lax underwriting that determination. Proposed § 226.43(c) in evaluating the income of a self- standards on the basis that those would have implemented TILA section employed or seasonally employed standards may be prevalent in the 129C(a)(1) through (4) in a manner consumer; or factors to consider in mortgage market at a particular time. substantially similar to the statute. evaluating the credit history of a The Bureau therefore is adopting two Proposed § 226.43(c)(1) would have consumer who has obtained few or no new comments to provide greater clarity implemented the requirement in TILA extensions of traditional ‘‘credit’’ as regarding the role of underwriting section 129C(a)(1) that creditors make a defined in § 1026.2(a)(14). In the reasonable and good faith determination Supplemental Information regarding standards in ability-to-repay that a consumer will have a reasonable proposed comment 43(c)–1, the Board determinations and is not adopting ability to repay the loan according to its stated that the proposed rule and proposed comment 43(c)–1. terms. Proposed § 226.43(c)(2) would commentary were intended to provide The Bureau is concerned based on the have required creditors to consider the flexibility in underwriting standards so comments received that referring following factors in making a that creditors could adapt their creditors to widely accepted determination of repayment ability, as underwriting processes to a consumer’s governmental and nongovernmental required by TILA section 129C(a)(1) particular circumstances. The Board underwriting standards could lead to through (3): the consumer’s current or stated its belief that such flexibility is undesirable misinterpretations and reasonably expected income or assets necessary because the rule covers such confusion. The discussion of widely (other than the property that secures the a wide variety of consumers and accepted standards in proposed loan); the consumer’s employment mortgage products. comment 43(c)–1 could be status, if the creditor relies on Commenters generally supported misinterpreted to suggest that the employment income; the consumer’s giving creditors significant flexibility to underwriting standards of any single monthly payment on the loan; the develop and apply their own market participant with a large market consumer’s monthly payment on any underwriting standards. However, share are widely accepted and therefore simultaneous loan that the creditor commenters had concerns regarding the to be emulated. The widely accepted knows or has reason to know will be specific approach taken in proposed standard also could be misinterpreted to made; the consumer’s monthly payment comment 43(c)–1. Commenters raised a indicate that proprietary underwriting for mortgage-related obligations; the number of questions about what kinds standards cannot yield reasonable, good consumer’s current debt obligations; of underwriting standards might be faith determinations of a consumer’s and the consumer’s monthly debt-to- considered widely accepted, such as ability to repay because they are unique income ratio or residual income. whether a creditor’s proprietary to a particular creditor and not Proposed § 226.43(c)(3) would have underwriting standards could ever be employed throughout the mortgage required that creditors verify the considered widely accepted. market. Similarly, the widely accepted information they use in making an Commenters also were uncertain standard could be misinterpreted to ability-to-repay determination using whether the proposed comment encourage a creditor that lends in a third-party records, as required by TILA required creditors to adopt particular limited geographic area or in a section 129C(a)(1). Proposed governmental underwriting standards in particular market niche to apply widely § 226.43(c)(4) would have specified their entirety and requested clarification accepted underwriting standards that

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are inappropriate for that particular before consummation that the consumer to comments regarding proposed creditor’s loans. will have a reasonable ability, at the comment 43(c)–1, discussed above. The Bureau also is concerned that time of consummation, to repay the loan New comment 43(c)(1)–1 emphasizes evaluating underwriting standards according to its terms, including any that creditors are to be evaluated on based on whether they are widely mortgage-related obligations. whether they make a reasonable and accepted could have other undesirable Commenters generally agreed that good faith determination that a consequences. In a market bubble or creditors should not make loans to consumer will have a reasonable ability economic crisis, many creditors may consumers unable to repay them and to repay as required by § 1026.43(c)(1). change their underwriting standards in supported the requirement to consider The comment acknowledges that similar ways, leading to widely ability to repay. Accordingly, § 1026.43(c) and the accompanying accepted underwriting standards § 1026.43(c)(1) is adopted substantially commentary describe certain becoming unreasonably lax or as proposed, with two technical and requirements for making ability-to-repay unreasonably tight. A regulatory conforming changes. determinations, but do not provide directive to use underwriting standards As adopted, § 1026.43(c)(1) requires comprehensive underwriting standards that are widely accepted could creditors to make a reasonable and good to which creditors must adhere. As an exacerbate those effects. Also, referring faith determination at or before example, new comment 43(c)(1)–1 notes creditors to widely accepted consummation that the consumer will that the rule and commentary do not governmental and nongovernmental have a reasonable ability to repay the specify how much income is needed to underwriting standards could hinder loan according to its terms. Section support a particular level of debt or how creditors’ ability to respond to changing 1026.43(c)(1) as adopted omits the to weigh credit history against other market and economic conditions and reference in the proposed rule to factors. The Bureau believes that a variety of stifle market growth and positive determining that a consumer has a underwriting standards can yield innovation. reasonable ability ‘‘at the time of Finally, the Bureau is concerned that reasonable, good faith ability-to-repay consummation’’ to repay the loan focusing on whether underwriting determinations. New comment 43(c)(1)– according to its terms. The Bureau standards are widely accepted could 1 explains that, so long as creditors believes this phrase is potentially distract creditors from focusing on their consider the factors set forth in misleading and does not accurately obligation under TILA section 129C and § 1026.43(c)(2) according to the reflect the intent of either the Board or § 1026.43(c) to make ability-to-repay requirements of § 1026.43(c), creditors the Bureau. Mortgage loans are not determinations that are reasonable and are permitted to develop and apply their required to be repaid at the time of in good faith. The Bureau believes that own proprietary underwriting standards consummation; instead, they are a creditor’s underwriting standards are and to make changes to those standards an important factor in making required to be repaid over months or over time in response to empirical reasonable and good faith ability-to- years after consummation. Creditors are information and changing economic and repay determinations. However, how required to make a predictive judgment other conditions. The Bureau believes those standards are applied to the at the time of consummation that a this flexibility is necessary given the individual facts and circumstances of a consumer is likely to have the ability to wide range of creditors, consumers, and particular extension of credit is equally repay a loan in the future. The Bureau mortgage products to which this rule or more important. believes that the rule more clearly applies. The Bureau also believes that In light of these issues, the Bureau is reflects this requirement without the there are no indicators in the statutory not adopting proposed comment 43(c)– reference to ability ‘‘at the time of text or legislative history of the Dodd- 1. Instead, the Bureau is adopting two consummation’’ to repay the loan. The Frank Act that Congress intended to new comments, comment 43(c)(1)–1 and creditor’s determination will necessarily replace proprietary underwriting comment 43(c)(2)–1. New comment be based on the consumer’s standards with underwriting standards 43(c)(1)–1 clarifies that creditors are circumstances at or before dictated by governmental or permitted to develop and apply their consummation and evidence, if any, government-sponsored entities as part of own underwriting standards as long as that those circumstances are likely to the ability-to-repay requirements. The those standards lead to ability-to-repay change in the future. Section Bureau therefore believes that determinations that are reasonable and 1026.43(c)(1) as adopted also omits the preserving this flexibility here is in good faith. New comment 43(c)(2)–1 reference in the proposed rule to consistent with Congressional intent. clarifies that creditors are permitted to mortgage-related obligations. The The comment emphasizes that whether use their own definitions and other Bureau believes this reference is a particular ability-to-repay technical underwriting criteria and unnecessary because § 1026.43(c)(2) determination is reasonable and in good notes that underwriting guidelines requires creditors to consider faith will depend not only on the issued by governmental entities such as consumers’ monthly payments for underwriting standards adopted by the the FHA are a source to which creditors mortgage-related obligations and could creditor, but on the facts and may refer for guidance on definitions create confusion because § 1026.43(c)(1) circumstances of an individual and technical underwriting criteria. does not include references to other extension of credit and how the These comments are discussed below in factors creditors must consider under creditor’s underwriting standards were the section-by-section of § 1026.43(c)(1) § 1026.43(c)(2). applied to those facts and and (2). As noted above, the Bureau is circumstances. The comment also states adopting new comment 43(c)(1)–1, that a consumer’s statement or 43(c)(1) General Requirement which provides guidance regarding, attestation that the consumer has the Proposed § 226.43(c)(1) would have among other things, how the ability to repay the loan is not indicative implemented TILA section 129C(a)(1) requirement to make a reasonable and of whether the creditor’s determination by providing that a creditor shall not good faith determination of ability to was reasonable and in good faith. make a loan that is a covered transaction repay relates to a creditor’s Concerns have been raised that unless the creditor makes a reasonable underwriting standards. New comment creditors and others will have difficulty and good faith determination at or 43(c)(1)–1 replaces in part and responds evaluating whether a particular ability-

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to-repay determination is reasonable monthly payments for the covered after consummation if, for example, the and in good faith. Although the statute transaction, any simultaneous loan, consumer experienced a sudden and and the rule specifies certain factors that mortgage-related obligations and any unexpected loss of income. In contrast, a creditor must consider in making such current debt obligations; or (6) the the comment states that an ability-to- a determination, the Bureau does not creditor disregarded evidence that the repay determination may be believe that there is any litmus test that consumer would have the ability to unreasonable or not in good faith even can be prescribed to determine whether repay only if the consumer subsequently though the consumer made timely a creditor, in considering those factors, refinanced the loan or sold the property payments for a significant period of time arrived at a belief in the consumer’s securing the loan. if, for example, the consumer was able ability to repay which was both New comment 43(c)(1)–1 states the to make those payments only by objectively reasonable and in subjective Bureau’s belief that all of these foregoing necessities such as food and good faith. Nevertheless, new comment considerations may be relevant to heat. 43(c)(1)–1 lists considerations that may whether a creditor’s ability-to-repay The Board proposed comment be relevant to whether a creditor who determination was reasonable and in 43(c)(1)–1 to clarify that a change in a considered and verified the required good faith. However, the comment also consumer’s circumstances after factors in accordance with the rule clarifies that these considerations are consummation of a loan, such as a arrived at an ability-to-repay not requirements or prohibitions with significant reduction in income due to determination that was reasonable and which creditors must comply, nor are a job loss or a significant obligation in good faith. The comment states that they elements of a claim that a arising from a major medical expense, the following may be evidence that a consumer must prove to establish a that cannot reasonably be anticipated creditor’s ability-to-repay determination violation of the ability-to-repay from the consumer’s application or the was reasonable and in good faith: (1) requirements. As an example, the records used to determine repayment The consumer demonstrated actual comment clarifies that creditors are not ability, is not relevant to determining a ability to repay the loan by making required to validate their underwriting creditor’s compliance with the rule. The timely payments, without modification criteria using mathematical models. proposed comment would have further or accommodation, for a significant New comment 43(c)(1)–1 also clarifies clarified that, if the application or period of time after consummation or, that these considerations are not records considered by the creditor at or for an adjustable-rate, interest-only, or absolute in their application; instead before consummation indicate that there negative-amortization mortgage, for a they exist on a continuum and may will be a change in the consumer’s significant period of time after recast; (2) apply to varying degrees. As an repayment ability after consummation, the creditor used underwriting example, the comment states that the such as if a consumer’s application longer a consumer successfully makes standards that have historically resulted states that the consumer plans to retire timely payments after consummation or in comparatively low rates of within 12 months without obtaining recast the less likely it is that the delinquency and default during adverse new employment or that the consumer creditor’s determination of ability to economic conditions; or (3) the creditor will transition from full-time to part- repay was unreasonable or not in good used underwriting standards based on time employment, the creditor must faith. consider that information. Commenters empirically derived, demonstrably and Finally, new comment 43(c)(1)–1 statistically sound models. generally supported proposed comment clarifies that each of these 43(c)(1)–1. Proposed comment 43(c)(1)– In contrast, new comment 43(c)(1)–1 considerations must be viewed in the 1 is adopted substantially as proposed states that the following may be context of all facts and circumstances and redesignated as comment 43(c)(1)– evidence that a creditor’s ability-to- relevant to a particular extension of 2. repay determination was not reasonable credit. As an example, the comment The Board also proposed comment or in good faith: (1) The consumer states that in some cases inconsistent 43(c)(1)–2 to clarify that § 226.43(c)(1) defaulted on the loan a short time after application of underwriting standards does not require or permit the creditor consummation or, for an adjustable-rate, may indicate that a creditor is to make inquiries or verifications interest-only, or negative-amortization manipulating those standards to prohibited by Regulation B, 12 CFR part mortgage, a short time after recast; (2) approve a loan despite a consumer’s 1002. Commenters generally supported the creditor used underwriting inability to repay. The creditor’s ability- proposed comment 43(c)(1)–2. Proposed standards that have historically resulted to-repay determination therefore may be comment 43(c)(1)–2 is adopted in comparatively high levels of unreasonable or in bad faith. However, substantially as proposed and delinquency and default during adverse in other cases inconsistently applied redesignated as comment 43(c)(1)–3. economic conditions; (3) the creditor underwriting standards may be the applied underwriting standards result of, for example, inadequate 43(c)(2) Basis for Determination inconsistently or used underwriting training and may nonetheless yield a As discussed above, TILA section standards different from those used for reasonable and good faith ability-to- 129C(a)(1) generally requires a creditor similar loans without reasonable repay determination in a particular case. to make a reasonable and good faith justification; (4) the creditor disregarded Similarly, the comment states that determination that a consumer has a evidence that the underwriting although an early payment default on a reasonable ability to repay a loan and all standards it used are not effective at mortgage will often be persuasive applicable taxes, insurance, and determining consumers’ repayment evidence that the creditor did not have assessments. TILA section 129C(a)(2) ability; (5) the creditor consciously a reasonable and good faith belief in the requires a creditor to include in that disregarded evidence that the consumer consumer’s ability to repay (and such determination the cost of any other may have insufficient residual income evidence may even be sufficient to residential mortgage loans made to the to cover other recurring obligations and establish a prima facie case of an ability- same consumer and secured by the same expenses, taking into account the to-repay violation), a particular ability- dwelling. TILA section 129C(a)(3) consumer’s assets other than the to-repay determination may be enumerates several factors a creditor property securing the covered reasonable and in good faith even must consider in determining a transaction, after paying his or her though the consumer defaulted shortly consumer’s ability to repay: credit

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history; current income; expected New comment 43(c)(2)–1 further consider the seasonality or irregularity income; current obligations; debt-to- provides that a creditor may, but is not of a consumer’s income in determining income ratio or residual income; required to, look to guidance issued by repayment ability. The Board’s proposal employment status; and other financial entities such as the FHA, VA, USDA, or generally mirrored TILA section resources other than equity in the Fannie Mae or Freddie Mac while 129C(a)(3), but differed in two respects. property securing the loan. operating under the conservatorship of First, proposed § 226.43(c)(2)(i) used Proposed § 226.43(c)(2) would have the Federal Housing Finance the term ‘‘assets’’ rather than ‘‘financial implemented the requirements under Administration. New comment 43(c)(2)– resources,’’ to conform with terminology these sections of TILA that a creditor 1 gives several examples of instances used in other provisions under TILA consider specified factors as part of a where a creditor could refer to such section 129C(a) and Regulation Z. See, determination of a consumer’s ability to guidance, such as: classifying particular e.g., TILA section 129C(a)(4) (requiring repay. Proposed § 226.43(c)(2) would inflows, obligations, and property as that creditors consider a consumer’s have required creditors to consider the ‘‘income,’’ ‘‘debt,’’ or ‘‘assets’’; assets in determining repayment following factors in making a determining what information to use ability); § 1026.51(a) (requiring determination of repayment ability, as when evaluating the income of a self- consideration of a consumer’s assets in required by TILA section 129C(a)(1) employed or seasonally employed determining a consumer’s ability to pay through (3): the consumer’s current or consumer; or determining what a credit extension under a credit card reasonably expected income or assets, information to use when evaluating the account). The Board explained that the other than the dwelling that secures the credit history of a consumer who has terms ‘‘financial resources’’ and ‘‘assets’’ loan; the consumer’s employment few or no extensions of traditional are synonymous as used in TILA section status, if the creditor relies on credit. The comment emphasizes that 129C(a), and elected to use the term employment income; the consumer’s these examples are illustrative, and ‘‘assets’’ throughout the proposal for monthly payment on the loan; the creditors are not required to conform to consistency. The Bureau is adopting this consumer’s monthly payment on any guidance issued by these or other such interpretation as well, as part of its simultaneous loan that the creditor entities. The Bureau is aware that many effort to streamline regulations and knows or has reason to know will be creditors have, for example, existing reduce compliance burden, and uses the made; the consumer’s monthly payment underwriting definitions of ‘‘income’’ term ‘‘assets’’ throughout Regulation Z. Second, the Board’s proposal for mortgage-related obligations; the and ‘‘debt.’’ Creditors are not required to provided that a creditor may not look to consumer’s current debt obligations; the modify their existing definitions and the value of the dwelling that secures consumer’s monthly debt-to-income other technical underwriting criteria to the covered transaction, instead of ratio or residual income; and the conform to guidance issued by such providing that a creditor may not look consumer’s credit history. As discussed entities, and creditors’ existing to the consumer’s equity in the in detail below, the Bureau is adopting definitions and other technical dwelling, as provided in TILA section § 1026.43(c)(2) substantially as underwriting criteria are not noncompliant merely because they 129C(a). The Bureau received comments proposed, with technical and expressing concern that the Board had conforming changes. differ from those used in such guidance. Finally, new comment 43(c)(2)–1 proposed dispensing with the term As indicated above, the Bureau also is emphasizes that a creditor must ensure ‘‘equity.’’ These comments protested adopting new comment 43(c)(2)–1. New that its underwriting criteria, as applied that the Board had assumed that comment 43(c)(2)–1 provides guidance to the facts and circumstances of a congressional concern was over the regarding definitional and other particular extension of credit, result in foreclosure value of the home, rather technical underwriting issues related to a reasonable, good faith determination than protecting all homeowners, the factors enumerated in of a consumer’s ability to repay. As an including those who may have low § 1026.43(c)(2). New comment 43(c)(2)– example, new comment 43(c)(2)–1 states home values. The commenters’ concerns 1 replaces in part and responds to that a definition used in underwriting are likely misplaced, however, as the comments received regarding proposed that is reasonable in isolation may lead Board’s language provides, if anything, comment 43(c)–1, as discussed above. to ability-to-repay determinations that broader protection for homeowners. New comment 43(c)(2)–1 notes that are unreasonable or not in good faith TILA section 129C(a)(3) is intended to § 1026.43(c)(2) sets forth factors when considered in the context of a address the risk that a creditor will creditors must consider when making creditor’s underwriting standards or consider the amount that could be the ability-to-repay determination when adopted or applied in bad faith. obtained through a foreclosure sale of required under § 1026.43(c)(1) and the Similarly, an ability-to-repay the dwelling, which may exceed the accompanying commentary provides determination is not unreasonable or in amount of the consumer’s equity in the guidance regarding these factors. New bad faith merely because the dwelling. For example, the rule comment 43(c)(2)–1 also notes that underwriting criteria used included a addresses the situation in which, several creditors must conform to these definition that was by itself years after consummation, the value of requirements and may rely on guidance unreasonable. a consumer’s home has decreased provided in the commentary. New significantly. The rule prohibits a comment 43(c)(2)–1 also acknowledges 43(c)(2)(i) creditor from considering, at or before that the rule and commentary do not TILA section 129C(a)(3) provides that, consummation, any value associated provide comprehensive guidance on in making the repayment ability with this home, even in the event that definitions and other technical determination, a creditor must consider, the ‘‘underwater’’ home is sold at underwriting criteria necessary for among other factors, a consumer’s foreclosure. The rule thus avoids the evaluating these factors in practice. The current income, reasonably expected situation in which the creditor might comment clarifies that, so long as a income, and ‘‘financial resources’’ other assume that rising home values might creditor complies with the provisions of than the consumer’s equity in the make up the difference should the § 1026.43(c), the creditor is permitted to dwelling or real property that secures consumer be unable to make full use its own definitions and other loan repayment. Furthermore, under mortgage payments, and therefore the technical underwriting criteria. TILA section 129C(a)(9), a creditor may rule is more protective of consumers

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because the rule forbids the creditor commissions, and retirement benefits; examples of reasonably expected from considering any value associated and examples of assets the creditor may income, such as expected bonuses with the dwelling whether the consider, including funds in a savings verified with documents demonstrating consumer’s equity stake in the dwelling or checking account, amounts vested in past bonuses or expected salary from a is large or small. a retirement account, stocks, and bonds. job verified with a written statement The Bureau is adopting the Board’s The Bureau did not receive significant from an employer stating a specified proposal, providing that a creditor may comment on the proposal and has salary. As the Board has previously not look to the value of the dwelling adopted the Board’s proposed comment. stated, in some cases a covered that secures the covered transaction, The Bureau notes that there may be transaction may have a likely payment instead of providing that a creditor may assets other than those listed in increase that would not be affordable at not look to the consumer’s equity in the comment 43(c)(2)(i)–1 that a creditor the consumer’s income at the time of dwelling, as provided in TILA section may consider; the Bureau does not consummation. A creditor may be able 129C(a). The Bureau is making this intend for the list to be exhaustive, but to verify a reasonable expectation of an adjustment pursuant to its authority merely illustrative. increase in the consumer’s income that under TILA section 105(a), which The Board proposed comment will make the higher payment affordable provides that the Bureau’s regulations 43(c)(2)(i)–2 to explain that, if a creditor to the consumer. See 73 FR 44522, may contain such additional bases its determination of repayment 44544 (July 30, 2008). requirements, classifications, ability entirely or in part on a TILA section 129C(a)(9) provides that differentiations, or other provisions, and consumer’s income, the creditor need a creditor may consider the seasonality may provide for such adjustments and consider only the income necessary to or irregularity of a consumer’s income exceptions for all or any class of support a determination that the in determining repayment ability. transactions as in the Bureau’s judgment consumer can repay the covered Accordingly, the Board proposed are necessary or proper to effectuate the transaction. The Bureau did not receive comment 43(c)(2)(i)–4 to clarify that a purposes of TILA, prevent significant comment and has adopted creditor reasonably may determine that circumvention or evasion thereof, or the Board’s comment largely as a consumer can make periodic loan facilitate compliance therewith. 15 proposed. This comment clarifies that a payments even if the consumer’s U.S.C. 1604(a). The purposes of TILA creditor need not document and verify income, such as self-employment or include the purposes that apply to 129C, every aspect of the consumer’s income, agricultural employment income, is to assure that consumers are offered and merely enough income to support the receive residential mortgage loans on creditor’s good faith determination. For seasonal or irregular. The Bureau terms that reasonably reflect their ability example, if a consumer earns income received little comment on this to repay the loan. See 15 U.S.C. from a full-time job and a part-time job proposal, although at least one 1639b(a)(2). As further explained above, and the creditor reasonably determines consumer advocate expressed concern the Bureau believes it is necessary and that the consumer’s income from the that creditors might interpret the rule to proper to make this adjustment to full-time job is sufficient to repay the allow for a creditor to differentiate ensure that consumers receive loans on covered transaction, the creditor need among types of income. Specifically, the affordable terms and to facilitate not consider the consumer’s income commenter expressed concern that some compliance with TILA and its purposes. from the part-time job. Comment creditors might differentiate types of The Board proposed comment 43(c)(2)(i)–2 also cross-references income, for example salaried income as 43(c)(2)(i)–1 to clarify that a creditor comment 43(c)(4)–1 for clarity. opposed to disability payments, and may base a determination of repayment The Board proposed comment that these creditors might require the ability on current or reasonably 43(c)(2)(i)–3 to clarify that the creditor consumer to produce a letter stating that expected income from employment or may rely on the consumer’s reasonably the disability income was guaranteed for other sources, assets other than the expected income either in addition to or a specified period. The Bureau dwelling that secures the covered instead of current income. This understands these concerns, and transaction, or both. The Bureau did not comment is similar to existing comment cautions creditors not to overlook the receive significant comment on the 34(a)(4)(ii)–2, which describes a similar requirements imposed by the Equal proposal and has adopted the Board’s income test for high-cost mortgages Credit Opportunity Act, implemented proposed comment. In congruence with under § 1026.34(a)(4).107 This by the Bureau under Regulation B. See the Bureau’s adoption of the phrase consistency should serve to reduce 15 U.S.C. 1601 et seq.; 12 CFR 1002.1 ‘‘value of the dwelling’’ in compliance burden for creditors. The et seq. For example, 12 CFR 1002.6(b)(2) § 1026.43(c)(2)(i), instead of the Bureau did not receive significant prohibits a creditor from taking into consumer’s equity in the dwelling, as comment on the proposal and is account whether an applicant’s income originally provided in TILA section adopting the Board’s comment as derives from any public assistance 129C(a), comment 43(c)(2)(i)–1 likewise proposed. Comment 43(c)(2)(i)–3 further program. The distinction here is that notes that the creditor may not consider explains that, if a creditor relies on 43(c)(2)(i)–4 permits the creditor to the dwelling that secures the transaction expected income, the expectation that consider the regularity of the as an asset in any respect. This the income will be available for consumer’s income, but such comment is also consistent with repayment must be reasonable and consideration must be based on the comment 43(a)–2, which further verified with third-party records that consumer’s income history, not based clarifies that the term ‘‘dwelling’’ provide reasonably reliable evidence of on the source of the income, as both a includes the value of the real property the consumer’s expected income. consumer’s wages or a consumer’s to which the dwelling is attached, if the Comment 43(c)(2)(i)–3 also gives receipt of public assistance may or may real property also secures the covered not be irregular. The Bureau is adopting transaction. Comment 43(c)(2)(i)–1 also 107 The Bureau has proposed revising comment this comment largely as proposed, as the provides examples of types of income 34(a)(4)(ii)–2, though not in a manner that would concerns discussed above are largely affect the ‘‘reasonably expected income’’ aspect of the creditor may consider, including the comment. See 77 FR 49090, 49153 (Aug. 15, covered by Regulation B. Comment salary, wages, self-employment income, 2012). The Bureau is concurrently finalizing the 43(c)(2)(i)–4 states that, for example, if military or reserve duty income, tips, 2012 HOEPA Proposal. the creditor determines that the income

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a consumer receives a few months each comment states, for example, that if a Bureau is adopting § 1026.43(c)(2)(iii) as year from, for example, selling crops or creditor relies wholly on a consumer’s proposed. Comment 43(c)(2)(iii)–1 has from agricultural employment is investment income to determine the been edited to remove the reference to sufficient to make monthly loan consumer’s repayment ability, the mortgage-related obligations as payments when divided equally across creditor need not consider or verify the potentially confusing. The monthly 12 months, then the creditor reasonably consumer’s employment status. The payment for mortgage-related may determine that the consumer can proposed comment further clarifies that obligations must be considered under repay the loan, even though the employment may be full-time, part-time, § 1026.43(c)(2)(v). consumer may not receive income seasonal, irregular, military, or self- 43(c)(2)(iv) during certain months. employment. Comment 43(c)(2)(ii)–1 is Finally, the Bureau is adding new similar to comment 34(a)(4)–6, which Proposed § 226.43(c)(2)(iv) comment 43(c)(2)(i)–5 to further clarify, discusses income, assets, and implemented the requirements under in the case of joint applicants, the employment in determining repayment new TILA section 129C(a)(2), in part, by consumer’s current or reasonably ability for high-cost mortgages. requiring that the creditor consider ‘‘the expected income or assets basis of the In its proposal, the Board explained consumer’s monthly payment on any creditor’s ability-to-repay that a creditor generally must verify simultaneous loan that the creditor determination. This comment is similar information relied on to determine knows or has reason to know will be in approach to the Board’s proposed repayment ability using reasonably made, calculated in accordance with’’ comment 43(c)(4)–2, discussed below, reliable third-party records, but may proposed § 226.43(c)(6), for purposes of however, proposed comment 43(c)(4)–2 verify employment status orally as long determining the consumer’s repayment discussed the verification of income in as the creditor prepares a record of the ability. As explained above in the the case of joint applicants. The Bureau oral information. The Board proposed section-by-section analysis of is adding comment 43(c)(2)(i)–5 to comment 43(c)(2)(ii)–2 to add that a § 1026.43(b)(12), ‘‘simultaneous loan’’ is clarify the creditor’s basis for making an creditor also may verify the employment defined, in the proposed and final rules, ability-to-repay determination for joint status of military personnel using the to include HELOCs. applicants. Comment 43(c)(2)(i)–5 electronic database maintained by the Proposed comment 43(c)(2)(iv)–1 explains that when two or more Department of Defense (DoD) to clarified that for purposes of the consumers apply for an extension of facilitate identification of consumers repayment ability determination, a credit as joint obligors with primary covered by credit protections provided simultaneous loan includes any covered liability on an obligation, § 1026.43(c)(i) pursuant to 10 U.S.C. 987, also known transaction or HELOC that will be made to the same consumer at or before does not require the creditor to consider as the ‘‘Talent Amendment.’’ 108 The consummation of the covered income or assets that are not needed to Board solicited comment on whether transaction and secured by the same support the creditor’s repayment ability creditors needed additional flexibility in dwelling that secures the covered determination. Thus, the comment verifying the employment status of transaction. This comment explained explains that if the income or assets of military personnel, such as by verifying that a HELOC that is a simultaneous one applicant are sufficient to support the employment status of a member of loan that the creditor knows or has the creditor’s repayment ability the military using a Leave and Earnings reason to know about must be determination, then the creditor is not Statement. As this proposed comment considered in determining a consumer’s required to consider the income or was designed to provide clarification for ability to repay the covered transaction, assets of the other applicant. creditors with respect to verifying a even though the HELOC is not a covered consumer’s employment, this proposed 43(c)(2)(ii) transaction subject to § 1026.43. TILA section 129C(a)(3) requires that comment is discussed in the section-by- Proposed comment 43(c)(2)(iv)–3 a creditor consider a consumer’s section analysis of § 1026.43(c)(3) clarified the scope of timing and the employment status in determining the below. meaning of the phrase ‘‘at or before consumer’s repayment ability, among 43(c)(2)(iii) consummation’’ with respect to other requirements. The Board proposal Proposed § 226.43(c)(2)(iii) simultaneous loans that the creditor implemented this requirement in implemented the requirements under must consider for purposes of proposed proposed § 226.43(c)(2)(ii) and clarified new TILA section 129C(a)(1) and (3), in § 226.43(c)(2)(iv). Proposed comment that a creditor need consider a part, by requiring that the creditor 43(c)(2)(iv)–4 provided guidance on the consumer’s employment status only if consider the consumer’s monthly verification of simultaneous loans. The Bureau received several industry the creditor relies on income from the payment on the covered transaction, comments on the requirement, in the consumer’s employment in determining calculated in accordance with proposed regulation and the statute, that the repayment ability. The Bureau did not § 226.43(c)(5), for purposes of creditor consider any simultaneous loan receive significant comment on the determining the consumer’s repayment it ‘‘knows or has reason to know’’ will Board’s proposal and is adopting ability. Proposed comment 43(c)(2)(iii)– be made. The commenters felt that the § 1026.43(c)(2)(ii) as proposed. The 1 clarified the regulatory language and standard was vague, and that it would Bureau sees no purpose in requiring a made clear that mortgage-related be difficult for a creditor to understand creditor to consider a consumer’s obligations must also be considered. employment status in the case where The Bureau did not receive comments when it ‘‘has reason to know’’ a the creditor need not consider the on this provision. Accordingly, the simultaneous loan will be made. income from that employment in the The Board provided guidance on the creditor’s reasonable and good faith 108 The Talent Amendment is contained in the ‘‘knows or has reason to know’’ determination that the consumer will John Warner National Defense Authorization Act. standard in proposed comment have a reasonable ability to repay the See Public Law 109–364, 120 Stat. 2083, 2266 43(c)(2)(iv)–2. This comment provided loan according to its terms. (2006); 72 FR 50580, 5088 (Aug. 31, 2007) that, in regard to ‘‘piggyback’’ second- (discussing the DoD database in a final rule The Board proposed, and the Bureau implementing the Talent Amendment). Currently, lien loans, the creditor complies with is adopting, comment 43(c)(2)(ii)–1 to the DoD database is available at https:// the standard if it follows policies and illustrate this point further. The www.dmdc.osd.mil/appj/mla/. procedures that are designed to

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determine whether at or before guarantee insurance), and assessments.’’ Board also solicited comment on consummation that the same consumer Section 1026.34(a)(4), which was added whether it should provide that the has applied for another credit by the 2008 HOEPA Final Rule, also HUD–1 or –1A or a successor form transaction secured by the same requires creditors to consider mortgage- could serve as verification of mortgage- dwelling. The proposed comment related obligations in assessing related obligations reflected by the form, provided an example in which the repayment ability. See the section-by- where a legal obligation exists to requested loan amount is less than the section analysis of § 1026.43(b)(8) for a complete the form accurately. home purchase price, indicating that discussion of the Bureau’s interpretation Industry commenters and consumer there is a down payment coming from of ‘‘mortgage-related obligations’’ and advocates generally supported including a different funding source. The the definition adopted in the final rule. consideration and verification of creditor’s policies and procedures must The Board proposed to require mortgage-related obligations in the require the consumer to state the source creditors to consider the consumer’s ability-to-repay determination. Several of the down payment, which must be monthly payment for mortgage-related industry commenters asked that the verified. If the creditor determines that obligations as part of the repayment Bureau provide creditors more the source of the down payment is ability determination. Proposed flexibility in considering and verifying another extension of credit that will be comment 43(c)(2)(v)–1 explained that mortgage-related obligations. They made to the same consumer and secured mortgage-related obligations must be suggested that a reasonable and good by the same dwelling, the creditor included in the creditor’s determination faith determination be deemed knows or has reason to know of the of repayment ability regardless of sufficient, rather than use of all simultaneous loan. Alternatively, if the whether the amounts are included in underwriting standards in any creditor has verified information that the monthly payment or whether there particular government or non- the down payment source is the is an escrow account established. government handbook. Community consumer’s existing assets, the creditor Proposed comment 43(c)(2)(v)–2 banks asserted that flexible standards would be under no further obligation to clarified that, in considering mortgage- were necessary to meet their customers’ determine whether a simultaneous loan related obligations that are not paid needs. Some consumer advocates will be extended at or before monthly, the creditor may look to suggested that creditors be permitted to consummation. widely accepted governmental or non- draw on only widely accepted standards The Bureau believes that comment governmental standards to determine that have been validated by experience 43(c)(2)(iv)–2 provides clear guidance the pro rata monthly payment amount. or sanctioned by a government agency. on the ‘‘knows or has reason to know’’ The Board solicited comment on Some industry commenters asked for standard, with the addition of language operational difficulties creditors may more guidance on how to calculate pro clarifying that the creditor is not encounter when complying with this rata monthly payment amounts and obligated to investigate beyond monthly requirement, and whether estimated property taxes. One industry reasonable underwriting policies and additional guidance was necessary. commenter asked that creditors be procedures to determine whether a Proposed comment 43(c)(2)(v)–3 permitted to use pro rata monthly simultaneous loan will be extended at explained that estimates of mortgage- payment amounts for special or before consummation of the covered related obligations should be based assessments, not quarterly or yearly transaction. upon information known to the creditor amounts. The commenter requested that The Bureau considers the provision to at the time the creditor underwrites the estimates of common assessments be be an accurate and appropriate mortgage obligation. This comment permitted. This commenter also implementation of the statute. Proposed explained that information is known if recommended that creditors be § 226.43(c)(2)(iv) and associated it is ‘‘reasonably available’’ to the permitted to verify the amount of commentary are adopted substantially creditor at the time of underwriting the common assessments with information as proposed, in renumbered loan, and cross-referenced current provided by the consumer. One § 1026.43(c)(2)(iv), with the addition of comment 17(c)(2)(i)–1 for guidance commenter noted that verification using the language discussed above to regarding ‘‘reasonably available.’’ HUD–1 forms should be permitted comment 43(c)(2)(iv)–2 and other minor Proposed comment 43(c)(2)(v)–3 further because there is a legal obligation to clarifying changes. Comment clarified that, for purposes of complete the HUD–1 accurately. 43(c)(2)(iv)–3 now includes language determining repayment ability under The Bureau is adopting the rule as making clear that if the consummation proposed § 226.43(c), the creditor would proposed. For the reasons discussed of the loan transaction is extended past not need to project potential changes. below, the Bureau concludes that a the traditional closing, any Proposed comment 43(c)(2)(v)–4 creditor should consider the consumer’s simultaneous loan originated after that stated that creditors must make the monthly payment for mortgage-related traditional closing may still be repayment ability determination obligations in determining the interpreted as having occurred ‘‘at’’ required under proposed § 226.43(c) consumer’s ability to repay, pursuant to consummation. In addition, as based on information verified from § 1026.43(c)(1). As commenters discussed below, comment 43(c)(2)(iv)– reasonably reliable records. This confirmed, obligations related to the 4, Verification of simultaneous loans, comment explained that guidance mortgage may affect the consumer’s has been grouped with other verification regarding verification of mortgage- ability to satisfy the obligation to make comments, in comment 43(c)(3)–4. related obligations could be found in recurring payments of principal and proposed comments 43(c)(3)–1 and –2, interest. The Bureau also agrees with the 43(c)(2)(v) which discuss verification using third- argument raised by many commenters As discussed above, TILA section party records. that the failure to account consistently 129C(a)(1) and (3) requires creditors to The Board solicited comment on any for these obligations during the consider and verify mortgage-related special concerns regarding the subprime crisis harmed many obligations as part of the ability-to-repay requirement to document certain consumers. Thus, the Bureau has determination ‘‘according to [the loan’s] mortgage-related obligations, for determined that it is appropriate to terms, and all applicable taxes, example, ground rent or leasehold adopt § 1026.43(c)(2)(v) as proposed. insurance (including mortgage payments, or special assessments. The However, the Bureau believes that

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additional guidance will facilitate not include payments to community encounter difficulty determining compliance. As explained below, the governance associations if such whether special assessments exist. Bureau has expanded on the proposed obligations are fully satisfied at or Special assessments are often imposed commentary language to provide before consummation by the consumer. in response to some urgent or additional clarity and illustrative This comment further clarifies that unexpected need. Consequently, neither examples. § 1026.43(c)(2)(v) does not require the the creditor nor the community The final version of comment creditor to include these payments in governance association may be able to 43(c)(2)(v)–1 is substantially similar to the evaluation of the consumer’s predict the frequency and magnitude of the language as proposed. As discussed monthly payment for mortgage-related special assessments. However, this under § 1026.43(b)(8) above, the Bureau obligations if the consumer does not pay difficulty does not exist for special is revising the language related to the fee directly at or before assessments that are known at the time insurance premiums to provide consummation, and instead finances the of underwriting. Known special additional clarity. The modifications to obligation. In these cases, the financed assessments, which the buyer must pay the language in proposed comment obligation will be included in the loan and which may be significant, may 43(c)(2)(v)–1 conform to the language amount, and is therefore already affect the consumer’s ability to repay the adopted under § 1026.43(b)(8) and the included in the determination of ability obligation. Thus, comment 43(c)(2)(v)–3 related commentary. Furthermore, the to repay pursuant to § 1026.43(c)(2)(iii). clarifies that the creditor must include final version of comment 43(c)(2)(v)-1 However, if the consumer incurs the special assessments in the evaluation of contains additional explanation obligation and will satisfy the obligation the consumer’s monthly payment for regarding the determination of the with recurring payments after mortgage-related obligations if such fees consumer’s monthly payment, and consummation, regardless of whether are paid by the consumer on a recurring provides additional illustrative the obligation is escrowed, basis after consummation, regardless of examples to clarify further the § 1026.43(c)(2)(v) requires the creditor whether an escrow is established for requirements of § 1026.43(c)(2)(v). For to include the obligation in the these fees. For example, if a example, assume that a consumer will evaluation of the consumer’s monthly homeowners association imposes a be required to pay mortgage insurance payment for mortgage-related special assessment that the consumer premiums, as defined by § 1026.43(b)(8), obligations. The Bureau has also will have to pay in full at or before on a monthly, annual, or other basis addressed the concerns raised by consummation, § 1026.43(c)(2)(v) does after consummation. Section commenters related to calculating, not include the special assessment in 1026.43(c)(2)(v) includes these recurring estimating, and verifying these the evaluation of the consumer’s mortgage insurance payments in the obligations in comments 43(c)(2)(v)–4 monthly payment for mortgage-related evaluation of the consumer’s monthly and –5 and 43(c)(3)–5, respectively. obligations. Section 1026.43(c)(2)(v) payment for mortgage-related As discussed under § 1026.43(b)(8) does not require a creditor to include obligations. However, if the consumer above, one comment letter focused special assessments in the evaluation of will incur a one-time fee or charge for extensively on community transfer fees. the consumer’s monthly payment for mortgage insurance or similar purposes, The Bureau agrees with the argument, mortgage-related obligations if the such as an up-front mortgage insurance advanced by several commenters, that special assessments are imposed as a premium imposed at consummation, the entirety of the consumer’s ongoing one-time charge. For example, if a § 1026.43(c)(2)(v) does not include this obligations should be included in the homeowners association imposes a up-front mortgage insurance premium determination. A responsible special assessment that the consumer in the evaluation of the consumer’s determination of the consumer’s ability will have to satisfy in one payment, monthly payment for mortgage-related to repay requires an accounting of such § 1026.43(c)(2)(v) does not include this obligations. obligations, whether the purpose of the one-time special assessment in the As discussed under § 1026.43(b)(8) obligation is to satisfy the payment of a evaluation of the consumer’s monthly above, several commenters discussed community transfer fee or traditional payment for mortgage-related the importance of including homeowners association dues. An obligations. However, if the consumer homeowners association dues and obligation that is not paid in full at or will pay the special assessment on a similar obligations in the determination before consummation must be paid after recurring basis after consummation, of ability to repay. These commenters consummation, which may affect the argued, and the Bureau agrees, that consumer’s ability to repay ongoing regardless of whether the consumer’s recurring financial obligations payable obligations. Thus, comment 43(c)(2)(v)– payments for the special assessment are to community governance associations, 2 clarifies that community transfer fees escrowed, § 1026.43(c)(2)(v) requires the such as homeowners association dues, are included in the determination of the creditor to include this recurring special should be taken into consideration in consumer’s monthly payment for assessment in the evaluation of the determining whether a consumer has mortgage-related obligations if such fees consumer’s monthly payment for the ability to repay the obligation. The are paid on a recurring basis after mortgage-related obligations. Comment Bureau recognizes the practical consummation. Additionally, the 43(c)(2)(v)–3 also includes several other problems that may arise with including Bureau believes that a creditor is not examples illustrating this requirement. obligations such as these in the required to include community transfer The Bureau agrees that clear and evaluation of the consumer’s monthly fees that are imposed on the seller, as detailed guidance regarding determining payment for mortgage-related many community transfer fees are, in pro rata monthly payments of mortgage- obligations. Commenters identified the ability-to-repay calculation. related obligations should be provided. issues stemming from difficulties which In response to the request for feedback However, the Bureau believes that it is may arise in calculating, estimating, and in the proposed rule, several important to strike a balance between verifying these obligations. Based on commenters addressed the proposed providing clear guidance and providing this feedback, the Bureau has treatment of special assessments. Unlike creditors with the flexibility to serve the determined that additional clarification community transfer fees, which are evolving mortgage market. The is necessary. As adopted, comment generally identified in the deed or comments identified significant 43(c)(2)(v)–2 clarifies that creditors need master community plan, creditors may concerns with the use of ‘‘widely

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accepted governmental and non- consumer applies for a mortgage loan on determining mortgage-related governmental standards’’ for purposes February 1st. Assume further that the obligations, and complies with of determining the pro rata monthly subject property is located in a § 1026.43(c)(2)(v) by relying on the payment amount for mortgage-related jurisdiction where property taxes are representations of other reliable parties obligations. While commenters paid in arrears annually on the first day in preparing estimates. Or, assume that generally stated that ‘‘widely accepted of October. The creditor complies with the homeowners association has governmental standards’’ was an § 1026.43(c)(2)(v) by determining the imposed a special assessment on the appropriate standard, others commented annual property tax amount owed in the seller, but the seller does not inform the that ‘‘non-governmental standards’’ may prior October, dividing the amount by creditor of the special assessment, the not be sufficiently clear. The Bureau 12, and using the resulting amount as homeowners association does not believes that ‘‘governmental standards’’ the pro rata monthly property tax include the special assessment in the could be relied on to perform pro rata payment amount for the determination estimate of expenses prepared for the calculations of monthly mortgage of the consumer’s monthly payment for creditor, and the creditor is unaware of related obligations because such mortgage-related obligations. The the special assessment. The creditor standards provide detailed and creditor complies even if the consumer complies with § 1026.43(c)(2)(v) if it comprehensive guidance and are will likely owe more in the next year does not include the special assessment frequently revised to adapt to the needs than the amount owed the prior October in the determination of mortgage-related of the evolving residential finance because the jurisdiction normally obligations. The creditor may rely on market. However, the comments noted increases the property tax rate annually, the representations of other reliable that ‘‘non-governmental standards’’ is provided that the creditor does not have parties, in accordance with the guidance not sufficiently descriptive to illustrate knowledge of an increase in the provided under comment 17(c)(2)(i)–1. clearly how to calculate pro rata property tax rate at the time of 43(c)(2)(vi) monthly payments. Additionally, the underwriting. TILA section 129C(a)(1) and (3) Bureau believes that clear guidance is The Bureau is adopting comment also needed to address the possibility requires creditors to consider ‘‘current 43(c)(2)(v)–5 in a form that is obligations’’ as part of an ability-to- that a particular government program substantially similar to the version may not specifically describe how to repay determination. Proposed proposed. One industry commenter was § 226.43(c)(2)(vi) would have calculate pro rata monthly payment especially concerned about estimating implemented the requirement under amounts for mortgage-related costs for community governance TILA section 129C(a)(1) and (3) by obligations. Thus, the Bureau believes organizations, such as cooperative, requiring creditors to consider current that it is appropriate to revise and condominium, or homeowners debt obligations. Proposed comment further develop the concept of ‘‘widely associations. This commenter noted 43(c)(2)(vi)–1 would have specified that accepted governmental and non- that, because of industry concerns about current debt obligations creditors must governmental standards.’’ TILA liability, many community consider include, among other things, Based on this feedback, the Bureau governance organizations refuse to alimony and child support. The Bureau has revised and expanded the comment provide estimates of association believes that it is reasonable to consider clarifying how to calculate pro rata expenses absent agreements disclaiming child support and alimony as ‘‘debts’’ monthly mortgage obligations. As association liability. This commenter given that the term ‘‘debt’’ is not defined adopted, comment 43(c)(2)(v)–4 expressed concern that the ability-to- in the statute. However, the Bureau provides that, if the mortgage loan is repay requirements would make understands that while alimony and originated pursuant to a governmental community governance organizations child support are obligations, they may program, the creditor may determine the less likely to provide estimates of not be considered debt obligations pro rata monthly amount of the association expenses, which would unless and until they are not paid in a mortgage-related obligation in result in mortgage loan processing timely manner. Therefore, accordance with the specific delays. The Bureau does not believe that § 1026.43(c)(2)(vi) specifies that requirements of that program. If the the ability-to-repay requirements will creditors must consider current debt mortgage loan is originated pursuant to lead to difficulties in exchanging obligations, alimony, and child support a government program that does not information between creditors and to clarify that alimony and child contain specific standards for associations because the ability-to-repay support are included whether or not determining the pro rata monthly requirements generally apply only to they are paid in a timely manner. amount of the mortgage-related creditors, as defined under Proposed comment 43(c)(2)(vi)–1 obligation, or if the mortgage loan is not § 1026.2(a)(17). However, the Bureau would have referred creditors to widely originated pursuant to a government recognizes that consumers may be accepted governmental and non- program, the creditor complies with harmed if mortgage loan transactions are governmental underwriting standards in § 1026.43(c)(2)(v) by dividing the total needlessly delayed by concerns arising determining how to define ‘‘current debt amount of a particular non-monthly from the ability-to-repay requirements. obligations.’’ The proposed comment mortgage-related obligation by no more Thus, the Bureau has decided to address would have given examples of current than the number of months from the these concerns by adding several debt obligations, such as student loans, month that the non-monthly mortgage- examples to comment 43(c)(2)(v)–5 automobile loans, revolving debt, related obligation last was due prior to illustrating the requirements of alimony, child support, and existing consummation until the month that the § 1026.43(c)(2)(v). For example, the mortgages. The Board solicited non-monthly mortgage-related creditor complies with § 1026.43(c)(2)(v) comment on proposed comment obligation next will be due after by relying on an estimate of mortgage- 43(c)(2)(vi)–1 and on whether more consummation. Comment 43(c)(2)(v)–4 related obligations prepared by the specific guidance should be provided to also includes several examples which homeowners association. In accordance creditors. Commenters generally illustrate the conversion of non-monthly with the guidance provided under supported giving creditors significant obligations into monthly, pro rata comment 17(c)(2)(i)–1, the creditor need flexibility and did not encourage the payments. For example, assume that a only exercise due diligence in Bureau to adopt more specific guidance.

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Because the Bureau believes that a wide affect a consumer’s ability to repay example, those set forth in the FHA range of criteria and guidelines for based on the payment for which the Handbook on Mortgage Credit Analysis considering current debt obligations consumer will be liable upon expiration for Mortgage Insurance on One-to-Four will contribute to reasonable, good faith of the forbearance or deferral period and Unit Mortgage Loans. ability-to-repay determinations, other relevant facts and circumstances, Proposed § 226.43(c)(2)(vii) would comment 43(c)(2)(vi)–1 as adopted such as when the forbearance or deferral have implemented TILA section preserves the flexible approach of the period will expire. 129C(a)(3) by requiring creditors, as part Board’s proposed comment. The Parts of proposed comment of the repayment ability determination, comment gives examples of current debt 43(c)(2)(vi)–1 and proposed comment to consider the consumer’s monthly obligations but does not provide an 43(c)(2)(vi)–2 would have provided debt-to-income ratio or residual income. exhaustive list. The comment therefore guidance on verification of current debt Proposed comment 43(c)(2)(vii)–1 preserves substantial flexibility for obligations. All guidance regarding would have cross-referenced creditors to develop their own verification has been moved to the § 226.43(c)(7), regarding the definitions underwriting guidelines regarding commentary to § 1026.43(c)(3) and is and calculations for the monthly debt- consideration of current debt discussed below in the section-by- to-income and residual income. obligations. Reference to widely section analysis of that provision. Consistent with the 2008 HOEPA Final accepted governmental and non- The Board solicited comment on Rule, the proposed rule would have governmental underwriting standards whether it should provide guidance on provided creditors flexibility to has been omitted, as discussed above in consideration of current debt obligations determine whether to use a debt-to- the section-by-section analysis of for joint applicants. Commenters income ratio or residual income metric § 1026.43(c). generally did not comment on in assessing the consumer’s repayment The Board also solicited comment on consideration of current debt obligations ability. As the Board noted, if one of whether additional guidance should be for joint applicants. One trade these metrics alone holds as much provided regarding consideration of association commenter stated that joint predictive power as the two together, debt obligations that are almost paid off. applicants should be subject to the same then requiring creditors to use both Commenters generally stated that standards as individual applicants. metrics could reduce credit access creditors should be required to consider Because the Bureau believes that the without an offsetting increase in obligations that are almost paid off only current debt obligations of all joint consumer protection. 76 FR 27390, if they affect repayment ability. The applicants must be considered to reach 27424–25 (May 11, 2011), citing 73 FR Bureau agrees that many different a reasonable, good faith determination 44550 (July 30, 2008). The proposed standards for considering obligations of ability to repay, the Bureau is rule did not specifically address that are almost paid off could lead to adopting new comment 43(c)(2)(vi)–2. creditors’ use of both metrics if such an reasonable, good faith ability-to-repay New comment 43(c)(2)(vi)–2 clarifies approach would provide incremental determinations. As adopted, comment that when two or more consumers apply predictive power of assessing a 43(c)(2)(vi)–1 includes additional for credit as joint obligors, a creditor consumer’s repayment ability. However, language clarifying that creditors have must consider the debt obligations of all as discussed above in the section-by- significant flexibility to consider current such joint applicants. The comment also section analysis of § 1026.43(c), the debt obligations in light of attendant explains that creditors are not required Board’s proposed comment 43(c)–1 facts and circumstances, including that to consider the debt obligations of a would have provided that, in evaluating an obligation is likely to be paid off consumer acting merely as surety or the consumer’s repayment ability under soon after consummation. As an guarantor. Finally, the comment § 226.43(c), creditors may look to widely example, comment 43(c)(2)(vi)–1 states clarifies that the requirements of accepted governmental or non- that a creditor may take into account § 1026.43(c)(2)(vi) do not affect various governmental underwriting standards, that an existing mortgage is likely to be disclosure requirements. such as the FHA Handbook on Mortgage paid off soon after consummation 43(c)(2)(vii) Credit Analysis for Mortgage Insurance because there is an existing contract for on One-to-Four Unit Mortgage Loans, sale of the property that secures that TILA section 129C(a)(3) requires consistent with existing comment mortgage. creditors to consider the consumer’s 34(a)(4)(iii)(C)–1. The Board also solicited comment on monthly debt-to-income ratio or In response to the proposed rule, whether additional guidance should be residual income the consumer will have industry commenters and consumer provided regarding consideration of after paying non-mortgage debt and advocates generally supported including debt obligations in forbearance or mortgage-related obligations, as part of consideration of the debt-to-income deferral. Several commenters, including the ability-to-repay determination under ratio or residual income in the ability- both creditors and consumer advocates, TILA section 129C(a)(1). This provision to-repay determination. Several industry supported requiring creditors to is consistent with the 2008 HOEPA commenters asked that the Bureau consider obligations in forbearance or Final Rule, which grants a creditor in a provide creditors more flexibility in deferral. At least one large creditor high-cost or higher-priced mortgage loan considering and verifying the debt-to- objected to requiring creditors to a presumption of compliance with the income ratio or residual income. They consider such obligations in all cases. requirement that the creditor assess suggested that a reasonable and good The Bureau believes that many different repayment ability if, among other faith determination be deemed standards for considering obligations in things, the creditor considers the sufficient, rather than use of all forbearance or deferral could lead to consumer’s debt-to-income ratio or underwriting standards in any reasonable, good faith determinations of residual income. See particular government or non- ability to repay. As adopted, comment § 1026.34(a)(4)(iii)(C), (b)(1). Existing government handbook. Community 43(c)(2)(vi)–1 therefore includes comment 34(a)(4)(iii)(C)–1 provides that banks asserted that flexible standards additional language clarifying that creditors may look to widely accepted are necessary to meet their customers’ creditors should consider whether debt governmental and non-governmental needs. Some consumer advocates obligations in forbearance or deferral at underwriting standards in defining suggested that creditors be permitted the time of underwriting are likely to ‘‘income’’ and ‘‘debt’’ including, for only to draw on widely accepted

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standards that have been validated by § 1026.43(c). For a discussion of the a consumer’s credit history, whether experience or sanctioned by a quantitative debt-to-income standard positive or negative, may not be directly government agency. They argued that that applies to qualified mortgages indicative of the consumer’s ability to more specific standards would help pursuant to § 1026.43(e)(2) and the repay and that a creditor therefore may ensure safe and sound underwriting rationale for applying a quantitative give various aspects of a consumer’s criteria, higher compliance rates, and a standard in the qualified mortgage credit history as much or as little weight larger number of performing loans. space, see the section-by-section as is appropriate to reach a reasonable, Section 1026.43(c)(2)(vii) adopts the analysis of § 1026.43(e)(2). good faith determination of ability to Board’s proposal by requiring a creditor repay. The Bureau believes that this 43(c)(2)(viii) making the repayment determination flexible approach is appropriate because under § 1026.43(c)(1) to consider the TILA section 129C(a)(1) and (3) of the wide range of creditors, consumer’s monthly debt-to-income requires creditors to consider credit consumers, and loans to which the rule ratio or residual income, in accordance history as part of the ability-to-repay will apply. The Bureau believes that a with § 1026.43(c)(7). The Bureau determination. Proposed wide range of approaches to considering believes that a flexible approach to § 226.43(c)(2)(viii) would have credit history will contribute to evaluating a consumer’s debt-to-income implemented the requirement under reasonable, good faith ability-to-repay ratio or residual income is appropriate TILA section 129C(a)(1) and (3) by determinations. As in the proposal, the because stricter guidelines may limit adopting the statutory requirement that comment, as adopted, clarifies that access to credit and create fair lending creditors consider credit history as part creditors may look to non-traditional problems. Broad guidelines will provide of an ability-to-repay determination. credit references such as rental payment creditors necessary flexibility to serve Proposed comment 43(c)(2)(viii)–1 history or public utility payments, but the whole of the mortgage market would have referred creditors to widely are not required to do so. Reference to effectively and responsibly. accepted governmental and non- widely accepted governmental and non- Accordingly, the final rule sets governmental underwriting standards to governmental underwriting standards minimum underwriting standards while define credit history. The proposed has been omitted, as discussed in the providing creditors with flexibility to comment would have given examples of section-by-section analysis of use their own reasonable guidelines in factors creditors could consider, such as § 1026.43(c), above. making the repayment ability the number and age of credit lines, Portions of proposed comment determination required by payment history, and any judgments, 43(c)(2)(viii)–1 discussed verification of § 1026.43(c)(1). Moreover, and as in the collections, or bankruptcies. The credit history. All guidance regarding 2008 HOEPA Final Rule, the approach proposed comment also would have verification has been moved to the would provide creditors flexibility to referred creditors to credit bureau commentary to § 1026.43(c)(3) and is determine whether to use a debt-to- reports or to nontraditional credit discussed below in the section-by- income ratio or residual income, or references such as rental payment section analysis of that provision. both, in assessing a consumer’s history or public utility payments. Because the Bureau believes that the repayment ability. Commenters generally did not object credit history of all joint applicants As discussed above in the section-by- to the proposed adoption of the must be considered to reach a section analysis of § 1026.43(c), the statutory requirement to consider credit reasonable, good faith determination of Bureau is not finalizing the Board’s history as part of ability-to-repay joint applicants’ ability to repay, and for proposed comment 43(c)–1 regarding determinations. Commenters generally conformity with the commentary to the use of widely accepted supported giving creditors significant § 1026.43(c)(2)(vi) regarding governmental or non-governmental flexibility in how to consider credit consideration of current debt obligations underwriting standards in evaluating history. Creditors also generally for multiple applicants, the Bureau is the consumer’s repayment ability. supported clarifying that creditors may adopting new comment 43(c)(2)(viii)–2 Instead, for the reasons discussed above, look to nontraditional credit references regarding multiple applicants. The comment 43(c)(2)–1 provides that the such as rental payment history or public comment clarifies that, when two or rule and commentary permit creditors to utility payments. more consumers apply jointly for credit, adopt reasonable standards for Section 1026.43(c)(2)(viii) is adopted the creditor is required by evaluating factors in underwriting a as proposed. Comment 43(c)(2)(viii)–1 § 1026.43(c)(2)(viii) to consider the loan, such as whether to classify as adopted substantially maintains the credit history of all joint applicants. particular inflows or obligations as proposed comment’s flexible approach New comment 43(c)(2)(viii)–2 also ‘‘income’’ or ‘‘debt,’’ and that, in to consideration of credit history. clarifies that creditors are not required evaluating a consumer’s repayment Comment 43(c)(2)(viii)–1 notes that to consider the credit history of a ability, a creditor may look to ‘‘credit history’’ may include factors consumer who acts merely as a surety governmental underwriting standards. such as the number and age of credit or guarantor. Finally, the comment See section-by-section analysis of lines, payment history, and any clarifies that the requirements of § 1026.43(c)(2). judgments, collections, or bankruptcies. § 1026.43(c)(2)(viii) do not affect various The Bureau believes a flexible The comment clarifies that the rule does disclosure requirements. approach to evaluating debt and income not require creditors to obtain or is appropriate in making the repayment consider a consolidated credit score or 43(c)(3) Verification Using Third-Party ability determination under prescribe a minimum credit score that Records § 1026.43(c). However, for the reasons creditors must apply. The comment TILA section 129C(a)(1) requires that discussed below, the Bureau believes a further clarifies that the rule does not a creditor make a reasonable and good quantitative standard for evaluating a specify which aspects of credit history faith determination, based on ‘‘verified consumer’s debt-to-income ratio should a creditor must consider or how various and documented information,’’ that a apply to loans that are ‘‘qualified aspects of credit history could be consumer has a reasonable ability to mortgages’’ that receive a safe harbor or weighed against each other or against repay the covered transaction. The presumption of compliance with the other underwriting factors. The Board’s 2008 HOEPA Final Rule repayment ability determination under comment explains that some aspects of required that a creditor verify the

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consumer’s income or assets relied on to prepared by the consumer and not technical revisions. In addition, the determine repayment ability and the reviewed by a third party appropriately Bureau is adopting proposed comments consumer’s current obligations under could be considered in determining 43(c)(3)–1 and –2 substantially as § 1026.34(a)(4)(ii)(A) and (C). Thus, repayment ability, for example, because proposed with revisions to clarify that TILA section 129C(a)(1) differs from a particular record provides information the guidance applies to both existing repayment ability rules by not obtainable using third-party records. § 1026.43(c)(3) and (c)(4). requiring a creditor to verify In particular, the Board solicited The Bureau is adding new comment information relied on in considering the comment on methods currently used to 43(c)(3)–3 to clarify that a credit report consumer’s ability to repay according to ensure that documents prepared by self- generally is considered a reasonably the considerations required under TILA employed consumers (such as a year-to- reliable third-party record. The Board’s section 129C(a)(3), which are discussed date profit and loss statement for the proposed comment 43(c)(2)(vi)–2 stated, above in the section-by-section analysis period after the period covered by the among other things, that a credit report of § 1026.43(c)(2). consumer’s latest income tax return, or is deemed a reasonably reliable third- The Board’s proposal would have an operating income statement prepared party record under proposed implemented TILA section 129C(a)(1)’s by a consumer whose income includes § 226.43(c)(3). Commenters did not general requirement to verify a rental income) are reasonably reliable address that aspect of proposed consumer’s repayment ability in for use in determining repayment comment 43(c)(2)(vi)–2. The Bureau proposed § 226.43(c)(3), which required ability. believes credit reports are generally that a creditor verify a consumer’s Commenters generally supported the reasonably reliable third-party records repayment ability using reasonably Board’s proposal to implement the for verification purposes. Comment reliable third-party records, with two Dodd-Frank Act’s verification 43(c)(3)–3 also explains that a creditor exceptions. Under the first exception, requirements. Consumer groups is not generally required to obtain proposed § 226.43(c)(3)(i) provided that generally found the proposal to be an additional reasonably reliable third- a creditor may orally verify a accurate implementation of the statute party records to verify information consumer’s employment status, if the and posited that the proposal would contained in a credit report, as the creditor subsequently prepares a record provide much-needed protection for report itself is the means of verification. of the oral employment status consumers. Industry commenters Likewise, comment 43(c)(3)–3 explains verification. Under the second generally also supported the proposal, that if information is not included in the exception, proposed § 226.43(c)(3)(ii) noting that most underwriters already credit report, then the credit report provided that, in cases where a creditor engaged in similarly sound cannot serve as a means of verifying that relies on a consumer’s credit report to underwriting practices. Some industry information. The comment further verify a consumer’s current debt commenters noted that verifying a explains, however, that if the creditor obligations and the consumer’s consumer’s employment status imposes may know or have reason to know that application states a current debt a burden upon the consumer’s employer a credit report is not reasonably reliable, obligation not shown in the consumer’s as well, however the Bureau has in whole or in part, then the creditor credit report, the creditor need not concluded that the oral verification complies with § 1026.43(c)(3) by independently verify the additional debt provision provided by disregarding such inaccurate or obligation, as reported. Proposed § 1026.43(c)(3)(ii), discussed below, disputed items or reports. The creditor comment 43(c)(3)–1 clarified that alleviates such concerns. may also, but is not required, to obtain records a creditor uses to verify a The Bureau is adopting other reasonably reliable third-party consumer’s repayment ability under § 1026.43(c)(3) substantially as records to verify information with proposed § 226.43(c)(3) must be specific proposed, with certain clarifying respect to which the credit report, or to the individual consumer. Records changes which are described below. The item therein, may be inaccurate. The regarding, for example, average incomes final rule also adds new comment Bureau believes that this guidance in the consumer’s geographic location or 43(c)(3)–3. In addition, for strikes the appropriate balance between average incomes paid by the consumer’s organizational purposes, the final rule acknowledging that in many cases, a employer would not be specific to the generally adopts proposed comments credit report is a reasonably reliable individual consumer and are not 43(c)(2)(iv)–4, 43(c)(2)(v)–4, third-party record for verification and sufficient. 43(c)(2)(vi)–1, 43(c)(2)(viii)–1, and documentation for many creditors, but Proposed comment 43(c)(3)–2 43(c)(2)(ii)–2 in renumbered comments also that a credit report may be subject provided that a creditor may obtain 43(c)(3)–4 through –8 with revisions as to a fraud alert, extended alert, active third-party records from a third-party discussed below. These changes and duty alert, or similar alert identified in service provider, as long as the records additions to § 1026.43(c)(3) and its 15 U.S.C. 1681c–1, or may contain debt are reasonably reliable and specific to commentary are discussed below. obligations listed on a credit report is the individual consumer. As stated in First, the final rule adds a new subject to a statement of dispute § 1026.43(c)(3), the standard for § 1026.43(c)(3)(i), which provides that, pursuant to 15 U.S.C. 1681i(b). verification is that the creditor must use for purposes of § 1026.43(c)(2)(i), a Accordingly, for the reasons discussed ‘‘reasonably reliable third-party creditor must verify a consumer’s above, the Bureau is adopting new records,’’ which is fulfilled for income or assets in accordance with comment 43(c)(3)–3. reasonably reliable documents, specific § 1026.43(c)(4). This is an exception to As noted above, the Bureau is to the consumer, provided by a third- the general rule in § 1026.43(c)(3) that a adopting proposed comment party service provider. Also, proposed creditor must verify the information that 43(c)(2)(iv)–4 as comment 43(c)(3)–4 for comment 43(c)(3)–2 clarified that a the creditor relies on in determining a organizational purposes. The Board creditor may obtain third-party records, consumer’s repayment ability under proposed comment 43(c)(2)(iv)–4 to for example, payroll statements, directly § 1026.43(c)(2) using reasonably reliable explain that although a creditor could from the consumer, again as long as the third-party records. Because of this new use a credit report to verify current records are reasonably reliable. provision, proposed § 226.43(c)(3)(i) and obligations, the report would not reflect The Board also solicited comment on (ii) are adopted as proposed in a simultaneous loan that has not yet whether any documents or records § 1026.43(c)(3)(ii) and (iii), with minor been consummated or has just recently

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been consummated. Proposed comment industry commenters asked that the association billing statements provided 43(c)(2)(iv)–2 clarified that if the Bureau provide creditors more by the seller to verify other information creditor knows or has reason to know flexibility in considering and verifying in a record provided by an entity that there will be a simultaneous loan mortgage-related obligations. Several assessing charges, such as a extended at or before consummation, consumer advocate commenters homeowners association. Comment then the creditor may verify the discussed the importance of verifying 43(c)(3)–5 further illustrates that records simultaneous loan by obtaining third- mortgage-related obligations based on are reasonably reliable if the party verification from the third-party reliable records, noting that inadequate, information in the record was obtained creditor of the simultaneous loan. The or non-existent, verification measures from a valid and legally executed proposed comment provided, as an played a significant part in the subprime contract, such as a ground rent example, that the creditor may obtain a crisis. Industry commenters agreed that agreement. Comment 43(c)(3)–5 also copy of the promissory note or other verification was appropriate, but these clarifies that other records may be written verification from the third-party commenters also stressed the reasonably reliable if the creditor can creditor in accordance with widely importance of clear and detailed demonstrate that the source provided accepted governmental or non- guidance. Several commenters were the information objectively. governmental standards. In addition, concerned about the meaning of The Board’s proposal solicited proposed comment 43(c)(2)(iv)–2 cross- ‘‘reasonably reliable records’’ in the comment regarding whether the HUD–1, referenced comments 43(c)(3)–1 and –2, context of mortgage-related obligations. or similar successor document, should which discuss verification using third- Some commenters asked the Bureau to be considered a reasonably reliable party records. The Bureau generally did designate certain items as reasonably record. The Board noted, and not receive comment with respect to reliable, such as taxes referenced in a commenters confirmed, that the HUD–1, this proposed comment; however, at title report, statements of common HUD–1A, or successor form might be a least one commenter supported the expenses provided by community reasonably reliable record because a example that a promissory note would associations, or items identified in the legal obligation exists to complete the serve as appropriate documentation for HUD–1 or HUD–1A. form accurately. Although the Bureau verifying a simultaneous loan. The The Bureau is adopting proposed agrees with these considerations, the Bureau is adopting proposed comment comment 43(c)(2)(v)–4 as comment Bureau does not believe that a 43(c)(2)(iv)–4 as comment 43(c)(3)–4 43(c)(3)–5 with revision to provide document provided in final form at with the following amendment. For further explanation of its approach to consummation, such as the HUD–1, consistency with other aspects of the verifying mortgage-related obligations. should be used for the purposes of rule, comment 43(c)(3)–4 does not While the reasonably reliable standard determining ability to repay pursuant to include the Board’s proposed reference contains an element of subjectivity, the § 1026.43(c)(2)(v). The Bureau expects to widely accepted governmental or Bureau concludes that this flexibility is the ability-to-repay determination to be non-governmental standards. necessary. The Bureau believes that it is conducted in advance of consummation. The Board proposed comment important to craft a regulation with the It therefore may be impractical for a 43(c)(2)(v)–4, which stated that creditors flexibility to accommodate an evolving creditor to rely on a document that is must make the repayment ability mortgage market. The Bureau produced in final form at, or shortly determination required under proposed determines that the reasonably reliable before, consummation for verification § 226.43(c) based on information standard is appropriate in this context purposes. The Bureau is also concerned verified from reasonably reliable given the nature of the items that are that real estate transactions may be records. The Board solicited comment defined as mortgage-related obligations. needlessly disrupted or delayed if on any special concerns regarding the Thus, comment 43(c)(3)–5 incorporates creditors delay determining the requirement to document certain by reference comments 43(c)(3)–1 and consumer’s ability to repay until the mortgage-related obligations, for –2. Mortgage-related obligations refer to HUD–1, or similar successor document, example, ground rent or leasehold a limited set of charges, such as is prepared. Given these concerns, and payments, or special assessments. The property taxes and lease payments, strictly as a matter of policy, the Bureau Board also solicited comment on which a creditor can generally verify does not wish to encourage the use of whether it should provide that the from an independent or objective the HUD–1, or similar successor HUD–1 or –1A or a successor form source. Thus, in the context of document, for the purposes of could serve as verification of mortgage- mortgage-related obligations this determining a consumer’s ability to related obligations reflected by the form, standard provides certainty while being repay, and the Bureau is not specifically where a legal obligation exists to sufficiently flexible to adapt as designating the HUD–1 as a reasonably complete the HUD–1 or –1A accurately. underwriting practices develop over reliable record in either To provide additional clarity, the time. § 1026.43(c)(2)(v) or related Bureau is moving guidance that To address the concerns raised by commentary, such as comment 43(c)(3)– discusses verification, including several commenters, the Bureau is 5. However, the Bureau acknowledges proposed comment 43(c)(2)(v)–4, as part providing further clarification in that the HUD–1, HUD–1A, or similar of the section-by-section analysis of, and 43(c)(3)–5 to provide detailed guidance successor document may comply with commentary to, § 1026.43(c)(3). and several examples illustrating these § 1026.43(c)(3). Additional comments from the Board’s requirements. For example, comment The Board proposed comment proposal with respect to mortgage- 43(c)(3)–5 clarifies that records are 43(c)(2)(vi)–1, which discussed both related obligations are in the section-by- reasonably reliable for purposes consideration and verification of current section analysis of § 1026.43(c)(2)(v), § 1026.43(c)(2)(v) if the information in debt obligations. The Bureau discusses above. the record was provided by a portions of proposed comment Industry commenters and consumer governmental organization, such as a 43(c)(2)(vi)–1, regarding consideration advocates generally supported including taxing authority or local government. of current debt obligations, in the consideration and verification of Comment 43(c)(3)–5 also explains that a section-by-section analysis of mortgage-related obligations in the creditor complies with § 1026.43(c)(2)(v) § 1026.43(c)(2)(vi). As noted above, for ability-to-repay determination. Several if it relies on, for example, homeowners organizational purposes and to provide

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additional clarity, however, the Bureau The Board proposed comment military personnel have built their own is moving guidance that discusses 43(c)(2)(viii)–1, which discussed both expertise in determining the reliability verification, including portions of the consideration and verification of of using the Leave and Earnings proposed comment 43(c)(2)(vi)–1, as credit history. The Bureau discusses Statement. These commenters argued part of the commentary to portions of proposed comment that using a Leave and Earnings § 1026.43(c)(3). With respect to 43(c)(2)(viii)–1, those regarding Statement is as reliable a means of verification, proposed comment consideration of credit history, in the verifying the employment status of 43(c)(2)(vi)–1 stated that: (1) In section-by-section analysis of military personnel as using a payroll determining how to verify current debt § 1026.43(c)(2)(viii). However, the statement to verify that employment obligations, a creditor may look to Bureau is moving guidance on status of a civilian. widely accepted governmental and verification, including portions of Accordingly, the Bureau is adopting nongovernmental underwriting proposed comment 43(c)(2)(viii)–1, to proposed comment 43(c)(2)(ii)–2 as standards; and (2) a creditor may, for § 1026.43(c)(3) and its commentary. comment 43(c)(3)–8, for organizational example, look to credit reports, student Regarding verification, proposed purposes, with the following additional loan statements, automobile loan comment 43(c)(2)(viii)–1 stated that: (1) clarification. Comment 43(c)(3)–8 statements, credit card statements, Creditors may look to widely accepted clarifies that a creditor may verify alimony or child support court orders governmental and nongovernmental military employment by means of a and existing mortgage statements. underwriting standards to determine military Leave and Earnings Statement. Commenters did not provide the Bureau how to verify credit history; and (2) a Therefore, comment 43(c)(3)–8 provides with significant comment with respect creditor may, for example, look to credit that a creditor may verify the employment status of military personnel to this proposal, although at least one reports from credit bureaus, or other by using either a military Leave and large bank commenter specifically urged nontraditional credit references Earnings Statement or by using the the Bureau to allow creditors to verify contained in third-party documents, electronic database maintained by the current debt obligations using a credit such as rental payment history or public DoD. report. For the reasons discussed below, utility payments to verify credit history. Commenters did not object to the The Board solicited comment on the Bureau is adopting, in relevant part, Board’s proposed approach to whether a creditor might appropriately proposed comment 43(c)(2)(vi)–1 as verification of credit history. The verify a consumer’s repayment ability comment 43(c)(3)–6. The Bureau Bureau is adopting this approach under using any documents or records believes that the proposed guidance comment 43(c)(3)–7 with the following prepared by the consumer and not regarding verification using statements exception. References to widely reviewed by a third party, perhaps and orders related to individual accepted governmental and because a particular record might obligations could be misinterpreted as nongovernmental underwriting provide information not obtainable implying that credit reports are not standards have been removed, as using third-party records. The Bureau sufficient verification of current debt discussed above in the section-by- did not receive sufficient indication that obligations and that creditors must section analysis of § 1026.43(c). Portions such records would qualify as obtain statements and other of proposed comment 43(c)(2)(viii)–1 reasonably reliable and has thus not documentation pertaining to each regarding verification are otherwise added additional regulatory text or individual obligation. Comment adopted substantially as proposed in commentary to allow for the use of such 43(c)(3)–6 therefore explains that a new comment 43(c)(3)–7. records. However, a creditor using creditor is not required to further verify The Board proposed comment reasonable judgment nevertheless may the existence or amount of the 43(c)(2)(ii)–2 to clarify that a creditor determine that such information is obligation listed in a credit report, also may verify the employment status useful in verifying a consumer’s ability absent circumstances described in of military personnel using the to repay. For example, the creditor may comment 43(c)(3)–3. The Bureau electronic database maintained by the consider and verify a self-employed believes that a credit report is a DoD to facilitate identification of consumer’s income from the consumer’s reasonably reliable third-party record consumers covered by credit protections 2013 income tax return, and the and is sufficient verification of current provided pursuant to 10 U.S.C. 987, also consumer then may offer an unaudited debt obligations in most cases. The known as the ‘‘Talent Amendment.’’ 109 year-to-date profit and loss statement Bureau also believes that this approach The Board also sought additional that reflects significantly lower expected is reflected in the Board’s proposal. For comment as to whether creditors needed income in 2014. The creditor might example, proposed comment additional flexibility in verifying the reasonably use the lower 2014 income 43(c)(2)(vi)–2 stated that a credit report employment status of military figure as a more conservative method of is a reasonably reliable third-party personnel, such as by verifying the underwriting. However, should the record; and proposed § 1026.43(c)(3)(ii) employment status of a member of the unverified 2014 income reflect indicated that a creditor could rely on military using a Leave and Earnings significantly greater income than the a consumer’s credit report to verify a Statement. income tax return showed for 2013, a consumer’s current debt obligations. Industry commenters requested that creditor instead would verify this Unlike proposed comment 43(c)(2)(vi)– the Bureau provide additional flexibility information in accordance with 1, comment 43(c)(3)–6 does not include for creditors to verify military § 1026.43(c)(4). reference to widely accepted employment. For example, some governmental and nongovernmental industry commenters noted that a Leave 43(c)(4) Verification of Income or Assets underwriting standards for consistency and Earnings Statement was concrete TILA section 129C(a)(4) requires that with the amendments in other parts of evidence of employment status and a creditor verify amounts of income or the rule. To understand the Bureau’s income for military personnel and other assets that a creditor relied upon to approach to verification standards, see industry commenters stated that determine repayment ability by the section-by-section analysis, institutions that frequently work with reviewing the consumer’s Internal commentary, and regulation text of Revenue Service (IRS) Form W–2, tax § 1026.43(c) and § 1026.43(c)(1) above. 109 See supra note 105. returns, payroll statements, financial

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institution records, or other third-party concerns is self-explanatory; a creditor repay a covered transaction using third- documents that provide reasonably need not, by virtue of the requirements party records that provide reasonably reliable evidence of the consumer’s of § 1026.43(c)(4), require a consumer to reliable evidence of the consumer’s income or assets. TILA section produce an IRS Form W–2 in order to income or assets. Section 1026.43(c)(4) 129C(a)(4) further provides that, in verify income. Some industry further provides a list of illustrative order to safeguard against fraudulent commenters argued that the Bureau examples of methods of verifying a reporting, any consideration of a should also permit creditors to verify consumer’s income or asserts using consumer’s income history must information for certain applicants, such reasonably reliable third-party records. include the verification of income using as the self-employed, by using non-third Such examples include: (1) Copies of either (1) IRS transcripts of tax returns; party reviewed documents, arguing it tax returns the consumer filed with the or (2) an alternative method that quickly would reduce costs for consumers. The IRS or a State taxing authority; (2) IRS and effectively verifies income Bureau does not find such justification Form W–2s or similar IRS forms for documentation by a third-party, subject to be persuasive, as other widely reporting wages or tax withholding; (3) to rules prescribed by the Board, and available documents, such as financial payroll statements, including military now the Bureau. TILA section institution records or tax records, could Leave and Earnings Statements; (4) 129C(a)(4) is similar to existing easily serve as means of verification financial institution records; (5) records § 1026.34(a)(4)(ii)(A), adopted by the without imposing significant cost to the from the consumer’s employer or a third Board’s 2008 HOEPA Final Rule, consumer or creditor. See also the party that obtained consumer-specific although TILA section 129C(a)(4)(B) discussion of comment 43(b)(13)(i)–1, income information from the provides for the alternative methods of addressing third-party records. consumer’s employer; (6) records from a third-party income documentation Some industry commenters government agency stating the (other than use of an IRS tax-return advocated, in addition, that creditors be consumer’s income from benefits or transcript) to be both ‘‘reasonably allowed to employ broader, faster entitlements, such as a ‘‘proof of reliable’’ and to ‘‘quickly and sources of income verification, such as income’’ letter issued by the Social effectively’’ verify a consumer’s income. internet-based tools that employ Security Administration; (7) check The Board proposed to implement TILA aggregate employer data, or be allowed cashing receipts; and (8) receipts from a section 129C(a)(4)(B), adjusting the to rely on statistically qualified models consumer’s use of funds transfer requirement to (1) require the creditor to to estimate income or assets. The services. The Bureau also believes that use reasonably reliable third-party Bureau, however, believes that by providing such examples of records, consistent with TILA section permitting creditors to use statistical acceptable records, the Bureau enables 129C(a)(4), rather than the ‘‘quickly and models or aggregate data to verify creditors to quickly and effectively effectively’’ standard of TILA section income or assets would be contrary to verify a consumer’s income, as provided 129C(a)(4)(B); and (2) provide examples the purposes of TILA section 129C(a)(4). in TILA section 129C(a)(4)(B). of reasonably reliable records that a Although the statute uses the words Comment 43(c)(4)–1 clarifies that creditor can use to efficiently verify ‘‘quickly and effectively,’’ these words under § 1026.43(c)(4), a creditor need income, as well as assets. As discussed cannot be read in isolation, but should verify only the income or assets relied in the Board’s proposal, the Board instead be read in context of the entirety upon to determine the consumer’s proposed these adjustments pursuant to of TILA section 129C(a)(4). As noted repayment ability. Comment 43(c)(4)–1 above, the Bureau believes that TILA also provides an example where the its authority under TILA sections 105(a) section 129C(a)(4) is primarily intended creditor need not verify a consumer’s and 129B(e). The Board believed that to safeguard against fraudulent reporting annual bonus because the creditor relies considering reasonably reliable records and inaccurate underwriting, rather on only the consumer’s salary to effectuates the purposes of TILA section than accelerate the process of verifying determine the consumer’s repayment 129C(a)(4), is an effective means of a consumer’s income, as the statute ability. This comment also clarifies that verifying a consumer’s income, and specifically notes that a creditor must comments 43(c)(3)–1 and –2, discussed helps ensure that consumers are offered verify a consumer’s income history ‘‘[i]n above, are instructive with respect to and receive loans on terms that order to safeguard against fraudulent income and asset verification. reasonably reflect their repayment reporting.’’ The Bureau further believes Comment 43(c)(4)–2 clarifies that, if ability. that permitting the use of aggregate data consumers jointly apply for a loan and Industry and consumer group or non-individualized estimates would each consumer lists his or her income commenters generally supported undermine the requirements to verify a or assets on the application, the creditor proposed § 226.43(c)(4) because the consumer’s income and to determine a need verify only the income or assets proposal would permit a creditor to use consumer’s ability to repay. Rather, the the creditor relies on to determine a wide variety of documented income Bureau believes that the statute requires repayment ability. Comment 43(c)(2)(i)– and/or asset verification methods, while verification of the amount of income or 5, discussed above, may also be maintaining the appropriate goal of assets relied upon using evidence of an instructive in cases of multiple ensuring accurate verification individual’s income or assets. applicants. procedures. Some commenters For substantially the same reasons Comment 43(c)(4)–3 provides that a requested that the Bureau allow a stated in the Board’s proposal, the creditor may verify a consumer’s creditor to underwrite a mortgage based Bureau is adopting proposed income using an IRS tax-return on records maintained by a financial § 226.43(c)(4) and its accompanying transcript that summarizes the institution that show an ability to repay. commentary substantially as proposed information in the consumer’s filed tax Specifically, commenters raised in renumbered § 1026.43(c)(4), with return, another record that provides concerns with respect to customers who revisions for clarity. Accordingly, the reasonably reliable evidence of the may not have certain documents, such Bureau is implementing TILA section consumer’s income, or both. Comment as IRS Form W–2, because of their 129C(a)(4) in § 1026.43(c)(4), which 43(c)(4)–3 also clarifies that a creditor employment or immigration status. The provides that a creditor must verify the may obtain a copy of an IRS tax-return Bureau expects that § 1026.43(c)(4) amounts of income or assets it relies on transcript or filed tax return from a provides that the answer to such to determine a consumer’s ability to service provider or from the consumer,

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and the creditor need not obtain the amounts of the consumer’s income or TILA section 129C(a) requires, among copy directly from the IRS or other assets that the creditor relied upon in other things, that a creditor make a taxing authority. For additional determining the consumer’s repayment determination that a consumer ‘‘has a guidance, Comment 43(c)(4)–3 cross- ability were not materially greater than reasonable ability to repay’’ a residential references guidance on obtaining the amounts the creditor could have mortgage loan. TILA section records in comment 43(c)(3)–2. verified using third-party records at or 129C(a)(6)(D) provides the process for Finally, comment 43(c)(4)(vi)–1 states before consummation. Such an calculating the monthly payment that an example of a record from a affirmative defense, while not specified amount ‘‘[f]or purposes of making any Federal, State, or local government under TILA, would be consistent with determination under this subsection,’’ agency stating the consumer’s income the Board’s 2008 HOEPA Final Rule. i.e., subsection (a), for ‘‘any residential from benefits or entitlements is a ‘‘proof See § 1026.34(a)(4)(ii)(B).110 Consumer mortgage loan.’’ TILA section of income letter’’ (also known as a group commenters generally opposed an 129C(a)(6)(A) through (D) requires ‘‘budget letter,’’ ‘‘benefits letter,’’ or affirmative defense, arguing that such an creditors to make uniform assumptions ‘‘proof of award letter’’) from the Social allowance would essentially gut the when calculating the payment Security Administration. income and asset verification obligation for purposes of determining As discussed above, the Bureau is requirement provided by the rule. Other the consumer’s repayment ability for the adopting § 1026.43(c)(4) as enabling commenters noted that providing an covered transaction. Specifically, TILA creditors to quickly and effectively affirmative defense might result in section 129C(a)(6)(D)(i) through (iii) verify a consumer’s income, as provided confusion, and possible litigation, over provides that, when calculating the in TILA section 129C(a)(4)(B). In what the term ‘‘material’’ may mean, payment obligation that will be used to addition, for substantially the same and that a rule permitting an affirmative determine whether the consumer can rationale as discussed in the Board’s defense would need to define repay the covered transaction, the proposal, the Bureau is adopting materiality specifically, including from creditor must use a fully amortizing § 1026.43(c)(4) using its authority under whose perspective materiality should be payment schedule and assume that: (1) TILA section 105(a) to prescribe measured (i.e., the creditor’s or the The loan proceeds are fully disbursed regulations to carry out the purposes of consumer’s). Based on the comments on the date the loan is consummated; (2) TILA. One of the purposes of TILA received, the Bureau believes that an the loan is repaid in substantially equal, section 129C is to assure that consumers affirmative defense is not warranted. monthly amortizing payments for are offered and receive covered The Bureau believes that permitting an principal and interest over the entire transactions on terms that reasonably affirmative defense could result in term of the loan with no balloon reflect their ability to repay the loan. circumvention of the § 1026.43(c)(4) payment; and (3) the interest rate over See TILA section 129B(a)(2). The verification requirement. For the the entire term of the loan is a fixed rate Bureau believes that a creditor reasons stated, the Bureau is not equal to the fully indexed rate at the consulting reasonably reliable records is adopting an affirmative defense for a time of the loan closing, without an effective means of verifying a creditor that can show that the amounts considering the introductory rate. The consumer’s income and helps ensure of the consumer’s income or assets that term ‘‘fully indexed rate’’ is defined in that consumers are offered and receive the creditor relied upon in determining TILA section 129C(a)(7). loans on terms that reasonably reflect the consumer’s repayment ability were TILA section 129C(a)(6)(D)(ii)(I) and their repayment ability. The Bureau (II), however, provides two exceptions not materially greater than the amounts further believes that TILA section to the second assumption regarding the creditor could have verified using 129C(a)(4) is intended to safeguard ‘‘substantially equal, monthly payments third-party records at or before against fraudulent or inaccurate over the entire term of the loan with no consummation. reporting, rather than to accelerate the balloon payment’’ for loans that require creditor’s ability to verify a consumer’s 43(c)(5) Payment Calculation ‘‘more rapid repayment (including income. Indeed, the Bureau believes The Board proposed § 226.43(c)(5) to balloon payment).’’ First, this statutory that there is a risk that requiring a implement the payment calculation provision authorizes the Bureau to creditor to use quick methods to verify requirements of TILA section 129C(a), prescribe regulations for calculating the the consumer’s income would as enacted by section 1411 of the Dodd- payment obligation for loans that undermine the effectiveness of the require more rapid repayment Frank Act. TILA section 129C(a) ability-to-repay requirements by (including balloon payment), and which contains the general requirement that a sacrificing thoroughness for speed. The have an annual percentage rate that does creditor determine the consumer’s Bureau believes instead that requiring not exceed the threshold for higher- ‘‘ability to repay the loan, according to the use of reasonably reliable records priced mortgage loans. TILA section its terms, and all applicable taxes, effectuates the purposes of TILA section 129C(a)(6)(D)(ii)(I). Second, for loans insurance (including mortgage 129C(a)(4) without suggesting that that ‘‘require more rapid repayment guarantee insurance), and assessments,’’ creditors must obtain records or (including balloon payment),’’ and based on several considerations, complete income verification within a which exceed the higher-priced including ‘‘a payment schedule that specific period of time. The Bureau is mortgage loan threshold, the statute adopting the examples of reasonably fully amortizes the loan over the term of requires that the creditor use the loan reliable records, proposed by the Board, the loan.’’ TILA section 129C(a)(1) and contract’s repayment schedule. TILA that a creditor may use to efficiently (3). The statutory requirement to section 129C(a)(6)(D)(ii)(II). The statute verify income or assets, because the consider mortgage-related obligations, does not define the term ‘‘rapid Bureau believes that it will facilitate as defined in § 1026.43(b)(8), is repayment.’’ compliance by providing clear guidance discussed above in the section-by- The statute also provides three to creditors. section analysis of § 1026.43(c)(2)(v). additional clarifications to the The Bureau notes that the Board assumptions stated above for loans that 110 The Bureau’s 2012 HOEPA Proposal proposed proposal solicited comment on whether to amend this subsection, though not in a manner contain certain features. First, for it should provide an affirmative defense that affected the overall effect of an affirmative variable-rate loans that defer repayment for a creditor that can show that the defense. See 77 FR 49090, 49153 (Aug. 15, 2012). of any principal or interest, TILA

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section 129C(a)(6)(A) states that for payment obligations calculated using indexed rate,’’ which were defined purposes of the repayment ability the fully indexed rate, with no limit on separately under proposed determination a creditor must use ‘‘a the term of the loan that should be § 226.43(b)(2) and (3), respectively, as fully amortizing repayment schedule.’’ considered for such purpose; (2) the discussed above. Proposed comment This provision generally reiterates the statute permits underwriting loans with 43(c)(5)(i)–1 clarified that the general requirement provided under TILA balloon payments to differ depending rule would apply whether the covered section 129C(a)(3) to use a payment on whether the loan’s annual percentage transaction is an adjustable-, step-, or schedule that fully amortizes the loan. rate exceeds the applicable loan pricing fixed-rate mortgage, as those terms are Second, for covered transactions that benchmark, or meets or falls below the defined in § 1026.18(s)(7)(i), (ii), and permit or require interest-only applicable loan pricing benchmark; and (iii), respectively. payments, the statute requires that the (3) the statute expressly addresses Proposed § 226.43(c)(5)(ii)(A) through creditor determine the consumers’ underwriting requirements for loans (C) created exceptions to the general repayment ability using ‘‘the payment with interest-only payments or negative rule and provided special rules for amount required to amortize the loan by amortization. calculating the payment obligation for its final maturity.’’ TILA section In 2006 and 2007 the Board and other balloon-payment mortgages, interest- 129C(a)(6)(B). Third, for covered Federal banking agencies addressed only loans or negative amortization transactions with negative amortization, concerns regarding the increased risk to loans, as follows: Balloon-payment mortgages. the statute requires the creditor to also creditors and consumers presented by Consistent with TILA section take into account ‘‘any balance increase loans that permit consumers to defer 129C(a)(6)(D)(ii)(I) and (II), for covered that may accrue from any negative repayment of principal and sometimes amortization provision’’ when making transactions with a balloon payment, interest, and by adjustable-rate proposed § 226.43(c)(5)(ii)(A) provided the repayment ability determination. mortgages in the subprime market. The TILA section 129C(a)(6)(C). The statute special rules that differed depending on Interagency Supervisory Guidance the loan’s rate. Proposed does not define the terms ‘‘variable- stated that creditors should determine a rate,’’ ‘‘fully amortizing,’’ ‘‘interest- § 226.43(c)(5)(ii)(A)(1) stated that for consumer’s repayment ability using a covered transactions with a balloon only,’’ or ‘‘negative amortization.’’ payment amount based on the fully Proposed § 226.43(c)(5)(i) and (ii) payment that are not higher-priced indexed rate, assuming a fully implemented these statutory provisions, covered transactions, the creditor must amortizing schedule. In addition, the as discussed in further detail below. determine a consumer’s ability to repay TILA section 129C(a), as enacted by 2006 Nontraditional Mortgage Guidance the loan using the maximum payment section 1411 of the Dodd-Frank Act, addressed specific considerations for scheduled in the first five years after largely codifies many aspects of the negative amortization and interest-only consummation. Proposed repayment ability rule under loans. State supervisors issued parallel § 226.43(c)(5)(ii)(A)(2) further stated that § 1026.34(a)(4) from the Board’s 2008 statements to this guidance, which most for covered transactions with balloon HOEPA Final Rule and extends such states have adopted. TILA section payments that are higher priced covered requirements to the entire mortgage 129C(a)(3) and (6) is generally transactions, the creditor must market regardless of the loan’s interest consistent with this longstanding determine the consumer’s ability to rate. Similarly to § 1026.34(a)(4), the Interagency Supervisory Guidance and repay according to the loan’s payment statutory framework of TILA section largely extends the guidance regarding schedule, including any balloon 129C(a) focuses on prescribing the payment calculation assumptions to all payment. For clarity, proposed requirements that govern the loan types covered under TILA section § 226.43(c)(5)(ii)(A) used the term underwriting process and extension of 129C(a), regardless of a loan’s interest ‘‘higher-priced covered transaction’’ to credit to consumers, rather than rate. The Board proposed § 226.43(c)(5) refer to a covered transaction that dictating which credit terms may or may to implement the payment calculation exceeds the applicable higher-priced not be permissible. However, there are requirements of TILA section mortgage loan coverage threshold. differences between TILA section 129C(a)(1), (3) and (6) for purposes of ‘‘Higher-priced covered transaction’’ is 129C(a) and the 2008 HOEPA Final Rule the repayment ability determination defined in § 1026.43(b)(4), discussed with respect to payment calculation required under proposed § 226.43(c). above. The term ‘‘balloon payment’’ has requirements. Consistent with these statutory the same meaning as in current Current § 1026.34(a)(4) does not provisions, proposed § 226.43(c)(5) did § 1026.18(s)(5)(i). address how a creditor must calculate not prohibit the creditor from offering Interest-only loans. Consistent with the payment obligation for a loan that certain credit terms or loan features, but TILA section 129C(a)(6)(B) and (D), cannot meet the presumption of rather focused on the calculation proposed § 226.43(c)(5)(ii)(B) provided compliance under § 1026.34(a)(4)(iii)(B). process the creditor would be required special rules for interest-only loans. For example, § 1026.34(a)(4) does not to use to determine whether the Proposed § 226.43(c)(5)(ii)(B) required specify how to calculate the periodic consumer could repay the loan that the creditor determine the payment required for a negative according to its terms. Under the consumer’s ability to repay the interest- amortization loan or balloon-payment proposal, creditors generally would only loan using (1) the fully indexed mortgage with a term of less than seven have been required to determine a rate or the introductory rate, whichever years. In contrast, the Dodd-Frank Act consumer’s ability to repay a covered is greater; and (2) substantially equal, lays out a specific framework for transaction using the fully indexed rate monthly payments of principal and underwriting any loan subject to TILA or the introductory rate, whichever is interest that will repay the loan amount section 129C(a). In taking this approach, greater, to calculate monthly, fully over the term of the loan remaining as the statutory requirements in TILA amortizing payments that are of the date the loan is recast. For clarity, section 129C(a)(6)(D) addressing substantially equal, unless a special rule proposed § 226.43(c)(5)(ii)(B) used the payment calculation requirements differ applies. See proposed § 226.43(c)(5)(i). terms ‘‘loan amount’’ and ‘‘recast,’’ from § 1026.34(a)(4)(iii) in the following For clarity and simplicity, proposed which are defined and discussed under manner: (1) The statute generally § 226.43(c)(5)(i) used the terms ‘‘fully § 1026.43(b)(5) and (11), respectively. premises repayment ability on monthly amortizing payment’’ and ‘‘fully The term ‘‘interest-only loan’’ has the

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same meaning as in current further explained that the payment ‘‘loan amount’’ and ‘‘loan term’’ are § 1026.18(s)(7)(iv). calculation method set forth in defined in § 1026.43(b)(5) and (b)(6), Negative amortization loans. proposed § 226.43(c)(5)(ii) applied to respectively, and discussed above. Consistent with TILA section any covered transaction that is a loan The statute also expressly requires 129C(a)(6)(C) and (D), proposed with a balloon payment, interest-only that a creditor use ‘‘monthly amortizing § 226.43(c)(5)(ii)(C) provided special loan, or negative amortization loan. To payments’’ for purposes of the rules for negative amortization loans. facilitate compliance, this comment repayment ability determination. TILA Proposed § 226.43(c)(5)(ii)(C) required listed the defined terms used in section 129C(6)(D)(ii). The Board that the creditor determine the proposed § 226.43(c)(5) and provided recognized that some loan agreements consumer’s ability to repay the negative cross-references to their definitions. require consumers to make periodic amortization loan using (1) the fully The fully indexed rate or introductory payments with less frequency, for indexed rate or the introductory rate, rate, whichever is greater. Proposed example quarterly or semi-annually. whichever is greater; and (2) § 226.43(c)(5)(i)(A) implemented the Proposed § 226.43(c)(5)(i)(B) did not substantially equal, monthly payments requirement in TILA section dictate the frequency of payment under of principal and interest that will repay 129C(a)(6)(D)(iii) to use the fully the terms of the loan agreement, but did the maximum loan amount over the indexed rate when calculating the require creditors to convert the payment term of the loan remaining as of the date monthly, fully amortizing payment for schedule to monthly payments to the loan is recast. Proposed comment purposes of the repayment ability determine the consumer’s repayment 43(c)(5)(ii)(C)–1 clarified that for determination. Proposed ability. Proposed comment 43(c)(5)(i)–3 purposes of the rule, the creditor would § 226.43(c)(5)(i)(A) also provided that clarified that the general payment first have to determine the maximum when creditors calculate the monthly, calculation rules do not prescribe the loan amount and the period of time that fully amortizing payment for adjustable- terms or loan features that a creditor remains in the loan term after the loan rate mortgages, they would have to use may choose to offer or extend to a is recast. For clarity, proposed the introductory interest rate if it were consumer, but establish the calculation § 226.43(c)(5)(ii)(C) used the terms greater than the fully indexed rate (i.e., method a creditor must use to determine ‘‘maximum loan amount’’ and ‘‘recast,’’ a premium rate). In some adjustable-rate the consumer’s repayment ability for a which are defined and discussed under transactions, creditors may set an initial covered transaction. This comment § 1026.43(b)(7) and (11), respectively. interest rate that is not determined by explained, by way of example, that the The term ‘‘negative amortization loan’’ the index or formula used to make later terms of the loan agreement may require has the same meaning as in current interest rate adjustments. Sometimes that the consumer repay the loan in § 1026.18(s)(7)(v) and comment this initial rate charged to consumers is quarterly or bi-weekly scheduled 18(s)(7)–1. lower than the rate would be if it were payments, but for purposes of the determined by using the index plus repayment ability determination, the 43(c)(5)(i) General Rule margin, or formula (i.e., the fully creditor must convert these scheduled Proposed § 226.43(c)(5)(i) indexed rate). However, an initial rate payments to monthly payments in implemented the payment calculation that is a premium rate is higher than the accordance with proposed requirements in TILA section rate based on the index or formula. § 226.43(c)(5)(i)(B). This comment also 129C(a)(3), 129C(6)(D)(i) through (iii), Thus, requiring creditors to use only the explained that the loan agreement may and stated the general rule for fully indexed rate would result in not require the consumer to make fully calculating the payment obligation on a creditors underwriting loans that have a amortizing payments, but for purposes covered transaction for purposes of the ‘‘premium’’ introductory rate at a rate of the repayment ability determination ability-to-repay provisions. Consistent lower than the rate on which the the creditor must convert any non- with the statute, proposed consumer’s initial payments would be amortizing payments to fully amortizing § 226.43(c)(5)(i) provided that unless an based. The Board believed that requiring payments. exception applies under proposed creditors to assess the consumer’s Substantially equal. Proposed § 226.43(c)(5)(ii), a creditor must make ability to repay on the initial higher comment 43(c)(5)(i)–4 provided the repayment ability determination payments would better effectuate the additional guidance to creditors for required under proposed statutory intent and purpose. Proposed determining whether monthly, fully § 226.43(c)(2)(iii) by using the greater of comment 43(c)(5)(i)–2 provided amortizing payments are ‘‘substantially the fully indexed rate or any guidance on using the greater of the equal.’’ See TILA section introductory interest rate, and monthly, premium or fully indexed rate. 129C(a)(6)(D)(ii). This comment stated fully amortizing payments that are Monthly, fully amortizing payments. that creditors should disregard minor substantially equal. That is, under the For simplicity, proposed variations due to payment-schedule proposed general rule the creditor § 226.43(c)(5)(i) used the term ‘‘fully irregularities and odd periods, such as would calculate the consumer’s amortizing payment’’ to refer to the a long or short first or last payment monthly payment amount based on the statutory requirements that a creditor period. The comment explained that loan amount, and amortize that loan use a payment schedule that repays the monthly payments of principal and amount in substantially equal payments loan assuming that (1) the loan proceeds interest that repay the loan amount over over the loan term, using the fully are fully disbursed on the date of the loan term need not be equal, but that indexed rate. consummation of the loan; and (2) the the monthly payments should be Proposed comment 43(c)(5)(i)–1 loan is repaid in amortizing payments substantially the same without explained that the payment calculation for principal and interest over the entire significant variation in the monthly method set forth in proposed term of the loan. See TILA sections combined payments of both principal § 226.43(c)(5)(i) applied to any covered 129C(a)(3) and (6)(D)(i) and (ii). As and interest. Proposed comment transaction that does not have a balloon discussed above, § 1026.43(b)(2) defines 43(c)(5)(i)–4 further explained that payment or that is not an interest-only ‘‘fully amortizing payment’’ to mean a where, for example, no two monthly loan or negative amortization loan, periodic payment of principal and payments vary from each other by more whether it is a fixed-rate, adjustable-rate interest that will fully repay the loan than 1 percent (excluding odd periods, or step-rate mortgage. This comment amount over the loan term. The terms such as a long or short first or last

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payment period), such monthly remains available to consumers. See when calculating the particular payment payments would be considered TILA section 129B(a)(2), 15 U.S.C. for purposes of the repayment ability substantially equal for purposes of the 1639b(a)(2). determination. The Board was rule. The comment further provided Loan amount or outstanding principal concerned that the complexity of the that, in general, creditors should balance. As noted above, proposed proposed payment calculation determine whether the monthly, fully § 226.43(c)(5)(i) was consistent with the requirements might increase the amortizing payments are substantially statutory requirements regarding potential for unintentional errors to equal based on guidance provided in payment calculations for purposes of occur, making compliance difficult, current § 1026.17(c)(3) (discussing the repayment ability determination. especially for small creditors that might minor variations), and § 1026.17(c)(4)(i) The Board believed that the intent of be unable to invest in advanced through (iii) (discussing payment- these statutory requirements was to technology or software needed to ensure schedule irregularities and measuring prevent creditors from assessing the payment calculations are compliant. At odd periods due to a long or short first consumer’s repayment ability based on the same time, the Board noted that the period) and associated commentary. The understated payment obligations, intent of the statutory framework and proposal solicited comment on especially when risky features can be the proposal was to ensure consumers operational difficulties that arise by present on the loan. However, the Board are offered and receive loans on terms ensuring payment amounts meet the was concerned that the statute, as that they can reasonably repay. Thus, ‘‘substantially equal’’ condition. The implemented in proposed the Board solicited comment on proposal also solicited comment on § 226.43(c)(5)(i), would require creditors whether authority under TILA sections whether a 1 percent variance is an to determine, in some cases, a 105(a) and 129B(e) should be exercised appropriate tolerance threshold. consumer’s repayment ability using to provide a safe harbor for creditors Examples of payment calculations. overstated payment amounts because that use the largest scheduled payment Proposed comment § 226.43(c)(5)(i)–5 the creditor would have to assume that that can occur during the loan term to provided illustrative examples of how to the consumer repays the loan amount in determine the consumer’s ability to determine the consumer’s repayment substantially equal payments based on repay, to facilitate compliance with the ability based on substantially equal, the fully indexed rate, regardless of requirements under proposed monthly, fully amortizing payments as when the fully indexed rate could take § 226.43(c)(5)(i) and (ii). required under proposed effect under the terms of the loan. The § 226.43(c)(5)(i) for a fixed-rate, Board was concerned that this approach Final Rule adjustable-rate and step-rate mortgage. might restrict credit availability, even The final rule requires creditors to The Board recognized that, although where consumers were able to underwrite the loan at the premium rate consistent with the statute, the proposed demonstrate that they can repay the if greater than the fully indexed rate for framework would require creditors to payment obligation once the fully purposes of the repayment ability underwrite certain loans, such as hybrid indexed rate takes effect. determination using the authority under ARMs with a discounted rate period of For this reason, the proposal solicited TILA section 105(a). 15 U.S.C. 1604(a). five or more years (e.g., 5/1, 7/1, and 10/ comment on whether authority should TILA section 105(a), as amended by 1 ARMs) to a more stringent standard as be exercised under TILA sections 105(a) section 1100A of the Dodd-Frank Act, compared to the underwriting standard and 129B(e) to provide that the creditor provides that the Bureau’s regulations set forth in proposed § 226.43(e)(2)(v) may calculate the monthly payment may contain such additional for qualified mortgages.111 The Board using the fully indexed rate based on requirements, classifications, believed this approach was consistent the outstanding principal balance as of differentiations, or other provisions, and with the statute’s intent to ensure the date the fully indexed rate takes may provide for such adjustments and consumers can reasonably repay their effect under the loan’s terms, instead of exceptions for all or any class of loans, and that in both cases consumers’ the loan amount at consummation. transactions as in the Bureau’s judgment interests are properly protected. See Step-rate and adjustable-rate are necessary or proper to effectuate the TILA section 129B(a)(2), 15 U.S.C. calculations. Due to concerns regarding purposes of TILA, prevent 1639b(a)(2). To meet the definition of a credit availability, the proposal also circumvention or evasion thereof, or qualified mortgage, a loan cannot have solicited comment on alternative means facilitate compliance therewith. 15 certain risky terms or features, such as to calculate monthly payments for step- U.S.C. 1604(a). This approach is further provisions that permit deferral of rate and adjustable-rate mortgages. The supported by the authority under TILA principal or a term that exceeds 30 proposal asked for comment on whether section 129B(e) to condition terms, acts years; no similar restrictions apply to or not the rule should require that or practices relating to residential loans subject to the ability-to-repay creditors underwrite a step-rate or an mortgage loans that the Bureau finds standard. See proposed § 226.43(e)(2)(i) adjustable-rate mortgage using the necessary and proper to ensure that and (ii). As a result, the risk of potential maximum interest rate in the first seven responsible, affordable mortgage credit payment shock is diminished or ten years or some other appropriate remains available to consumers in a significantly for qualified mortgages. For time horizon that would reflect a manner consistent with and which this reason, the Board believed that significant introductory rate period. The effectuates the purposes of sections maintaining the potentially more lenient section-by-section analysis of the ‘‘fully 129B and 129C, and which are in the statutory underwriting standard for indexed rate’’ definition, at interest of the consumer. 15 U.S.C. loans that satisfy the qualified mortgage § 1026.43(b)(3) above, discusses this 1639b(e). The purposes of TILA include criteria would help to ensure that issue in regard to step-rate mortgages. the purpose of TILA sections 129B and responsible and affordable credit For discussion of payment calculation 129C, to assure that consumers are methods for adjustable-rate mortgages, offered and receive residential mortgage 111 The Bureau has also determined that in many see below. loans on terms that reasonably reflect instances the fully indexed rate would result in a Safe harbor to facilitate compliance. their ability to repay the loan, among more lenient underwriting standard than the qualified mortgage calculation. See the discussion The Board recognized that under its other things. TILA section 129B(b), 15 of non-qualified mortgage ARM underwriting proposal, creditors would have to U.S.C. 1639b. For the reasons discussed below. comply with multiple assumptions above, the Bureau believes that

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requiring creditors to underwrite the period, and ARMs with fixed periods of the Interagency Supervisory Guidance loan to the premium rate for purposes at least five years are considered safe. in 2006, and Congress was likely relying of the repayment ability determination One large bank stated that the on that experience in crafting the is necessary and proper to ensure that calculation for ARMs, whether or not statutory scheme. Adding to the fully consumers are offered, and receive, they are qualified mortgages, should be indexed rate would potentially reduce loans on terms that reasonably reflect uniform to ease compliance. the availability of credit. Such an their ability to repay, and to prevent The Bureau has determined that it adjustment also could result in a circumvention or evasion. Without a will not use its exception and calculated interest rate and monthly requirement to consider payments based adjustment authority to change the payment that are higher than the on a premium rate, a creditor could statutory underwriting scheme for non- interest rate and payment calculated for originate loans with introductory-period qualified mortgage ARMs. The statutory qualified mortgage underwriting, given payments that consumers do not have scheme clearly differentiates between that the qualified mortgage rules look the ability to repay. Therefore, this the qualified mortgage and non- only to potential adjustments during the provision is also in the interest of qualified mortgage underwriting first five years. consumers. strategies. The qualified mortgage The Bureau recognizes that As discussed above, the Board underwriting rules ignore any underwriting practices today often take solicited comment on whether adjustment in interest rate that may into account potential adjustments in an payments for non-qualified mortgage occur after the first five years; thus, for ARM that can result from increases in ARMs should be calculated similarly to example, for an ARM with an initial the index rate. For example, Fannie Mae qualified mortgage ARMs, by using the adjustment period of seven years, the requires underwriting that uses the fully maximum rate that will apply during a interest rate used for the qualified indexed rate or the note rate plus 2 certain period, such as the first seven mortgage calculation will be the initial percent, whichever is greater, for ARMs years or some other appropriate time interest rate. In addition, the qualified with initial fixed periods of up to five horizon. Consumer and community mortgage rules, by using the ‘‘maximum years. The Bureau notes that groups were divided on this issue. Some interest rate,’’ take into account any underwriters have the flexibility to supported use of the fully indexed rate, adjustment in interest rate that can adjust their practices in response to but one stated that underwriting ARMs occur during the first five years, changing interest rate environments based on the initial period of at least including adjustments attributable to whereas the process an administrative five years may be appropriate. Another changes in the index rate. In contrast, agency like the Bureau must follow to suggested that for non-qualified the non-qualified mortgage rules have amend a rule is more time consuming. mortgage ARMs the rule should require an unlimited time horizon but do not The Bureau also notes that the creditor use of the maximum interest rate or take into account adjustments must make a reasonable determination interest rate cap, whichever is greater, to attributable to changes in the index rate. that the consumer has the ability to better protect against payment shock. A Based on the its research and analysis, repay the loan according to its terms. civil rights organization also advocated the Bureau notes that the data indicate Therefore, in situations where there is a that ARMs that are not qualified that neither the fully indexed rate nor significant likelihood that the consumer mortgages should be underwritten to the maximum rate during a defined will face an adjustment that will take several points above the fully indexed underwriting period produces the interest rate above the fully indexed rate. A combined comment from consistent results with regard to ability- rate, a creditor whose debt-to-income or consumer advocacy organizations also to-repay calculations. The Bureau finds residual income calculation indicates supported non-qualified mortgage that the underwriting outcomes under that a consumer cannot afford to absorb ARMs being underwritten more strictly, the two methods vary depending on a any such increase may not have a suggesting that because this is the number of complex variables, such as reasonable belief in the consumer’s market segment that will have the the terms of the loan (e.g., the length of ability to repay the loan according to its fewest controls, the predatory practices the initial adjustment period and terms. See comment 43(c)(1)–1. will migrate here, and there is interest rate caps) and the interest rate Although the Bureau has determined significant danger of payment shock environment. In other words, for a to implement the statutory scheme as when using the fully indexed rate in a particular loan, whether the monthly written and require use of the fully low-rate environment such as today’s payment may be higher under a indexed rate for non-qualified mortgage market. They suggested that the rule calculation that uses the fully indexed ARMs, it will monitor this issue through follow Fannie Mae’s method, which rate, as opposed to the maximum rate in its mandatory five-year review, and may requires underwriting that uses the fully the first five years, depends on a make adjustments as necessary. indexed rate or the note rate plus 2 number of factors. Given the fact- As discussed above, the Board also percent, whichever is greater, for ARMs specific nature of the payment solicited comment on whether or not to with initial fixed periods of up to five calculation outcomes, the Bureau allow the fully indexed rate to be years. In addition, one joint industry believes that overriding the statutory applied to the balance projected to be and consumer advocacy comment scheme would be inappropriate. remaining when the fully indexed rate suggested adding 2 percent to the fully The Bureau also believes that goes into effect, instead of the full loan indexed rate in order to calculate the adjusting the interest rate to be used for amount, and thus give a potentially monthly payment amount. non-qualified mortgage ability-to-repay more accurate figure for the maximum Industry groups were strongly in favor calculations to somewhere between the payment that would be required for of using a specific time period for fully indexed rate specified in the purposes of determining ability to underwriting, generally suggesting five statute and the maximum interest rate repay. A consumer group and a group years. One credit union association mandated for qualified mortgage advocating for financial reform stated that use of the fully indexed rate underwriting; for example through an supported this possibility, saying that is excessive and unnecessary, and will adjustment to the fully indexed rate of allowing lenders to apply the fully increase the cost of credit. Industry an additional 2 percent, would be indexed rate to the balance remaining commenters stated that creditors inappropriate. The fully indexed rate when the rate changes, rather than the generally consider only the fixed-rate had been in use since it was adopted by full loan amount, will encourage longer

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fixed-rate periods and safer lending, as believed that a 5 percent threshold regular payment due date, rather than well as preserve access to credit. An would work better. Because the 1 five years after consummation. association representing credit unions percent threshold appears to be 43(c)(5)(ii)(A)(1) also agreed with the possible sufficient to allow for payment variance amendment, stating that the new and industry commenters did not The statute provides an exception method would yield a more accurate express a need for a higher threshold, from the general payment calculation measure of the maximum payment that the Bureau does not believe that the discussed above for loans that require could be owed. provision should be amended. ‘‘more rapid repayment (including The Bureau believes it is appropriate For the reasons stated above, the balloon payment).’’ See TILA section for the final rule to remain consistent Bureau is adopting § 1026.43(c)(5)(i) and 129C(a)(6)(D)(ii)(I) and (II). For balloon- with the statutory scheme. The Bureau associated commentary substantially as payment loans that are not higher- believes that changing the calculation proposed, with minor clarifying priced covered transactions (as method, required by the statute,112 revisions. determined by using the margins above would not be an appropriate use of its APOR in TILA section exception and adjustment authority. 43(c)(5)(ii) Special Rules for Loans With 129C(a)(6)(D)(ii)(I) and implemented at The Bureau believes the potentially a Balloon Payment, Interest-Only Loans, § 1026.43(b)(4)), the statute provides stricter underwriting method of and Negative Amortization Loans that the payment calculation will be determined by regulation. The Board calculating the monthly payment by Proposed § 226.43(c)(5)(ii) created proposed that a creditor be required to applying the imputed (i.e., fully exceptions to the general rule under make the repayment determination indexed) interest rate to the full loan proposed § 226.43(c)(5)(i), and provided under proposed § 226.43(c)(2)(iii) for amount for non-qualified mortgage special rules in proposed ARMs, provides greater assurance of the ‘‘[t]he maximum payment scheduled § 226.43(c)(5)(ii)(A) through (C) for during the first five years after ability to repay. In addition, payment loans with a balloon payment, interest- calculation using the fully indexed rate consummation * * *’’ only loans, and negative amortization The Board chose a five-year period in can only approximate the consumer’s loans, respectively, for purposes of the payments after recast, since the index order to preserve access to affordable repayment ability determination short-term credit, and because five years may have increased significantly by required under proposed was considered an adequate period for then. Accordingly, the Bureau believes § 226.43(c)(2)(iii). In addition to TILA a consumer’s finances to improve that requiring the use of the full loan section 129C(a)(6)(D)(i) through (iii), sufficiently to afford a fully amortizing amount will reduce the potential proposed § 226.43(c)(5)(ii)(A) through loan. The Board believed that balloon- inaccuracy of the ability-to-repay (C) implemented TILA sections payment loans of less than five years determination in such a situation. 129C(a)(6)(B) and (C), and TILA section presented more risk of inability to In addition, the Board solicited 129C(a)(6)(D)(ii)(I) and (II). Each of these repay. The Board also believed that the comment on whether to provide a safe proposed special rules is discussed five-year period would facilitate harbor for any creditor that underwrites below. compliance and create a level playing using the ‘‘largest scheduled payment field because of its uniformity with the that can occur during the loan term.’’ To 43(c)(5)(ii)(A) general qualified mortgage provision provide such a safe harbor the Bureau Implementing the different payment (see § 1026.43(e)), and balloon-payment would have to employ its exception and calculation methods in TILA section qualified mortgage provision (see adjustment authority because the use of 129C(a)(6)(D)(ii), the Board proposed § 1026.43(f)). The Board solicited the fully indexed rate calculation is different rules for balloon-payment comment on whether the five-year required by TILA section mortgages that are higher-priced horizon was appropriate. Proposed 129C(a)(6)(D)(iii). Two industry covered transactions and those that are comment § 226.43(c)(5)(ii)(A)–2 commenters and an association of state not, in § 1026.43(c)(5)(ii)(A)(1) and (2). provided further guidance to creditors bank regulators supported this Proposed comment 43(c)(5)(ii)(A)–1 on determining whether a balloon exemption, but none of them provided provided guidance on applying these payment occurs in the first five years a developed rationale for their support two methods. This guidance is adopted after consummation. Proposed comment or included information useful in as proposed with minor changes for 43(c)(5)(ii)(A)–3 addressed renewable assessing the possible exemption. The clarity and to update a citation. The balloon-payment loans. This comment Bureau does not believe that it would be language describing the calculation discussed balloon-payment loans that appropriate at this time to alter the method for balloon-payment mortgages are not higher-priced covered statutory scheme in this manner. that are not higher-priced covered transactions which provide an As discussed above, the Board also transactions has been changed to reflect unconditional obligation to renew a solicited comment on how to lessen any the use of the first regular payment due balloon-payment loan at the consumer’s operational difficulties of ensuring that date as the start of the relevant five-year option or obligation to renew subject to payment amounts meet the period. Pursuant to the Bureau’s conditions within the consumer’s ‘‘substantially equal’’ condition, and rulewriting authority under TILA control. This comment clarified that for whether or not allowing a one percent section 129C(a)(6)(D)(ii)(I), this change purposes of the repayment ability variance between payments provided an has been made to facilitate compliance determination, the loan term does not appropriate threshold. Only two through consistency with the amended include the period of time that could commenters mentioned this issue. One underwriting method for qualified result from a renewal provision. industry commenter stated that the 1 mortgages. See the section-by-section The Board recognized that proposed percent threshold was appropriate, but analysis of § 1026.43(e)(2)(iv)(A). As comment 43(c)(5)(ii)(A)–3 did not take an association of state bank regulators with the recast on five-year adjustable- the same approach as guidance rate qualified mortgages, the Bureau contained in comment 17(c)(1)–11 112 ‘‘A creditor shall determine the ability of the regarding treatment of renewable consumer to repay using a payment schedule that believes that consumers will benefit fully amortizes the loan over the loan term.’’ TILA from having a balloon payment moved balloon-payment loans for disclosure § 129C(a)(3). to at least five years after the first purposes, or with guidance contained in

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current comment 34(a)(4)(iv)–2 of the which would be bad for sustainable determination applied to the balloon Board’s 2008 HOEPA Final Rule. lending. On the other hand, a trade payment by including the renewal Although the proposal differed from association representing credit unions period in the loan term so that the current guidance in Regulation Z, the supported the five-year rule. One balloon payment occurs after five years. Board believed this approach was industry commenter objected to the Accordingly, the Bureau is adopting appropriate for several reasons. First, whole balloon underwriting scheme, § 1026.43(c)(5)(ii)(A)(1) and associated the ability-to-repay provisions in the including the five-year rule, apparently commentary substantially as proposed, Dodd-Frank Act do not address preferring something less. with minor changes for clarification, as extending the term of a balloon-payment For the reasons discussed by the well as new language to reflect that the loan with an unconditional obligation to Board in the proposal, and described five-year underwriting period begins renew provision. Second, permitting above, the Bureau has determined that with the due date of the first payment, short-term ‘‘prime’’ balloon-payment five years is an appropriate time frame as discussed above. In addition, the loans to benefit from the special for determining the ability to repay on Bureau has added a second example to payment calculation rule when a balloon-payment mortgages that are not comment 43(c)(5)(ii)(A)–2 to creditor includes an unconditional higher-priced covered transactions. demonstrate the effect of the change to obligation to renew, but retains the right However, for the sake of uniformity and the beginning of the underwriting to increase the interest rate at the time ease of compliance with the qualified period. mortgage calculation and ability-to- of renewal, would create a significant 43(c)(5)(ii)(A)(2) loophole in the balloon payment rules. repay calculation for non-qualified Such an approach could frustrate the mortgage adjustable-rate mortgages, the Proposed § 226.43(c)(5)(ii)(A)(2) objective to ensure consumers obtain proposed provision has been changed to implemented TILA section mortgages on affordable terms for a state that the five years will be 129C(a)(6)(D)(ii)(II) and provided that reasonable period of time because the measured from the date of the first for a higher-priced covered transaction, interest rate could escalate within a regularly scheduled payment, rather the creditor must determine the short period of time, increasing the than the date of consummation. The consumer’s ability to repay a loan with potential risk of payment shock to the Bureau has made this determination a balloon payment using the scheduled consumer. This is particularly the case pursuant to the authority granted by payments required under the terms of where no limits exist on the interest rate TILA section 129C(a)(6)(D)(ii)(I) to the loan, including any balloon that the creditor can choose to offer to prescribe regulations for calculating payment. TILA section the consumer at the time of renewal. See payments to determine consumers’ 129C(a)(6)(D)(ii)(II) states that for loans TILA Section 129B(a)(2), 15 U.S.C. ability to repay balloon-payment that require ‘‘more rapid repayment 113 1639b(a)(2), and TILA Section mortgages that are not higher-cost (including balloon payment),’’ and 129C(b)(2)(A)(v). Moreover, the Board covered transactions. which exceed the loan pricing threshold believed it would be speculative to posit TILA section 129C(a)(6)(D)(ii)) refers set forth, the creditor must underwrite the interest rate at the time of renewal to loans requiring ‘‘more rapid the loan using the ‘‘[loan] contract’s for purposes of the repayment ability repayment (including balloon repayment schedule.’’ For purposes of determination. Third, the guidance payment).’’ The Board solicited proposed § 226.43(c)(5)(i)(A), ‘‘higher- contained in comment 17(c)(1)–11 comment about whether this statutory priced covered transaction’’ means a regarding treatment of renewable language should be read as referring to covered transaction with an annual balloon-payment loans is meant to help loan types other than balloon-payment percentage rate that exceeds the average ensure consumers are aware of their loans. The Bureau did not receive prime offer rate for a comparable loan terms and avoid the uninformed comments on this matter, and has transaction as of the date the interest use of credit, which differs from the determined that the rule language does rate is set by 1.5 or more percentage stated purpose of this proposed not need to be amended to include other points for a first-lien covered provision, which was to help ensure types of ‘‘rapid repayment’’ loans at this transaction, or by 3.5 or more that consumers receive loans on terms time. percentage points for a subordinate-lien that reasonably reflect their repayment The Board also solicited comment covered transaction. See § 1026.43(b)(4). ability. TILA section 102(a), 15 U.S.C. about balloon-payment loans that have The proposed rule interpreted the 1601(a)(2), and TILA section 129B(a)(2), an unconditional obligation to renew. statutory requirement that the creditor 15 U.S.C. 1639b(a)(2). The Board asked whether or not such use the loan contract’s payment Proposed comment 43(c)(5)(ii)(A)–4 loans should be allowed to comply with schedule to mean that the creditor must provided several illustrative examples the ability-to-repay requirements using use all scheduled payments under the of how to determine the maximum the total of the mandatory renewal terms of the loan needed to fully payment scheduled during the first five terms, instead of just the first term. As amortize the loan, consistent with the years after consummation for loans with discussed above, proposed comment requirement under TILA section a balloon payment that are not higher- 43(c)(5)(ii)(A)–3 made clear that this 129C(a)(3). Payment of the balloon, priced covered transactions. would not be allowed under the rule as either at maturity or during any In regard to the proposed five-year proposed. The Board also solicited intermittent period, is necessary to fully underwriting period, some commenters comment on any required conditions amortize the loan, and so a consumer’s suggested that the payment period that the renewal obligation should have, ability to pay the balloon payment considered should be increased to ten if such an amendment were made. would need to be considered. Proposed years, stating that balloon-payment However, the Bureau did not receive comment 43(c)(5)(ii)(A)–5 provided an loans were repeatedly used in an comments on this matter, and the illustrative example of how to abusive manner during the years of provision and staff comment are determine the consumer’s repayment heavy subprime lending. The combined adopted as proposed. A creditor making ability based on the loan contract’s consumer advocacy organizations’ any non-higher-priced balloon-payment payment schedule, including any comment stated that the five-year mortgage of less than five years with a underwriting might lead to an increase clear obligation to renew can avoid 113 See the previous section, .43(c)(5)(ii)(A)(1), for in five-year balloon-payment loans, having the ability-to-repay discussion of this statutory language.

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balloon payment. The proposed rule 43(c)(5)(ii)(B) payment calculation for interest-only applied to ‘‘non-prime’’ loans with a The Board’s proposed loans, and clarified that the relevant balloon payment regardless of the length § 226.43(c)(5)(ii)(B) implemented TILA term of the loan for calculating these of the term or any contract provision section 129C(a)(6)(B), which requires payments is the period of time that that provides for an unconditional that the creditor determine the remains after the loan is recast. This guarantee to renew. consumer’s repayment ability using ‘‘the comment also explained that for a loan In making this proposal, the Board payment amount required to amortize on which only interest and no principal expressed concern that this approach the loan by its final maturity.’’ For has been paid, the loan amount will be could lessen credit choice for non-prime clarity, the proposed rule used the term the outstanding principal balance at the consumers and solicited comment, with ‘‘recast,’’ which is defined for interest- time of the recast. supporting data, on the impact of this Proposed comment 43(c)(5)(ii)(B)–2 only loans as the expiration of the approach for low-to-moderate income provided illustrative examples for how period during which interest-only consumers. In addition, the Board asked to determine the consumer’s repayment payments are permitted under the terms for comment on whether or not a ability based on substantially equal consumer’s ability to refinance out of a of the legal obligation. See monthly payments of principal and balloon-payment loan should be § 1026.43(b)(11). The statute does not interest for interest-only loans. considered in determining ability to define the term ‘‘interest-only.’’ For Commenters did not focus on the repay. purposes of this rule, the terms calculation for interest-only loans. The Industry commenters who focused on ‘‘interest-only loan’’ and ‘‘interest-only’’ Bureau considers the Board’s this provision opposed applying the have the same meaning as in interpretation and implementation of ability-to-repay determination to the § 1026.18(s)(7)(iv). the statute to be accurate and entire payment schedule. Two trade For interest-only loans (i.e., loans that appropriate. Accordingly, associations representing small and permit interest only payments for any § 1026.43(c)(5)(ii)(B) and associated mid-size banks strongly objected to part of the loan term), proposed commentary are adopted as proposed. including the balloon payment in the § 226.43(c)(5)(ii)(B) provided that the 43(c)(5)(ii)(C) underwriting, and one stated that many creditor must determine the consumer’s of the loans its members currently make ability to repay the interest-only loan Proposed § 226.43(c)(5)(ii)(C) would fall into the higher-priced using (1) the fully indexed rate or any implemented the statutory requirement category, making these loans introductory rate, whichever is greater; in TILA section 129C(a)(6)(C) that the unavailable. However, the statutory and (2) substantially equal, monthly creditor consider ‘‘any balance increase scheme for including the balloon payments of principal and interest that that may accrue from any negative payment was supported by a state will repay the loan amount over the amortization provision when making housing agency and the combined term of the loan remaining as of the date the repayment ability determination.’’ consumer protection advocacy the loan is recast. The proposed The statute does not define the term organizations submitting joint payment calculation rule for interest- ‘‘negative amortization.’’ comments. only loans paralleled the general rule For such loans, proposed None of the commenters submitted proposed in § 226.43(c)(5)(i), except that § 226.43(c)(5)(ii)(C) provided that a data supporting the importance of proposed § 226.43(c)(5)(ii)(B)(2) creditor must determine the consumer’s higher-priced balloon-payment required a creditor to determine the repayment ability using (1) the fully mortgages for credit availability, or consumer’s ability to repay the loan indexed rate or any introductory interest whether consideration of a consumer’s amount over the term that remains after rate, whichever is greater; and (2) ability to obtain refinancing would the loan is recast, rather than requiring substantially equal, monthly payments make the ability-to-repay determination the creditor to use fully amortizing of principal and interest that will repay less significant in this context. The payments, as defined under proposed the maximum loan amount over the Bureau notes that under § 1026.43(f) a § 226.43(b)(2). term of the loan remaining as of the date balloon-payment mortgage that is a The Board interpreted the statutory the loan is recast. The proposed higher-priced covered transaction made text in TILA section 129C(a)(6)(B) as payment calculation rule for negative by certain creditors in rural or requiring the creditor to determine the amortization loans paralleled the underserved areas may also be a consumer’s ability to repay an interest- general rule in proposed qualified mortgage and thus the creditor only loan using the monthly principal § 226.43(c)(5)(i), except that proposed would not have to consider the and interest payment amount needed to § 226.43(c)(5)(ii)(C)(2) required the consumer’s ability to repay the balloon repay the loan amount once the interest- creditor to use the monthly payment payment. Because this final rule adopts only payment period expires, rather amount that repays the maximum loan a wider definition of ‘‘rural or than using, for example, an understated amount over the term of the loan that underserved area’’ than the Board monthly principal and interest payment remains after the loan is recast, rather proposed, potential credit accessibility that would amortize the loan over its than requiring the creditor to use fully concerns have been lessened. See the entire term, similar to a 30-year fixed amortizing payments, as defined under section-by-section analysis of mortgage. The proposed rule would § 1026.43(b)(2). The proposed rule used § 1026.43(f), below. apply to all interest-only loans, the terms ‘‘maximum loan amount’’ and The statute requires the consideration regardless of the length of the interest- ‘‘recast,’’ which are defined and of the balloon payment for higher-priced only period. The Board believed this discussed at § 1026.43(b)(7) and (b)(11), covered transactions, and the Bureau approach most accurately assessed the respectively. does not believe that using its exception consumer’s ability to repay the loan The Board proposed that the term and adjustment authority would be once it begins to amortize; this is ‘‘negative amortization loan’’ have the appropriate for this issue. Accordingly, consistent with the approach taken for same meaning as set forth in § 1026.43(c)(5)(ii)(A)(2) and associated interest-only loans in the 2006 § 226.18(s)(7)(v), which provided that commentary are adopted substantially Nontraditional Mortgage Guidance. the term ‘‘negative amortization loan’’ as proposed, with minor changes for Proposed comment 43(c)(5)(ii)(B)–1 means a loan, other than a reverse clarification. provided guidance on the monthly mortgage subject to § 226.33, that

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provides for a minimum periodic period during which negatively Step two: payment calculation. Once payment that covers only a portion of amortizing payments are permitted the creditor knows the maximum loan the accrued interest, resulting in under the terms of the legal obligation. amount and period of time that remains negative amortization. As defined, the Proposed comment 43(c)(5)(ii)(C)–2 after the loan is recast, the proposed term ‘‘negative amortization loan’’ does further clarified that recast for a payment calculation rule for negative not cover other loan types that may have negative amortization loan occurs after amortization loans would require the a negative amortization feature, but the maximum loan amount is reached creditor to use the fully indexed rate or which do not permit the consumer (i.e., the negative amortization cap) or introductory rate, whichever is greater, multiple payment options, such as the introductory minimum periodic to calculate the substantially equal, seasonal income loans. Accordingly, payment period expires. monthly payment amount that will proposed § 226.43(c)(5)(ii)(C) covered As discussed above, § 1026.43(b)(7) repay the maximum loan amount over only loan products that permit or defines ‘‘maximum loan amount’’ as the the term of the loan that remains as of require minimum periodic payments, loan amount plus any increase in the date the loan is recast. See proposed such as payment-option loans and principal balance that results from § 226.43(c)(5)(ii)(C)(1) and (2). graduated payment mortgages with negative amortization, as defined in Proposed comment 43(c)(5)(ii)(C)–1 negative amortization.114 The Board § 1026.18(s)(7)(v), based on the terms of clarified that creditors must follow this believed that covering these types of the legal obligation. Under the proposal, two-step approach when determining loans in proposed § 226.43(c)(5)(ii)(C) creditors would make the following two the consumer’s repayment ability on a was consistent with statutory intent to assumptions when determining the negative amortization loan, and also account for the negative equity that can maximum loan amount: (1) The provided cross-references to aid occur when a consumer makes consumer makes only the minimum compliance. Proposed comment payments that defer some or all periodic payments for the maximum 43(c)(5)(ii)(C)–2 provided further principal or interest for a period of time, possible time, until the consumer must guidance to creditors regarding the and to address the impact that any begin making fully amortizing relevant term of the loan that must be potential payment shock might have on payments; and (2) the maximum interest used for purposes of the repayment the consumer’s ability to repay the loan. rate is reached at the earliest possible ability determination. Proposed See TILA section 129C(a)(6)(C). time. comment 43(c)(5)(ii)(C)–3 provided In contrast, in a transaction such as a As discussed above under the illustrative examples of how to seasonal loan that has a negative proposed definition of ‘‘maximum loan determine the consumer’s repayment amortization feature, but which does not amount,’’ the Board interpreted the ability based on substantially equal provide for minimum periodic statutory language in TILA section monthly payments of principal and payments that permit deferral of some 129C(a)(6)(C) as requiring creditors to interest as required under proposed or all principal, the consumer repays the fully account for any potential increase § 226.43(c)(5)(ii)(C) for a negative loan with fully amortizing payments in in the loan amount that might result amortization loan. accordance with the payment schedule. under the loan’s terms where the In discussing the ability-to-repay Accordingly, the same potential for consumer makes only the minimum requirements for negative amortization payment shock due to accumulating periodic payments required. The Board loans, the Board noted the anomaly that negative amortization does not exist. believed the intent of this statutory a graduated payment mortgage may These loans with a negative provision was to help ensure that the have a largest scheduled payment that is amortization feature are therefore not creditor consider the consumer’s larger than the payment calculated covered by the proposed term ‘‘negative capacity to absorb the increased under proposed § 226.43(c)(5)(ii)(C). amortization loan,’’ and would not be payment amounts that would be needed The Board solicited comment on subject to the special payment to amortize the larger loan amount once whether or not the largest scheduled calculation requirements for negative the loan is recast. The Board recognized payment should be used in determining amortization loans at proposed that the approach taken towards ability to repay. The Bureau received § 226.43(c)(5)(ii)(C). calculating the maximum loan amount one comment on this issue, from an For purposes of determining the requires creditors to assume a ‘‘worst- association of State bank regulators, consumer’s ability to repay a negative case scenario,’’ but believed this arguing that the rule should use the amortization loan under proposed approach was consistent with statutory largest payment scheduled. However, § 226.43(c)(5)(ii)(C), creditors would be intent to take into account the greatest the Bureau does not believe that a required to make a two-step payment potential increase in the principal special rule for graduated payment calculation. mortgages, which would require an Step one: maximum loan amount. balance. Moreover, the Board noted that exception from the statute, is necessary Proposed § 226.43(c)(5)(ii)(C) would calculating the maximum loan amount to ensure ability to repay these loans. It have required that the creditor first based on these assumptions is is unlikely that the calculated payment determine the maximum loan amount consistent with the approach in the will be very different from the largest and period of time that remains in the 2010 MDIA Interim Final Rule,115 scheduled payment, and introducing loan term after the loan is recast before which addresses disclosure this added complexity to the rule is determining the consumer’s repayment requirements for negative amortization unnecessary. Also, the one comment ability on the loan. See comment loans, and also the 2006 Nontraditional favoring such a choice did not include 43(c)(5)(ii)(C)–1; see also proposed Mortgage Guidance, which provides sufficient data to support use of the § 226.43(b)(11), which defined the term guidance to creditors regarding exception and adjustment authority ‘‘recast’’ to mean the expiration of the underwriting negative amortization under TILA, and the Bureau is not loans.116 aware any such data. 114 Graduated payment mortgages that have negative amortization and fall within the definition Final Rule of ‘‘negative amortization loans’’ provide for step 115 See 12 CFR 1026.18(s)(2)(ii) and comment payments that may be less than the interest accrued 18(s)(2)(ii)–2. The Bureau did not receive comments for a fixed period of time. The unpaid interest is 116 See 2006 Nontraditional Mortgage Guidance, on the proposed method for calculating added to the principal balance of the loan. at 58614, n.7. payments for negative amortization

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loans. The Bureau believes that the on whether the HELOC is used as a amount drawn at closing was consistent method proposed by the Board ‘‘piggyback loan’’ to help towards with their underwriting standards. In implements the statutory provision payment on a home purchase addition, an association representing accurately and appropriately. transaction or if the HELOC is opened one state’s credit unions stated that Accordingly, § 1026.43(c)(5)(ii)(C) and for convenience to be drawn down at a requiring consideration of a 100 percent associated commentary are adopted future time. In the proposed rule, the draw would be onerous and inaccurate. substantially as proposed, with minor Board was concerned that requiring the It also asked that we make clear that the changes for clarification. creditor to underwrite a simultaneous creditor does not have to recalculate a HELOC assuming a full draw on the consumer’s ability to repay if the 43(c)(6) Payment Calculation for credit line might unduly restrict credit amount drawn changes at Simultaneous Loans access, especially in connection with consummation. 43(c)(6)(i) non-purchase transactions, because it The Bureau believes that requiring consideration of 100 percent of a home The Board’s proposed rule provided would require creditors to assess the equity line of credit would that for purposes of determining a consumer’s repayment ability using unnecessarily restrict credit availability consumer’s ability to repay a loan, ‘‘a potentially overstated payment amounts. For this reason, the Board for consumers. Available but creditor must consider a consumer’s proposed under § 226.43(c)(6)(ii) that unaccessed credit is not considered in payment on a simultaneous loan that the creditor calculate the payment for determining ability to repay a mortgage is—(i) a covered transaction, by the simultaneous HELOC based on the when the consumer has other types of following paragraphs (c)(5)(i) and (ii) of amount of funds to be drawn by the credit lines, such as credit cards. this section’’ (i.e., the payment consumer at consummation of the Although HELOCs are secured by the calculation rules for the covered covered transaction. The Board solicited consumer’s dwelling, and thus differ transaction itself). comment on whether this approach was from other types of available but Proposed comment 43(c)(6)–1 stated appropriate. unaccessed credit, this difference does that in determining the consumer’s Proposed comment 43(c)(6)–3 not seem determinative. Any potential repayment ability for a covered clarified that for a simultaneous loan dwelling-secured home equity line of transaction, the creditor must include that is a HELOC, the creditor must credit that a creditor might grant to a consideration of any simultaneous loan consider the periodic payment required consumer could simply be requested by which it knows or has reason to know under the terms of the plan when the consumer immediately following will be made at or before consummation assessing the consumer’s ability to repay consummation of the covered of the covered transaction. Proposed the covered transaction secured by the transaction. The fact that the potential comment 43(c)(6)–2 explained that for a same dwelling as the simultaneous loan. credit line has been identified and simultaneous loan that is a covered This comment explained that under enumerated prior to the transaction, transaction, as that term was defined in proposed § 226.43(c)(6)(ii), the creditor rather than after, does not seem proposed § 226.43(b)(1), the creditor must determine the periodic payment significant compared to the fact that the must determine a consumer’s ability to required under the terms of the plan by consumer has chosen not to access that repay the monthly payment obligation considering the actual amount of credit credit, and will not be making payments for a simultaneous loan as set forth in to be drawn by the consumer at or on it. As with the rest of the ability-to- proposed § 226.43(c)(5), taking into before consummation of the covered repay requirements, creditors should account any mortgage-related transaction. This comment clarified that apply appropriate underwriting obligations. the amount to be drawn is the amount procedures, and are not restricted to the The Bureau did not receive comments requested by the consumer; when the legally mandated minimum required by on this specific language or the use of amount requested will be disbursed, or this rule, as long as they satisfy that the covered transaction payment actual receipt of funds, is not minimum. calculation for simultaneous loans. For determinative. The requirements of the 2005 ‘‘Credit discussion of other issues regarding Several industry commenters objected Risk Guidance for Home Equity simultaneous loans, see the section-by- that it is difficult to know the actual Lending’’ do not change the Bureau’s section analysis of § 1026.43(b)(12), amount drawn on a HELOC if it is held view of this issue. The Guidance covers .43(c)(2)(iv) and .43(c)(6)(ii). by another lender. One commenter home equity lending itself, not The Bureau considers the language of suggested finding another way to do this consideration of HELOCs as proposed§ 226.43(c)(6)(i) to be an calculation, such as by adding 1 percent simultaneous loans when determining accurate and appropriate of the full HELOC line to the overall ability to repay for senior non-HELOCs. implementation of the statute. monthly payment. Two banking trade The requirement to consider the entire Accordingly, the Bureau is adopting associations said that the full line of home equity line of credit controls only § 1026.43(c)(6)(i) and associated credit should be considered, and if the a bank’s granting of that line of credit. commentary substantially as proposed, consumer does not qualify, the line of For this reason, the Bureau does not with minor changes for clarity. The credit can be reduced in order to qualify believe that banks following this requirement to consider any mortgage- safely. One bank stated that creditors guidance will be disadvantaged. In related obligations, presented in regulated by Federal banking agencies addition, the Bureau will not be comment 43(c)(6)–2, is now also part of are bound by the interagency ‘‘Credit implementing the suggested alternative the regulatory text, at § 1026.43(c)(6). Risk Guidance for Home Equity of adding 1 percent to the calculated Lending’’ (2005) to consider the full line monthly payment on the covered 43(c)(6)(ii) of credit, and this will create an uneven transaction. The Bureau is not aware of For a simultaneous loan that is a playing field. any data supporting the accuracy of HELOC, the consumer is generally not Other industry commenters supported such an approach. committed to using the entire credit line use of the actual amount drawn at In regard to the comments concerning at consummation. The amount of funds consummation. Both Freddie Mac and difficulty in determining the amount of drawn on a simultaneous HELOC may Fannie Mae stated that the Board’s the draw and the monthly HELOC differ greatly depending, for example, proposal for considering the actual payment, the Bureau as discussed above

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in the section-by-section analysis of transactions. In both situations the from assets, as required to be considered § 1026.43(c)(2)(iv) has added language HELOC is a lien on the consumer’s by proposed § 226.43(c)(2)(i) and (c)(4). to comment 43(c)(2)(iv)–4 providing dwelling with a cost that affects the With respect to the calculations, more specific guidance in applying the viability of the covered transaction loan. proposed § 226.43(c)(7)(ii)(A) would knows or has reason to know standard. The Bureau recognizes that a have required the creditor to consider In addition, language has been added to simultaneous HELOC in connection the consumer’s monthly debt-to-income comment 43(c)(6)–3, regarding payment with a refinancing is more likely to be ratio by taking the ratio of the calculations for simultaneous HELOCs, a convenience than one issued consumer’s total monthly debt making clear that a creditor does not simultaneously with a purchase obligations to total monthly income. need to reconsider ability to repay if the transaction, which will often cover Proposed § 226.43(c)(7)(ii)(B) would consumer unexpectedly draws more down payment, transaction costs or have required the creditor to consider money than planned at closing from a other major expenses. However, the the consumer’s residual income by HELOC issued by a different creditor. In final rule accommodates this difference subtracting the consumer’s total addition, the regulation language has by allowing the creditor to base its monthly debt obligations from the total been clarified to state that the creditor ability-to-repay determination on the monthly income. The Board solicited must use the amount of credit ‘‘to be’’ actual draw. The Bureau did not receive comment on whether consideration of drawn at consummation, making clear and is not aware of any information or residual income should account for loan that a violation does not occur if the data that justifies excluding actual amount, region of the country, and creditor did not know or have reason to draws on simultaneous HELOCs in family size, and on whether creditors know that a different amount would be connection with refinances from this should be required to include Federal drawn. rule. and State taxes in the consumer’s The Board also solicited comment on For the reasons stated above, the obligations to calculate the residual whether or not a safe harbor should be Bureau considers the language of income. Proposed comment 43(c)(7)–1 would given to those creditors who consider proposed§ 226.43(c)(6)(ii) to be an have stated that a creditor must the full HELOC credit line. However, accurate and appropriate calculate the consumer’s total monthly commenters did not focus on this implementation of the statute. debt obligations and total monthly possibility. The Bureau believes that Accordingly, the Bureau is adopting income in accordance with the although a creditor may choose to § 1026.43(c)(6)(ii) and associated requirements in proposed § 226.43(c)(7). underwrite using the full credit line as commentary as proposed, with minor a means of considering ability to repay The proposed comment would have changes for clarity. in relation to the actual draw, a safe explained that creditors may look to harbor is not warranted. Because the full 43(c)(7) Monthly Debt-to-Income Ratio widely accepted governmental and non- credit line should always be equal to or or Residual Income governmental underwriting standards to greater than the actual draw, determine the appropriate thresholds for As discussed above, TILA section appropriate use of the full credit line in the debt-to-income ratio or residual 129C(a)(3) requires creditors to consider underwriting will constitute appropriate income. the debt-to-income ratio or residual compliance without a safe harbor. Proposed comment 43(c)(7)–2 would In addition to the amount of a HELOC income the consumer will have after have clarified that if a creditor considers that needs to be considered in paying non-mortgage debt and both the consumer’s debt-to-income determining ability to repay, the Board mortgage-related obligations, as part of ratio and residual income, the creditor also solicited comment on whether the the ability-to-repay determination under may base its determination of ability to treatment of HELOCs as simultaneous TILA section 129C(a)(1). The Board’s repay on either the consumer’s debt-to- loans should be limited to purchase proposal would have implemented this income ratio or residual income, even if transactions. The Board suggested that requirement in § 226.43(c)(2)(vii). The the determination would differ with the concerns regarding ‘‘piggyback loans’’ Board proposed definitions and basis used. In the section-by-section were not as acute with non-purchase calculations for the monthly debt-to- analysis of proposed § 226.43(c)(7), the transactions. income ratio and residual income in Board explained that it did not wish to Consumer and public interest groups § 226.43(c)(7). create an incentive for creditors to opposed limiting the consideration of With respect to the definitions, consider and verify as few factors as HELOCs to purchase transactions. proposed § 226.43(c)(7)(i)(A) would possible in the repayment ability Several consumer advocacy groups have defined the total monthly debt determination. suggested that if only purchase obligations as the sum of: the payment Proposed comment 43(c)(7)–3 would transactions were covered, the abuses on the covered transaction, as required have provided that creditors may would migrate to the unregulated space. to be calculated by proposed consider compensating factors to Some commenters said they did not see § 226.43(c)(2)(iii) and (c)(5); the monthly mitigate a higher debt-to-income ratio or a reason to exclude the cost of a payment on any simultaneous loans, as lower residual income. The proposed simultaneous loan when it is extended required to be calculated by proposed comment would have provided that the as part of a refinance. Industry § 226.43(c)(2)(iv) and (c)(6); the monthly creditor may, for example, consider the commenters did not focus much on this payment amount of any mortgage- consumer’s assets other than the issue, but an association representing related obligations, as required to be dwelling securing the covered credit unions supported limiting considered by proposed transaction or the consumer’s residual consideration to purchase transactions § 226.43(c)(2)(v); and the monthly income as a compensating factor for a in order to reduce regulatory burden on payment amount of any current debt higher debt-to-income ratio. The credit unions and streamline the obligations, as required to be considered proposed comment also would have refinancing process. by proposed § 226.43(c)(2)(vi). Proposed provided that, in determining whether The Bureau believes that requiring § 1026.43(c)(7)(i)(B) would have defined and in what manner to consider consideration of HELOCs as the total monthly income as the sum of compensating factors, creditors may simultaneous loans is appropriate in the consumer’s current or reasonably look to widely accepted governmental both purchase and non-purchase expected income, including any income and non-governmental underwriting

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standards. The Board solicited comment factors, for example, situations where a reasonably and in good faith determine on whether it should provide more consumer has many assets but a low that an individual consumer has the guidance on what factors creditors may income or high debt-to-income ratio. ability to repay despite a higher consider, and on how creditors may The commenter suggested that the monthly debt-to-income ratio or lower include compensating factors in the Bureau clarify that the list of examples residual income in light of the repayment ability determination. was not exclusive. Consumer advocates consumer’s assets other than the In addition, the Board solicited recommended that the Bureau not dwelling securing the covered comment on two issues related to the permit extensions of credit based on a transaction, such as a savings account. use of automated underwriting systems. good credit history or involving a high The creditor may also reasonably and in The Board solicited comment on loan-to-value ratio if the debt-to-income good faith determine that a consumer providing a safe harbor for creditors ratio or residual income does not reflect has the ability to repay despite a higher relying on automated underwriting an ability to repay. These commenters debt-to-income ratio in light of the systems that use monthly debt-to- argued that credit scores and down consumer’s residual income. The income ratios, if the system developer payments reflect past behavior and Bureau believes that not permitting use certifies that the system’s use of incentives to make down payments, not of compensating factors may reduce monthly debt-to-income ratios in ability to repay. access to credit in some cases, even if determining repayment ability is The Bureau is largely adopting the consumer could afford the mortgage. empirically derived and statistically § 1026.43(c)(7) as proposed, with certain The Bureau does not believe, however, sound. The Board also solicited clarifying changes to the commentary. that the rule should provide an comment on other methods to facilitate Specifically, comment 43(c)(7)–1 extensive list of compensating factors creditor reliance on automated clarifies that § 1026.43(c) does not that the creditor may consider in underwriting systems, while ensuring prescribe a specific debt-to-income ratio assessing repayment ability. Instead, that creditors can demonstrate with which creditors must comply. For creditors should make reasonable and compliance with the rule. the reasons discussed above in the good faith determinations of the As discussed above in the section-by- section-by-section analysis of consumer’s repayment ability in light of section analysis of § 1026.43(c)(2)(vii), § 1026.43(c), the Bureau is not finalizing the facts and circumstances. This industry commenters and consumer the portion of proposed comment approach to compensating factors is advocates largely supported including 43(c)(7)–1 which would have provided consistent with the final rule’s flexible consideration of the monthly debt-to- that the creditor may look to widely approach to the requirement that income ratio or residual income in the accepted governmental and non- creditors make a reasonable and good ability-to-repay determination and governmental underwriting standards to faith of a consumer’s repayment ability generally favored a flexible approach to determine the appropriate threshold for throughout § 1026.43(c). consideration of those factors. In the monthly debt-to-income ratio or the The Bureau will consider conducting response to the Board’s proposal, some monthly residual income. Instead, a future study on the debt-to-income consumer advocates asked that the comment 43(c)(7)–1 provides that an ratio and residual income. Except for Bureau conduct research on the debt-to- appropriate threshold for a consumer’s one small creditor and the VA, the income ratio and residual income. They monthly debt-to-income ratio or Bureau is not aware of any creditors that requested a standard that reflects the monthly residual income is for the routinely use residual income in relationship between the debt-to-income creditor to determine in making a underwriting, other than as a ratio and residual income. One industry reasonable and good faith determination compensating factor.117 The VA commenter recommended that the of a consumer’s repayment ability. underwrites its loans to veterans based Bureau adopt the VA calculation of Comment 43(c)(7)–2 clarifies on a residual income table developed in residual income. Another industry guidance regarding use of both monthly 1997. The Bureau understands that the commenter suggested that the Bureau debt-to-income and monthly residual table shows the residual income desired adopt the same definitions of the debt- income by providing that if a creditor for the consumer based on the loan to-income ratio and residual income as considers the consumer’s monthly debt- amount, region of the country, and for qualified residential mortgages, to to-income ratio, the creditor may also family size, but does not account for reduce compliance burdens and the consider the consumer’s residual differences in housing or living costs possibility of errors. One industry income as further validation of the within regions (for instance rural commenter asked that consideration of assessment made using the consumer’s Vermont versus New York City). The residual income be permitted to vary monthly debt-to-income ratio. The Bureau also understands that the with family size and geographic Bureau is not finalizing proposed residual income is calculated by location. The commenter suggested that comment 43(c)(7)–2, which would have deducting obligations, including Federal the residual income calculation account provided that if a creditor considers and State taxes, from effective income. for Federal and State taxes. Several both the consumer’s monthly debt-to- However, at this time, the Bureau is consumer advocates suggested that the income ratio and residual income, the unable to conduct a detailed review of Bureau review the VA residual income creditor may base the ability-to-repay the VA residual income guidelines, guidelines and update the cost of living determination on either metric, even if which would include an analysis of tiers. They affirmed that all regularly the ability-to-repay determination whether those guidelines are predictive scheduled debt payments should be would differ with the basis used. The of repayment ability, to determine if included in the residual income Bureau believes the final guidance those standards should be incorporated, calculation. They noted that residual better reflects how the two standards in whole or in part, into the ability-to- income should be sufficient to cover work together in practice, but the basic living necessities, including food, change is not intended to alter the rule. 117 See also Michael E. Stone, What is Housing utilities, clothing, transportation, and Comment 43(c)(7)–3 also clarifies Affordability? The Case for the Residual Income known health care expenses. guidance regarding the use of Approach, 17 Housing Pol’y Debate 179 (2006) (advocating use of a residual income approach but One industry commenter asked that compensating factors in assessing a acknowledging that it ‘‘is neither well known, the Bureau provide guidance on and consumer’s ability to repay by providing particularly in this country, nor widely understood, additional examples of compensating that, for example, the creditor may let alone accepted’’).

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repay analysis that applies to the entire 43(d) Refinancing of Non-Standard repayment ability determination under residential mortgage market. Further, Mortgages TILA section 129C(a). Specifically, the the Bureau believes that providing Two provisions of section 1411 of the Board’s proposal would have permitted broad standards for the definition and Dodd-Frank Act address the refinancing creditors to evaluate qualifying calculation of residual income will help of existing mortgage loans under the applications without having to verify preserve flexibility if creditors wish to ability-to-repay requirements. As the consumer’s income and assets as develop and refine more nuanced provided in the Dodd-Frank Act, TILA prescribed in the general ability-to- residual income standards in the future. section 129C(a)(5) provides that certain repay requirements, provided that a The Bureau accordingly does not find it Federal agencies may create an number of additional conditions were necessary or appropriate to specify a exemption from the income verification met. In addition, the proposal would detailed methodology in the final rule requirements in TILA section 129C(a)(4) have permitted a creditor to calculate for consideration of residual income. if certain conditions are met. 15 U.S.C. the monthly payment used for The final rule also does not provide 1639c(a)(5). In addition, TILA section determining the consumer’s ability to a safe harbor for creditors relying on 129C(a)(6)(E) provides certain special repay the new loan based on automated underwriting systems that ability-to-repay requirements to assumptions that would typically result use monthly debt-to-income ratios. The encourage applications to refinance in a lower monthly payment than those Bureau understands that creditors existing ‘‘hybrid loans’’ into a ‘‘standard required to be used under the general routinely rely on automated loans’’ with the same creditor, where ability-to-repay requirements. The underwriting systems, many of which the consumer has not been delinquent proposal also clarified the conditions are proprietary and thus lack on any payments on the existing loan that must be met in a home mortgage transparency to the individual creditors and the monthly payments would be refinancing in order for this greater using the systems. Such systems may reduced under the refinanced loan. The flexibility to apply. decide, for example, whether the debt- statute allows creditors to give special The Board noted that TILA section to-income ratio and compensating weight to the consumer’s good standing 129C(a)(6)(E)(ii) permits creditors to factors are appropriate, but may not and to consider whether the refinancing give prevention of a ‘‘likely default disclose to the individual creditors would prevent a likely default, as well should the original mortgage reset a using such systems which compensating as other potentially favorable treatment higher priority as an acceptable factors were used for loan approval. to the consumer. However, it does not underwriting practice.’’ 15 U.S.C. However, the Bureau does not believe a expressly exempt applications for such 1639c(a)(6)(E)(ii). The Board interpreted this provision to mean that certain safe harbor is necessary in light of the ‘‘payment shock refinancings’’ from ability-to-repay criteria under TILA flexibility the final rule provides to TILA’s general ability-to-repay section 129C(a) should not apply to creditors in assessing a consumer’s requirements or define ‘‘hybrid’’ or refinances that meet the requisite repayment ability, including ‘‘standard loans.’’ 118 15 U.S.C. conditions. TILA section 129C(a) consideration of monthly debt-to- 1639c(a)(6)(E). specifically prescribes the requirements income ratios. See comments 43(c)(1)–1 The Board noted in its proposal that that creditors must meet to satisfy the and 43(c)(2)–1. it reviewed the Dodd-Frank Act’s legislative history, consulted with obligation to determine a consumer’s Finally, the Bureau notes the contrast ability to repay a mortgage loan. The between the flexible approach to consumer advocates and representatives of both industry and the GSEs, and Board concluded that the term considering and calculating debt-to- ‘‘underwriting practice’’ could income in § 1026.43(c)(2)(vii) and (7) examined underwriting rules and guidelines for the refinance programs of reasonably be interpreted to refer to the and the specific standards for evaluating underwriting rules prescribed in earlier debt-to-income for purposes of private creditors, GSEs and Federal agencies, as well as for the Home portions of TILA section 129C(a); determining whether a covered namely, those concerning the general transaction is a qualified mortgage Affordable Modification Program (HAMP). The Board noted that it also ability-to-repay underwriting under § 1026.43(e)(2). For the reasons requirements. discussed below in the section-by- considered TILA section 129C(a)(5), which permits Federal agencies to adopt The Board also structured its proposal section analysis of § 1026.43(e)(2), the to provide for flexibility in underwriting Bureau believes a specific, quantitative rules exempting refinancings from certain of the ability-to-repay that is characteristic of so-called standard for evaluating a consumer’s ‘‘streamlined refinances,’’ which are debt-to-income ratio is appropriate in requirements in TILA section 129C(a). In proposing § 226.43(d) to implement offered by creditors to existing determining whether a loan receives TILA section 129C(a)(6)(E), the Board customers without having to go through either a safe harbor or presumption of interpreted the statute as being intended a full underwriting process appropriate compliance with the repayment ability to afford greater flexibility to creditors for a new origination. The Board noted requirements of § 1026.43(c)(1) pursuant of certain home mortgage refinancings that section 1411 of the Dodd-Frank Act to § 1026.43(e)(2). However, the ability- when complying with the general specifically authorizes streamlined to-repay requirements in § 1026.43(c) ability-to-repay provisions in TILA refinancings of loans made, guaranteed, will apply to the whole of the mortgage section 129C(a). Consistent with this or insured by Federal agencies, and market and therefore require flexibility reading of the statute, the proposal concluded that TILA section to permit creditors to assess repayment would have provided an exemption 129C(a)(6)(E) is most reasonably ability while ensuring continued access from certain criteria required to be interpreted as being designed to address to responsible, affordable mortgage considered as part of the general the remaining market for streamlined credit. Accordingly, the final rule sets refinancings; namely, those offered minimum underwriting standards while 118 Section 128A of TILA, as added by Section under programs of private creditors and providing creditors with flexibility to 1418 of the Dodd-Frank Act, includes a definition the GSEs. The Board stated that in its use their own quantitative standards in of ‘‘hybrid adjustable rate mortgage.’’ However, that understanding typical streamlined making the repayment ability definition applies to the adjustable rate mortgage refinance programs do not require disclosure requirements under TILA section 128A, determination required by not the ability-to-repay requirements under TILA documentation of income and assets, § 1026.43(c)(1). section 129C. although a verbal verification of

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employment may be required. The important refinancing resource for at- the statute does not define the terms Board further noted that TILA section risk consumers would be compromised ‘‘hybrid loan’’ and ‘‘standard loan’’ used 129C(a)(6)(E) includes three central and the overall mortgage market in the special refinancing provisions of elements of typical streamlined potentially disrupted at a vulnerable TILA section 129C(a)(6)(E). Therefore, refinance programs, in that it requires time. the Board proposed definitions it that the creditor be the same for the The Board noted, however, that believed to be consistent with the policy existing and new mortgage loan consumers at risk of default when objective underlying these special obligation, that the consumer have a higher payments are required might provisions: Facilitating the refinancing positive payment history on the existing present greater credit risks to the of home mortgages on which consumers mortgage loan obligation, and that the institutions holding their loans when risk a likely default due to impending payment on the new refinancing be those loans are refinanced without payment shock into more stable and lower than on the existing mortgage verifying the consumer’s income and affordable products. loan obligation. assets. Accordingly, the Board’s 43(d)(1)(i) Non-Standard Mortgage One difference the Board noted proposal would have imposed some between the statute and typical requirements that are more stringent As noted above, the statute does not streamlined refinance programs is that than those of typical streamlined define the terms ‘‘hybrid loan’’ and the statute targets consumers facing refinance programs as a prerequisite to ‘‘standard loan’’ used in TILA section ‘‘likely default’’ if the existing mortgage the refinancing provision under 129C(a)(6)(E). The Board proposed ‘‘reset[s].’’ The Board indicated that, by proposed § 226.43(d). For example, the definitions it believed to be consistent contrast, streamlined refinance proposal would have permitted a with Congress’s objectives. Proposed programs may not be limited to consumer to have had only one § 226.43(d)(2)(i) substituted the term consumers at risk in this way. For delinquency of more than 30 days in the ‘‘non-standard mortgage’’ for the example, streamlined refinancing 24 months immediately preceding the statutory term ‘‘hybrid loan’’ and would programs may assist consumers who are consumer’s application for a refinance. have defined non-standard mortgage as not facing potential default but who By contrast, the Board indicated that any ‘‘covered transaction,’’ as defined in simply wish to take advantage of lower streamlined refinance programs of proposed § 226.43(b)(1), that is: • rates despite a drop in their home value which it is aware tend to consider the An adjustable-rate mortgage, as or wish to switch from a less stable consumer’s payment history for only the defined in § 226.18(s)(7)(i), with an variable-rate product to a fixed-rate last 12 months.120 In addition, the introductory fixed interest rate for a product. The Board noted parallels period of one year or longer; 121 proposal would have defined the type of • between TILA’s new refinancing loan into which a consumer may An interest-only loan, as defined in 122 provisions and the focus of HAMP, a refinance under TILA’s new refinancing § 226.18(s)(7)(iv); or government program specifically aimed • A negative amortization loan, as provisions to include several 123 at providing modifications for characteristics designed to ensure that defined in § 226.18(s)(7)(v). Proposed comment 43(d)(2)(i)(A)–1 consumers at risk of ‘‘imminent those loans are stable and affordable. 119 explained the application of the default,’’ or in default or foreclosure. These include a requirement that the definition of non-standard mortgage to However, the Board noted that interest rate be fixed for the first five an adjustable-rate mortgage with an underwriting criteria for a HAMP years after consummation and that the introductory fixed interest rate for one modification are considerably more points and fees be capped at three stringent than for a typical streamlined or more years. This proposed comment percent of the total loan amount, subject refinance. clarified that, for example, a covered to a limited exemption for smaller loans. On balance, the Board interpreted the transaction with a fixed introductory statutory language as being modeled on 43(d)(1) Definitions rate for the first two, three or five years the underwriting standards of typical In the Board’s proposal, § 226.43(d)(1) that then converts to a variable rate for streamlined refinance programs rather established the scope of paragraph (d) the remaining 28, 27 or 25 years, than the tighter standards of HAMP. The and set forth the conditions under respectively, is a non-standard Board concluded that Congress intended which the special refinancing mortgage. By contrast, a covered to facilitate opportunities to refinance provisions applied, while proposed transaction with an introductory rate for loans on which payments could become § 226.43(d)(2) addressed the definitions six months that then converts to a 1 significantly higher and thus for ‘‘non-standard mortgage,’’ ‘‘standard variable rate for the remaining 29 and ⁄2 unaffordable. The Board cautioned that mortgage,’’ and ‘‘refinancing.’’ The years is not a non-standard mortgage. applying underwriting standards that Bureau believes that paragraph (d) The Board articulated several are too stringent could impede should begin with the relevant rationales for its proposed definition of refinances that Congress intended to definitions, before proceeding to the encourage. In particular, the statutory 121 ‘‘The term ‘adjustable-rate mortgage’ means a scope and conditions of the special transaction secured by real property or a dwelling language permitting creditors to give refinancing provisions. The rule ‘‘likely default’’ a ‘‘higher priority as an for which the annual percentage rate may increase finalized by the Bureau is accordingly after consummation.’’ 12 CFR 1026.18(s)(7)(i). acceptable underwriting practice’’ reordered. The following discussion 122 ‘‘The term ‘interest-only’ means that, under indicates that flexibility in these special the terms of the legal obligation, one or more of the details the definitions adopted in periodic payments may be applied solely to accrued refinances should be permitted. In § 1026.43(d)(1), which were proposed addition, underwriting standards that go interest and not to loan principal; an ‘interest-only by the Board under § 226.43(d)(2). loan’ is a loan that permits interest-only payments.’’ significantly beyond those used in Proposed § 226.43(d)(2) defined the 12 CFR 1026.18(s)(7)(iv). existing streamlined refinance programs terms ‘‘non-standard mortgage’’ and 123 ‘‘[T]he term ‘negative amortization’ means payment of periodic payments that will result in an could create a risk that these programs ‘‘standard mortgage.’’ As noted earlier, would be unable to meet the TILA increase in the principal balance under the terms of the legal obligation; the term ‘negative ability-to-repay requirements; thus, an 120 See, e.g., Fannie Mae, Home Affordable amortization loan’ means a loan that permits Refinance Refi Plus Options, at 2 (Mar. 29, 2010); payments resulting in negative amortization, other 119 See, e.g., Fannie Mae, FM 0509, Home Freddie Mac, Pub. No. 387, Freddie Mac-owned than a reverse mortgage subject to section 226.33.’’ Affordable Modification Program, at 1 (2009). Streamlined Refinance Mortgage, at 2 (2010). 12 CFR 1026.18(s)(7)(v).

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a non-standard mortgage. First, the unclear whether TILA section clearly explained to customers. This Board noted that the legislative history 129C(a)(6)(E) was intended to cover this industry commenter further stated that of the Dodd-Frank Act describes type of product. The Board solicited during the life of a balloon-payment ‘‘hybrid’’ mortgages as mortgages with a comment on whether adjustable-rate loan, its customers often make regular ‘‘blend’’ of fixed-rate and adjustable-rate mortgages with an initial fixed rate payments that reduce the principal characteristics—generally loans with an should be considered non-standard balance and that balloon-payment loans initial fixed period and adjustment mortgages regardless of how long the do not make it more likely that a periods, such as ‘‘2/23s and 3/27s.’’ 124 initial fixed rate applies, or if the consumer will default. The Board also stated that the legislative proposed initial fixed-rate period of at While the Bureau agrees that many history indicates that Congress was least one year should otherwise be consumers may need to seek a concerned about consumers being revised. refinancing when a balloon loan trapped in mortgages likely to result in The proposed definition of non- payment comes due, given the approach payments that would suddenly become standard mortgage also did not include that the Bureau has taken to significantly higher—often referred to as balloon-payment mortgages. The Board implementing the payment shock ‘‘payment shock’’—because their home noted that balloon-payment mortgages refinancing provision in § 1026.43(d), values had dropped, thereby ‘‘making are not clearly ‘‘hybrid’’ products, given the Bureau is declining to expand the refinancing difficult.’’ 125 that the monthly payments on a balloon- definition of non-standard mortgage to The Board interpreted Congress’ payment mortgage do not necessarily include balloon-payment mortgages. As concern about consumers being at risk increase or change from the time of discussed in more detail in the due to payment shock as supporting an consummation; rather, the entire supplementary information to interpretation of the term ‘‘hybrid loan’’ outstanding principal balance becomes § 1026.43(d)(3), as adopted § 1026.43(d) to encompass both loans that are due on a particular, predetermined date. provides a broad exemption to all of the ‘‘hybrid’’ in that they start with a fixed The Board stated that consumers of general ability-to-repay requirements set interest rate and convert to a variable balloon-payment mortgages typically forth in § 1026.43(c) when a non- rate, but also loans that are ‘‘hybrid’’ in expect that the entire loan balance will standard mortgage is refinanced into a that consumers can make payments that be due at once at a certain point in time standard mortgage provided that certain do not pay down principal for a period and are generally aware well in advance conditions are met. The point of this of time that then convert to higher that they will need to repay the loan or exemption is to enable creditors, payments covering all or a portion of refinance. without going through full principal. By defining ‘‘non-standard The Board solicited comment on underwriting, to offer consumers who mortgage’’ in this way, the proposal was whether to use its legal authority to are facing increased monthly payments intended to increase refinancing options include balloon-payment mortgages in due to the recast of a loan a new loan for a wide range of at-risk consumers the definition of non-standard mortgage with lower monthly payments. Thus, a while conforming to the statutory for purposes of the special refinancing key element of the exemption is that the language and legislative intent. provisions of TILA section monthly payment on the standard The proposed definition of ‘‘non- 129C(a)(6)(E). The Board also requested mortgage be materially lower than the standard mortgage’’ would not have comment generally on the monthly payment for the non-standard included adjustable-rate mortgages appropriateness of the proposed mortgage. As discussed in the section- whose rate is fixed for an initial period definition of non-standard mortgage. by-section analysis of § 1026.43(d)(1) of less than one year. In those instances, Commenters on this aspect of the below, the Bureau is adopting a safe the Board posited that a consumer may proposal generally urged the Bureau to harbor for reductions of 10 percent. expand in various ways the proposed not face ‘‘payment shock’’ because the Balloon payments pose a different kind definition of non-standard mortgage and consumer has paid the fixed rate for of risk to consumers, one that arises not either supported or did not address the such a short period of time. The Board from the monthly payments (which proposed definition’s inclusion of also expressed concern that allowing often tend to be low) but from the adjustable-rate mortgages, interest-only streamlined refinancings under this balloon payment due when the entire loans, or negative amortization loans. provision where the interest rate is fixed remaining balance becomes due. The One consumer group commented that it for less than one year could result in provisions of § 1026.43(d)(1) are not supported the Board’s proposed ‘‘loan flipping.’’ A creditor, for example, meant to address this type of risk. definition of non-standard mortgage. could make a covered transaction and Accordingly, the Bureau declines to Other consumer group commenters then only a few months later refinance expand the definition of non-standard stated that the Bureau should use its mortgage to include balloon-payment that loan under proposed § 226.43(d) to exemption and adjustment authority take advantage of the exemption from loans. The Bureau believes, however, under TILA to include balloon-payment that where a consumer is performing certain ability-to-repay requirements loans within the scope of proposed while still profiting from the refinancing under a balloon-payment mortgage and § 226.43(d). In addition, one industry is offered a new loan of a type that fees. commenter stated that creditors should The Board expressed concern that would qualify as a standard loan with have flexibility to refinance a under its proposed definition, a monthly payments at or below the performing balloon-payment loan payments of the balloon-payment consumer could refinance out of a within the six months preceding, or relatively stable product, such as an mortgage, creditors will have little three months following, a balloon difficulty in satisfying the ability-to- adjustable-rate mortgage with a fixed payment date without regard to the interest rate for a period of 10 years, repay requirements. ability-to-pay requirements. In contrast, Consumer group commenters and one which then adjusts to a variable rate for one industry commenter stated that GSE commenter argued that the the remaining loan term, and that it was balloon-payment loans should not be definition of non-standard mortgage included in the definition of non- should accommodate GSE-held loans. 124 See Comm. on Fin. Servs., Report on H.R. 1728, Mortgage Reform and Anti-Predatory Lending standard mortgage, because consumers These commenters stated that these Act, H. Rept. 94, 110th Cong., at 5 (2009). are generally well aware of the balloon loans should receive the same income 125 Id. at 51–52. payment feature in a loan, which is verification exemption as Federal

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agency streamlined refinancing applicability in § 1026.43(d) would be afforded by the ability-to-repay programs. These commenters noted that available for refinancing a GSE-held requirements. Absent these exigent while the GSEs are held in loan. circumstances, the Bureau believes that conservatorship by the Federal Industry commenters and one creditors should determine that the government, GSE-held loans should be industry trade association commented consumer has the ability to repay the treated the same as FHA for purposes of that special ability-to-repay mortgage loan. The Bureau does not streamlined refinance programs, which requirements should be available for all believe that a consumer who receives an are ultimately about reducing the risk to rate-and-term refinancings, regardless of initial lower monthly payment from a the taxpayer by avoiding default by whether the refinancings are insured or rate-and-term refinancing actually consumers who could receive lower- guaranteed by the Federal government receives a benefit if the consumer cost mortgage loans. Consumer group or involve a non-standard mortgage. cannot reasonably be expected to repay commenters further urged that GSE One industry trade association stated the loan. Also, the Bureau notes that streamlined refinance programs should that such special ability-to-repay some of the scenarios identified by be subject to standards at least as requirements should incorporate similar commenters, such as offering a stringent as those for the FHA standards to those established for consumer a better rate with a rate-and- streamlined refinance program. certain government loans in TILA term refinancing where the creditor In addition, one of the GSEs section 129C(a)(5), including a bears the credit risk, would be exempt questioned the policy justification for requirement that the consumer not be 30 from the ability-to-repay requirements. the differences between sections or more days delinquent. For such A refinancing that results in a reduction 129C(a)(5) and 129C(a)(6)(E) of TILA. loans, this trade association stated that in the APR with a corresponding change TILA section 129C(a)(5), which applies other requirements under TILA section in the payment schedule and meets the to certain government loans, permits 129C(a)(6)(E) regarding payment history other conditions in § 1026.20(a) is not a Federal agencies to exempt certain should not be imposed, because the ‘‘refinancing’’ for purposes of § 1026.43, refinancings from the income and asset consumer is already obligated to pay the and therefore is not subject to the verification requirement without regard debt and the note holder in many cases ability-to-repay requirements. As with to the original mortgage product, in will already bear the credit risk. Other other terms used in TILA section 129C, contrast to TILA section 129C(a)(6)(E), commenters stated that because a rate- the Bureau believes that this which as discussed above applies only and-term refinancing would offer the interpretation is necessary to achieve when the original loan is a ‘‘hybrid’’ consumer a better rate (except in the Congress’s intent. loan. This commenter noted that case of adjustable rate mortgages), there consumers with certain types of is no reason to deny the creditor the Several other industry commenters mortgage loans, such as fixed-rate and ability to improve its credit risk and to urged the Bureau to broaden the balloon-payment loans, may have to go offer the consumer better financing. definition of non-standard mortgage to through a more costly and cumbersome Several industry commenters and one include refinancings extended pursuant process to refinance their mortgages GSE noted that streamlined refinancing to the Home Affordable Refinance than consumers with government loans. programs are an important resource for Program (HARP) and similar programs. The Bureau declines to adopt consumers seeking to refinance into a One such commenter indicated that regulations implementing TILA section lower monthly payment mortgage even under HARP, a loan can only be 129C(a)(5). The Bureau notes that TILA when the underlying mortgage loan is refinanced if the consumer is not in section 129C(a)(5) expressly confers not a non-standard mortgage, and urged default, the new payment is fully authority on certain Federal agencies the Bureau to considering modifying amortizing, and both the original and (i.e., HUD, VA, USDA, and RHS) to proposed § 226.43(d) to include new loans comply with agency exempt from the income verification conventional loans where the party requirements. This commenter stated requirement refinancings of certain making or purchasing the new loan that HARP permits consumers who loans made, guaranteed, or insured by already owns the credit risk. would not otherwise be able to such Federal agencies. The scope of The Bureau declines to expand the refinance due to a high loan-to-value TILA section 129C(a)(5) is limited to scope of § 1026.43(d) to include rate- ratio or other reasons to refinance into such Federal agencies or government- and-term refinancings when the another loan, providing a consumer guaranteed or -insured loans. The underlying mortgage is not a non- benefit. The commenter indicated that Bureau also declines to expand the standard mortgage, as defined in HARP loans do not meet all of the scope of § 1026.43(d) to include GSE § 1026.43(d)(1)(i). The Bureau believes proposed ability-to-repay requirements refinancings that do not otherwise fall that the statute clearly limits the and that the Bureau should use its within the scope of § 1026.43(d). While refinancing provision in TILA section authority to provide that HARP and accommodation for GSE-held mortgage 129(C)(6)(E) to circumstances where the other similar programs are exempt from loans that are not non-standard loan being refinanced is a ‘‘hybrid loan’’ the ability-to-repay requirements, as mortgages under § 1026.43(d) may be and where the refinancing could they promote credit availability and appropriate, the Bureau wishes to obtain ‘‘prevent a likely default.’’ The Bureau increasing stability in the housing additional information in connection agrees with the Board that TILA section market. The Bureau acknowledges that with GSE refinancings and has 129C(a)(6)(E) is intended to address HARP refinancings and the payment requested feedback in a proposed rule concerns about loans involving possible shock refinancings addressed under published elsewhere in today’s Federal payment shock. Where a consumer has TILA section 129C(a)(6)(E) are both Register. However, the Bureau notes proven capable of making payments, is intended to assist consumers harmed by that to the extent a loan held by the about to experience payment shock, is at the financial crisis. Although both types GSEs (or a loan made, guaranteed or risk of default, and is refinancing to a of refinancings are motivated by similar insured by the Federal agencies above) mortgage with a lower monthly payment goals, the Bureau does not believe that qualifies as a non-standard mortgage and with product terms that do not pose expanding § 1026.43(d) to include all under § 1026.43(d)(1)(i) and the other any increased risk, the Bureau believes HARP refinancings is consistent with conditions in § 1026.43(d) are met, the that the benefits of the refinancing TILA section 129C(a)(6)(E) because refinancing provisions of general outweigh the consumer protections HARP refinancings are not predicated

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on the occurrence of payment shock and non-standard mortgage; and (2) closing expressed by such commenters and a consumer’s likely default. For or settlement charges required to be believes that it is appropriate to require example, a consumer with a mortgage disclosed under RESPA. that balloon-payment loans be loan that will not recast and who is not Proposed limitations on regular underwritten in accordance with the at risk of default may qualify for a HARP periodic payments. Proposed general ability-to-repay standard, rather refinancing if the consumer’s loan-to- § 226.43(d)(2)(ii)(A) would have than under the payment shock value ratio exceeds 80 percent. The required that a standard mortgage refinancing provision in § 1026.43(d). Bureau strongly believes that provide for regular periodic payments Accordingly, the Bureau is not § 1026.43(d) should be limited to that do not result in negative expanding the definition of standard instances where a consumer is facing amortization, deferral of principal mortgage to include balloon-payment payment shock and likely default. repayment, or a balloon payment. mortgages. While not limited to the prevention of Proposed comment 43(d)(2)(ii)(A)–1 The Bureau received no other payment shock and default, the Bureau clarified that ‘‘regular periodic comment on this proposed definition. acknowledges that extensions of credit payments’’ are payments that do not Accordingly, the Bureau is adopting the made pursuant to programs such as result in an increase of the principal definition of standard mortgage as HARP are intended to assist consumers balance (negative amortization) or allow proposed, renumbered as harmed by the financial crisis. the consumer to defer repayment of § 1026.43(d)(1)(ii)(A). Similarly, the Furthermore, these programs employ principal. The proposed comment Bureau received no comment on complex underwriting requirements to explained that the requirement for proposed comment 43(d)(2)(ii)(A)–1, determine a consumer’s ability to repay. ‘‘regular periodic payments’’ means that which is adopted as proposed and Thus, it may be appropriate to modify the contractual terms of the standard renumbered as 43(d)(1)(ii)(A)–1. the ability-to-repay requirements to mortgage must obligate the consumer to Proposed three percent cap on points accommodate such programs. However, make payments of principal and interest and fees. Proposed § 226.43(d)(2)(ii)(B) an appropriate balance between helping on a monthly or other periodic basis would have prohibited creditors from affected consumers and ensuring that that will repay the loan amount over the charging points and fees on the these consumers are offered and receive loan term. Proposed comment mortgage loan of more than three residential mortgage loans on terms that 43(d)(2)(ii)(A)–1 further explained that, percent of the total loan amount, with reasonably reflect consumers’ ability to with the exception of payments certain exceptions for small loans. repay must be found. To determine how resulting from any interest rate changes Specifically, proposed to strike this balance, the Bureau wishes after consummation in an adjustable- § 226.43(d)(2)(ii)(B) cross-referenced the to obtain additional information in rate or step-rate mortgage, the periodic points and fees provisions under connection with these programs and has payments must be substantially equal, proposed § 226.43(e)(3), thereby requested feedback in a proposed rule with a cross-reference to proposed applying the points and fees limitations published elsewhere in today’s Federal comment 43(c)(5)(i)–3 regarding the for a ‘‘qualified mortgage’’ to a standard Register. meaning of ‘‘substantially equal.’’ In mortgage. The points and fees limitation Accordingly, the definition of ‘‘non- addition, the comment clarified that for a ‘‘qualified mortgage’’ and the standard mortgage’’ is adopted as ‘‘regular periodic payments’’ do not relevant exception for small loans are proposed, renumbered as include a single-payment transaction discussed in detail in the section-by- § 1026.43(d)(1)(i). In addition, comment and cross-referenced similar section analysis of § 1026.43(e)(3) 43(d)(2)(i)(A)–1 also is adopted as commentary on the meaning of ‘‘regular below. proposed, renumbered as periodic payments’’ under proposed The Board noted several reasons for 43(d)(1)(i)(A)–1. comment 43(e)(2)(i)–1. Proposed the proposed limitation on the points comment 43(d)(2)(ii)(A)–1 also cross- and fees that may be charged on a 43(d)(1)(ii) Standard Mortgage referenced proposed comment standard mortgage. First, the limitation Proposed § 226.43(d)(2)(ii) would 43(e)(2)(i)–2 to explain the prohibition was intended to prevent creditors from have substituted the term ‘‘standard on payments that ‘‘allow the consumer undermining the provision’s purpose— mortgage’’ for the statutory term to defer repayment of principal.’’ placing at-risk consumers into more ‘‘standard loan’’ and defined this term One consumer group commenter affordable loans—by charging excessive to mean a covered transaction that has stated that it supported the exclusion of points and fees for the refinance. the following five characteristics: negative amortization, interest-only Second, the points and fees limitation • First, the regular periodic payments payments, and balloon payments from was intended to ensure that consumers may not: (1) Cause the principal balance the definition of standard mortgage. In attain a net benefit in refinancing their to increase; (2) allow the consumer to addition, several other consumer groups non-standard mortgage. The higher a defer repayment of principal; or (3) commented in support of the Board’s consumer’s up-front costs to refinance a result in a balloon payment. proposal to exclude balloon-payment home mortgage, the longer it will take • Second, the total points and fees loans from the definition of standard for the consumer to recoup those costs payable in connection with the mortgage. These commenters stated that through lower payments on the new transaction may not exceed three balloon-payment products, even with mortgage. By limiting the amount of percent of the total loan amount, with self-executing renewal, should not be points and fees that can be charged in exceptions for smaller loans specified in permitted to take advantage of an a refinance covered by proposed proposed § 226.43(e)(3). exemption from the general § 226.43(d), the provision increases the • Third, the loan term may not underwriting standards in § 1026.43(c). likelihood that the consumer will hold exceed 40 years. Consumer groups expressed concern the loan long enough to recoup those • Fourth, the interest rate must be that, in cases where the consumer does costs. Third, the proposed limitation fixed for the first five years after not have assets sufficient to make the was intended to be consistent with the consummation. balloon payment, balloon-payment provisions set forth in TILA section • Fifth, the proceeds from the loan loans will necessarily require another 129C(a)(5) regarding certain may be used solely to pay—(1) the refinance or will lead to a default. The refinancings under Federal agency outstanding principal balance on the Bureau agrees with the concerns programs.

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The Board requested comment on the years is consistent with TILA section increased payments for some proposal to apply the same limit on the 129C(b)(2)(A)(v), which requires the consumers. points and fees that may be charged for creditor to underwrite a qualified The Bureau is adopting the a ‘‘qualified mortgage’’ under § 226.43(e) mortgage based on the maximum requirement that a standard mortgage to the points and fees that may be interest rate that may apply during the have a fixed interest rate for the first five charged on a ‘‘standard mortgage’’ under first five years. The Board indicated that years after consummation as proposed, § 226.43(d). The Bureau received no Congress intended both qualified renumbered as § 1026.43(d)(1)(ii)(D). comments on this proposed points and mortgages and standard mortgages to be The Bureau agrees with the Board that fees threshold, which is adopted as stable loan products, and therefore that the intent of TILA section 129C(a)(6)(E) proposed, renumbered as the required five-year fixed-rate period appears to be to facilitate refinances of § 1026.43(d)(1)(ii)(B). See the section- for qualified mortgages would also be an riskier mortgages into more stable loan by-section analysis of § 1026.43(e)(3) appropriate benchmark for standard products, and accordingly, believes that below for more specific information mortgages. The Board further stated that a standard mortgage should provide for a significant period of time during regarding the limitations applicable to the safeguard of a fixed rate for five which payments will be predictable, ‘‘points and fees’’ for qualified years after consummation would help to based on a fixed rate or step rates that mortgages and refinancings under ensure that consumers refinance into § 1026.43(d). are set at the time of consummation. Proposed loan term of no more than products that are stable for a substantial The Bureau believes that five years is an 40 years. Proposed § 226.43(d)(2)(ii)(C) period of time. In particular, a fixed appropriate standard in part because it would have provided that, to qualify as payment for five years after is consistent with the statutory a standard mortgage under proposed consummation would constitute a requirement for a qualified mortgage § 226.43(d), a covered transaction may significant improvement in the under section 129C(b)(2)(A)(v). The not have a loan term of more than 40 circumstances of a consumer who may Bureau believes that predictability for years. The Board stated that this have defaulted absent the refinance. The consumers is best effectuated by a single condition was intended to ensure that Board specifically noted that the rule that applies in all interest rate creditors and consumers have sufficient proposal would permit so-called ‘‘5/1 environments, rather than a rule that options to refinance a 30-year loan, for ARMs,’’ where the interest rate is fixed depends on the interest rate example, which is unaffordable for the for the first five years, after which time environment in effect at the time of the consumer in the near term, into a loan the rate becomes variable, to be standard refinancing. Further, given that with lower, more affordable payments mortgages. § 1026.43(d) provides an exemption over a longer term. This flexibility may The Board requested comment on the from the general ability-to-repay be especially important in higher cost proposal defining a standard mortgage requirements in § 1026.43(c), the Bureau areas where loan amounts on average as a mortgage loan with an interest rate believes that it is important that a exceed loan amounts in other areas. that is fixed for at least the first five refinancing conducted in accordance The Board noted that loans with years after consummation, including on with § 1026.43(d) result in a stable loan longer terms may cost more over time, whether the rate should be required to product and predictable payments for a but indicated that it was reluctant to be fixed for a shorter or longer period significant period of time. foreclose options for consumers for and data to support any alternative time In addition, the Board solicited whom the lower payment of a 40-year period. One consumer group commenter comment on whether a balloon-payment mortgage of at least five years should be loan might make the difference between stated that the use of adjustable-rate defaulting and not defaulting. The considered a standard mortgage under mortgages should be limited in the Board also noted that prevalent the refinancing provisions of proposed definition of standard mortgage. This streamlined refinance programs permit § 226.43(d). The Board noted that in commenter stated that adjustable-rate loan terms of up to 40 years and some circumstances, a balloon-payment mortgage loans contributed to the expressed concern about disrupting the mortgage with a fixed, monthly payment subprime lending expansion and the current mortgage market at a vulnerable for five years might benefit a consumer time. The Board specifically requested financial crisis that followed. In who otherwise would have defaulted. comment on the proposed condition to particular, this commenter expressed The Board further noted that a five-year allow a standard mortgage to have a concern that adjustable-rate mortgage balloon-payment mortgage may not be loan term of up to 40 years. The Bureau loans were utilized in loan-flipping appreciably less risky for the consumer received no comment on this proposed schemes that trapped consumers in than a ‘‘5/1 ARM,’’ which is permitted condition, which is adopted as unaffordable loans, forcing such under the proposal, depending on the proposed, renumbered as consumers to refinance into less terms of the rate adjustment scheduled § 1026.43(d)(1)(ii)(C). affordable mortgage loans. This to occur in year five. Proposed requirement that the interest commenter indicated that standard As discussed above, several consumer rate be fixed for the first five years. mortgages should be limited to fixed groups stated that balloon products, Proposed § 226.43(d)(2)(ii)(D) would and step-rate loans and, in low or even with self-executing renewal, have required that a standard mortgage moderate interest rate environments, should not be permitted to take have a fixed interest rate for the first five adjustable-rate mortgages with a 5-year advantage of an exemption from the years after consummation. Proposed or longer-term fixed period. However, general underwriting standards in comment 43(d)(2)(ii)(D)–1 provided an this commenter urged the Bureau to § 1026.43(c). Consumer groups illustrative example. The proposed consider permitting shorter-term expressed concern that, in cases where comment also cross-referenced adjustable-rate mortgages to be standard the consumer does not have assets proposed comment 43(e)(2)(iv)–3.iii for mortgages in high interest rate sufficient to make the balloon payment, guidance regarding step-rate mortgages. environments because in such balloon-payment mortgages will The Board articulated several reasons circumstance, an adjustable-rate necessarily require another refinance or for requiring a minimum five-year fixed- mortgage could potentially reduce the will lead to a default. For the reasons rate period for standard mortgages. First, consumer’s monthly payments at recast, discussed in the supplementary the Board noted that a fixed rate for five which may outweigh the risks of information to § 1026.43(d)(1)(ii)(A)

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above, the Bureau is not expanding the inconsistent with the statutory purposes Accordingly, the Bureau is adopting the definition of ‘‘standard mortgage’’ to of TILA section 129C(a)(6)(E), which is definition of refinancing as proposed, include balloon-payment mortgages. intended to permit refinancings on the renumbered as § 1026.43(d)(1)(iii). Proposed requirement that loan basis of less stringent underwriting in 43(d)(2) Scope proceeds be used for limited purposes. the narrow circumstances where a Proposed § 226.43(d)(2)(ii)(E) would consumer’s non-standard mortgage is In the Board’s proposal, § 226.43(d)(2) have restricted the use of the proceeds about to recast and lead to a likely addressed the definitions for ‘‘non- of a standard mortgage to two purposes: default by the consumer. The Bureau standard mortgage,’’ ‘‘standard • To pay off the outstanding principal believes that permitting a consumer to mortgage,’’ and ‘‘refinancing,’’ while balance on the non-standard mortgage; utilize home equity for home repairs in proposed § 226.43(d)(1) established the and connection with a refinancing scope of paragraph (d) and set forth the • To pay closing or settlement conducted pursuant to § 1026.43(d) conditions under which the special charges required to be disclosed under could further compromise the financial refinancing provisions applied. The the Real Estate Settlement Procedures position of consumers who are already Bureau believes that paragraph (d) Act, 12 U.S.C. 2601 et seq., which in a risky financial position. The Bureau should begin with the relevant includes amounts required to be believes that it would be more definitions, before proceeding to the deposited in an escrow account at or appropriate, where home repairs are scope and conditions of the special before consummation. needed, for a creditor to perform the refinancing provisions. The rule Proposed comment 43(d)(2)(ii)(E)–1 underwriting required to advance any finalized by the Bureau is accordingly clarified that if the proceeds of a credit required in connection with those reordered. The following discussion covered transaction are used for other repairs. In addition, the Bureau believes details the provisions adopted in purposes, such as to pay off other liens that such an exemption could be subject § 1026.43(d)(2), which were proposed or to provide additional cash to the to manipulation by fraudulent home by the Board under § 226.43(d)(1). consumer for discretionary spending, contractors, by the creditor, and even by Proposed § 226.43(d)(1) would have the transaction does not meet the a consumer. It would be difficult, even defined the scope of the refinancing definition of a ‘‘standard mortgage.’’ with a requirement that the consumer provisions under proposed § 226.43(d). The Board expressed concern that provide verified estimates, to ensure Specifically, proposed § 226.43(d) permitting the consumers to lose that amounts being disbursed for home applied when a non-standard mortgage additional equity in their homes under is refinanced into a standard mortgage the proposed refinancing provisions repairs actually are needed, and in fact used, for that purpose. and the following conditions are met— could undermine the financial stability • The creditor of the standard of those consumers, thus contravening 43(d)(1)(iii) mortgage is the current holder of the the purposes of TILA section Proposed § 226.43(d)(2)(iii) would existing non-standard mortgage or the 129C(a)(6)(E). The Board requested have defined the term ‘‘refinancing’’ to servicer acting on behalf of the current comment, however, on whether some de have the same meaning as in holder. minimis amount of cash to the § 1026.20(a).126 Section 1026.20(a) • The monthly payment for the consumer should be permitted, either defines the term ‘‘refinancing’’ generally standard mortgage is significantly lower because this allowance would be to mean a transaction in which an than the monthly payment for the non- operationally necessary to cover existing obligation is ‘‘satisfied and standard mortgage, as calculated under transaction costs or for other reasons, replaced by a new obligation proposed § 226.43(d)(5). • such as to reimburse a consumer for undertaken by the same consumer.’’ The creditor receives the closing costs that were over-estimated Official commentary explains that consumer’s written application for the but financed. ‘‘[w]hether a refinancing has occurred is standard mortgage before the non- The Bureau received only one determined by reference to whether the standard mortgage is ‘‘recast.’’ comment on this aspect of the proposal. • original obligation has been satisfied or The consumer has made no more An association of State bank regulators extinguished and replaced by a new than one payment more than 30 days agreed that the rule should generally obligation, based on the parties’ contract late on the non-standard mortgage restrict the use of the proceeds of the and applicable law.’’ See comment during the 24 months immediately standard mortgage to paying off the 20(a)–1. However, the following are not preceding the creditor’s receipt of the outstanding balance on the non- considered ‘‘refinancings’’ for purposes consumer’s written application for the standard mortgage or to pay closing or of § 1026.20(a): (1) A renewal of a standard mortgage. settlement costs. However, they urged • The consumer has made no payment obligation with no change in the Bureau to provide an exemption that payments more than 30 days late during the original terms; and (2) a reduction would permit loan proceeds to be used the six months immediately preceding in the annual percentage rate with a to pay for known home repair needs and the creditor’s receipt of the consumer’s corresponding change in the payment suggested that any such exemption written application for the standard schedule. See § 1026.20(a)(1) and (a)(2), require the consumer to provide verified mortgage. and comment 20(a)–2. Proposed comment 43(d)(1)–1 estimates in advance in order to ensure The Board requested comment on clarified that the requirements for a that loan proceeds are used only for whether the proposed meaning of ‘‘written application,’’ a term that required home repairs. ‘‘refinancing’’ should be expanded to The Bureau is adopting the limitation appears in § 226.43(d)(1)(iii), (d)(1)(iv) include a broader range of transactions on the use of loan proceeds as proposed, and (d)(1)(v), discussed in detail below, or otherwise should be defined renumbered as § 1026.43(d)(1)(ii)(E). are found in comment 19(a)(1)(i)–3. differently or explained more fully than The Bureau declines to permit the Comment 19(a)(1)(i)–3 states that proposed. The Bureau received no proceeds of a refinancing conducted in creditors may rely on the Real Estate comments on this proposed definition. accordance with § 1026.43(d) to be used Settlement Procedures Act (RESPA) and Regulation X (including any for home repair purposes, for several 126 The Board’s proposal originally referred to reasons. First, the Bureau believes that 226.20(a), which was subsequently renumbered as interpretations issued by HUD) in such an exemption would be 12 CFR 1026.20(a).

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deciding whether a ‘‘written of the existing mortgage, the proposal TILA by ensuring that consumers are application’’ has been received. This was intended to apply to a loan that has offered and receive residential mortgage comment further states that, in general, been sold to a GSE, refinanced by the loans on terms that reasonably reflect Regulation X defines ‘‘application’’ to existing servicer, and continues to be their ability to repay, while ensuring mean the submission of a borrower’s held by the same GSE. The Board that consumers at risk of default due to financial information in anticipation of solicited comment on whether the payment shock are able to obtain a credit decision relating to a federally proposed rule could be structured responsible, affordable refinancing related mortgage loan. See 12 CFR differently to better ensure that the credit from the current holder of the 1024.2(b). Comment 19(a)(1)(i)–3 creditor retains an interest in the consumer’s mortgage loan, or the clarifies that an application is received performance of the new loan and servicer acting on behalf of the current when it reaches the creditor in any of whether additional guidance is needed. holder. To prevent unscrupulous the ways applications are normally Several commenters urged the Bureau creditors from using § 1026.43(d) to transmitted, such as by mail, hand to impose a specific period following a engage in loan-flipping, and to ensure delivery, or through an intermediary refinancing under § 226.43(d) during that this exemption is available only in agent or broker. The comment further which the creditor must remain the those cases where consumer benefit is clarifies that, if an application reaches current holder of the loan. Consumer the most likely, the Bureau believes that the creditor through an intermediary group commenters suggested that to be it is important that the creditor of the agent or broker, the application is eligible for the non-standard mortgage standard loan be the holder of, or the received when it reaches the creditor, refinancing the creditor should be servicer acting on behalf of the holder rather than when it reaches the agent or required to maintain full interest in the of, the non-standard loan. In such cases, broker. Comment 19(a)(1)(i)–3 also refinanced loan for a minimum of 12 the Bureau agrees with the Board that cross-references comment 19(b)–3 for months. These commenters expressed the creditor has a better incentive to guidance in determining whether or not concern that the lack of such a retention refinance the consumer into a more the transaction involves an intermediary requirement would permit creditors to stable and affordable loan. Therefore, agent or broker. The Bureau received no refinance loans that are likely to fail the Bureau declines to extend the scope comments on this proposed comment, without performing the robust of § 1026.43(d) to cover cases in which which is adopted as proposed, underwriting that would otherwise be the creditor of the non-standard loan is renumbered as 43(d)(2)–1. required for a new loan. If such loans not the current holder of the were to be immediately sold to a third 43(d)(2)(i) nonstandard loan or servicer acting on party, consumer groups indicated that it behalf of that holder. Proposed § 226.43(d)(1)(i) would have could invite abuse by creditors with an required that the creditor for the new incentive to sell riskier loans without The Bureau believes that the mortgage loan also be either the current providing full value to the consumer. combination of this restriction and the holder of the existing non-standard An association of State bank regulators other protections contained in mortgage or the servicer acting on behalf urged the Bureau to adopt a two-year § 1026.43(d) is sufficient to prevent of the current holder. This provision holding period during which the unscrupulous creditors from engaging in was intended to implement the creditor must remain the current holder loan-flipping. Therefore, the Bureau requirement in TILA section of the loan. does not believe that it is necessary to 129C(a)(6)(E) that the existing loan must One industry commenter indicated impose a specified period during which be refinanced by ‘‘the creditor into a that the Bureau should broaden the the creditor of the standard mortgage standard loan to be made by the same scope to permit a subservicer of the loan must remain the holder of the loan. As creditor.’’ to be the creditor with respect to the discussed in the section-by-section The Board interpreted the statutory standard loan. Another industry analysis of § 1026.43(d)(2)(vi) below, the phrase ‘‘same creditor’’ to mean that the commenter stated that the scope should Bureau has conditioned use of creditor refinancing the loan must have be expanded to allow a creditor to § 1026.43(d), for non-standard loans an existing relationship with the refinance a non-standard mortgage that consummated after the effective date of consumer. The Board explained that the it did not originate or is not servicing. this final rule, on the non-standard loan existing relationship is important This commenter indicated that due to having been made in accordance with because the creditor must be able to the volume of requests for refinancing the ability-to-repay requirements in easily access the consumer’s payment received by some creditors, consumers § 1026.43(c), including consideration of history and potentially other may benefit from more timely the eight factors listed in § 1026.43(c)(2). information about the consumer in lieu refinancing if a third-party creditor is The Bureau believes that this will help of documenting the consumer’s income eligible to use non-standard refinancing to ensure that creditors cannot use the and assets. The Board also noted that provisions. refinancing provisions of § 1026.43(d) to this statutory provision is intended to The Bureau is adopting this systematically make and divest riskier ensure that the creditor of the requirement as proposed, renumbered mortgages, or to cure substandard refinancing has an interest in placing as § 1026.43(d)(2)(i). As discussed in underwriting on a non-standard the consumer into a new loan that is more detail below, as adopted mortgage by refinancing the consumer affordable and beneficial. The proposal § 1026.43(d) provides a broad into a loan with a lower, but still would have permitted the creditor of the exemption to all of the ability-to-repay unaffordable, payment. TILA section refinanced loan to be the holder, or requirements set forth in § 1026.43(c) 130(k)(1) provides that consumers may servicer acting on behalf of the holder, when a non-standard mortgage is assert as a defense to foreclosure by way of the existing mortgage. The Board refinanced into a standard mortgage of recoupment or setoff violations of further explained that the existing provided that certain conditions are TILA section 129C(a) (of which TILA servicer may be the entity conducting met. Section 1026.43(d)(2)(i) is adopted section 129C(a)(6)(E) comprises a the refinance, particularly for refinances pursuant to the Bureau’s authority subpart). 15 U.S.C. 1640(k)(1). This held by GSEs. By also permitting the under section 105(a) of TILA. The defense to foreclosure applies against creditor on the refinanced loan to be the Bureau finds that this adjustment is assignees of the loan in addition to the servicer acting on behalf of the holder necessary to effectuate the purposes of original creditor. Therefore, given that

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the non-standard loan having been the requirement that payment on the 43(d)(2)(iii) originated in accordance with standard mortgage be ‘‘materially § 1026.43(c) is a condition for using the lower’’ than the payment on the non- Proposed § 226.43(d)(1)(iii) would refinancing provision in § 1026.43(d), a standard mortgage. These commenters have required that the creditor for the consumer may assert violations of urged the Bureau not to adopt the 10 refinancing receive the consumer’s § 1026.43(c) on the original non- percent safe harbor proposed by the written application for the refinancing standard loan as a defense to foreclosure Board and stated that the 10 percent safe before the existing non-standard for the standard loan made under harbor would become the de facto rule mortgage is ‘‘recast.’’ As discussed in § 1026.43(d), even if that standard loan if adopted. These commenters expressed the section-by-section analysis of is subsequently sold by the creditor. concerns that the ‘‘materially lower’’ § 1026.43(b)(11) above, the proposal In addition to believing that standard would unduly restrict access to defined the term ‘‘recast’’ to mean, for imposition of a holding period is credit for many consumers and an adjustable-rate mortgage, the unnecessary, the Bureau has concerns suggested that the Bureau instead adopt expiration of the period during which that imposition of a holding period also a standard that would permit more payments based on the introductory could create adverse consequences for consumers to qualify for the non- fixed rate are permitted; for an interest- the safety and soundness of financial standard refinancing provisions. Several only loan, the expiration of the period institutions. In some circumstances, a commenters indicated that the Bureau during which the interest-only creditor may need for safety and should adopt a five percent safe harbor payments are permitted; and, for a soundness reasons to sell a portion of its rather than the proposed ten percent. negative amortization loan, the portfolio, which may include a One industry commenter recommended expiration of the period during which residential mortgage loan that was made that the Bureau permit reductions of a negatively amortizing payments are in accordance with § 1026.43(d). minimum dollar amount to satisfy the permitted. However, such a creditor may not know rule, particularly in cases where the The Board explained that the proposal at the time of the refinancing that it monthly payment is already low. was intended to implement TILA ultimately will need to sell the loan, and Finally, one industry commenter asked section 129C(a)(6)(E)(ii), which permits may even intend to remain the holder the Bureau to provide guidance creditors of certain refinances to the loan for a longer period of time at regarding the meaning of ‘‘materially ‘‘consider if the extension of new credit the time of consummation. The Bureau lower’’ when the reduction in payment would prevent a likely default should has concerns about the burden imposed is less than 10 percent. the original mortgage reset.’’ This on issuers by a holding period in such statutory language implies that the circumstances where the creditor does The Bureau is adopting as proposed the requirement that the payment on the special refinancing provisions apply not or cannot know at the time of the only where the original mortgage has refinance under § 1026.43(d) that the standard mortgage be ‘‘materially lower’’ than the non-standard mortgage not yet ‘‘reset.’’ Accordingly, the Board loan will need to be sold within the next concluded that Congress’s concern 12 months. and the safe harbor for a 10 percent or greater reduction, renumbered as likely was prevention of default in the 43(d)(2)(ii) § 1026.43(d)(2)(ii) and comment event of a ‘‘reset,’’ not loss mitigation on 43(d)(2)(ii)–1. The Bureau agrees with a mortgage for which a default on the Proposed § 226.43(d)(1)(ii) would ‘‘reset’’ payment has already occurred. have required that the monthly payment the Board that it would be inconsistent on the new mortgage loan be ‘‘materially with the statutory purpose to permit the However, in recognition of the fact lower’’ than the monthly payment for required reduction to be merely de that a consumer may not realize that a the existing mortgage loan. This minimis. In such cases, the consumer loan will be recast until the recast proposed provision would have likely would not obtain a meaningful occurs and that the consumer could not implemented the requirement in TILA benefit that would help to prevent refinance the loan under proposed section 129C(a)(6)(E) that there be ‘‘a default. As discussed in the section-by- § 226.43(d), the Board also requested reduction in monthly payment on the section analysis below, § 1026.43(d)(3) comment on whether it would be existing hybrid loan’’ in order for the exempts refinancings from the ability- appropriate to use legal authority to special provisions to apply to a to-repay requirements in § 1026.43(c), make adjustments to TILA to permit refinancing. Proposed comment provided that certain conditions are refinancings after a loan is recast. 43(d)(1)(ii)–1 provided that the monthly met. Given that § 1026.43(d) provides a Consumer groups urged the Bureau to payment for the new loan must be broad exemption to the ability-to-repay expand the scope of the non-standard ‘‘materially lower’’ than the monthly requirements, the Bureau believes that it refinancing provisions to apply to payment for an existing non-standard is important that the reduction in applications filed after the initial recast mortgage and clarifies that the payments payment provide significant value to the of a non-standard loan has occurred. that must be compared must be consumer and increase the likelihood These commenters stated that the intent calculated according to proposed that the refinancing will improve the of the proposal is to avoid ‘‘likely § 226.43(d)(5). The proposed comment consumer’s ability to repay the loan. default’’ and indicated that for some also clarified that whether the new loan Accordingly, the Bureau is adopting the consumers, notification that the payment is ‘‘materially lower’’ than the 10 percent safe harbor as proposed. The consumer’s interest rate has adjusted non-standard mortgage payment Bureau declines to adopt a dollar and their payment has increased may be depends on the facts and circumstances, amount safe harbor because the their first notice that their payment has but that, in all cases, a payment appropriate dollar amount would gone up and increased their likelihood reduction of 10 percent or greater would depend on a number of factors, of default. One consumer group meet the ‘‘materially lower’’ standard. including the amount of the loan and commenter stated that these consumers Consumer groups and an association monthly payment, but notes that may be better credit risks than those of State bank regulators supported the reductions of less than 10 percent could consumers whose loans have not yet adoption of a 10 percent safe harbor for nonetheless meet the ‘‘materially lower’’ recast and they would clearly benefit the ‘‘materially lower’’ standard. In standard depending on the relevant from a materially lower monthly contrast, industry commenters opposed facts and circumstances. payment.

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Several industry commenters permitting consumers to submit The Board provided several reasons similarly urged the Bureau to modify applications for refinancings for a short for proposing to require a look-back the provisions to apply to applications period of time after recast occurs. The period for payment history of 24 for refinancings received after recast of Bureau has determined that permitting months, rather than a 12-month period. the non-standard loan. One of these a consumer to apply for a refinancing First, the Board noted that consumers at commenters stated that the timing of the within two months of the date of recast risk of default when higher payments application is irrelevant to the strikes the appropriate balance between are required might present greater credit consumer’s ability to repay or the the language of the statute and the risks to the institutions holding their consumer’s need to refinance. One practical considerations involved with loans, even if the institutions refinance industry commenter stated that submitting an application for a those loans. Second, the Board noted processing an application and assessing refinancing in response to payment views expressed during outreach by a consumer’s ability to repay a new loan shock. Pursuant to its authority under GSE and creditor representatives that may require additional time well before TILA section 105(a), the Bureau finds consumers with positive payment the recast date. This commenter urged that modifying § 1026.43(d) to apply to histories tend to be less likely than other the Bureau to expand the scope of the extensions of credit where the creditor consumers to become obligated on a non-standard refinancing provisions to receives the consumer’s written new loan for which they cannot afford include refinancings after a loan is application for the standard mortgage no the monthly payments. The Board recast that are in the best interests of later than two months after the non- solicited comment on the proposal to consumers. standard mortgage has recast ensures require that the consumer have only one For the reasons discussed below, the that consumers are offered and receive delinquency during the 24 months prior Bureau is adopting § 1026.43(d)(2)(iii), residential mortgage loans on terms that to applying for a refinancing, which provides that § 1026.43(d) reasonably reflect their ability to repay particularly on whether a longer or applies to the refinancing of a non- while ensuring that responsible, shorter look-back period should be standard mortgage into a standard affordable mortgage credit remains required. In addition, under the proposal, late mortgage when the creditor receives the available to consumers at risk of default due to higher payments resulting from payments of 30 days or fewer on the consumer’s written application for the the recast. existing, non-standard mortgage would standard mortgage no later than two not disqualify a consumer from months after the non-standard mortgage 43(d)(2)(iv) refinancing the non-standard mortgage has recast, provided certain other Proposed § 226.43(d)(1)(iv) would under the streamlined refinance conditions are met. The Bureau believes have required that, during the 24 provisions of proposed § 226.43(d). The that the best reading of TILA section months immediately preceding the Board stated that allowing 129C(a)(6)(E) is that it is intended to creditor’s receipt of the consumer’s delinquencies of 30 or fewer days is facilitate refinancings for consumers at written application for the standard consistent with the statutory prohibition risk of default due to the ‘‘payment mortgage, the consumer has made no on ‘‘any’’ delinquency for several shock’’ that may occur upon the recast more than one payment on the non- reasons. First, the Board noted that of the consumer’s loan to a higher rate standard mortgage more than 30 days delinquencies of this length may occur or fully amortizing payments. The late. Proposed comment 43(d)(1)(iv)–1 for many reasons outside of the Bureau acknowledges that the statutory provided an illustrative example. consumer’s control, such as mailing language contemplates that such recast Together with proposed delays, miscommunication about where has not yet occurred. However, the § 226.43(d)(1)(v), proposed the payment should be sent, or payment Bureau does not believe that Congress § 226.43(d)(1)(iv) would have crediting errors. Second, many creditors intended to provide relief for consumers implemented the portion of TILA incorporate a late fee ‘‘grace period’’ facing imminent ‘‘payment shock’’ section 129C(a)(6)(E) that requires that into their payment arrangements, which based on how promptly the consumer the consumer not have been permits consumers to make their filed, or how quickly the creditor ‘‘delinquent on any payment on the monthly payments for a certain number processed, an application for a existing hybrid loan.’’ of days after the contractual due date refinancing. For example, the periodic Although TILA section 129C(a)(6)(E) without incurring a late fee. rate on a mortgage loan may recast on contains a statutory prohibition on Accordingly, the Board noted that the July 1st, but the higher payment ‘‘any’’ delinquencies on the existing statute should not be read to prohibit reflecting the recast interest rate would non-standard (‘‘hybrid’’) mortgage, the consumers from obtaining needed not be due until August 1st. In this Board interpreted its proposal as refinances due to payments that are late example, a consumer may not consistent with the statute in addition to but within a late fee grace period. experience payment shock until a being consistent with the consumer Finally, the Board indicated that the month after the consumer’s rate recasts. protection purpose of TILA and current predominant streamlined refinance Additionally, it may take a significant industry practices. In addition, the programs of which it is aware uniformly amount of time for a consumer to Board noted its authority under TILA measure whether a consumer has a provide the creditor with all of the sections 105(a) and 129B(e)—which has positive payment history based on information required by the creditor, since transferred to the Bureau—to whether the consumer has made any thereby triggering the receipt of an adjust provisions of TILA and condition payments late by 30 days (or, as in the application for purposes of the ability- practices ‘‘to assure that consumers are proposal, more than 30 days). to-repay requirements. The Bureau does offered and receive residential mortgage Proposed comment 43(d)(1)(iv)–2 not believe that Congress intended the loan on terms that reasonably reflect would have clarified that whether a special treatment afforded by TILA their ability to repay the loans and that payment is more than 30 days late section 129C(a)(6)(E) to hinge on are understandable and not unfair, depends on the contractual due date not paperwork delays such as these. The deceptive, or abusive.’’ 15 U.S.C. accounting for any grace period and Bureau agrees with the arguments raised 1604(a); 15 U.S.C. 1639b(e); TILA provided an illustrative example. The by commenters and believes that the section 129B(a)(2), 15 U.S.C. Board indicated that using the purposes of TILA are best effectuated by 1639b(a)(2). contractual due date for determining

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whether a payment has been made more consumers are offered and receive existing streamlined refinance programs than 30 days after the due date would residential mortgage loans on terms that with well-performing loans. facilitate compliance and enforcement reasonably reflect their ability to repay, Proposed comment 43(d)(1)(v)–1 by providing clarity. Whereas late fee while ensuring that consumers at risk of provided an illustrative example of the ‘‘grace periods’’ are often not stated in default due to payment shock are able proposed rule and clarified that if the writing, the contractual due date is to obtain responsible, affordable number of months between unambiguous. Finally, the Board stated refinancing credit. consummation of the non-standard that using the contractual due date for The Bureau also is adopting mortgage and the consumer’s determining whether a loan payment is comments 43(d)(1)(iv)–1 and application for the standard mortgage is made on time is consistent with 43(d)(1)(iv)–2 generally as proposed, six or fewer, the consumer may not have standard home mortgage loan contracts. with conforming amendments to reflect made any payment more than 30 days The Board requested comment on the 12-month look-back period in late on the non-standard mortgage. The whether the delinquencies that creditors § 1026.43(d)(2)(iv), and renumbered as comment cross-referenced proposed are required to consider under 43(d)(2)(iv)–1 and 43(d)(2)(iv)–2. The comments 43(d)(1)–2 and 43(d)(1)(iv)–2 § 226.43(d)(1) should be late payments Bureau has made several technical for an explanation of ‘‘written of more than 30 days as proposed, 30 amendments to the example in application’’ and how to determine the days or more, or some other time period. comment 43(d)(2)(iv)–1 for clarity. As payment due date, respectively. Consumer groups supported the proposed, the examples in the comment One industry commenter stated that Board’s proposal to identify late referred to dates prior to the effective the prohibition on late payments in the payments as late payments of more than date of this rule; the Bureau has updated past six months should be amended to 30 days. However, they stated that the the dates in the examples so that they provide flexibility when the late payment was due to extenuating requirement that consumers not have will occur after this rule becomes circumstances. The Bureau declines to more than one delinquency in the past effective. 24 months to qualify for a refinance adopt a rule providing an adjustment for under § 1026.43(d) was overly stringent 43(d)(2)(v) extenuating circumstances, for several reasons. First, the existence or absence and that the appropriate standard would Proposed § 226.43(d)(1)(v) would of extenuating circumstances is a fact- be no delinquencies in the past 12 have required that the consumer have specific question and it would be months. made no payments on the non-standard Several industry commenters difficult to distinguish by regulation mortgage more than 30 days late during similarly urged the Bureau to adopt a between extenuating circumstances that the six months immediately preceding 12-month period rather than the reflect an ongoing risk with regard to the the creditor’s receipt of the consumer’s proposed 24-month period in which a consumer’s ability to repay the loan consumer may have one late payment. written application for the standard versus extenuating circumstances that These commenters stated that mortgage. This provision complemented present less risk. In addition, an permitting only one 30-day late proposed § 226.43(d)(1)(iv), discussed adjustment for extenuating payment in the past 24 months is too above, in implementing the portion of circumstances appears to be restrictive and would require a creditor TILA section 129C(a)(6)(E) that requires inconsistent with the purposes of TILA to overlook a recent history of timely that the consumer not have been section 129C(a)(6)(E), which payments. In addition, one industry ‘‘delinquent on any payment on the contemplates that the consumer ‘‘has commenter stated that the standard for existing hybrid loan.’’ Taken together not been delinquent on any payment on defining a late payment should be late with proposed § 226.43(d)(1)(iv), the the existing hybrid loan,’’ without payments of more than 60 days. Board believed that this is a reasonable distinguishing between payments that The Bureau is adopting this provision interpretation of the prohibition on are delinquent due to extenuating generally as proposed, renumbered as ‘‘any’’ delinquencies on the non- circumstances or otherwise. § 1026.43(d)(2)(iv), with one substantive standard mortgage and is supported by Furthermore, by defining a late payment change. The Bureau is adopting a 12- the Board’s authority under TILA as more than 30 days late, the Bureau month look-back period rather than the sections 105(a) and 129B(e)—which has believes that many extenuating 24-month period proposed by the Board. transferred to the Bureau—to adjust circumstances, for example a payment The Bureau believes that reviewing a provisions of TILA and condition made three weeks late due to mail consumer’s payment history over the practices ‘‘to assure that consumers are delivery issues, will not preclude use of last 12 months would be more offered and receive residential mortgage § 1026.43(d). appropriate than a 24-month period, loans on terms that reasonably reflect Accordingly, the Bureau is adopting and agrees that a 24-month period may their ability to repay the loans and that this provision as proposed, renumbered unduly restrict consumer access to the are understandable and not unfair, as § 1026.43(d)(2)(v). Similarly, the § 1026.43(d) refinancing provisions. The deceptive, or abusive.’’ 15 U.S.C. Bureau is adopting comment Bureau believes that the requirement 1604(a); TILA section 129B(a)(2), 15 43(d)(1)(v)–1 generally as proposed, that a consumer’s account have no more U.S.C. 1639b(a)(2). with several technical amendments for than one 30-day late payment in the The Board stated that a six-month clarity and renumbered as 43(d)(2)(v)–1. past 12 months will best effectuate the ‘‘clean’’ payment record indicates a As proposed, the examples in the purposes of TILA by ensuring that only reasonable level of financial stability on comment referred to dates prior to the those consumers with positive payment the part of the consumer applying for a effective date of this rule; the Bureau histories are eligible for the non- refinancing. In addition, the Board has updated the dates in the examples standard refinancing provisions under noted that participants in its outreach so that they will occur after this rule § 1026.43(d). Section 1026.43(d)(2)(iv) is indicated that a prohibition on becomes effective. Pursuant to its adopted pursuant to the Bureau’s delinquencies of more than 30 days for authority under TILA section 105(a), the authority under section 105(a) of TILA. the six months prior to application for Bureau finds that requiring that the The Bureau finds that this adjustment is the refinancing was generally consistent consumer have made no payments on necessary and proper to effectuate the with common industry practice and the non-standard mortgage more than 30 purposes of TILA by ensuring that would not be unduly disruptive to days late during the six months

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immediately preceding the creditor’s calculations prescribed in proposed Other consumer group commenters receipt of the consumer’s written § 226.43(d)(5)(ii). stated that an exemption to the income application for the standard mortgage For these exemptions to apply, verification requirement for refinancing ensures that consumers are offered and proposed § 226.43(d)(3)(i)(A) would into standard mortgages is problematic. receive residential mortgage loans on have required that all of the conditions One commenter stated that, because the terms that reasonably reflect their ability in proposed § 226.43(d)(1)(i) through (v) refinance would be executed by the to repay while ensuring that be met. In addition, proposed same creditor that made the original responsible, affordable mortgage credit § 226.43(d)(3)(i)(B) would have required hybrid loan, income verification would remains available to consumers at risk that the creditor consider whether the not be difficult. This commenter urged of default due to higher payments standard mortgage will prevent a likely the Bureau to encourage income resulting from the recast. default by the consumer on the non- documentation when implementing the Dodd-Frank Act. 43(d)(2)(vi) standard mortgage when the non- standard mortgage is recast. This Several industry commenters urged For the reasons discussed in the proposed provision implemented TILA the Bureau to provide additional relief section-by-section analysis of section 129C(a)(6)(E)(ii), which permits for refinancings made in accordance § 1026.43(d)(3), the Bureau is adopting a a creditor to ‘‘consider if the extension with proposed § 226.43(d), either by new § 1026.43(d)(2)(vi) that generally of new credit would prevent a likely permitting the standard loan to be conditions use of § 1026.43(d) on the default should the original mortgage classified as a qualified mortgage or by existing non-standard mortgage having reset and give such concerns a higher providing exemptions from other of the been made in accordance with priority as an acceptable underwriting proposed ability-to-repay requirements. § 1026.43(c), provided that the existing practice.’’ As clarified in proposed One industry commenter stated that in non-standard mortgage loan was comment 43(d)(3)(i)–1, the Board addition to the proposed exemption for consummated on or after January 10, interpreted TILA section 129(a)(6)(E)(ii) the verification of income and assets, 2014. For the reasons discussed in the to require a creditor to consider refinancings conducted in accordance section-by-section analysis of whether: (1) The consumer is likely to with § 226.43(d) also should be exempt § 1026.43(d)(3), the Bureau believes that default on the existing mortgage once from the requirements to consider the this provision is necessary and proper to new, higher payments are required; and consumer’s debt-to-income ratio or residual income, if the consumer is still prevent use of § 1026.43(d)’s (2) the new mortgage will prevent the employed and has not incurred streamlined refinance provision to consumer’s default. The Board solicited significant additional debt obligations circumvent or ‘‘cure’’ violations of the comment regarding whether these prior to the refinance. This commenter ability-to-repay requirements in proposed provisions were appropriate, stated that overly rigid standards could § 1026.43(c). Section 1026.43(d)(2)(vi) is and also specifically solicited comment significantly reduce the number of adopted pursuant to the Bureau’s on whether exemptions from the ability- consumers who qualify for this authority under TILA section 105(a). to-repay requirements, other than those exemption. Similarly, one industry The Bureau finds that this adjustment is proposed, were appropriate. trade association urged the Bureau to necessary to effectuate the purposes of Several commenters expressly exempt refinancings from the TILA by ensuring that consumers are supported this proposed provision. An requirement to consider the consumer’s offered and receive residential mortgage association of State bank supervisors debt obligations, debt-to-income ratio, loans on terms that reasonably reflect stated that refinancing designed to put and employment. This commenter their ability to repay, while ensuring a consumer in a higher-quality standard stated that the proposed requirement to that consumers at risk of default due to mortgage before the existing lower- consider these additional underwriting payment shock are able to obtain quality mortgage recasts should be given factors was seemingly in conflict with responsible and affordable refinancing greater deference and further stated that the purpose of proposed § 226.43(d) and credit. Furthermore, the Bureau believes it is sound policy to encourage would preclude consumers from taking that this adjustment is necessary to refinancing where it protects both the advantage of beneficial and less costly prevent unscrupulous creditors from economic interest of the creditor and the refinancing opportunities. In addition, using § 1026.43(d) to engage in loan- financial health of the consumer. several industry commenters and one flipping or other practices that are Consumer groups commented that industry trade association commented harmful to consumers, thereby limited and careful exemption from that standard mortgages made in circumventing the requirements of income verification, provided that accordance with § 226.43(d) should be TILA. protections are in place, can help treated as qualified mortgages. 43(d)(3) Exemption From Repayment consumers and communities, while The Bureau agrees with the concerns Ability Requirements preventing reckless and abusive lending raised by commenters that the proposed on the basis of little or no exemptions were drawn too narrowly. Under specific conditions, proposed documentation. Civil rights The Bureau believes that TILA section § 226.43(d)(3) would have exempted a organizations also stated that the 129C(a)(6)(E) is intended to create creditor in a refinancing from two of the streamlined refinance option would incentives for creditors to refinance ability-to-repay requirements under provide much-needed relief for loans in circumstances where proposed § 226.43(c). First, the proposal consumers with loans that are not consumers have non-standard loans on provided that a creditor is not required sustainable in the long term but who are which they are currently able to make to comply with the income and asset not yet in default. These commenters payments but on which they are likely verification requirements of proposed also stated that minority consumers to be unable to make the payments after § 226.43(c)(2)(i) and (c)(4). Second, the have been targeted in the past for recast and therefore default on the loan. proposal provided that the creditor is unsustainable loans and that this Accordingly, the Bureau believes that in not required to comply with the provision could help to prevent further order to create incentives for creditors to payment calculation requirements of foreclosures and economic loss in use the non-standard refinancing proposed § 226.43(c)(2)(iii) and (c)(5); minority communities, as well as for provision, TILA section 129C(a)(6)(E) the creditor may instead use payment homeowners in general. must be intended to provide at least a

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limited exemption from the general income or asset verification, the an error in consideration of the ability-to-repay determination as proposal would have required underwriting factors under adopted in § 1026.43(c). Otherwise, consideration of income, as well as § 1026.43(c)(2) for a non-standard creditors may have little incentive to consideration of all of the other mortgage, the creditor might consider provide consumers at risk of default underwriting criteria set forth in conducting a refinancing under with refinancings that result in § 1026.43(c)(2). § 1026.43(d), in order to argue that the ‘‘materially lower’’ payments. The The Bureau believes that in light of consumer may no longer raise as a Bureau believes, however, that in the safeguards imposed by other defense to foreclosure the underwriting implementing TILA section portions of § 1026.43(d), as discussed of the original non-standard mortgage. 129C(a)(6)(E) it is important to balance above, it is appropriate to provide an The Bureau believes that conditioning the creation of additional flexibility and exemption to all of the ability-to-repay the use of § 1026.43(d) on the earlier incentives for creditors to refinance requirements under § 1026.43(c) for a loan having been made in accordance non-standard mortgages into standard refinance conducted in accordance with with § 1026.43(c) will better effectuate mortgages against the likelihood of § 1026.43(d). The Bureau believes that a the purposes of TILA by ensuring that benefit to the consumer. broad exemption from the general consumers are offered and receive The Bureau notes that under the final ability-to-repay determination is residential mortgage loans on terms that rule as adopted, the availability of the appropriate in order to create incentives reasonably reflect their ability to repay non-standard refinancing provision for creditors to quickly and efficiently while preventing unscrupulous contains several conditions that are refinance consumers whose non- creditors from evading the ability-to- intended to benefit the consumer. First, standard mortgages are about to recast, repay requirements. the special ability-to-repay requirements thus rendering them likely to default, New § 1026.43(d)(2)(vi) applies only in § 1026.43(d) are available only if the into more affordable, more stable to non-standard mortgages conditions in § 1026.43(d)(2) are met. mortgage loans. The Bureau is aware consummated on or after the effective These conditions include limiting the that some consumers may nonetheless date of this rule. For non-standard loans scope of § 1026.43(d) to refinancings of default on a standard mortgage made in consummated before the effective date non-standard mortgages into standard accordance with § 1026.43(d), but those of this final rule, a refinancing under mortgages, which generally are more consumers likely would have defaulted § 1026.43(d) would not be subject to this stable products with reduced risk of had the non-standard mortgage condition. The Bureau believes that payment shock. The definition of remained in place. For others, the non-standard mortgages made prior to standard mortgage in § 1026.43(d)(1)(ii) material reduction in payment required the effective date, to which the ability- includes a number of limitations that under § 1026.43(d)(2) and the more to-repay requirements in § 1026.43(c) are intended to ensure that creditors stable product type following did not apply, may present an increased may only use the provisions in refinancing may be sufficient to enable risk of default when they are about to § 1026.43(d) to offer a consumer a consumers to avoid default. The Bureau recast, so that facilitating refinancing product with safer features. For believes that a refinancing conducted in into more stable mortgages may be example, as discussed in the section-by- accordance with § 1026.43(d) will particularly important even if the section analysis of § 1026.43(d)(1)(ii) a generally improve a consumer’s chances consumer could not qualify for a new standard mortgage may not include of avoiding default. Section loan under traditional ability-to-repay negative amortization, an interest-only 1026.43(d)(3) is adopted pursuant to the requirements. The Bureau believes that, feature, or a balloon payment; in Bureau’s authority under TILA section on balance, given the conditions that addition, the term of the standard 105(a). The Bureau finds that this apply to refinances under § 1026.43(d), mortgage may not exceed 40 years, the adjustment is necessary to effectuate the refinances of these loans are more likely interest rate must be fixed for at least purposes of TILA by ensuring that to benefit consumers than to harm the first five years, the loan is subject to consumers are offered and receive consumers, notwithstanding the a limitation on the points and fees that residential mortgage loans on terms that inapplicability of § 1026.43(d)(2)(vi). In may be charged, and there are reasonably reflect their ability to repay, addition, the concern about a creditor limitations on the use of proceeds from while ensuring that consumers at risk of using § 1026.43(d) to ‘‘cure’’ prior the refinancing. Furthermore, default due to payment shock are able violations of § 1026.43(c) does not apply § 1026.43(d)(2)(ii) requires that the to obtain responsible and affordable to loans made before the effective date monthly payment on the standard refinancing credit. of this rule, as such loans were not mortgage be materially lower than the However, to prevent evasion or required to be made in accordance with monthly payment for the non-standard circumvention of the ability-to-repay § 1026.43. mortgage and, as discussed above, the requirements in § 1026.43(c), the Bureau Proposed condition that the consumer Bureau is adopting a 10 percent safe is imposing one additional condition on will likely default. Proposed comment harbor for what constitutes a ‘‘material’’ the use of § 1026.43(d). Specifically, 43(d)(3)(i)–2 would have clarified that, reduction. new § 1026.43(d)(2)(vi) conditions the in considering whether the consumer’s The Bureau has concerns that, as use of § 1026.43(d), for non-standard default on the non-standard mortgage is proposed by the Board, an exemption mortgages consummated on or after the ‘‘likely,’’ the creditor may look to only from the requirement to consider effective date of this rule, on the non- widely accepted governmental and non- and verify the consumer’s income or standard mortgage having been made in governmental standards for analyzing a assets may create insufficient incentives accordance with § 1026.43(c). The consumer’s likelihood of default. The for creditors to make refinancings to Bureau has concerns that absent proposal was not intended, however, to assist consumers at risk of default. For § 1026.43(d)(2)(vi), a creditor might constrain servicers and other relevant example, the proposal would have attempt to use a refinancing conducted parties from using other methods to required creditors to comply with the in accordance with § 1026.43(d) to determine a consumer’s likelihood of requirement in § 1026.43(c)(2)(vii) to ‘‘cure’’ substandard underwriting of the default, including those tailored consider the consumer’s debt-to-income prior non-standard mortgage. For specifically to that servicer. As ratio or residual income. Accordingly, example, without § 1026.43(d)(2)(vi), if discussed in the supplementary notwithstanding an exemption from a creditor discovered that it had made information to the proposal, the Board

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considered certain government believes that eliminating the creditor’s documented underwriting refinancing programs as well as requirement that a creditor consider practices and to the extent not feedback from outreach participants, whether the extension of new credit prohibited by applicable State or each of which suggested that there may would prevent a likely default would be Federal law. This aspect of the proposal be legitimate differences in servicer inconsistent with TILA section was intended to implement TILA assessments of a consumer’s likelihood 129C(a)(6)(E), which expressly includes section 129C(a)(6)(E)(iii), which permits of default. The Board noted that it language regarding consideration by the creditors of refinancings subject to considered an ‘‘imminent default’’ creditor of ‘‘[whether] the extension of special ability-to-repay requirements in standard but heard from consumer new credit would prevent a likely TILA section 129C(a)(6)(E) to ‘‘offer rate advocates that ‘‘imminent default’’ may default should the original mortgage discounts and other favorable terms’’ to be a standard that is too high for the reset.’’ At the same time, the Bureau the consumer ‘‘that would be available refinancing provisions in TILA section agrees with the association of State bank to new customers with high credit 129C(a)(6)(E) and could prevent many supervisors that it would be difficult to ratings based on such underwriting consumers from obtaining a refinancing impose by regulation a single standard practice.’’ to avoid payment shock. Accordingly, for what constitutes a likely default. The Bureau received no comments on the Board’s proposal used the exact Accordingly, the Bureau is adopting the this provision, which is adopted as statutory wording—‘‘likely default’’—in flexible approach proposed by the proposed and renumbered as implementing the provision permitting Board, which would permit but not § 1026.43(d)(4). The Bureau is a creditor to prioritize prevention of require creditors to look to widely- concerned that the phrase ‘‘consistent default in underwriting a refinancing. accepted standards for analyzing a with the creditor’s underwriting The Board solicited comment on the consumer’s likelihood of default. The practice’’ could be misinterpreted to proposal to use the term ‘‘likely default’’ Bureau does not believe that this refer to the underwriting requirements in implementing TILA section flexible approach requires a creditor to in § 1026.43(c). As this final rule 129C(a)(6)(E)(ii) and on whether consider the consumer’s income and provides an exemption under additional guidance is needed on how assets if, for example, statistical § 1026.43(d) for all of the requirements to meet the requirement that a creditor evidence indicates that consumers who in § 1026.43(c), subject to the other must reasonably and in good faith experience a payment shock of the type conditions discussed above, the Bureau determine that a standard mortgage will that the consumer is about to experience believes that additional clarification is prevent a likely default should the non- have a high incidence of defaulting needed to address this potential standard mortgage be recast. following the payment shock. Two industry trade associations urged Proposed payment calculation for misinterpretation. Thus, the Bureau is the Bureau to remove proposed repayment ability determination. adopting comment 43(d)(4)–1, which § 226.43(d)(3)(i)(B) as a condition to the Proposed comment 43(d)(3)(ii)–1 would clarifies that in connection with a availability of the non-standard have explained that, if the conditions in refinancing made pursuant to refinancing provisions. One of these proposed § 226.43(d)(1) are met, the § 1026.43(d), § 1026.43(d)(4) requires a commenters noted that a creditor would creditor may satisfy the payment creditor offering a consumer rate have to underwrite a consumer’s income calculation requirements for discounts and terms that are the same and assets to determine whether the determining a consumer’s ability to as, or better than, the rate discounts and consumer would likely default, which repay the new loan by applying the terms offered to new consumers to make would defeat the purpose of the calculation prescribed under proposed such an offer consistent with the proposed provision. Several industry § 226.43(d)(5)(ii), rather than the creditor’s documented underwriting commenters also indicated that the calculation prescribed under proposed practices. Section 1026.43(d)(4) does not ‘‘likelihood of default’’ standard is § 226.43(c)(2)(iii) and (c)(5). As require a creditor making a refinancing vague and accordingly subjects creditors discussed in the section-by-section pursuant to § 1026.43(d) to comply with to potential liability for waiving certain analysis above, as adopted the underwriting requirements of ability-to-repay requirements, and § 1026.43(d)(3) provides an exemption § 1026.43(c). Rather, § 1026.43(d)(4) questioned the extent to which creditors from the requirements of § 1026.43(c) if requires creditors providing such would utilize the streamline refinance certain conditions are met. Accordingly, discounts to do so consistent with option in light of this potential liability. while the creditor is required to documented policies related to loan One such commenter urged the Bureau determine whether there is a material pricing, loan term qualifications, or to eliminate this requirement or, in the reduction in payment consistent with other similar underwriting practices. alternative, to provide additional § 1026.43(d)(2)(ii) by using the payment For example, assume that a creditor is guidance regarding when a consumer is calculations prescribed in providing a consumer with a ‘‘likely to go into default.’’ § 1026.43(d)(5), the creditor is not refinancing made pursuant to An association of State bank required to use these same payment § 1026.43(d) and that this creditor has a supervisors stated that there can be no calculations for purposes of documented practice of offering rate quantifiable standard for the definition § 1026.43(c). Accordingly, the Bureau is discounts to consumers with credit of ‘‘likely default.’’ These commenters withdrawing proposed comment scores above a certain threshold. further stated that institutions must use 43(d)(3)(ii)–1 as unnecessary. Assume further that the consumer sound judgment and regulators must receiving the refinancing has a credit provide responsible oversight to ensure 43(d)(4) Offer of Rate Discounts and score below this threshold, and that abuses are not occurring through Other Favorable Terms therefore would not normally qualify for the refinancing exemption set forth in Proposed § 226.43(d)(4) would have the rate discount available to consumers § 1026.43(d). provided that a creditor making a loan with high credit scores. This creditor The Bureau is adopting the provision under the special refinancing provisions complies with § 1026.43(d)(4) by as proposed, renumbered as of § 226.43(d) may offer to the consumer offering the consumer the discounted § 1026.43(d)(3)(i)(B), and is also the same or better rate discounts and rate in connection with the refinancing adopting comments 43(d)(3)(i)–1 and other terms that the creditor offers to made pursuant to § 1026.43(d), even if 43(d)(3)(i)–2 as proposed. The Bureau any new consumer, consistent with the the consumer would not normally

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qualify for that discounted rate, • The fully indexed rate as of a days would generally be considered a provided that the offer of the discounted reasonable period of time before or after ‘‘reasonable period of time.’’ rate is not prohibited by applicable State the date on which the creditor receives Proposed comment 43(d)(5)(i)–3 or Federal law. However, § 1026.43(d)(4) the consumer’s written application for would have clarified that the term does not require a creditor to offer a the standard mortgage; ‘‘written application’’ is explained in consumer such a discounted rate. • The term of the loan remaining as comment 19(a)(1)(i)–3. Comment of the date of the recast, assuming all 19(a)(1)(i)–3 states that creditors may 43(d)(5) Payment Calculations scheduled payments have been made up rely on RESPA and Regulation X Proposed § 226.43(d)(5) would have to the recast date and the payment due (including any interpretations issued by prescribed the payment calculations for on the recast date is made and credited HUD) in deciding whether a ‘‘written determining whether the consumer’s as of that date; and application’’ has been received. In monthly payment for a standard • A remaining loan amount that is— general, Regulation X defines mortgage will be ‘‘materially lower’’ Æ For an adjustable-rate mortgage, the ‘‘application’’ to mean the submission of than the monthly payment for the non- outstanding principal balance as of the a borrower’s financial information in standard mortgage. Proposed date the mortgage is recast, assuming all anticipation of a credit decision relating § 226.43(d)(5) thus was intended to scheduled payments have been made up to a federally related mortgage loan. See complement proposed § 226.43(d)(1)(ii) to the recast date and the payment due 12 CFR 1024.2(b). As explained in in implementing TILA section on the recast date is made and credited comment 19(a)(1)(i)–3, an application is 129C(a)(6)(E), which requires a as of that date; received when it reaches the creditor in ‘‘reduction’’ in the monthly payment for Æ For an interest-only loan, the loan any of the ways applications are the existing non-standard (‘‘hybrid’’) amount, assuming all scheduled normally transmitted, such as by mail, mortgage when refinanced into a payments have been made up to the hand delivery, or through an standard mortgage. recast date and the payment due on the intermediary agent or broker. If an recast date is made and credited as of 43(d)(5)(i) Non-Standard mortgage application reaches the creditor through that date; an intermediary agent or broker, the Æ Proposed § 226.43(d)(5)(i) would have For a negative amortization loan, application is received when it reaches required that the monthly payment for the maximum loan amount. the creditor, rather than when it reaches a non-standard mortgage be based on Proposed comment 43(d)(5)(i)–1 the agent or broker. This proposed substantially equal, monthly, fully would have explained that, to determine comment also cross-referenced amortizing payments of principal and whether the monthly periodic payment comment 19(b)–3 for guidance in interest that would result once the for a standard mortgage is materially determining whether the transaction mortgage is recast. The Board stated that lower than the monthly periodic involves an intermediary agent or comparing the payment on the standard payment for the non-standard mortgage broker. mortgage to the payment amount on under proposed § 226.43(d)(1)(ii), the Proposed payment calculation for an which the consumer likely would have creditor must consider the monthly adjustable-rate mortgage with an defaulted (i.e., the payment resulting on payment for the non-standard mortgage introductory fixed rate. Proposed the existing non-standard mortgage once that will result after the loan is recast, comments 43(d)(5)(i)–4 and –5 would the introductory terms cease and a assuming substantially equal payments have clarified the payment calculation higher payment results) would promote of principal and interest that amortize for an adjustable-rate mortgage with an needed refinances consistent with the remaining loan amount over the introductory fixed rate under proposed Congress’s intent. remaining term as of the date the § 226.43(d)(5)(i). Proposed comment The Board noted that the payment mortgage is recast. The proposed 43(d)(5)(i)–4 clarified that the monthly that the consumer is currently making comment noted that guidance regarding periodic payment for an adjustable-rate on the existing non-standard mortgage the meaning of ‘‘substantially equal’’ mortgage with an introductory fixed may be an inappropriately low payment and ‘‘recast’’ is provided in comment interest rate for a period of one or more to compare to the standard mortgage 43(c)(5)(i)–4 and § 226.43(b)(11), years must be calculated based on payment. The existing payments may be respectively. several assumptions. First, the payment interest-only or negatively amortizing; Proposed comment 43(d)(5)(i)–2 must be based on the outstanding these temporarily lower payment would have explained that the term principal balance as of the date on amounts would be difficult for creditors ‘‘fully indexed rate’’ used for calculating which the mortgage is recast, assuming to ‘‘reduce’’ with a refinanced loan that the payment for a non-standard all scheduled payments have been made has a comparable term length and mortgage is generally defined in up to that date and the last payment due principal amount. Indeed, the payment proposed § 226.43(b)(3) and associated under those terms is made and credited on a new loan with a fixed-rate rate and commentary. The proposed comment on that date. Second, the payment fully-amortizing payment, as is required explained an important difference calculation must be based on for the payment calculation of a between the ‘‘fully indexed rate’’ as substantially equal monthly payments standard mortgage under the proposal, defined in proposed § 226.43(b)(3), of principal and interest that will fully for example, is likely to be higher than however, and the meaning of ‘‘fully repay the outstanding principal balance the interest-only or negative indexed rate’’ in § 226.43(d)(5)(i). over the term of the loan remaining as amortization payment. As a result, few Specifically, under proposed of the date the loan is recast. Third, the refinancings would yield a lower § 226.43(b)(3), the fully indexed rate is payment must be based on the fully monthly payment, so many consumers calculated at the time of consummation. indexed rate, as defined in could not receive the benefits of Under proposed § 226.43(d)(5)(i), the § 226.43(b)(3), as of the date of the refinancing into a more stable loan fully indexed rate would be calculated written application for the standard product. within a reasonable period of time mortgage. The proposed comment set Accordingly, the proposal would have before or after the date on which the forth an illustrative example. Proposed required a creditor to calculate the creditor receives the consumer’s written comment 43(d)(5)(i)–5 would have monthly payment for a non-standard application for the standard mortgage. provided a second illustrative example mortgage using— Comment 43(d)(5)(i)–2 clarified that 30 of the payment calculation for an

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adjustable-rate mortgage with an • The loan amount, which is the or for the first five years of monthly introductory fixed rate. outstanding principal balance as of payments, whichever occurs first. The Proposed payment calculation for an March 1, 2013, assuming all scheduled loan is an adjustable-rate mortgage that interest-only loan. Proposed comments interest-only payments have been made adjusts monthly according to a specified 43(d)(5)(i)–6 and –7 would have and credited up to that date. In this index plus a margin of 3.5 percent. explained the payment calculation for example, the loan amount is $200,000. The example also assumed that the an interest-only loan under proposed • An interest rate of 7 percent, which non-standard mortgage is consummated § 226.43(d)(5)(i). Proposed comment is the interest rate in effect at the time on February 15, 2011, and the first 43(d)(5)(i)–6 would have clarified that of consummation of this fixed-rate non- monthly payment is due on April 1, the monthly periodic payment for an standard mortgage. 2011. Further, the example assumes interest-only loan must be calculated • The remaining loan term as of that, based on the calculation of the based on several assumptions. First, the March 1, 2013, the date of the recast, maximum loan amount required under payment must be based on the loan which is 28 years. § 226.43(b)(7) and associated amount, as defined in § 226.43(b)(5), The comment concluded by stating commentary, the negative amortization assuming all scheduled payments are that, based on the assumptions above, cap of 115 percent is reached on July 1, made under the terms of the legal the monthly payment for the non- 2013, the due date of the 28th monthly obligation in effect before the mortgage standard mortgage for purposes of payment. Finally, the example assumes is recast. The comment provides an determining whether the standard that on March 15, 2012, the creditor example of a mortgage with a 30-year mortgage monthly payment is lower receives the consumer’s written loan term for which the first 24 months than the non-standard mortgage application for a refinancing, after the of payments are interest-only. The monthly payment is $1,359. This is the consumer has made 12 monthly on-time comment then explains that, if the 24th substantially equal, monthly payment of payments. On this date, the index value payment is due on September 1, 2013, principal and interest required to repay is 4.5 percent. the creditor must calculate the the loan amount at the fully indexed Proposed comment 43(d)(5)(i)–9 then outstanding principal balance as of rate over the remaining term. stated that, to calculate the non- September 1, 2013, assuming that all 24 Proposed payment calculation for a standard mortgage payment that must be payments under the interest-only negative amortization loan. Proposed compared to the standard mortgage payment terms have been made and comments 43(d)(5)(i)–8 and –9 would payment under proposed credited. have explained the payment calculation § 226.43(d)(1)(ii), the creditor must Second, the payment calculation must for a negative amortization loan under use— be based on substantially equal monthly proposed § 226.43(d)(5)(i)(C). Proposed • The maximum loan amount of payments of principal and interest that comment 43(d)(5)(i)–8 would have $229,243 as of July 1, 2013. will fully repay the loan amount over clarified that the monthly periodic • The fully indexed rate of 8 percent, the term of the loan remaining as of the payment for a negative amortization which is the index value of 4.5 percent date the loan is recast. Thus, in the loan must be calculated based on as of March 15, 2012 (the date on which example above, the creditor must several assumptions. First, the the creditor receives the application for assume a loan term of 28 years (336 calculation must be based on the a refinancing) plus the margin of 3.5 payments). Third, the payment must be maximum loan amount. The comment percent. based on the fully indexed rate as of the further stated that examples of how to • The remaining loan term as of July date of the written application for the calculate the maximum loan amount are 1, 2013, the date of the recast, which is standard mortgage. provided in proposed comment 27 years and 8 months (332 monthly Proposed comment 43(d)(5)(i)–7 43(b)(7)–3. payments). would have provided an illustration of Second, the payment calculation must The comment concluded by stating the payment calculation for an interest- be based on substantially equal monthly that, based on the assumptions above, only loan. The example assumes a loan payments of principal and interest that the monthly payment for the non- in an amount of $200,000 that has a 30- will fully repay the maximum loan standard mortgage for purposes of year loan term. The loan agreement amount over the term of the loan determining whether the standard provides for a fixed interest rate of 7 remaining as of the date the loan is mortgage monthly payment is lower percent, and permits interest-only recast. For example, the comment states, than the non-standard mortgage payments for the first two years, after if the loan term is 30 years and the loan monthly payment is $1,717. This is the which time amortizing payments of is recast on the due date of the 60th substantially equal, monthly payment of principal and interest are required. monthly payment, the creditor must principal and interest required to repay Second, the example states that the non- assume a loan term of 25 years. Third, the maximum loan amount at the fully standard mortgage is consummated on the payment must be based on the fully indexed rate over the remaining term. February 15, 2011, and the first monthly indexed rate as of the date of the written The Board requested comment on the payment is due on April 1, 2011. The application for the standard mortgage. proposed payment calculation for a non- loan is recast on the due date of the 24th Proposed comment 43(d)(5)(i)–9 standard mortgage and on the monthly payment, which is March 1, would have provided an illustration of appropriateness and usefulness of the 2013. Finally, the example assumes that the payment calculation for a negative proposed payment calculation on March 15, 2012, the creditor receives amortization loan. The example examples. the consumer’s written application for a assumes a loan in an amount of The Bureau received no specific refinancing, after the consumer has $200,000 that has a 30-year loan term. comment on the payment calculations made 12 monthly on-time payments. The loan agreement provides that the for non-standard mortgages set forth in Proposed comment 43(d)(5)(i)–7 consumer can make minimum monthly proposed § 226.43(d)(5)(i) and its would have further explained that, to payments that cover only part of the associated commentary. Accordingly, calculate the non-standard mortgage interest accrued each month until the the provision that is being adopted is payment that must be compared to the date on which the principal balance substantially similar to the version standard mortgage payment, the creditor increases to the negative amortization proposed, renumbered as must use— cap of 115 percent of the loan amount, § 1026.43(d)(5)(i). The Bureau also is

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adopting the associated commentary of determining whether the standard adjust annually based on a specified generally as proposed. The Bureau has mortgage monthly payment is lower index plus a margin of 3 percent, subject made several technical amendments to than the non-standard mortgage to a 2 percent annual interest rate the examples in comments 43(d)(5)(i)–4, monthly payment is $1,769. This is the adjustment cap. The comment states –5, –6, –7, and –9 for clarity. As substantially equal, monthly payment of that, based on the above assumptions, proposed, the examples in the comment principal and interest required to repay the creditor must determine whether the referred to dates prior to the effective the maximum loan amount at the fully standard mortgage payment is date of this rule; the Bureau has updated indexed rate over the remaining term. materially lower than the non-standard the dates in the examples so that they The Bureau finds that comment mortgage payment based on a standard will occur after this rule becomes 43(d)(5)(i)–10, which is adopted mortgage payment of $1,199. This is the effective. pursuant to the Bureau’s authority substantially equal, monthly payment of The Bureau believes that it is under section 105(a) of TILA, is principal and interest required to repay necessary to clarify the provisions necessary to facilitate compliance with $200,000 over 30 years at an interest related to payment calculations for TILA. rate of 6 percent. interest-only loans and negative 43(d)(5)(ii) Standard Mortgage The Bureau received no specific amortization loans. The provisions comment on the payment calculations adopted clarify that the payment Proposed § 226.43(d)(5)(ii) would for standard mortgages set forth in calculation required by have prescribed the required calculation proposed § 226.43(d)(5)(ii) and its § 1026.43(d)(5)(i) must be based on the for the monthly payment on a standard associated commentary. Accordingly, outstanding principal balance, rather mortgage that must be compared to the this provisions is adopted as proposed, than the original amount of credit monthly payment on a non-standard renumbered as § 1026.43(d)(5)(ii). The extended. Accordingly, as adopted mortgage under proposed Bureau also is adopting the associated § 1026.43(d)(5)(i)(C)(2) requires the § 226.43(d)(1)(ii). The same payment commentary generally as proposed, with remaining loan amount for an interest- calculation must also be used by several technical amendments for only loan to be based on the outstanding creditors of refinances under proposed clarity. principal balance as of the date of the § 226.43(d) in determining whether the recast, assuming all scheduled consumer has a reasonable ability to 43(e) Qualified Mortgages payments have been made up to the repay the standard mortgage, as would Background recast date and the payment due on the have been required under proposed recast date is made and credited as of § 226.43(c)(2)(ii). As discussed above, TILA section that date. Similarly, Specifically, the monthly payment for 129C(a)(1) prohibits a creditor from § 1026.43(d)(5)(i)(C)(3) requires the a standard mortgage must be based on making a residential mortgage loan remaining loan amount for a negative substantially equal, monthly, fully unless the creditor makes a reasonable amortization loan to be based on the amortizing payments using the and good faith determination, at or maximum loan amount, determined maximum interest rate that may apply before consummation, based on verified after adjusting for the outstanding to the standard mortgage within the first and documented information, that at the principal balance. The Bureau has made five years after consummation. Proposed time of consummation the consumer has technical amendments to the example in comment 43(d)(5)(ii)–1 would have a reasonable ability to repay the loan. comments 43(d)(5)(i)–6, –7, –8, and –9 clarified that the meaning of ‘‘fully TILA section 129C(a)(1) through (4) and to conform to this clarification. amortizing payment’’ is defined in (6) through (9) requires creditors Additionally, the Bureau has added § 226.43(b)(2), and that guidance specifically to consider and verify new comment 43(d)(5)(i)–10 to add an regarding the meaning of ‘‘substantially various factors relating to the additional illustration of the payment equal’’ may be found in proposed consumer’s income and other assets, calculation for a negative amortization comment 43(c)(5)(i)–4. Proposed debts and other obligations, and credit loan. As adopted, comment 43(d)(5)(i)– comment 43(d)(5)(ii)–1 also explained history. However, the ability-to-repay 10 provides an illustrative example, that, for a mortgage with a single, fixed provisions do not directly restrict clarifying that, pursuant to the example rate for the first five years, the features, term, or costs of the loan. and assumptions included in the maximum rate that will apply during TILA section 129C(b), in contrast, example, to calculate the non-standard the first five years after consummation provides that loans that meet certain mortgage payment on a negative will be the rate at consummation. For a requirements shall be deemed amortization loan for which the step-rate mortgage, however, which is a ‘‘qualified mortgages,’’ which are consumer has made more than the type of fixed-rate mortgage, the rate that entitled to a presumption of compliance minimum required payment that must must be used is the highest rate that will with the ability-to-repay requirements. be compared to the standard mortgage apply during the first five years after The section sets forth a number of payment under § 1026.43(d)(1)(i), the consummation. For example, if the rate qualified mortgage requirements which creditor must use the maximum loan for the first two years is 4 percent, the focus mainly on prohibiting certain amount of $229,219 as of March 1, 2019, rate for the second two years is 5 risky features and practices (such as the fully indexed rate of 8 percent, percent, and the rate for the next two negative amortization and interest-only which is the index value of 4.5 percent years is 6 percent, the rate that must be periods or underwriting a loan without as of March 15, 2012 (the date on which used is 6 percent. verifying the consumer’s income) and the creditor receives the application for Proposed comment 43(d)(5)(ii)–2 on generally limiting points and fees in a refinancing) plus the margin of 3.5 would have provided an illustration of excess of 3 percent of the total loan percent, and the remaining loan term as the payment calculation for a standard amount. The only underwriting of March 1, 2019, the date of the recast, mortgage. The example assumes a loan provisions in the statutory definition of which is 25 years (300 monthly in an amount of $200,000 with a 30-year qualified mortgage are a requirement payments). The comment further loan term. The loan agreement provides that ‘‘income and financial resources explains that, based on these for an interest rate of 6 percent that is relied upon to qualify the [borrowers] be assumptions, the monthly payment for fixed for an initial period of five years, verified and documented’’ and a further the non-standard mortgage for purposes after which time the interest rate will requirement that underwriting be based

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upon a fully amortizing schedule using term ‘qualified mortgage,’’’ as defined ability-to-repay requirements if the the maximum rate permitted during the by TILA section 129C(b) and the creditor follows certain optional first five years of the loan. TILA section Bureau’s implementing regulations. 15 procedures regarding underwriting the 129C(b)(2)(A)(iii) through (v). However, U.S.C. 780–11(e)(4).129 loan payment, assessing the debt-to- TILA section 129C(b)(2)(A)(vi) For present purposes, however, the income (DTI) ratio or residual income, authorizes the Bureau to adopt definition of a qualified mortgage is and limiting the features of the loan, in ‘‘guidelines or regulations * * * perhaps most significant because of its addition to following certain procedures relating to ratios of total monthly debt implications for ability-to-repay claims. mandated for all creditors. See to monthly income or alternative TILA section 129C(b)(1) provides that § 1026.34(a)(4)(iii) and (iv) and measures of ability to pay * * * .’’ And ‘‘[a]ny creditor with respect to any comment 34(a)(4)(iii)–1. However, the TILA section 129C(b)(3)(B)(i) further residential mortgage loan, and any 2008 HOEPA Final Rule makes clear authorizes the Bureau to revise, add to, assignee of such loan subject to liability that even if the creditor follows these or subtract from the criteria that define under this title, may presume that the criteria, the presumption of compliance a qualified mortgage upon a finding that loan has met the [ability-to-repay] is rebuttable. See comment 34(a)(4)(iii)– the changes are necessary or proper to requirements of subsection (a), if the 1. The consumer can still overcome that ensure that responsible, affordable loan is a qualified mortgage.’’ But the presumption by showing that, despite mortgage credit remains available to statute does not describe the strength of following the required and optional consumers in a manner consistent with the presumption or what if anything procedures, the creditor nonetheless the purposes of TILA section 129C, could be used to rebut it. As discussed disregarded the consumer’s ability to necessary and appropriate to effectuate further below, there are legal and policy repay the loan. For example, the the purposes of TILA sections 129C and arguments that support interpreting the consumer could present evidence that 129B, to prevent circumvention or presumption as either rebuttable or although the creditor assessed the evasion thereof, or to facilitate conclusive. consumer’s debt-to-income ratio or compliance with TILA sections 129C Determining the definition and scope residual income, the debt-to-income and 129B.127 of protection afforded to qualified ratio was very high or the residual The qualified mortgage requirements mortgages is the area of this rulemaking income was very low. This evidence are critical to implementation of various which has engendered perhaps the may be sufficient to overcome the parts of the Dodd-Frank Act. For greatest interest and comment. Although presumption of compliance and example, several consumer protection TILA section 129C(a)(1) requires only demonstrate that the creditor extended requirements in title XIV of the Dodd- that a creditor make a ‘‘reasonable and credit without regard to the consumer’s Frank Act treat qualified mortgages good faith determination’’ of the ability to repay the loan. differently than non-qualified mortgages consumer’s ‘‘reasonable ability to or key off elements of the qualified repay’’ a residential mortgage, The Dodd-Frank Act extends a mortgage definition.128 In addition, the considerable concern has arisen about requirement to assess consumers’ ability requirements concerning retention of the actual and perceived litigation and to repay to the full mortgage market, and risk by parties involved in the liability risk to creditors and assignees establishes a presumption using a securitization process under title IX of under the statute. Commenters tended different set of criteria that focus more the Dodd-Frank Act provide special to focus heavily on the choice between on product features than underwriting treatment for ‘‘qualified residential a presumption that is rebuttable and one practices. Further, the statute mortgages,’’ which under section 15G of that is conclusive as a means of establishes similar but slightly different the Securities Exchange Act of 1934, as mitigating that risk, although the criteria remedies than are available under the amended by section 941(b) of the Dodd- that define a qualified mortgage are also existing requirements. Section 1416 of Frank Act, ‘‘shall be no broader than the important because a creditor would the Dodd-Frank Act amended TILA have to prove status as a qualified section 130(a) to provide that a 127 TILA section 129B contains requirements and mortgage in order to invoke any consumer who brings a timely action restrictions relating to mortgage originators. TILA (rebuttable or conclusive) presumption against a creditor for a violation the section 129B(b) requires a loan originator to be ability-to-repay requirements may be qualified and, when required, registered and of compliance. licensed as a mortgage originator under the Secure In assessing the potential impacts of able to recover special statutory and Fair Enforcement of Mortgage Licensing Act of the statute, it is important to note that damages equal to the sum of all finance 2008 (SAFE Act), and to include on all loan regulations issued after the mortgage charges and fees paid by the consumer. documents any unique identifier of the mortgage The statute of limitations is three years originator provided by the Nationwide Mortgage crisis but prior to the enactment of the Licensing System and Registry. That section also Dodd-Frank Act have already imposed from the date of the occurrence of the requires the Bureau to prescribe regulations ability-to-repay requirements for high- violation. Moreover, as amended by requiring depository institutions to establish and cost and higher-priced mortgages and section 1413 of the Dodd-Frank Act, maintain procedures designed to ensure and TILA section 130(k) provides that when monitor compliance of such institutions, including created a presumption of compliance for their subsidiaries and employees, with the SAFE such mortgages if the creditor satisfied a creditor, assignee, or other holder Act. TILA section 129B(c) contains certain certain underwriting and verification initiates a foreclosure action, a prohibitions on loan originator steering, including requirements. Specifically, under consumer may assert a violation of the restrictions on various compensation practices, and ability-to-repay requirements as a matter requires the Bureau to prescribe regulations to provisions of the Board’s 2008 HOEPA prohibit certain specific steering activities. Final Rule that took effect in October of defense by recoupment or setoff. 128 For example, as described in the section-by- 2009, creditors are prohibited from There is no time limit on the use of this section analysis of § 1026.43(g), TILA section extending high-cost or higher-priced defense, but the amount of recoupment 129C(c), added by section 1414(a) of the Dodd- or setoff is limited with respect to the Frank Act, provides that a residential mortgage loan mortgage loans without regard to the that is not a ‘‘qualified mortgage’’ may not contain consumer’s ability to repay. See special statutory damages to no more a prepayment penalty. In addition, section 1471 of § 1026.34(a)(4). The rules provide a than three years of finance charges and the Dodd-Frank Act establishes a new TILA section presumption of compliance with those fees. This limit on setoff is more 129H, which sets forth appraisal requirements restrictive than under the existing applicable to higher-risk mortgages. The definition of ‘‘higher-risk mortgage’’ expressly excludes 129 See part II.G for a discussion of the 2011 QRM regulations, but also expressly applies to qualified mortgages. Proposed Rule. assignees.

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In light of the statutory ambiguities, market, and the implications of the qualified mortgage into a straitjacket complex policy considerations, and qualified mortgage rule on other parts of setting the outer boundary of credit concerns about litigation risk, the the Dodd-Frank Act. The Bureau is availability. The Bureau does not Board’s proposal mapped out two acutely aware of the problematic believe such a result would be alternatives at the opposite ends of a practices that gave rise to the financial consistent with congressional intent or spectrum for defining a qualified crisis and sees the ability-to-pay in the best interests of consumers or the mortgage and the protection afforded to requirement as an important bulwark to market. such mortgages. At one end, the Board’s prevent a recurrence of those practices The Bureau is thus attuned to the Alternative 1 would have defined by establishing a floor for safe problems of the past, the pressures that qualified mortgage only to include the underwriting. At the same time, the exist today, and the ways in which the mandated statutory elements listed in Bureau is equally aware of the anxiety market might return in the future. As a TILA section 129C(b)(2), most of which, in the mortgage market today result, the Bureau has worked to as noted above, relate to product concerning the continued slow pace of establish guideposts in the final rule to features and not to the underwriting recovery and the confluence of multiple make sure that the market’s return is decision or process itself. This major regulatory and capital initiatives. healthy and sustainable for the long- alternative would have provided Although every industry representative term. Within that framework, the creditors with a safe harbor to establish that has communicated with the Bureau Bureau is defining qualified mortgages compliance with the general repayment acknowledges the importance of to strike a clear and calibrated balance ability requirement in proposed assessing a consumer’s ability to repay as follows: § 226.43(c)(1). As the Board recognized, before extending a mortgage to the First, the final rule provides this would provide strong incentives for consumer—and no creditor claims to do meaningful protections for consumers creditors to make qualified mortgages in otherwise—there is nonetheless a while providing clarity to creditors order to minimize litigation risk and widespread fear about the litigation about what they must do if they seek to compliance burden under general risks associated with the Dodd-Frank invoke the qualified mortgage ability-to-repay requirements, but might Act ability-to-repay requirements. Even presumption of compliance. prevent consumers from seeking redress community banks, deeply ingrained Accordingly, the qualified mortgage for failure to assess their ability to within their local communities and criteria include not only the minimum repay. In Alternative 2, the Board committed to a relationship lending elements required by the statute— proposed a definition of qualified model, have expressed to the Bureau including prohibitions on risky loan mortgage which incorporated both the their fear of litigation. In crafting the features, a cap on points and fees, and statutory product feature restrictions rules to implement the qualified special underwriting rules for adjustable-rate mortgages—but and additional underwriting elements mortgage provision, the Bureau has additional underwriting features to drawn from the general ability-to-repay sought to balance creating new ensure that creditors do in fact evaluate requirements, as well as seeking protections for consumers and new individual consumers’ ability to repay comment on whether to establish a responsibilities for creditors with the qualified mortgages. The qualified specific debt-to-income requirement. preserving consumers’ access to credit mortgage criteria thus incorporate key Alternative 2 also specified that and allowing for appropriate lending elements of the verification consumers could rebut the presumption and innovation. of compliance by demonstrating that a requirements under the ability-to-repay creditor did not adequately determine The Bureau recognizes both the need standard and strengthen the consumer the consumers’ ability to repay the loan. for certainty in the short term and the protections established by the ability-to- As the Board recognized, this would risk that actions taken by the Bureau in repay requirements. better ensure that creditors fully order to provide such certainty could, In particular, the final rule provides a evaluate consumers’ ability to repay over time, defeat the prophylactic aims bright-line threshold for the consumer’s qualified mortgages and preserve of the statute or impede recovery in total debt-to-income ratio, so that under consumers’ rights to seek redress. various parts of the market. For a qualified mortgage, the consumer’s However, the Board expressed concern instance, in defining the criteria for a total monthly debt payments cannot that Alternative 2 would provide little qualified mortgage, the Bureau is called exceed 43 percent of the consumer’s incentive to make qualified mortgages in upon to identify a class of mortgages total monthly income. The bright-line the first place, given that the which can be presumed to be affordable. threshold for debt-to-income serves requirements may be challenging to The boundaries must be clearly drawn multiple purposes. First, it protects satisfy and the strength of protection so that consumers, creditors, and consumer interests because debt-to- afforded would be minimal. secondary market investors can all income ratios are a common and proceed with reasonable assurance as to important tool for evaluating Overview of Final Rule whether a particular loan constitutes a consumers’ ability to repay their loans As noted above and discussed in qualified mortgage. Yet the Bureau over time, and the 43 percent threshold greater detail in the section-by-section believes that it is not possible by rule to has been utilized by the Federal analysis below, the Dodd-Frank Act define every instance in which a Housing Administration (FHA) for many accords the Bureau significant mortgage is affordable, and the Bureau years as its general boundary for discretion in defining the scope of, and fears that an overly broad definition of defining affordability. Relative to other legal protections afforded to, a qualified qualified mortgage could stigmatize benchmarks that are used in the market mortgage. In developing the rules for non-qualified mortgages or leave (such as GSE guidelines) that have a qualified mortgages, the Bureau has insufficient liquidity for such loans. If benchmark of 36 percent, before carefully considered numerous factors, the definition of qualified mortgage is so consideration of compensating factors, including the Board’s proposal to broad as to deter creditors from making this threshold is a relatively liberal one implement TILA section 129C(b), non-qualified mortgages altogether, the which allows ample room for comments and ex parte regulation would curtail access to consumers to qualify for an affordable communications, current regulations responsible credit for consumers and mortgage. Second, it provides a well- and the current state of the mortgage turn the Bureau’s definition of a established and well-understood rule

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that will provide certainty for creditors mortgage. In other words, the final rule sustainable credit will return in all parts and help to minimize the potential for provides a safe harbor from ability-to- of the market over time. The temporary disputes and costly litigation over repay challenges for the least risky type special rule expands the definition of a whether a mortgage is a qualified of qualified mortgages, while providing qualified mortgage to include any loan mortgage. Third, it allows room for a room to rebut the presumption for that is eligible to be purchased, vibrant market for non-qualified qualified mortgages whose pricing is guaranteed, or insured by various mortgages over time. The Bureau indicative of a higher level of risk.132 Federal agencies or by the GSEs while recognizes that there will be many The Bureau believes that this calibration they are operating under instances in which individual will further encourage creditors to conservatorship. This temporary consumers can afford an even higher extend credit responsibly and provide provision preserves access to credit in debt-to-income ratio based on their certainty that promotes access to credit. today’s market by permitting a loan that particular circumstances, although the The Bureau believes that loans that does not satisfy the 43 percent debt-to- Bureau believes that such loans are fall within the rebuttable presumption income ratio threshold to nonetheless be better evaluated on an individual basis category will be loans made to a qualified mortgage based upon an under the ability-to-repay criteria rather consumers who are more likely to be underwriting determination made than with a blanket presumption. The vulnerable 133 so that, even if the loans pursuant to guidelines created by the Bureau also believes that there are a satisfy the criteria for a qualified GSEs while in conservatorship or one of sufficient number of potential borrowers mortgage, those consumers should be the Federal agencies. This temporary who can afford a mortgage that would provided the opportunity to prove that, provision will sunset in a maximum of bring their debt-to-income ratio above in an individual case, the creditor did seven years. As with loans that satisfy 43 percent that responsible creditors not have a reasonable belief that the the 43 percent debt-to-income ratio will continue to make such loans as loan would be affordable for that threshold, qualified mortgages under they become more comfortable with the consumer. Under a qualified mortgage this temporary rule will receive either a new regulatory framework. To preserve with a safe harbor, most of the loans rebuttable or conclusive presumption of access to credit during the transition within this category will be the loans compliance depending upon the pricing period, the Bureau has also adopted made to prime borrowers who pose of the loan relative to APOR. The temporary measures as discussed fewer risks. Furthermore, considering Bureau believes this provision will further below. the difference in historical performance provide sufficient consumer protection The second major feature of the final levels between prime and subprime while providing adequate time for rule is the provision of carefully loans, the Bureau believes that it is creditors to adjust to the new calibrated presumptions of compliance reasonable to presume conclusively that requirements of the final rule as well as afforded to different types of qualified a creditor who has verified a consumer’s to changes in other regulatory, capital, mortgages. Following the approach debt and income, determined in and economic conditions. developed by the Board in the existing accordance with specified standards A detailed description of the qualified ability-to-repay rules to distinguish that the consumer has a debt-to-income mortgage definition is set forth below. between prime and subprime loans, the ratio that does not exceed 43 percent, Section 1026.43(e)(1) provides the final rule distinguishes between two and made a prime mortgage with the presumption of compliance provided to types of qualified mortgages based on product features required for a qualified qualified mortgages. Section the mortgage’s Annual Percentage Rate mortgage has satisfied its obligation to 1026.43(e)(2) provides the criteria for a (APR) relative to the Average Prime assess the consumer’s ability to repay. qualified mortgage under the general Offer Rate (APOR).130 For loans that This approach will provide significant definition, including the restrictions on exceed APOR by a specified amount— certainty to creditors operating in the certain product features, verification loans denominated as ‘‘higher-priced prime market. The approach will also requirements, and a specified debt-to- mortgage loans’’—the final rule provides create lesser but still important income ratio threshold. Section a rebuttable presumption. In other protection for creditors in the subprime 1026.43(e)(3) provides the limits on words, the creditor is presumed to have market who follow the qualified points and fees for qualified mortgages, satisfied the ability-to-repay mortgage rules, while preserving including the limits for smaller loan requirements, but a consumer may rebut consumer remedies and creating strong amounts. Section 1026.43(e)(4) provides that presumption under carefully incentives for more responsible lending the temporary special rule for qualified defined circumstances.131 For all other in the part of the market in which the mortgages. Lastly, § 1026.43(f) loans, i.e., loans that are not ‘‘higher- most abuses occurred prior to the implements a statutory exemption priced,’’ the final rule provides a financial crisis. permitting certain balloon-payment conclusive presumption that the Third, the final rule provides a loans by creditors operating creditor has satisfied the ability-to-repay temporary special rule for certain predominantly in rural or underserved requirements once the creditor proves qualified mortgages to provide a areas to be qualified mortgages. that it has in fact made a qualified transition period to help ensure that 43(e)(1) Safe Harbor and Presumption of Compliance 130 APOR means ‘‘the average prime offer rate for 132 The threshold for determining which a comparable transaction as of the date on which treatment applies generally matches the threshold As discussed above, the Dodd-Frank the interest rate for the transaction is set, as for ‘‘higher-priced mortgage loans’’ under existing Act provides a presumption of published by the Bureau.’’ TILA section Regulation Z, except that the rule does not provide compliance with the ability-to-repay 129C(b)(2)(B). a separate, higher threshold for jumbo loans. The requirements for qualified mortgages, 131 As described further below, under a qualified Dodd-Frank Act itself codified the same thresholds mortgage with a rebuttable presumption, a for other purposes. See Dodd-Frank Act section but the statute is not clear as to whether consumer can rebut that presumption by showing 1411, enacting TILA section 129C(6)(d)(ii). In that presumption is intended to be that, in fact, at the time the loan was made the adopting the ‘‘higher-priced mortgage loans’’ conclusive so as to create a safe harbor consumer did not have sufficient income or assets threshold in 2008, the Board explained that the aim that cuts off litigation or a rebuttable (other than the value of the dwelling that secures was to ‘‘cover the subprime market and generally the transaction), after paying his or her mortgage exclude the prime market.’’ 73 FR 44522, 44532 presumption of compliance with the and other debts, to be able to meet his or her other (July 30, 2008). ability-to-repay requirements. The title living expenses of which the creditor was aware. 133 See generally, id. at 44533. of section 1412 refers to both a ‘‘safe

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harbor and rebuttable presumption,’’ greater legal certainty for creditors and participants.135 That draft legislation and as discussed below there are secondary market participants than a would have provided that creditors, references to both safe harbors and rebuttable presumption of compliance. assignees, and securitizers could presumptions in other provisions of the Increased legal certainty may benefit presume compliance with the ability-to- statute. As the Board’s proposal consumers if as a result creditors are repay provision if the loan met certain discussed, an analysis of the statutory encouraged to make loans that satisfy requirements.136 However, the construction and policy implications the qualified mortgage criteria, as such presumption of compliance would have demonstrates that there are sound loans cannot have certain risky features been rebuttable only against the reasons for adopting either and have a cap on upfront costs. creditor, effectively creating a safe interpretation. See 76 FR 27390, 27452– Furthermore, increased certainty may harbor for assignees and securitizers.137 55 (May 11, 2011). result in loans with a lower cost than The caption ‘‘safe harbor and rebuttable Several aspects of the statutory would be charged in a world of legal presumption’’ appears to have structure favor a safe harbor uncertainty. Thus, a safe harbor may originated from the 2007 version of the interpretation. First, TILA section also allow creditors to provide legislation. The 2009 version of the 129C(b)(1) states that a creditor or consumers additional or more affordable legislation did not contain this dual assignee may presume that a loan has access to credit by reducing their track approach.138 Instead, the language ‘‘met the requirements of subsection (a), expected total litigation costs. simply stated that creditors, assignees, if the loan is a qualified mortgage.’’ On the other hand, there are also and securitizers ‘‘may presume’’ that TILA section 129C(a) contains the several aspects of the statutory structure qualified mortgages satisfied ability-to- general ability-to repay requirement, that favor interpreting qualified repay requirements, without specifying and also a set of specific underwriting mortgage as creating a rebuttable the nature of the presumption.139 The criteria that must be considered by a presumption of compliance. With committee report of the 2009 bill creditor in assessing the consumer’s respect to statutory construction, TILA described the provision as establishing repayment ability. Rather than stating section 129C(b)(1) states that a creditor a ‘‘limited safe harbor’’ for qualified that the presumption of compliance or assignee ‘‘may presume’’ that a loan mortgages, while also stating that ‘‘the applies only to TILA section 129C(a)(1) has met the repayment ability presumption can be rebutted.’’ 140 This for the general ability-to-repay requirement if the loan is a qualified suggests that Congress contemplated requirements, it appears Congress mortgage. As the Board’s proposal notes, that qualified mortgages would receive intended creditors who make qualified this could suggest that originating a a rebuttable presumption of compliance mortgages to be presumed to comply qualified mortgage provides a with the ability-to-repay provisions, with both the ability-to-repay presumption of compliance with the notwithstanding Congress’s use of the requirements and all of the specific repayment ability requirements, which term ‘‘safe harbor’’ in the heading of underwriting criteria. Second, TILA the consumer can rebut with evidence section 129C(b) and elsewhere in the section 129C(b)(2) does not define a that the creditor did not, in fact, make statute and legislative history. qualified mortgage as requiring a good faith and reasonable There are also policy reasons that compliance with all of the underwriting determination of the consumer’s ability favor interpreting ‘‘qualified mortgage’’ criteria of the general ability-to-repay to repay the loan. Similarly, in the as a rebuttable presumption of standard. Therefore, unlike the smaller loans provisions in TILA section compliance. The ultimate aim of the approach found in the 2008 HOEPA 129C(b)(2)(D), Congress instructed the statutory provisions is to assure that, Final Rule, it appears that meeting the Bureau to adjust the points and fees cap before making a mortgage loan, the criteria for a qualified mortgage is an for qualified mortgages ‘‘to permit creditor makes a determination of the alternative way of establishing lenders that extend smaller loans to consumer’s ability to repay. No matter compliance with all of the ability-to- meet the requirements of the how many elements the Bureau might repay requirements, which could presumption of compliance’’ in TILA add to the definition of qualified suggest that meeting the qualified section 129C(b)(1).134 As noted above, mortgage, it still would not be possible mortgage criteria conclusively satisfies the 2008 HOEPA Final Rule also to define a class of loans which ensured these requirements. In other words, contains a rebuttable presumption of that every consumer within the class given that a qualified mortgage satisfies compliance with respect to the ability- could necessarily afford a particular the ability-to-repay requirements, one to-repay requirements that currently loan. In light of this, interpreting the could assume that meeting the qualified apply to high-cost and higher-priced statute to provide a safe harbor that mortgage definition conclusively mortgages. precludes a consumer from challenging establishes compliance with those The legislative history of the Dodd- the creditor’s determination of requirements. Frank Act may also favor interpreting repayment ability seems to raise In addition, TILA section ‘‘qualified mortgage’’ as a rebuttable 129C(b)(3)(B), which provides the presumption of compliance. As 135 See Mortgage Reform and Anti-Predatory Bureau authority to revise, add to, or described in a joint comment letter from Lending Act of 2007, H.R. 3915, 110th Cong. (2007). subtract from the qualified mortgage 136 See H.R. 3915 § 203. Specifically, that prior several consumer advocacy groups, a version of title XIV would have created two types criteria upon making certain findings, is prior version of Dodd-Frank Act title of qualified mortgages: (1) a ‘‘qualified mortgage,’’ titled ‘‘Revision of Safe Harbor Criteria.’’ XIV from 2007 contemplated a dual which included loans with prime interest rates or Further, in section 1421 of the Dodd- track for liability in litigation: a government insured VA or FHA loans, and (2) a Frank Act, Congress instructed the ‘‘qualified safe harbor mortgage,’’ which met rebuttable presumption for creditors and underwriting standards and loan term restrictions Government Accountability Office to a safe harbor for secondary market similar to the definition of qualified mortgage issue a study on the effect ‘‘on the eventually codified at TILA section 129C(b)(2). 137 mortgage market for mortgages that are 134 In prescribing such rules, the Bureau is to Id. not within the safe harbor provided in consider the potential impact of such rules on rural 138 See Mortgage Reform and Anti-Predatory areas and other areas where home values are lower. Lending Act of 2009, H.R. 1728. the amendments made by this subtitle.’’ 139 Certain policy considerations also This provision did not appear in earlier versions of See H.R. 1728 § 203. title XIV of the Dodd-Frank Act, so there is no 140 Mortgage Reform and Anti-Predatory Lending favor a safe harbor. Treating a qualified legislative history to explain the use of the word Act of 2009, H. Rept. No. 94, 111th Cong., at 48 mortgage as a safe harbor provides ‘‘presumption’’ in this context. (2009).

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tensions with the requirement to instance, a significant number of ability-to-repay requirements, creditors determine repayment ability. In industry commenters advocated will either not make loans or will pass contrast, interpreting a qualified incorporating the general ability-to- the cost of uncertain legal risk to mortgage as providing a rebuttable repay requirements into the qualified consumers, which in turn would presumption of compliance would mortgage definition, while providing a increase the cost of borrowing. better ensure that creditors consider safe harbor for those loans that met the Numerous industry commenters each consumer’s ability to repay the enhanced standards. And a coalition of argued for a legal safe harbor because of loan rather than only satisfying the industry and consumer advocates the liabilities of an ability-to-repay qualified mortgage criteria. presented a proposal to the Bureau that violation and the costs associated with would have provided a tiered approach ability-to-repay litigation. Generally, The Board’s Proposal to defining a qualified mortgage. Under commenters argued that a rebuttable As described above, in light of the the first tier, if the consumer’s back-end presumption for qualified mortgages statutory ambiguity and competing debt-to-income (total debt-to-income) would invite more extensive litigation policy considerations, the Board ratio is 43 percent or less, the loan than necessary that will result in greater proposed two alternative definitions for would be a qualified mortgage, and no costs being borne by all consumers. a qualified mortgage, which generally other tests would be required. Under the Commenters emphasized the relatively represent two ends of the spectrum of second tier, if the consumer’s total debt- severe penalties for ability-to-repay possible definitions. Alternative 1 to-income ratio is more than 43 percent, violations under the Dodd-Frank Act, would have applied only the specific the creditor would apply a series of tests including enhanced damages, an requirements listed for qualified related to the consumer’s front-end extended three-year statute of mortgages in TILA section 129C(b)(2), debt-to-income ratio (housing debt-to- limitations, a recoupment or set-off and would have provided creditors with income), stability of income and past provision as a defense to foreclosure, a safe harbor to establish compliance payment history, availability of reserves, and new enforcement authorities by with the general repayment ability and residual income to determine if a State attorneys general. In addition, requirement in proposed § 226.43(c)(1). loan is a qualified mortgage. assignee liabilities are amplified Alternative 2 would have required a Comments in favor of safe harbor. because of the recoupment and set-off qualified mortgage to satisfy the specific Industry commenters strongly provision in TILA section 130(k). requirements listed in the TILA section supported a legal safe harbor from Commenters asserted that the increased 129C(b)(2), as well as additional liability for qualified mortgages. These costs associated with litigation could requirements taken from the general commenters believe that a broad safe make compliance too costly for smaller ability-to-repay standard in proposed harbor with clear, bright lines would creditors, which would reduce § 226.43(c)(2) through (7). Alternative 2 provide certainty and clarity for competition and credit availability from would have provided a rebuttable creditors and assignees. Generally, the market. In particular, community presumption of compliance with the industry commenters argued that a safe bank trade association commenters ability-to-repay requirements. Although harbor is needed in order: (i) To ensure argued that the Bureau should adopt a the Board specifically proposed two creditors make loans, (ii) to ensure the safe harbor for qualified mortgage loans alternative qualified mortgage availability of and access to affordable and include bright-line requirements to definitions, it also sought comment on credit without increasing the costs of protect community banks from litigation other approaches by soliciting comment borrowing; (iii) to promote certainty and and ease the compliance burden. on other alternative definitions. The saleability in the secondary market, and Ultimately, community bank trade Board also specifically solicited (iv) to contain litigation risk and costs association commenters stated that few, comment on what criteria should be for creditors and assignees. if any, banks would risk providing a included in the definition of a qualified Generally, although acknowledging mortgage that only has a rebuttable mortgage to ensure that the definition ambiguities in the statutory language, presumption attached. provides an incentive to creditors to industry commenters argued that the Industry commenters generally make qualified mortgages, while also statute’s intent and legislative history believed that a rebuttable presumption ensuring that consumers have the ability indicate that qualified mortgages are would increase the incidence of to repay those loans. In particular, the meant to be a legal safe harbor, in lieu litigation because any consumer who Board sought comment on whether the of the ability-to-repay standards. defaults on a loan would be likely to sue qualified mortgage definition should Industry commenters argued that a safe for recoupment in foreclosure. require consideration of a consumer’s harbor would best ensure safe, well- Commenters were also concerned about debt-to-income ratio or residual income, documented, and properly underwritten frivolous challenges in court as well as including whether and how to include loans without limiting the availability of heightened scrutiny by regulators. In a quantitative standard for the debt-to- credit or increasing the costs of credit to particular, a credit union association income ratio or residual income for the consumers. Many industry commenters commenter supported a safe harbor qualified mortgage definition. asserted that a legal safe harbor from because of concerns that a rebuttable liability would ensure access to presumption would cause credit unions Comments affordable credit. Other industry to be faced with significant amounts of Generally, numerous industry and commenters argued that a safe harbor frivolous foreclosure defense litigation other commenters, including some ultimately benefits consumers with in the future. In addition to increased members of Congress, supported a legal increased access to credit, reduced loan incidence of litigation, industry safe harbor while consumer groups and fees and interest rates, and less-risky commenters and other interested parties other commenters, including an loan features. In contrast, various argued that the estimated costs of association of State bank regulators, industry commenters contended that a litigation under a rebuttable supported a rebuttable presumption. rebuttable presumption would not presumption would be overly However, as described below, provide enough certainty for creditors burdensome for creditors and assignees. commenters did not necessarily support and the secondary market. Commenters Some commenters and interested parties the two alternative proposals argued that if creditors cannot easily presented estimates of the litigation specifically as drafted by the Board. For ascertain whether a loan satisfies the costs associated with claims alleging a

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violation of the ability-to-repay qualified mortgages. Other commenters of the loan, as does the Dodd-Frank requirements. For example, one argued that reducing the protections Act’s ability-to-repay provisions. industry trade association commenter afforded to qualified mortgages could Accordingly, industry commenters estimated that the attorney’s fees for a cause creditors to act more strongly supported broad coverage of claim involving a qualified mortgage conservatively and restrict credit or qualified mortgages, as noted above. under a safe harbor would cost $30,000, result in the denial of credit at a higher Commenters asserted that the compared to $50,000 for a claim under rate and increase the cost of credit. secondary market will demand a ‘‘safe a rebuttable presumption. That Many commenters argued that the most harbor’’ for quality assurance and risk commenter provided a separate serious effects and impacts on the avoidance. If the regulatory framework estimation from a law firm that the availability and cost of credit would be does not provide a safe harbor, attorneys’ fees to the creditor will be for minority, low- to moderate-income, commenters asserted that investors approximately $26,000 in cases where and first-time borrowers. Therefore, would require creditors to agree to the matter is disposed of on a motion to industry commenters believed that a additional, strict representations and dismiss, whereas the fees for the cost of bright-line safe harbor would provide warranties when assigning loans. a full trial could reach $155,000. That the strongest incentive for creditors to Contracts between loan originators and commenter asserted that safe harbor provide sustainable mortgage credit to secondary market purchasers often claims are more likely to be dismissed the widest array of qualified consumers. require originators to repurchase loans on a motion to dismiss than the Furthermore, one industry trade should a loan perform poorly, and these rebuttable presumption. association commenter argued that not commenters expect that future contracts An industry commenter and other providing strong incentives for creditors will include provisions related to the interested parties argued that the would diminish the possibility of ability-to-repay rule. Commenters assert estimated costs to creditors associated recovery of the housing market and the that the risks and costs associated with with litigation and penalties for an nation’s economy. additional potential put-backs to the ability-to-repay violation could be creditor would increase liability and Industry commenters also expressed substantial and provided illustrations of risk to creditors, which would concerns regarding secondary market costs under the proposal, noting ultimately increase the cost of credit to considerations and assignee liability. potential cost estimates of the possible consumers. Furthermore, commenters Commenters urged the Bureau to statutory damages and attorney’s fees. contended that if the rule is too onerous consider commercial litigation costs For example, the total estimated costs in its application to the secondary and damages ranged between associated with the contractually market, then the secondary market approximately $70,000 and $110,000 required repurchase (‘‘put-back’’) of participants may purchase fewer loans depending on various assumptions, loans sold on the secondary market or increase pricing to account for the such as the interest rate on a loan or where there is litigation over those additional risk, such as is now the case whether the presumption of compliance loans, as well as the risk of extended for high-cost mortgages. is conclusive or rebuttable. foreclosure timelines because of ongoing Commenters noted that the risks Industry commenters also generally ability-to-repay litigation. Industry associated with assignee liability are argued that a safe harbor would promote commenters asserted that a safe harbor heightened by any vagueness in access to credit because creditors would is critical to promote saleability of loans standards in the rule. One secondary be more willing to extend credit where in the secondary market. In particular, market purchaser commenter argued they receive protections under the they stated that clarity and certainty that a rebuttable presumption would statutory scheme. One industry trade provided by a safe harbor would present challenges because purchasers association commenter cited the 2008 promote efficiencies in the secondary (or assignees) are not part of the HOEPA Final Rule, which provided a market because investors in securitized origination process. It is not feasible for rebuttable presumption of compliance residential mortgage loans (mortgage purchasers to evaluate all of the with the requirement to consider a backed securities, or MBS) could be considerations that went into an consumer’s repayment ability upon more certain that they are not underwriting decision, so they must rely meeting certain criteria, as causing a purchasing compliance risk along with on the creditor’s representations that the significant drop in higher-priced their investments. Commenters asserted loan was originated in compliance with mortgage loan originations, and that without a safe harbor, the resulting applicable laws and the purchaser’s suggested that access to general uncertainty would eliminate the requirements. However, assignees may mortgage credit would be similarly efficiencies provided by secondary sale have to defend a creditor’s underwriting restricted if the final rule adopts a or securitization of loans. By extension, decision at any time during the life of rebuttable presumption for the market commenters claimed that the cost of the loan because there is no statute of as a whole. A large bank commenter borrowing for consumers would limitations on raising the failure to similarly noted the lack of lending in ultimately increase. Large bank make an ability-to-repay determination the higher-priced mortgage space since commenters stated that although they as a defense to foreclosure. The the 2008 HOEPA Final Rule took effect. might originate non-qualified mortgage commenters argued that defending these In addition to the liquidity constraints loans, the number would be relatively cases would be difficult and costly, and for non-qualified mortgages, small and held in portfolio because they that such burdens would be reduced by commenters argued that the liability and believe it is unlikely that non-qualified safe harbor protections. damages from a potential ability-to- mortgage loans will be saleable in the Comments in favor of rebuttable repay TILA violation would be a secondary market. Generally, industry presumption of compliance. Consumer disincentive for a majority of creditors commenters asserted that creditors, group commenters generally urged the to make non-qualified mortgage loans. regardless of size, would be unwilling to Bureau to adopt a rebuttable Further, some commenters suggested risk exposure outside the qualified presumption for qualified mortgages. that creditors could face reputational mortgage space. One large bank Commenters argued that Congress risk from making non-qualified commenter stated that the 2008 HOEPA intended a rebuttable presumption, not mortgage loans because consumers Final Rule did not create a defense to a safe harbor. In particular, commenters would view them as ‘‘inferior’’ to foreclosure against assignees for the life contended that the Dodd-Frank Act’s

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legislative history and statutory text loan based on all of the underwriting sum if all finance charges and fees paid strongly support a rebuttable factors listed in the general ability-to- by the consumer within three years of presumption. Commenters noted that repay standard. consummation) for violation of the the statute is designed to strike a fair Consumer group commenters ability-to-repay requirements limits balance between market incentives and observed that a rebuttable presumption litigation risk significantly. Commenters market discipline, as well as a balance would better ensure that creditors contended that, as a general rule, a court between consumers’ legal rights and actually consider a consumer’s ability to is more likely to find that the ability-to- excessive exposure to litigation risk for repay the loan. Consumer group repay determination at consummation creditors. Commenters asserted that the commenters also asserted that the goals was not reasonable and in good faith the purpose of the qualified mortgage of safe, sound, sustainable mortgage earlier in the process a default occurs, designation is to foster sustainable lending and a balanced system of and at that point the amount of interest lending products and practices built accountability are best served by a paid by a consumer (a component of upon sound product design and sensible rebuttable presumption because enhanced damages) will be relatively underwriting. To that end, a rebuttable consumers should be able to put small. Commenters argued that the presumption would accomplish the goal evidence before a court that the longer it takes a consumer to default, the of encouraging creditors to originate creditor’s consideration and verification harder the burden it will be for the loans that meet the qualified mortgage of the consumer’s ability to repay the consumer to show that the default was definition while assuring consumers of loan was unreasonable or in bad faith. reasonably predictable at consummation significantly greater protection from To that end, a rebuttable presumption and was caused by improper abusive or ineffective underwriting than would allow the consumer to assert that, underwriting rather than a subsequent if a safe harbor were adopted. Consumer despite complying with the criteria for income or expense shock; moreover, group commenters contended that a qualified mortgage and the ability-to- even if the consumer can surmount that qualified mortgages can earn and repay standard, the creditor did not burden, the amount of damages is still deserve the trust of both consumers and make a reasonable and good faith capped at three years’ worth of paid investors only if they carry the determination of the consumer’s ability interest. In addition, consumer group assurance that they are soundly to repay the loan. Without this commenters contended that the designed and properly underwritten. accountability, commenters argued that penalties to which creditors could be Many consumer group commenters the Dodd-Frank Act’s effectiveness subject on a finding of failure to meet asserted that a rebuttable presumption would be undermined. the ability-to-repay requirements would would provide better protections for Ultimately, consumer group not be so injurious or even so likely to consumers as well as improving commenters believed that a rebuttable be applied in all but the most egregious presumption would not exacerbate safeguards against widespread risky situations as to impose any meaningful current issues with credit access and lending while helping ensure that there risk upon creditors. availability, but would instead allow would be no shortcuts on common Moreover, many consumer group room for honest, efficient competition sense underwriting. They argued that a commenters observed that creditors that and affordable credit. Consumer group legal safe harbor could invite abusive comply with the rules and ensure that commenters generally contended that lending because consumers will have no their loan originators are using sound, the fear of litigation and estimated costs legal recourse. Several commenters also well documented and verified and risks associated with ability-to- underwriting will be adequately asserted that no qualified mortgage repay violations are overstated and protected by a rebuttable presumption. definition could cover all contingencies based on misunderstanding of the extent in which such abuses could occur. of exposure to TILA liability. Consumer Final Rule Some commenters argued that a legal group commenters and some ex parte As described above, the presumption safe harbor would leave consumers communications asserted that the afforded to qualified mortgages in the unprotected against abuses, such as potential incidence of litigation is final rule balances consumers’ ability to those associated with simultaneous relatively small, and therefore liability invoke the protections of the Dodd- liens or from inadequate consideration cost and risk are minimal for any given Frank Act scheme with the need to of employment and income. An mortgage creditor. For example, create sufficient certainty to promote association of State bank regulators consumer group commenters asserted access to credit in all parts of the favored a rebuttable presumption that there are significant practical market. Specifically, the final rule because, although a rebuttable limitations to consumers bringing an provides a safe harbor with the ability- presumption provides less legal ability-to-repay claim, suggesting that to-repay requirements for loans that protection than a safe harbor, a few distressed homeowners would be meet the qualified mortgage criteria and rebuttable presumption encourages able to obtain legal representation often pose the least risk, while providing a institutions to consider repayment necessary to mount a successful rebuttal rebuttable presumption for ‘‘higher- factors that are part of a sound in litigation. Consumer groups provided priced’’ mortgage loans, defined as underwriting process. That commenter percentages of borrowers in foreclosure having an APR that exceeds APOR by contended that a creditor should not be who are represented by lawyers, noting 1.5 percentage points for first liens and granted blanket protection from a the difficulty of bringing a TILA 3.5 percentage points for second foreclosure defense of an ability-to- violation claim, and addressed estimates liens.141 The final rule also specifically repay violation if the creditor failed to of litigation costs, such as attorneys’ defines the grounds on which the consider and verify such crucial fees. Consumer groups provided presumption accorded to more information as a consumer’s estimates of the number of cases in expensive qualified mortgages can be employment status and credit history, foreclosure and the percentage of cases rebutted. In issuing this final rule, the for example. On this point, the that involve TILA claims, such as a rebuttable presumption proposed by the claim of rescission. 141 For the reasons discussed above in the section- Board would require creditors to make Furthermore, consumer group by-section analysis of § 1026.43(b)(4), the Bureau does not adopt a separate threshold for jumbo loans individualized determinations that the commenters argued that the three-year in the higher-priced covered transaction definition consumer has the ability to repay the cap on enhanced damages (equal to the for purposes of § 1026.43(e)(1).

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Bureau has drawn on the experiences default risk. Furthermore, the subprime with the potential benefits to both from the current ability-to-repay segment of the market is comprised of consumers and industry of reducing provisions that apply to higher-priced borrowers who tend to be less uncertainty concerning the new regime. mortgages, described above. Based on sophisticated and who have fewer To the extent that the rule reduces the difference in historical performance options available to them, and thus are litigation risk concerns for prime levels between prime and subprime more susceptible to being victimized by qualified mortgages, consumers in the loans, the Bureau believes that this predatory lending practices. The prime market may benefit from approach will provide significant historical performance of subprime enhanced competition (although, as certainty to creditors while preserving loans bears all this out.142 The Bureau discussed below, the Bureau believes consumer remedies and creating strong concludes, therefore, that for subprime litigation costs will be small and incentives for more responsible lending loans there is reason to impose manageable for almost all creditors). In in the part of the market in which the heightened standards to protect particular, the Bureau believes that most abuses occurred prior to the consumers and otherwise promote the larger creditors may expand financial crisis. policies of the statute. Accordingly, the correspondent lending relationships In issuing this final rule, the Bureau Bureau believes that it is important to with smaller banks with respect to carefully considered the comments afford consumers the opportunity to prime qualified mortgages. Larger received and the interpretive and policy rebut the presumption of compliance creditors may also relax currently considerations for providing qualified that applies to qualified mortgages with restrictive credit overlays (creditor- mortgages either a safe harbor or regard to higher-priced mortgages by created underwriting requirements that rebuttable presumption of compliance showing that, in fact, the creditor did go beyond GSE or agency guidelines), with the repayment ability not have a good faith and reasonable thereby increasing access to credit. requirements. For the reasons set forth belief in the consumer’s reasonable Scope of rebuttable presumption. In by the Board and discussed above, the ability to repay the loan at the time the light of the heightened protections for Bureau finds that the statutory language loan was made. subprime loans, the final rule also is ambiguous and does not mandate a These same considerations lead to the carefully defines the grounds on which particular approach. In adopting the opposite result with respect to prime the presumption that applies to higher- final rule, the Bureau accordingly loans which satisfy the requirements for priced qualified mortgages can be focused on which interpretation would a qualified mortgage. The fact that a rebutted. The Bureau believes that this best promote the various policy goals of consumer receives a prime rate is itself feature is critical to ensuring that the statute, taking into account the indicative of the absence of any indicia creditors have sufficient incentives to Bureau’s authority, among other things, that would warrant a loan level price provide higher-priced qualified to make adjustments and exceptions adjustment, and thus is suggestive of the mortgages to consumers. Given the necessary or proper to effectuate the consumer’s ability to repay. Historically, historical record of abuses in the purposes of TILA, as amended by the prime rate loans have performed subprime market, the Bureau believes it Dodd-Frank Act. significantly better than subprime rate is particularly important to ensure that Discouraging unsafe underwriting. As loans and the prime segment of the consumers are able to access qualified described in part II above, the ability-to- market has been subject to fewer mortgages in light of their product repay provisions of the Dodd-Frank Act abuses.143 Moreover, requiring creditors feature restrictions and other were codified in response to lax lending to prove that they have satisfied the protections. terms and practices in the mid-2000’s, qualified mortgage requirements in Specifically, the final rule defines the which led to increased foreclosures, order to invoke the presumption of standard by which a consumer may particularly for subprime borrowers. compliance will itself ensure that the rebut the presumption of compliance The statutory underwriting loans in question do not contain certain afforded to higher-priced qualified requirements for a qualified mortgage— risky features and are underwritten with mortgages, and provides an example of for example, the requirement that loans careful attention to consumers’ debt-to- how a consumer may rebut the be underwritten on a fully amortized income ratios. Accordingly, the Bureau presumption. As described below, the basis using the maximum interest rate believes that where a loan is not a final rule provides that consumers may during the first five years and not a higher-priced covered transaction and rebut the presumption with regard to a teaser rate, and the requirement to meets both the product and higher-priced covered transaction by consider and verify a consumer’s underwriting requirements for a showing that, at the time the loan was income or assets—will help prevent a qualified mortgage, there are sufficient originated, the consumer’s income and return to such lax lending. So, too, will grounds for concluding that the creditor debt obligations left insufficient residual the requirement that a consumer’s debt- had a reasonable and good faith belief income or assets to meet living to-income ratio (including mortgage- in the consumer’s ability to repay to expenses. The analysis would consider related obligations and obligations on warrant a safe harbor. the consumer’s monthly payments on simultaneous second liens) not exceed This approach carefully balances the the loan, mortgage-related obligations, 43 percent, as discussed further below. likelihood of consumers needing redress and any simultaneous loans of which Notwithstanding these requirements, the creditor was aware, as well as any however, the Bureau recognizes that it 142 For example, data from the MBA delinquency recurring, material living expenses of is not possible to define by a bright-line survey show that serious delinquency rates for which the creditor was aware. rule a class of mortgages as to which it conventional prime mortgages averaged roughly 2 The Bureau believes the rebuttal will always be the case that each percent from 1998 through 2011 and peaked at 7 standard in the final rule appropriately percent following the recent housing collapse. In individual consumer has the ability to contrast, the serious delinquency rates averaged 13 balances the consumer protection and repay his or her loan. That is especially percent over the same period. In late 2009, it access to credit considerations true with respect to subprime loans. In peaked at over 30 percent.’’ Mortgage Bankers described above. This standard is many cases, the pricing of a subprime Association, National Delinquency Survey. For a consistent with the standard in the 2008 discussion of the historical performance of loan is the result of loan level price subprime loans, see 2008 HOEPA Final Rule, 73 FR HOEPA Final Rule, and is specified as adjustments established by the 44522, 44524–26 (July 30, 2008). the exclusive means of rebutting the secondary market and calibrated to 143 See id. presumption. Commentary to the

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existing rule provides as an example of mortgages with a safe harbor. The uncertainty over multiple regulatory how its presumption may be rebutted Bureau also considered secondary and capital initiatives, and other factors. that the consumer could show ‘‘a very market dynamics, including the Relative to the Dodd-Frank Act, the high debt-to-income ratio and a very potential impacts on creditors from Bureau notes that the existing regime limited residual income.’’ Under the loans that the secondary market ‘‘puts already provides for attorneys’ fees and definition of qualified mortgage that the back’’ on the originators because of the same remedies against creditors in Bureau is adopting, however, the ability-to-repay litigation. The Bureau’s affirmative cases, and actually provides creditor generally is not entitled to a analysis is described in detail in the for greater remedies against creditors in presumption if the debt-to-income ratio section 1022(b)(2) analysis under part foreclosure defense situations. is ‘‘very high.’’ As a result, the Bureau VII; the results of that analysis helped Nevertheless, the incidence of claims is focusing the standard for rebutting the to shape the calibrated approach that under the existing ability-to-repay rules presumption in the final rule on the Bureau is adopting in the final rule for high-cost and higher-priced loans whether, despite meeting a debt-to- and suggest that the mortgage market and analogous State laws is relatively income test, the consumer nonetheless will be able to absorb litigation risks low. The Bureau’s analysis shows that had insufficient residual income to under the rule without jeopardizing cost estimates remain modest for both cover the consumer’s living expenses. access to credit. loans that are not qualified mortgages The Bureau believes this standard is Specifically, as discussed in the and loans that are qualified mortgages sufficiently broad to provide consumers section 1022(b)(2) analysis under part with a rebuttable presumption of a reasonable opportunity to demonstrate VII, the Bureau believes that even compliance, and even more so for that the creditor did not have a good without the benefit of any presumption qualified mortgages with a safe harbor. faith and reasonable belief in the of compliance, the actual increase in The Bureau recognizes, of course, that consumer’s repayment ability, despite costs from the litigation risk associated under the Dodd-Frank Act ability-to- meeting the prerequisites of a qualified with ability-to-pay requirements would repay provisions, a consumer can assert mortgage. At the same time, the Bureau be quite modest. This is a function of a claim against an assignee as a ‘‘defense believes the rebuttal standard in the the relatively small number of potential by recoupment or set off’’ in a final rule is sufficiently clear to provide claims, the relatively small size of those foreclosure action. There is no time certainty to creditors, investors, and claims, and the relatively low likelihood limit on the use of this defense, but the regulators about the standards by which of claims being filed and successfully consumer cannot recover as special the presumption can successfully be prosecuted. The Bureau notes that statutory damages more than three years challenged in cases where creditors litigation likely would arise only when of finance charges and fees. To the have correctly followed the qualified a consumer in fact was unable to repay extent this leads to increased litigation mortgage requirements. the loan (i.e. was seriously delinquent or potential with respect to qualified Several commenters raised concerns had defaulted), and even then only if mortgages as to which the presumption about the use of oral evidence to the consumer elects to assert a claim of compliance is rebuttable, this may impeach the information contained in and is able to secure a lawyer to provide cause creditors to take greater care when the loan file. For example, a consumer representation; the consumer can underwriting these riskier products to may seek to show that a loan does not prevail only upon proving that the avoid potential put-back risk from meet the requirements of a qualified creditor lacked a reasonable and good investors. The Bureau believes that this mortgage by relying on information faith belief in the consumer’s ability to is precisely what Congress intended—to provided orally to the creditor or loan repay at consummation or failed to create incentives for creditors to engage originator to establish that the debt-to- consider the statutory factors in arriving in sound underwriting and for income ratio was miscalculated. at that belief. secondary market investors to monitor Alternatively, a consumer may seek to The rebuttable presumption of the quality of the loans they buy—and show that the creditor should have compliance being afforded to qualified that these incentives are particularly known, based upon facts disclosed mortgages that are higher-priced reduces warranted with respect to the subprime orally to the creditor or loan originator, the litigation risk, and hence the market. that the consumer had insufficient potential transaction costs, still further. At the same time, the Bureau does not residual income to be able to afford the As described above, the Bureau has believe that the potential assignee mortgage. The final rule does not crafted the presumption of compliance liability with respect to higher-priced preclude the use of such oral evidence being afforded to subprime loans so that qualified mortgages will preclude such in ability-to-repay cases. The Bureau it is not materially different than the loans from being sold on the secondary believes that courts will determine the presumption that exists today under the market. Specifically, in analyzing weight to be given to such evidence on 2008 HOEPA Final Rule. Indeed, the impacts on the secondary market the a case-by-case basis. To exclude such Bureau is defining with more Bureau notes that investors are evidence across the board would invite particularity the requirements for purchasing higher-priced mortgage abuses in which consumers could be rebutting this presumption. No evidence loans that are subject to the existing misled or coerced by an unscrupulous has been presented to the Bureau to ability-to-repay requirements and loan originator into keeping certain facts suggest that the presumption under the presumption of compliance and that the out of the written record. 2008 HOEPA Final Rule has led to GSEs have already incorporated into Litigation risks and access to credit. In significant litigation or to any their contracts with creditors a light of the continuing and widespread distortions in the market for higher- representation and warranty designed to concern about litigation risk under the priced mortgages. As noted above, provide investor protection in the event Dodd-Frank Act regime, the Bureau, in commenters noted the lack of lending in of an ability-to-repay violation. The the course of developing the framework the higher-priced mortgage space since Bureau agrees with industry and described above, carefully analyzed the the 2008 HOEPA Final Rule took effect, secondary market participant impacts of potential litigation on non- but the Bureau is unaware of evidence commenters that investors will likely qualified mortgages, any qualified suggesting the low lending levels are the require creditors to agree to similar mortgages with a rebuttable result of the Board’s rule, as compared representations and warranties when presumption, and any qualified to the general state of the economy, assigning or selling loans under the new

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rule because secondary market defined in § 1026.43(e)(2), (e)(4), or (f) must be proven that, despite meeting participants will not want to be held that is not a higher-priced covered the standards for a qualified mortgage accountable for ability-to-repay transaction, as defined in (including either the debt-to-income compliance which investors will view § 1026.43(b)(4), complies with the standard in § 1026.43(e)(2)(vi) or the as the responsibility of the creditor. For repayment ability requirements of standards of one of the entities specified prime loans, this may represent an § 1026.43(c). Comment 43(e)(1)(i)–1 in § 1026.43(e)(4)(ii)), the creditor did incremental risk of put-back to clarifies that, to qualify for the safe not have a reasonable and good faith creditors, given that such loans are not harbor in § 1026.43(e)(1)(i), a covered belief in the consumer’s repayment subject to the current regime, but those transaction must meet the requirements ability. Specifically, it must be proven loans are being provided a safe harbor of a qualified mortgage in that, at the time of consummation, based if they are qualified mortgages. For § 1026.43(e)(2), (e)(4), or (f) and must on the information available to the subprime (higher risk) loans it is not not be a higher-priced covered creditor, the consumer’s income, debt clear that there is any incremental risk transaction, as defined in obligations, alimony, child support, and beyond that which exists today under § 1026.43(b)(4). the consumer’s monthly payment the Board’s rule. There are also some For qualified mortgages that are (including mortgage-related obligations) administrative costs associated with higher-priced covered transactions, on the covered transaction and on any such ‘‘put-backs’’ (e.g., costs associated § 1026.43(e)(1)(ii)(A) provides a simultaneous loans of which the with the process of putting back loans rebuttable presumption of compliance creditor was aware at consummation from the issuer or insurer or servicer on with the repayment ability would leave the consumer with behalf of the securitization trust to the requirements. That section provides that insufficient residual income or assets creditor as a result of the ability-to- a creditor or assignee of a qualified other than the value of the dwelling repay claims), but those costs are mortgage as defined in § 1026.43(e)(2), (including any real property attached to unlikely to be material for qualified (e)(4), or (f) that is a higher-priced the dwelling) that secures the loan with mortgages subject to the rebuttable covered transaction, as defined which to meet living expenses, presumption and will not affect either § 1026.43(b)(4), is presumed to comply including any recurring and material the pricing of the loans or the with the repayment ability requirements non-debt obligations of which the availability of a secondary market for of § 1026.43(c). Section creditor was aware at the time of these loans. 1026.43(e)(1)(ii)(B) provides that to consummation, and that the creditor In sum, the Bureau has crafted the rebut the presumption of compliance, it thereby did not make a reasonable and calibrated presumptions to ensure that must be proven that, despite meeting good faith determination of the these litigation and secondary market the requirements of § 1026.43(e)(2), consumer’s repayment ability. The impacts do not jeopardize access to (e)(4), or (f), the creditor did not make comment also provides, by way of credit. With regard to subprime loans, a reasonable and good faith example, that a consumer may rebut the there is some possibility that creditors determination of the consumer’s presumption with evidence who are less sophisticated or less able repayment ability at the time of demonstrating that the consumer’s to bear any litigation risk may elect to consummation, by showing that the residual income was insufficient to meet refrain from engaging in subprime consumer’s income, debt obligations, living expenses, such as food, clothing, lending, but as discussed below, the alimony, child support, and the gasoline, and health care, including the Bureau believes that there are sufficient consumer’s monthly payment payment of recurring medical expenses creditors with the capabilities of making (including mortgage-related obligations) of which the creditor was aware at the responsible subprime loans so as to on the covered transaction and on any time of consummation, and after taking avoid significant adverse impact on simultaneous loans of which the into account the consumer’s assets other credit availability in that market. creditor was aware at consummation than the value of the dwelling securing Specific provisions. For the reasons would leave the consumer with the loan, such as a savings account. In discussed above, in § 1026.43(e)(1), the insufficient residual income or assets addition, the longer the period of time Bureau is providing a safe harbor and other than the value of the dwelling that the consumer has demonstrated rebuttable presumption with the ability- (including any real property attached to actual ability to repay the loan by to-repay requirements for loans that the dwelling) that secures the loan with making timely payments, without meet the definition of a qualified which to meet living expenses, mortgage. As explained in comment including any recurring and material modification or accommodation, after 43(e)(1)–1, § 1026.43(c) requires a non-debt obligations of which the consummation or, for an adjustable-rate creditor to make a reasonable and good creditor was aware at the time of mortgage, after recast, the less likely the faith determination at or before consummation. consumer will be able to rebut the consummation that a consumer will be Comment 43(e)(1)(ii)–1 clarifies that a presumption based on insufficient able to repay a covered transaction. creditor or assignee of a qualified residual income and prove that, at the Section 1026.43(e)(1)(i) and (ii) provide mortgage under § 1026.43(e)(2), (e)(4), or time the loan was made, the creditor a safe harbor and rebuttable (f) that is a higher-priced covered failed to make a reasonable and good presumption of compliance, transaction is presumed to comply with faith determination that the consumer respectively, with the repayment ability the repayment ability requirements of had the reasonable ability to repay the requirements of § 1026.43(c) for § 1026.43(c). To rebut the presumption, loan. creditors and assignees of covered it must be proven that, despite meeting As noted above, the Bureau believes transactions that satisfy the the standards for a qualified mortgage that the statutory language regarding requirements of a qualified mortgage (including either the debt-to-income whether qualified mortgages receive under § 1026.43(e)(2), (e)(4), or (f). standard in § 1026.43(e)(2)(vi) or the either a safe harbor or rebuttable Section 1026.43(e)(1)(i) provides a standards of one of the entities specified presumption of compliance is safe harbor for qualified mortgages that in § 1026.43(e)(4)(ii)), the creditor did ambiguous, and does not plainly are not higher-priced covered not have a reasonable and good faith mandate one approach over the other. transactions, by stating that a creditor or belief in the consumer’s repayment Furthermore, the Bureau has the assignee of a qualified mortgage as ability. To rebut the presumption, it authority to tailor the strength of the

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presumption of compliance based on mortgage loans to certain consumers, additional criteria relating to ratios of the characteristics associated with the which could restrict access to credit (or total monthly debt to monthly income different types of qualified mortgages. unduly raise the cost of credit) without or alternative measures of ability to pay Accordingly, the Bureau interprets TILA a corresponding benefit to consumers. regular expenses after payment of total section 129C(b)(1) to create a rebuttable The Bureau finds that this adjustment monthly debt, taking into account the presumption, but exercises its providing a safe harbor for prime loans income levels of the consumer and other adjustment authority under TILA is necessary and proper to facilitate factors the Bureau determines relevant section 105(a) to limit the ability to compliance with and to effectuate the and consistent with the purposes rebut the presumption in two ways, purposes of section 129C and TILA, described in TILA section because an open-ended rebuttable including to assure that consumers are 129C(b)(3)(B)(i). To the extent the presumption would unduly restrict offered and receive residential mortgage Bureau incorporates a debt-to-income or access to credit without a corresponding loans on terms that reasonably reflect residual income requirement into the benefit to consumers. their ability to repay the loans.144 qualified mortgage definition, several First, the Bureau uses its adjustment additional elements of the general authority under section 105(a) to limit 43(e)(2) Qualified Mortgage Defined— ability-to-repay standard would the ability to rebut the presumption to General effectively also be incorporated into the insufficient residual income or assets As discussed above, TILA section qualified mortgage definition, since other than the dwelling that secures the 129C(b)(2) defines the requirements for debt-to-income and residual income transaction because the Bureau believes qualified mortgages to limit certain loan analyses by their nature require exercise of this authority is necessary terms and features. The statute generally assessment of income, debt (including and proper to facilitate compliance with prohibits a qualified mortgage from simultaneous loans), and mortgage- and to effectuate a purpose of section permitting an increase of the principal related obligations. As discussed above, 129 and TILA. The Bureau believes this balance on the loan (negative the Board proposed two alternatives to approach, while preserving consumer amortization), interest-only payments, implement the qualified mortgage remedies, provides clear standards to balloon payments (except for certain elements. Both alternatives under the creditors and courts regarding the basis balloon-payment qualified mortgages Board’s proposal would have upon which the presumption of pursuant to TILA section 129C(b)(2)(E)), incorporated the statutory elements of a compliance that applies to higher-priced a term greater than 30 years, or points qualified mortgage (e.g., product feature covered transactions may be rebutted, and fees that exceed a specified and loan term restrictions, limits on thereby enhancing creditor certainty threshold. points and fees, payment calculation and encouraging lending in the higher- In addition, the statute incorporates requirements, and the requirement to priced mortgage market. The Bureau limited underwriting criteria that consider and verify the consumer’s finds this approach is necessary and overlap with some elements of the income or assets). However, Alternative proper to ensure that consumers are general ability-to-repay standard. 2 also included the additional factors in offered and receive residential mortgage Specifically, the statutory definition of the general ability-to-repay standard. loans on terms that reasonably reflect qualified mortgage requires the creditor Comments their ability to repay the loans, a to (1) verify and document the income purpose of section 129 and TILA. and financial resources relied upon to Qualified mortgage definition. As an Second, with respect to prime loans qualify the obligors on the loan; and (2) initial matter, the majority of (loans with an APR that does not exceed underwrite the loan based on a fully commenters generally favored defining APOR by 1.5 percentage points for first amortizing payment schedule and the qualified mortgages to reach a broad liens and 3.5 percentage points for maximum interest rate during the first portion of the overall market and to second liens), the Bureau also uses its five years, taking into account all provide clarity with regard to the adjustment authority under TILA applicable taxes, insurance, and required elements. Commenters agreed section 105(a) to provide a conclusive assessments. As noted above, these that clarity promotes the benefits of presumption (e.g., a safe harbor). Under requirements appear to be focused creditors lending with confidence and the conclusive presumption, if a prime primarily on ensuring that certain consumers receiving loans that comply loan satisfies the criteria for being a mortgage products—no-documentation with the basic requirements of an qualified mortgage, the loan will be loans and loans underwritten based affordable loan. In addition, deemed to satisfy section 129C’s ability- only on a consumer’s ability to make commenters generally agreed that a to-repay criteria and will not be subject payments during short introductory qualified mortgage should be broad, to rebuttal based on residual income or periods with low ‘‘teaser’’ interest encompassing the vast majority of the otherwise. The Bureau finds that this rates—are not eligible to be qualified existing mortgage market. Numerous approach balances the competing mortgages. commenters indicated that creditors consumer protection and access to In addition to these limited believed that the difference between the credit considerations described above. underwriting criteria, the statute also legal protections afforded (or risks As discussed above, the Bureau will not authorizes the Bureau to establish associated with) qualified mortgages extend the safe harbor to higher-priced and non-qualified mortgages would loans because that approach would 144 These adjustments are consistent with the result in very little lending outside of provide insufficient protection to Bureau’s authority under TILA section qualified mortgages. Commenters consumers in loans with higher interest 129C(b)(3)(B)(i) to prescribe regulations that revise, asserted that a narrowly defined rates who may require greater protection add to, or subtract from the criteria that define a qualified mortgage would leave loans qualified mortgage upon a finding that such than consumers in prime rate loans. On regulations are necessary or proper to ensure that outside the legal protections of qualified the other hand, an approach that responsible, affordable mortgage credit remains mortgages and would result in provided a rebuttable presumption of available to consumers in a manner consistent with constrained credit or increased cost of compliance for all qualified mortgages the purposes of this section, necessary and credit. appropriate to effectuate the purposes of TILA (including prime loans which section 129B and section 129C, to prevent As discussed in the section-by-section historically have a low default rate) circumvention or evasion thereof, or to facilitate analysis of § 1026.43(e)(1), commenters could lead creditors to make fewer compliance with such sections. did not necessarily support the two

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alternatives specifically as proposed by low- and moderate-income consumers and credit score with compensating the Board, but suggested variations on may be insufficient to enable such factors in the qualified mortgage the definition of qualified mortgage that households to reasonably meet all their definition. These commenters contain some or all of the Board’s obligations. While one consumer group contended that quantitative standards proposed criteria, or additional criteria commenter specifically supported the provide certainty and would help not specifically included in either of the inclusion of a consumer’s credit history ensure creditworthy consumers have Board’s proposed alternatives. For as an appropriate factor for a creditor to access to qualified mortgage loans. One example, as described below, a coalition consider and verify when underwriting consumer group commenter argued that, of industry and consumer advocates a loan, several commenters argued that without specific quantitative standards, suggested a tiered approach to defining the consumer’s credit history should be bank examiners and assignees would qualified mortgage, based primarily on not included in the ability-to-repay have no benchmarks against which to meeting a specific back-end debt-to- requirements because, although credit measure a creditor’s compliance or income requirement, with alternative history may be relevant in prudent safety and soundness. One industry means of satisfying the qualified underwriting, it involves a multitude of commenter favored quantitative mortgage definition (such as housing factors that need to be taken into standards such as a maximum back-end debt-to-income, reserves, and residual consideration. In addition, one debt-to-income ratio because that would income) if the back-end debt-to-income association of State bank regulators also provide sufficient certainty to creditors test is not satisfied. Similarly, one favored consideration of the repayment and investors. One consumer group industry commenter suggested using a factors that are part of a sound commenter supported including weighted approach to defining qualified underwriting process. quantitative standards for the debt-to- mortgage, which would weight some As noted above, some industry income ratio because, without this, underwriting factors more heavily than commenters also generally supported every loan would be open to debate as others and permit a significant factor in including the underwriting to whether the consumer had the ability one area to compensate for a weak or requirements as proposed in Alternative to repay at the time of loan missing factor in another area. 2, with some adjustments, so long as the consummation. resulting qualified mortgage was As described further below, certain Consumer group commenters and entitled to a safe harbor. These commenters and interested parties some industry commenters generally commenters stated that most creditors requested that the Bureau adopt a supported excluding from the definition today are already complying with the specific debt-to-income ratio of qualified mortgage certain risky loan full ability-to-repay underwriting requirement for qualified mortgages. For features which result in ‘‘payment standards, and strong standards will example, some suggested that if a shock,’’ such as negative amortization or help them resist competitive forces to consumer’s total debt-to-income ratio is interest-only features. Consumer group lower underwriting standards in the below a specified threshold, the commenters also supported limiting future. Other industry commenters mortgage loan should satisfy the qualified mortgages to a 30-year term, as argued that the qualified mortgage qualified mortgage requirements, required by statute. Consumer group criteria should not exclude specific loan assuming other relevant conditions are commenters and one industry trade products because the result will be that met. In addition to a debt-to-income association strongly supported requiring such products will be unavailable in the requirement, some commenters and creditors to consider and verify the all market. interested parties suggested that the the ability-to-repay requirements. These Some commenters generally Bureau should include within the commenters contended that the ability- supported aligning the definition of definition of a ‘‘qualified mortgage’’ to-repay requirements represent prudent qualified mortgage with the definition loans with a debt-to-income ratio above mortgage underwriting techniques and proposed by several Federal agencies to a certain threshold if the consumer has are essential to sustainable lending. To define ‘‘qualified residential mortgages’’ a certain amount of assets, such as that point, these commenters argued (QRM) for purposes of the risk retention money in a savings or similar account, that qualified mortgage loans should requirements in title IX of the Dodd- or a certain amount of residual income. represent the best underwritten and Frank Act. For example, one commenter Some industry commenters advocated most fully documented loans, which suggested that the required payment against including quantitative standards would justify some form of protection calculation for qualified mortgages be for such variables as debt-to-income from future liability. In addition, several consistent with the QRM proposed ratios and residual income. Those consumer group commenters suggested requirement that the payment commenters argued that underwriting a adding a further requirement that when calculation be based on the maximum loan involves weighing a variety of assessing the consumer’s income and rate in the first five years after the first factors, and creditors and investors determining whether the consumer will full payment required. An association of should be allowed to exercise discretion be able to meet the monthly payments, reverse mortgage lenders requested that and weigh risks for each individual a creditor must also take into account a ‘‘qualified’’ reverse mortgage be loan. To that point, one industry trade other recurring but non-debt related defined to ensure that the Federal group commenter argued that expenses. These commenters argued agencies finalizing the QRM rule are community banks, for example, that many consumers, and especially able to make a proprietary reverse generally have conservative low- and moderate-income consumers, mortgage a QRM, which would be requirements for a consumer’s debt-to- face significant monthly recurring exempt from the risk retention income ratio, especially for loans that expenses, such as medical care or requirements. Lastly, numerous are held in portfolio by the bank, and prescriptions and child care expense consumer group commenters argued consider many factors when needed to enable the borrower or co- that high-cost mortgages be excluded underwriting mortgage loans, such as borrower to work outside the home. from being a qualified mortgage. payment history, liquid reserves, and These commenters further argued that Quantitative standards. Some other assets. Because several factors are even where the percentage of disposable industry commenters supported considered and evaluated in the income in such situations seems including quantitative standards for underwriting process, this commenter reasonable, the nominal amounts left to such variables as debt-to-income ratios asserted that community banks can be

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flexible when underwriting mortgage first five years of the loan and creditor made a reasonable loans and provide arrangements for consideration and verification of the determination of the consumer’s ability certain consumers that fall outside of consumer’s income or assets), for which to repay. Such a presumption would not the normal debt-to-income ratio for a the creditor considers and verifies the be reasonable—indeed would be certain loan. This commenter contended consumer’s current debt obligations, imprudent—if a creditor made a that strict quantitative standards would alimony, and child support, and that mortgage loan without considering and inhibit community banks’ relationship have a total (‘‘back-end’’) monthly debt- verifying core aspects of the consumer’s lending and ability to use their sound to-income ratio of no greater than 43 individual financial picture, such as judgment in the lending process. Some percent, following the standards for income or assets and debt. Incorporating commenters contended that requiring ‘‘debt’’ and ‘‘income’’ set forth in these ability-to-repay underwriting specific quantitative standards could appendix Q. requirements into the qualified restrict credit access and availability for While the general definition of mortgage definition thus ensures that consumers. qualified mortgage in § 1026.43(e)(2) creditors assess the consumer’s Generally, industry commenters and contains all of the statutory qualified repayment ability for a qualified some consumer group commenters mortgage elements, it does not mortgage using robust and appropriate believed compensating factors are separately incorporate all of the general underwriting procedures. The specific beneficial in underwriting and should ability-to-repay underwriting requirements for a qualified mortgage be permitted. These commenters requirements that would have been part under § 1026.43(e)(2) are described generally believe compensating factors of the qualified mortgage definition below. should be incorporated into the under the Board’s proposed Alternative The Bureau notes that the final rule qualified mortgage criteria, such as in 2. In particular, the definition of does not define a ‘‘qualified’’ reverse circumstances when a specified debt-to- qualified mortgage in § 1026.43(e)(2) mortgage. As described above, TILA income ratio threshold was exceeded. In does not specifically require section 129C(a)(8) excludes reverse their view, lending is an individualized consideration of the consumer’s mortgages from the repayment ability decision and compensating factors can, employment status, monthly payment requirements. See section-by-section for example, mitigate a consumer’s high on the covered transaction (other than analysis of § 1026.43(a)(3)(i). However, debt-to-income ratio or low residual the requirement to underwrite the loan TILA section 129C(b)(2)(ix) provides income. One industry trade group to the maximum rate in the first five that the term ‘‘qualified mortgage’’ may commenter argued that the inclusion of years), monthly payment on any include a ‘‘residential mortgage loan’’ compensating factors would allow for a simultaneous loans, or the consumer’s that is ‘‘a reverse mortgage which meets broader underwriting approach and credit history, which are part of the the standards for a qualified mortgage, should include family history, general ability-to-repay analysis under as set by the Bureau in rules that are repayment history, potential income § 1026.43(c)(2). Instead, most of these consistent with the purposes of this growth, and inter-family transactions. requirements are incorporated into the subsection.’’ The Board’s proposal did One association of State bank regulators standards for determining ‘‘debt’’ and not include reverse mortgages in the suggested that the rule provide guidance ‘‘income’’ pursuant to definition of a ‘‘qualified mortgage.’’ on mitigating factors for creditors to § 1026.43(e)(2)(vi)(A) and (B), to which Because reverse mortgages are exempt consider when operating outside of the creditor must look to determine if from the ability-to-repay requirements, standard parameters. For example, the loan meets the 43 percent debt-to- the effects of defining a reverse creditors lending outside of typical income ratio threshold as required in mortgage as a ‘‘qualified mortgage’’ debt-to-income standards can rely upon § 1026.43(e)(2)(vi). In particular, that would be, for example, to allow for other assets or the fact that a consumer calculation will require the creditor to certain otherwise banned prepayment has a high income. Other industry verify, among other things, the penalties and permit reverse mortgages commenters argued that the rule should consumer’s employment status (to to be QRMs under the Dodd-Frank Act’s provide for enough flexibility to allow determine current or expected income) risk retention rules. The Bureau believes for common-sense underwriting and and the monthly payment on the that the first effect is contrary to the avoid rigid limits or formulas that covered transaction (including purposes of the statute. With respect to would exclude consumers on the basis mortgage-related obligations) and on the QRM rulemaking, the Bureau will of one or a few underwriting factors. any simultaneous loans that the creditor continue to coordinate with the Federal Another commenter stated that the knows or has reason to know will be agencies finalizing the QRM rulemaking rule should not set thresholds or limits made. In addition, although to determine the appropriate treatment on repayment ability factors. Instead, consideration and verification of a of reverse mortgages. the rule should allow the creditor to consumer’s credit history is not 43(e)(2)(i) consider the required factors and be specifically incorporated into the held to a good faith standard. Such a qualified mortgage definition, creditors TILA section 129C(b)(2)(A)(i) states rule permits individualized must verify a consumer’s debt that the regular periodic payments of a determinations to be made based on obligations using reasonably reliable qualified mortgage may not result in an each consumer, local markets, and the third-party records, which may include increase of the principal balance or risk tolerance of each creditor. use of a credit report or records that allow the consumer to defer repayment evidence nontraditional credit of principal (except for certain balloon- Final Rule references. See section-by-section payment loans made by creditors Section 1026.43(e)(2) of the final rule analysis of § 1026.43(e)(2)(v) and (c)(3). operating predominantly in rural or contains the general qualified mortgage The final rule adopts this approach underserved areas, discussed below in definition. As set forth below, the final because the Bureau believes that the the section-by-section analysis of rule defines qualified mortgages under statute is fundamentally about assuring § 1026.43(f)). TILA section § 1026.43(e)(2) as loans that satisfy all of that the mortgage credit consumers 129C(b)(2)(A)(ii) states that the terms of the qualified mortgage criteria required receive is affordable. Qualified a qualified mortgage may not include a by the statute (including underwriting mortgages are intended to be mortgages balloon payment (subject to an to the maximum interest rate during the as to which it can be presumed that the exception for creditors operating

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predominantly in rural or underserved deferral of principal repayment in this effectively is not a balloon-payment areas). The statute defines ‘‘balloon manner and therefore may not be loan even if it is technically structured payment’’ as ‘‘a scheduled payment that qualified mortgages. as one. The Board solicited comment on is more than twice as large as the As noted above, the Dodd-Frank Act whether it should include an exception average of earlier scheduled payments.’’ defines ‘‘balloon payment’’ as ‘‘a providing that, notwithstanding TILA section 129C(b)(2)(A)(ii). scheduled payment that is more than proposed § 226.43(e)(2)(i)(C), a qualified The Board’s proposed § 226.43(e)(2)(i) twice as large as the average of earlier mortgage may provide for a balloon would have implemented TILA sections scheduled payments.’’ However, payment if the creditor is 129C(b)(2)(A)(i) and (ii). First, the proposed § 226.43(e)(2)(i)(C) would unconditionally obligated to renew the proposed provision would have have cross-referenced Regulation Z’s loan at the consumer’s option (or is required that a qualified mortgage existing definition of ‘‘balloon obligated to renew subject to conditions provide for regular periodic payments. payment’’ in § 226.18(s)(5)(i), which within the consumer’s control). The Second, proposed § 226.43(e)(2)(i) provides that a balloon payment is ‘‘a Board sought comment on how such an would have provided that the regular payment that is more than two times a exception should be structured to periodic payments may not (1) result in regular periodic payment.’’ The Board ensure that the large-payment risk an increase of the principal balance; (2) noted that this definition is ordinarily accompanying a balloon- allow the consumer to defer repayment substantially similar to the statutory payment loan is fully eliminated by the of principal, except as provided in one, except that it uses as its benchmark renewal terms and on how such an proposed § 226.43(f); or (3) result in a any regular periodic payment rather exception might be structured to avoid balloon payment, as defined in than the average of earlier scheduled the potential for circumvention. proposed § 226.18(s)(5)(i), except as payments. The Board explained that the As discussed above, commenters provided in proposed § 226.43(f). difference in wording between the generally supported excluding from the Proposed comment 43(e)(2)(i)–1 statutory definition and the existing definition of qualified mortgage certain would have explained that, as a regulatory definition does not yield a risky loan features which result in consequence of the foregoing significant difference in what ‘‘payment shock,’’ such as negative requirements, a qualified mortgage must constitutes a ‘‘balloon payment’’ in the amortization or interest-only features. require the consumer to make payments qualified mortgage context. Specifically, Commenters generally recognized such of principal and interest, on a monthly the Board stated its belief that because features as significant contributors to or other periodic basis, that will fully a qualified mortgage generally must the recent housing crisis. Industry repay the loan amount over the loan provide for substantially equal, fully commenters noted that such restrictions term. These periodic payments must be amortizing payments of principal and are objective criteria which creditors substantially equal except for the effect interest, a payment that is greater than can conclusively demonstrate were met that any interest rate change after twice any one of a loan’s regular at the time of origination. However, one consummation has on the payment periodic payments also generally will be mortgage company asserted that such amount in the case of an adjustable-rate greater than twice the average of its limitations should not apply in loss or step-rate mortgage. The proposed earlier scheduled payments. mitigation transactions, such as loan comment would have also provided Accordingly, to facilitate compliance, modifications and extensions, or to loan that, because proposed § 226.43(e)(2)(i) the Board proposed to cross-reference assumptions. That commenter noted would have required that a qualified the existing definition of ‘‘balloon that while negative amortization is not mortgage provide for regular, periodic payment.’’ The Board proposed this common in most loan modification payments, a single-payment transaction adjustment to the statutory definition programs, the feature can be used at may not be a qualified mortgage. This pursuant to its authority under TILA times to help consumers work through comment would have clarified a section 105(a) to make such adjustments default situations. The commenter also potential evasion of the regulation, as a for all or any class of transactions as in noted that deferral of payments, creditor otherwise could structure a the judgment of the Board are necessary including principal payments, and transaction with a single payment due at or proper to facilitate compliance with balloon payment structures are maturity that technically would not be TILA. The Board stated that this commonly used to relieve payment a balloon payment as defined in approach is further supported by its default burdens. One bank commenter proposed § 226.18(s)(5)(i) because it is authority under TILA section 129B(e) to argued that the rule should permit not more than two times a regular condition terms, acts or practices qualified mortgages to have balloon periodic payment. relating to residential mortgage loans payment features if the creditor is Proposed comment 43(e)(2)(i)–2 that the Board finds necessary or proper unconditionally obligated to renew the would have provided additional to facilitate compliance. loan at the consumer’s option, or is guidance on the requirement in Finally, in the preamble to the Board’s obligated to renew subject to conditions proposed § 226.43(e)(2)(i)(B) that a proposal, the Board noted that some within the consumer’s control. qualified mortgage may not allow the balloon-payment loans are renewable at For the reasons discussed in the consumer to defer repayment of maturity and that such loans might proposed rule, the Bureau is adopting principal. The comment would have appropriately be eligible to be qualified § 226.43(e)(2)(i) as proposed in clarified that, in addition to interest- mortgages, provided the terms for renumbered § 1026.43(e)(2)(i), with only terms, deferred principal renewal eliminate the risk of the certain clarifying changes. In particular, repayment also occurs if the payment is consumer facing a large, unaffordable in addition to the proposed language, applied to both accrued interest and payment obligation, which underlies the section 1026.43(e)(2)(i) specifies that a principal but the consumer makes rationale for generally excluding qualified mortgage is a covered periodic payments that are less than the balloon-payment loans from the transaction that provides for regular amount that would be required under a definition of qualified mortgages. If the periodic payments that are substantially payment schedule that has substantially consumer is protected by the terms of equal, ‘‘except for the effect that any equal payments that fully repay the loan the transaction from that risk, the Board interest rate change after consummation amount over the loan term. Graduated stated that such a transaction might has on the payment in the case of an payment mortgages, for example, allow appropriately be treated as though it adjustable-rate or step-rate mortgage.’’

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This language appeared in the Proposed § 226.43(e)(2)(ii) would 43(e)(2)(ii)–1 that the 30-year term commentary to § 226.43(e)(2)(i) in the have implemented the 30-year limitation in § 1026.43(e)(2)(ii) is proposed rule, but to provide clarity, the maximum loan term requirement in the applied without regard to any interim Bureau is adopting this language in the statute without exception. The preamble period between consummation and the text of § 1026.43(e)(2)(i) in the final rule. to the proposed rule explains that, based beginning of the first full unit period of Notably, the Bureau is adopting in on available information, the Board the repayment schedule. Consistent § 1026.43(e)(2)(i) the proposed cross- believed that mortgage loans with terms with the Board’s analysis, the final rule reference to the existing Regulation Z greater than 30 years are rare and, when does not provide exceptions to the 30- definition of balloon payment. Like the made, generally are for the convenience year loan limitation. Like the Board, the Board, the Bureau finds that the of consumers who could qualify for a Bureau is unaware of a basis upon statutory definition and the existing loan with a 30-year term but prefer to which to conclude that an exception to regulatory definition do not yield a spread out their payments further. the 30-year loan term limitation for significant difference in what Therefore, the Board believed such an qualified mortgages in high-cost areas is constitutes a ‘‘balloon payment’’ in the exception is generally unnecessary. The appropriate. In particular, the Bureau qualified mortgage context. Board solicited comment on whether believes that loans with terms greater Accordingly, the Bureau makes this there are any ‘‘high-cost areas’’ in which than 30 years are rare and that, when adjustment pursuant to its authority loan terms in excess of 30 years are made, generally are for the convenience under TILA section 105(a) because the necessary to ensure that responsible, of consumers who could qualify for a Bureau believes that affording creditors affordable credit is available and, if so, loan with a 30-year term. a single definition of balloon payment how they should be identified for The final rule also does not provide within Regulation Z is necessary and purposes of such an exception. The additional guidance on the 30-year loan proper to facilitate compliance with and Board also sought comment on whether term limitation in the context of loan effectuate the purposes of TILA. any other exceptions would be modifications. The Bureau understands In addition, like the proposal, the appropriate, consistent with the Board’s that private creditors may offer loan final rule does not provide exceptions authority in TILA section modifications to consumers at risk of from the prohibition on qualified 129C(b)(3)(B)(i). default or foreclosure, and that such mortgages providing for balloon As noted above, commenters modifications may extend the duration payments, other than the exception for generally supported the 30-year term of the loan beyond the initial term. If creditors operating predominantly in limitation. One commenter suggested such modification results in the rural or underserved areas, described the final rule should clarify that a loan satisfaction and replacement of the below in the section-by-section analysis term that is slightly longer than 30 years original obligation, the loan would be a of § 1026.43(f). The Bureau believes that because of the due date of the first refinance under current § 1026.20(a), it is appropriate to implement the rule regular payment nevertheless meets the and therefore the new transaction must consistent with statutory intent, which 30-year term requirement. One trade comply with the ability-to-repay specifies only a narrow exception from association commenter suggested that requirements of § 1026.43(c) or satisfy this general rule for creditors operating creditors be provided flexibility to the criteria for a qualified mortgage, predominantly in rural or underserved originate 40-year loans in order to independent of any ability-to-repay areas rather than a broader exception to accommodate consumers in regions of analysis or the qualified mortgage status the general prohibition on qualified the country where housing prices are of the initial transaction. However, if the mortgages containing balloon payment especially high, but did not provide any transaction does not meet the criteria in features. With respect to renewable information regarding the historic 1026.20(a), which determines a balloon-payment loans, the Bureau does performance of 40-year loans or discuss refinancing—generally resulting in the not believe that the risk that a consumer how the Bureau should define high-cost satisfaction and replacement of the will face a significant payment shock areas in a way that avoids abuse. An original obligation—the loan would not from the balloon feature can be fully association of State bank regulators also be a refinance under § 1026.20(a), and eliminated, and that a rule that attempts suggested that the rule permit loan would instead be an extension of the to provide such special treatment for terms beyond 30 years in high-cost areas original loan. In such a case, compliance renewable balloon-payment loans and suggested that those areas could be with the ability-to-repay provision, would be subject to abuse. determined based on housing price including a loan’s qualified mortgage 43(e)(2)(ii) indices. That commenter, two large status, would be determined as of the industry trade associations, and one date of consummation of the initial TILA section 129C(b)(2)(A)(viii) mortgage company commenter argued transaction, regardless of a later requires that a qualified mortgage must that the 30-year term limitation should modification. not provide for a loan term that exceeds not apply to loan modifications that 43(e)(2)(iii) 30 years, ‘‘except as such term may be provide a consumer with a loan with a extended under paragraph (3), such as lower monthly payment than he or she TILA section 129C(b)(2)(A)(vii) in high-cost areas.’’ As discussed above, may otherwise face. One such defines a qualified mortgage as a loan TILA section 129C(b)(3)(B)(i) authorizes commenter noted that, as a general for which, among other things, the total the Bureau to revise, add to, or subtract matter, the rule should clarify that points and fees payable in connection from the qualified mortgage criteria if modifications of existing loans should with the loan do not exceed three the Bureau makes certain findings, not be subject to the same ability-to- percent of the total loan amount. TILA including that such revision is repay requirements to avoid depriving section 129C(b)(2)(D) requires the necessary or proper to ensure that consumers of beneficial modifications. Bureau to prescribe rules adjusting this responsible, affordable mortgage credit For the reasons discussed in the threshold to ‘‘permit lenders that extend remains available to consumers in a proposed rule, the Bureau is generally smaller loans to meet the requirements manner consistent with the purposes of adopting § 226.43(e)(2)(ii) as proposed of the presumption of compliance.’’ The TILA section 129C(b) or necessary and in renumbered § 1026.43(e)(2)(ii). In statute further requires the Bureau, in appropriate to effectuate the purposes of response to commenter concern, the prescribing such rules, to ‘‘consider the section 129C. final rule clarifies in comment potential impact of such rules on rural

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areas and other areas where home rate from receiving qualified mortgage on qualified mortgages.147 Therefore, values are lower.’’ status. nothing in the statute prohibits a Proposed § 226.43(e)(2)(iii) would As a general matter, the ability-to- creditor from making a loan with a very have implemented these provisions by repay requirements in this final rule high interest rate such that the loan is providing that a qualified mortgage is a apply to most closed-end mortgage a high-cost mortgage while still meeting loan for which the total points and fees loans, including closed-end high-cost the criteria for a qualified mortgage. payable in connection with the loan do mortgages. Notwithstanding the Dodd- In addition, the final rule does not not exceed the amounts specified under Frank Act’s creation of a new ability-to- prohibit high-cost mortgages from being proposed § 226.43(e)(3). As discussed in repay regime for mortgage loans, qualified mortgages because the Bureau detail in the section-by-section analysis Congress did not modify an existing believes that, for loans that meet the of § 1026.43(e)(3), the Board proposed prohibition in TILA section 129(h) qualified mortgage definition, there is two alternatives for calculating the against originating a high-cost mortgage reason to presume, subject to rebuttal, allowable points and fees for a qualified without regard to a consumer’s that the creditor had a reasonable and mortgage: One approach would have repayment ability (HOEPA ability-to- good faith belief in the consumer’s consisted of five ‘‘tiers’’ of loan sizes repay). Thus, under TILA (as amended ability to repay notwithstanding the and corresponding limits on points and by the Dodd-Frank Act), closed-end high interest rate. High-cost mortgages fees, while the other approach would high-cost mortgages are subject both to will be less likely to meet qualified have consisted of three ‘‘tiers’’ of points the general ability-to-repay provisions mortgage criteria because the higher and fees based on a formula yielding a and to HOEPA’s ability-to-repay interest rate will generate higher monthly payments and thus require greater allowable percentage of the total requirement.145 As implemented in higher income to satisfy the debt-to- loan amount to be charged in points and existing § 1026.34(a)(4), the HOEPA income test for a qualified mortgage. But fees for each dollar increase in loan size. ability-to-repay rules contain a where that test is satisfied—that is, Additionally, proposed § 226.43(b)(9) rebuttable presumption of compliance if where the consumer has an acceptable would have defined ‘‘points and fees’’ to the creditor takes certain steps that are debt-to-income ratio calculated in have the same meaning as in proposed generally less rigorous than the Dodd- accordance with qualified mortgage § 226.32(b)(1). Frank Act’s ability-to-repay underwriting rules—there is no logical For the reasons discussed in the requirements, as implemented in this reason to exclude the loan from the proposed rule, the Bureau is generally rule. For this reason, and as explained definition of a qualified mortgage. adopting § 226.43(e)(2)(iii) as proposed further in that rulemaking, the Bureau’s Allowing a high-cost mortgage to be a in renumbered § 1026.43(e)(2)(iii). For a 2013 HOEPA Final Rule provides that a qualified mortgage can benefit discussion of the final rule’s approach creditor complies with the high-cost consumers. The Bureau anticipates that, to calculating allowable points and fees mortgage ability-to-repay requirement in the small loan market, creditors may for a qualified mortgage, see the section- by complying with the general ability- sometimes exceed high-cost mortgage by-section analysis of § 1026.43(e)(3). to-repay provision, as implemented by thresholds due to the unique structure 146 For a discussion of the definition of this final rule. of their business. The Bureau believes it points and fees, see the section-by- The final rule does not prohibit high- would be in the interest of consumers to section analysis of § 1026.32(b)(1). cost mortgages from being qualified afford qualified mortgage status to loans As noted above, several consumer mortgages for several reasons. First, the meeting the qualified mortgage criteria group commenters requested that high- Dodd-Frank Act does not prohibit high- so as to remove any incremental cost mortgages be prohibited from cost mortgages from receiving qualified impediment that the general ability-to- receiving qualified mortgage status. mortgage status. While the statute repay provisions would impose on Those commenters noted that high-cost imposes a points and fees limit on making such loans. The Bureau also mortgages have been singled out by qualified mortgages (3 percent, believes this approach could provide an Congress as deserving of special generally) that effectively prohibits incentive to creditors making high-cost regulatory treatment because of their loans that trigger the high-cost mortgage mortgages to satisfy the qualified potential to be abusive to consumers. points and fee threshold from receiving mortgage requirements, which would They argue that it would seem qualified mortgage status, it does not provide additional consumer incongruous for any high-cost mortgage impose an annual percentage rate limit protections, such as restricting interest- to be given a presumption of only payments and limiting loan terms compliance with the ability-to-repay 145 The statutory HOEPA ability-to-repay to 30 years, which are not requirements rule. However, the final rule does not provisions prohibit creditors from engaging in a under HOEPA. prohibit a high-cost mortgage from being pattern or practice of making loans without regard to the consumer’s repayment ability. In the 2008 a qualified mortgage. Under the Dodd- 147 The points and fees limit for qualified HOEPA Final Rule, the Board eliminated the mortgages set forth in the Dodd-Frank Act, as Frank Act, a mortgage loan is a high-cost ‘‘pattern or practice’’ requirement under the HOEPA mortgage when (1) the annual implemented in § 1026.43(e) of this final rule ability-to-repay provision and also applied the (including separate points and fees limits for percentage rate exceeds APOR by more repayment ability requirement to higher-priced smaller loans), is lower than the high-cost mortgage than 6.5 percentage points for first-liens mortgage loans. points and fees threshold. Thus, any loan that 146 or 8.5 percentage points for subordinate- The Bureau notes that, among other triggers the high-cost mortgage provisions through restrictions, the 2013 HOEPA Final Rule also the points and fees criteria could not satisfy the liens; (2) points and fees exceed 5 includes in § 1026.32(d)(1) a prohibition on balloon qualified mortgage definition. Likewise, percent, generally; or (3) when payment features for most high-cost mortgages, and § 1026.43(g) of this final rule provides that, where prepayment penalties may be imposed retains the current restrictions on high-cost qualified mortgages are permitted to have more than three years after mortgages permitting negative amortization. As prepayment penalties, such penalties may not be noted, high-cost mortgages will be subject to these imposed more than three years after consummation consummation or exceed 2 percent of restrictions in addition to the requirements imposed or in an amount that exceeds 2 percent of the the amount prepaid. Neither the Board’s in this final rule. With respect to prepayment amount prepaid. This limitation aligns with the 2011 ATR–QM Proposal nor the penalty revisions, the Dodd-Frank Act deleted the prepayment penalty trigger for the high-cost Bureau’s 2012 HOEPA Proposal would statutory restrictions applicable to high-cost mortgage provisions, such that a loan that satisfies mortgages. The new Dodd-Frank Act prepayment the qualified mortgage requirements would never have prohibited loans that are high-cost penalty restrictions of section 1414 are trigger the high-cost mortgage provisions as a result mortgages as a result of a high interest implemented as discussed below. of a prepayment penalty.

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Furthermore, allowing high-cost The Board proposed to implement the proposed § 226.45(b)(1); homeowners mortgage loans to be qualified mortgages underwriting requirements of TILA association, condominium, and would not impact the various section 129C(b)(2)(A)(iv) and (v), for cooperative fees; ground rent or impediments to making high-cost purposes of determining whether a loan leasehold payments; and special mortgage loans, including enhanced meets the definition of a qualified assessments. disclosure and counseling requirements mortgage, in proposed § 226.43(e)(2)(iv). Commenters generally supported the and the enhanced liability for HOEPA Under the proposal, creditors would inclusion of mortgage-related violations. Thus, there would remain have been required to underwrite a loan obligations in the underwriting strong disincentives to making high-cost that is a fixed-, adjustable-, or step-rate requirement in proposed mortgages. The Bureau does not believe mortgage using a periodic payment of § 226.43(e)(2)(iv). Several industry trade that allowing high-cost mortgages to be principal and interest based on the associations, banks, civil rights qualified mortgages would incent maximum interest rate permitted during organizations, and consumer advocacy creditors who would not otherwise the first five years after consummation. groups specifically supported the make high-cost mortgages to start The terms ‘‘adjustable-rate mortgage,’’ requirement. Several commenters making them. ‘‘step-rate mortgage,’’ and ‘‘fixed-rate requested clear guidance on the mortgage’’ would have had the meaning amounts to be included in the monthly 43(e)(2)(iv) as in current § 1026.18(s)(7)(i) through payment amount, including mortgage- TILA section 129C(b)(2)(A)(iv) and (v) (iii), respectively. related obligations. In addition, a civil provides as a condition to meeting the Specifically, proposed rights organization and several definition of a qualified mortgage, in § 226.43(e)(2)(iv) would have provided consumer advocacy groups argued that addition to other criteria, that the that meeting the definition of a qualified the creditor should also be required to underwriting process for a fixed-rate or mortgage is contingent, in part, on consider recurring, non-debt expenses, adjustable-rate loan be based on ‘‘a creditors meeting the following such as medical supplies and child care. payment schedule that fully amortizes underwriting requirements: As discussed above in the section-by- the loan over the loan term and takes (1) Proposed § 226.43(e)(2)(iv) would section analysis of § 1026.43(b)(8), the into account all applicable taxes, have required that the creditor take into Bureau is adopting the proposed account any mortgage-related definition of mortgage-related insurance, and assessments.’’ The obligations when underwriting the obligations in renumbered statute further states that for an consumer’s loan; § 1026.43(b)(8), with certain clarifying adjustable-rate loan, the underwriting (2) Proposed § 226.43(e)(2)(iv)(A) changes and additional examples. must be based on ‘‘the maximum rate would have required the creditor to use For the reasons discussed above, the permitted under the loan during the first the maximum interest rate that may Bureau is adopting the mortgage-related 5 years.’’ See TILA section apply during the first five years after obligations portion of § 226.43(e)(2)(vi) 129C(b)(2)(A)(v). The statute does not consummation; and as proposed in renumbered define the terms ‘‘fixed rate,’’ (3) Proposed § 226.43(e)(2)(iv)(B) § 1026.43(e)(2)(vi). The final rule does ‘‘adjustable-rate,’’ or ‘‘loan term,’’ and would have required that the periodic not contain a specific requirement that provides no additional assumptions payments of principal and interest repay the creditor consider, when regarding how to calculate the payment either the outstanding principal balance underwriting the consumer’s monthly obligation. over the remaining term of the loan as payment, recurring non-debt expenses, These statutory requirements differ of the date the interest rate adjusts to the such as medical supplies and child care. from the payment calculation maximum interest rate that can occur However, such expenses, if known to requirements set forth in existing during the first five years after the creditor at the time of § 1026.34(a)(4)(iii), which provides a consummation, or the loan amount over consummation, may be relevant to a presumption of compliance with the the loan term. consumer’s ability to rebut the repayment ability requirements for These three underwriting conditions presumption of compliance that applies higher-priced mortgage loans, where the under proposed § 226.43(e)(2)(iv), and to qualified mortgages that are higher- creditor underwrites the loan using the the approach to these criteria adopted in priced covered transactions. See largest payment of principal and interest the final rule, are discussed below. section-by-section analysis of scheduled in the first seven years Proposed § 226.43(e)(2)(iv) would § 1026.43(e)(1)(ii)(B). following consummation. The existing have implemented TILA section presumption of compliance under 129C(b)(2)(A)(iv) and (v), in part, and 43(e)(2)(iv)(A) § 1026.34(a)(4)(iii) is available for all provided that, to be a qualified mortgage Proposed § 226.43(e)(2)(iv)(A) would high-cost and higher-priced mortgage under proposed § 1026.43(e)(2), the have implemented TILA section loans, except for loans with negative creditor must underwrite the loan taking 129C(b)(2)(A)(iv) and (v), in part, and amortization or balloon-payment into account any mortgage-related provided that, to be a qualified mortgage mortgages with a term less than seven obligations. Proposed comment under proposed § 1026.43(e)(2), the years. In contrast, TILA section 43(e)(2)(iv)–6 would have provided creditor must underwrite the loan using 129C(b)(2)(A) requires the creditor to cross-references to proposed the maximum interest rate that may underwrite the loan based on the § 226.43(b)(8) and associated apply during the first five years after maximum payment during the first five commentary. The Board proposed to use consummation. However, the statute years, and does not extend the scope of the term ‘‘mortgage-related obligations’’ does not define the term ‘‘maximum qualified mortgages to any loan that in place of ‘‘all applicable taxes, rate,’’ nor does the statute clarify contains certain risky features or a loan insurance (including mortgage whether the phrase ‘‘the maximum rate term exceeding 30 years. Loans with a guarantee insurance), and assessments.’’ permitted under the loan during the first balloon-payment feature would not Proposed § 226.43(b)(8) would have 5 years’’ means the creditor should use meet the definition of a qualified defined the term ‘‘mortgage-related the maximum interest rate that occurs mortgage regardless of term length, obligations’’ to mean property taxes; during the first five years of the loan unless made by a creditor that satisfies mortgage-related insurance premiums beginning with the first periodic the conditions in § 1026.43(f). required by the creditor as set forth in payment due under the loan, or during

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the first five years after consummation Fourth, the Board believed that calculation requirements in the of the loan. The former approach would interpreting the phrase ‘‘during the first proposed rule, including the five-year capture the rate recast for a 5/1 hybrid five years’’ as including the rate payment calculation. A comment from a adjustable-rate mortgage that occurs on adjustment at the end of the fifth year coalition of consumer advocates the due date of the 60th monthly would be of limited benefit to suggested that the period may not be payment, and the latter would not. consumers because creditors could long enough to assure a consumer’s The Board interpreted the phrase easily structure their product offerings ability to repay given that the average ‘‘maximum rate permitted’’ as requiring to avoid application of the rule. For homeowner holds their mortgage for creditors to underwrite the loan based example, a creditor could move a rate approximately seven years, and on the maximum interest rate that could adjustment that typically occurs on the suggested that the five-year payment occur under the terms of the loan during due date of the 60th monthly payment calculation requirement be extended to the first five years after consummation, to due date of the first month that falls reflect the average mortgage duration of assuming a rising index value. See outside the specified time horizon, the first ten years of the loan. Two proposed comment 43(e)(2)(iv)–1. The making any proposal to extend the time industry commenters suggested that the Board noted that this interpretation is period in order to include the rate time horizon in the required payment consistent with current guidance adjustment of diminished value. calculation for qualified mortgages be contained in Regulation Z regarding Finally, the Board believed that the consistent with the proposed disclosure of the maximum interest rate. proposed timing of the five-year period requirement in the 2011 QRM Proposed See MDIA Interim Rule, 75 FR 58471 could appropriately differ from the Rule that the payment calculation be (Sept. 24, 2010). The Board further approach used under the 2010 MDIA based on the maximum rate in the first stated that this interpretation is Interim Final Rule, given the different five years after the date on which the consistent with congressional intent to purposes of the rules. The Board first regular periodic payment will be encourage creditors to make loans to amended the 2010 MDIA Interim Final due. One such commenter noted that consumers that are less risky and that Rule to require that creditors base their the payment calculation approach in the afford the consumer a reasonable period interest rate and payment disclosures on 2011 QRM Proposed Rule is more of time to repay (i.e., 5 years) on less the first five years after the due date of protective of consumers. Another risky terms. For the reasons described in the first regular periodic payment rather industry commenter suggested that the the proposed rule, the Bureau is than the first five years after final rule should measure the first five adopting the ‘‘maximum interest rate’’ consummation. See 75 FR 81836, 81839 years from the first regularly scheduled provision in § 1026.43(e)(2)(iv) as (Dec. 29, 2010). The revision clarified payment, for consistency with the 2010 proposed in renumbered that the disclosure requirements for 5⁄1 MDIA Interim Final Rule. An § 1026.43(e)(2)(iv). hybrid adjustable-rate mortgages must association of State bank regulators The Board proposed to interpret the include the rate adjustment that occurs agreed with the Board’s reasoning, phrase ‘‘during the first 5 years’’ as on the due date of the 60th monthly noting that creditors could structure requiring creditors to underwrite the payment, which typically occurs more loans to recast outside any parameter set loan based on the maximum interest than five years after consummation. The by the rule and that an effective way to rate that may apply during the first five disclosure requirements under the 2010 prevent purposeful evasion of the years after consummation. TILA section MDIA Interim Final Rule, as revised, are payment calculation provision would 129C(b)(2)(A)(v). The preamble to the intended to help make consumers aware require legislation. proposed rule explains several reasons of changes to their loan terms that may Notwithstanding the Board’s for this interpretation. First, the Board occur if they choose to stay in the loan proposed approach, the Bureau noted that a plain reading of the beyond five years and therefore, helps to interprets the phrase ‘‘during the first 5 statutory language conveys that the ensure consumers avoid the uninformed years’’ as requiring creditors to ‘‘first five years’’ is the first five years of use of credit. The Board believed a underwrite the loan based on the the loan once it comes into existence different approach is appropriate under maximum interest rate that may apply (i.e., once it is consummated). The proposed § 226.43(e)(2)(iv) because that during the first five years after the first Board believed that interpreting the requirement seeks to ensure that the regular periodic payment will be due. phrase to mean the first five years loan’s payments are affordable for a Like the Board, the Bureau finds the beginning with the first periodic reasonable period of time. For the statutory language to be ambiguous. payment due under the loan would reasons stated above, the Board believed However, the Bureau believes that the require an expansive reading of the that Congress intended the first five statutory phrase ‘‘during the first 5 statutory text. years after consummation to be a years’’ could be given either meaning, Second, the Board noted that the reasonable period of time to ensure that and that this approach provides greater intent of this underwriting condition is the consumer has the ability to repay protections to consumers by requiring to ensure that the consumer can afford the loan according to its terms. creditors to underwrite qualified the loan’s payments for a reasonable For all the above-listed reasons, the mortgages using the rate that would amount of time and that Congress Board interpreted the statutory text as apply after the recast of a five-year intended for a reasonable amount of requiring that the creditor underwrite adjustable rate mortgage. Further, as time to be the first five years after the loan using the maximum interest noted, this approach is consistent with consummation. rate during the first five years after the payment calculation in the 2011 Third, the Board proposed this consummation. The Board solicited QRM Proposed Rule and in existing approach because it is consistent with comment on its interpretation of the Regulation Z with respect to the prior iterations of this statutory text and phrase ‘‘first five years’’ and the disclosure requirements for interest the Board’s 2008 HOEPA Final Rule. As appropriateness of this approach. The rates on adjustable-rate amortizing noted above, the Dodd-Frank Act Board also proposed clarifying loans. codifies many aspects of the repayment commentary and examples, which are Accordingly, § 1026.43(e)(2)(iv)(A) ability requirements contained in described below. provides that a qualified mortgage under existing § 1026.34(a)(4) of the Board’s As described above, commenters § 1026.43(e)(2) must be underwritten, 2008 HOEPA Final Rule. generally supported the payment taking into account any mortgage-

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related obligations, using the maximum years after the date on which the first However, the Board also believed that interest rate that may apply during the regular periodic payment will be due. a loan that meets the definition of a first five years after the date on which The Bureau is also adopting comment qualified mortgage and which has the the first regular periodic payment will 43(e)(2)(iv)–3.i through .iii as proposed, benefit of other safeguards, such as be due. Although the Bureau is but with conforming changes to the limits on loan features and fees, merits finalizing the commentary and comment to reflect the new time flexibility in the underwriting process. examples to § 226.43(e)(2)(iv) as horizon. Those comments provide Accordingly, the Board proposed to proposed in the commentary to examples of how to determine the permit creditors to underwrite the loan renumbered § 1026.43(e)(2)(iv), the final maximum interest rate. For example, using periodic payments of principal rule makes conforming changes to the comment 43(e)(2)(iv)–3.1 illustrates how and interest that will repay either the proposed commentary to reflect the to determine the maximum interest rate outstanding principal balance as of the adjusted time horizon. The proposed in the first five years after the date on date the maximum interest rate during commentary and the changes to the which the first regular periodic payment the first five years after consummation proposed commentary as implemented will be due for an adjustable-rate takes effect under the terms of the loan, in the final rule are described below. mortgage with a discounted rate for or the loan amount as of the date of The Bureau is finalizing comment three years. consummation. The Board believed the 43(e)(2)(iv)–1 as proposed, but with The Bureau is also finalizing former approach more accurately conforming changes to reflect the new comment 43(e)(2)(iv)–4 as proposed, but reflects the largest payment amount that time horizon. In the final rule, the with conforming changes to reflect the the consumer would need to make comment provides guidance to creditors new time horizon. Comment under the terms of the loan during the on how to determine the maximum 43(e)(2)(iv)–4 clarifies the meaning of first five years after consummation, interest rate during the first five years the phrase ‘‘first five years after the date whereas the latter approach would after the date on which the first regular on which the first regular periodic actually overstate the payment amounts periodic payment will be due. This payment will be due.’’ This comment required. This approach would have set provides that under comment explains that creditors must a minimum standard for qualified § 1026.43(e)(2)(iv)(A), the creditor must use the maximum rate that could apply mortgages, while affording creditors underwrite the loan using the maximum at any time during the first five years latitude to choose either approach to interest rate that may apply during the after the date on which the first regular facilitate compliance. first five years after the date on which periodic payment will be due, For the reasons described in the the first regular periodic payment will regardless of whether the maximum rate proposed rule, the Bureau is finalizing be due, and provides an illustrative is reached at the first or subsequent § 226.43(e)(2)(iv)(A) as proposed in example. renumbered § 1026.43(e)(2)(iv)(A). adjustment during such five year period. However, the final rule makes The Bureau is finalizing comment 43(e)(2)(iv)(B) conforming changes to the proposed 43(e)(2)(iv)(A)–2 as proposed. That Proposed § 226.43(e)(2)(iv)(B) would commentary to reflect the adjusted time- comment clarifies that for a fixed-rate have implemented TILA section horizon to the first five years after the mortgage, creditors should use the 129C(b)(2)(A)(iv) and (v), in part, by due date of the first regular periodic interest rate in effect at consummation, providing, as part of meeting the payment. The proposed commentary and provides a cross-reference to definition of a qualified mortgage under and the changes to the proposed § 1026.18(s)(7)(iii) for the meaning of proposed § 1026.43(e)(2), that the commentary in the final rule are the term ‘‘fixed-rate mortgage.’’ creditor underwrite the loan using described below. The Bureau is finalizing comment periodic payments of principal and The Bureau is finalizing comment 43(e)(2)(iv)–3 as proposed, but with interest that will repay either (1) the 43(e)(2)(iv)–5 as proposed, but with conforming changes to reflect the new outstanding principal balance over the conforming changes to reflect the new time horizon. That comment provides remaining term of the loan as of the date time horizon. Comment 43(e)(2)(iv)–5 guidance to creditors regarding the interest rate adjusts to the maximum provides further clarification to treatment of periodic interest rate interest rate that occurs during the first creditors regarding the loan amount to adjustment caps, and explains that, for five years after consummation; or (2) the be used for purposes of this second an adjustable-rate mortgage, creditors loan amount over the loan term. See condition in § 1026.43(e)(2)(iv). The should assume the interest rate proposed § 226.43(e)(2)(iv)(B)(1) and (2). comment explains that for a creditor to increases after consummation as rapidly TILA section 129C(b)(2)(A)(iv) and (v) meet the definition of a qualified as possible, taking into account the states that underwriting should be based mortgage under § 1026.43(e)(2), the terms of the legal obligation. The ‘‘on a payment schedule that fully creditor must determine the periodic comment further explains that creditors amortizes the loan over the loan term.’’ payment of principal and interest using should account for any periodic interest The Board noted that unlike the the maximum interest rate permitted rate adjustment cap that may limit how payment calculation assumptions set during the first five years after the date quickly the interest rate can increase forth for purposes of the general ability- on which the first regular periodic under the terms of the legal obligation. to-repay rule, under TILA section payment will be due that repays either The comment states that where a range 129C(a)(6), the underwriting conditions (1) the outstanding principal balance as for the maximum interest rate during for purposes of meeting the definition of of the earliest date the maximum the first five years is provided, the a qualified mortgage do not specify the interest rate can take effect under the highest rate in that range is the loan amount that should be repaid, and terms of the legal obligation, over the maximum interest rate for purposes of do not define ‘‘loan term.’’ For remaining term of the loan, or (2) the this section. Finally, the comment consistency and to facilitate loan amount, as that term is defined in clarifies that where the terms of the compliance, the Board proposed to use § 1026.43(b)(5), over the entire loan legal obligation are not based on an the terms ‘‘loan amount’’ and ‘‘loan term, as that term is defined in index plus a margin, or formula, the term’’ in proposed § 226.43(b)(5) and § 1026.43(b)(6). This comment provides creditor must use the maximum interest (b), respectively, for purposes of this illustrative examples for both rate that occurs during the first five underwriting condition. approaches.

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The Bureau is finalizing comment 43(e)(2)(v) § 1026.43(e)(2)(vi). As described below, 43(c)(2)(iv)–6 as proposed. That 43(e)(2)(v)(A) appendix Q contains specific standards comment reiterates that for defining ‘‘income,’’ to provide § 1026.43(e)(2)(iv) requires creditors to TILA section 129C(b)(2)(A)(iii) certainty to creditors as to whether a take mortgage-related obligations into provides that a condition for meeting loan meets the requirements for a account when underwriting the loan the requirements of a qualified mortgage qualified mortgage. The final rule is that the income and financial and refers to § 1026.43(b)(8) and its includes this reference to appendix Q resources relied upon to qualify the associated commentary for the meaning and additional comment to clarify the obligors on the residential mortgage of mortgage-related obligations. relationship between the requirement to loan are verified and documented. This consider a consumer’s current or The Bureau is also finalizing requirement is consistent with reasonably expected income in comment 43(e)(2)(iv)–7 as proposed, but requirement under the general ability- § 1026.43(e)(2)(v)(A) and the definition with conforming changes to reflect the to-repay standard to consider and verify of ‘‘income’’ in appendix Q. In other new time horizon. Comment a consumer’s income or assets using words, a creditor who considers 43(e)(2)(iv)–7 provides examples of how third-party records, pursuant to TILA ‘‘income’’ as defined in appendix Q to determine the periodic payment of section 129C(a)(1) and (3), as discussed meets the income requirement in principal and interest based on the above in the section-by-section analysis § 1026.43(e)(2)(v)(A), so long as that maximum interest rate during the first of § 1026.43(c)(2)(i) and (c)(4). income is verified pursuant to five years after the date on which the Proposed § 226.43(e)(2)(v) would have § 1026.43(c)(4). In addition, comment first regular periodic payment will be implemented TILA section 43(e)(2)(v)–1 provides that for guidance due under § 1026.43(e)(2)(iv). The final 129C(b)(2)(A)(iii) by providing that for a on satisfying § 1026.43(e)(2)(v), a rule provides an additional example of covered transaction to be a qualified creditor may rely on commentary to how to determine the periodic payment mortgage, the creditor must consider § 1026.43(c)(2)(i) and (vi), (c)(3), and of principal and interest based on the and verify the consumer’s current or (c)(4). maximum interest rate during the first reasonably expected income or assets to 43(e)(2)(v)(B) five years after the date on which the determine the consumer’s repayment first regular periodic payment will be ability, as required by proposed The Board’s proposed Alternative 2 due under § 1026.43(e)(2)(iv) for an § 226.43(c)(2)(i) and (c)(4). The proposal would have required that creditors adjustable-rate mortgage with a discount used the term ‘‘assets’’ instead of consider and verify the following ‘‘financial resources’’ for consistency of seven years, to illustrate how the additional underwriting requirements, with other provisions in Regulation Z payment calculation applies in a loan which are also required under the and, as noted above, the Bureau believes that adjusts after the five-year time general ability-to-repay standard: the that the terms have the same meaning. horizon. Comment 43(e)(2)(iv)–7.iv consumer’s employment status, the Proposed comment 43(e)(2)(v)–1 would provides an example of a loan in an consumer’s monthly payment on any have clarified that creditors may rely on amount of $200,000 with a 30-year loan simultaneous loans, the consumer’s commentary to proposed current debt obligations, the consumer’s term, that provides for a discounted § 226.43(c)(2)(i), (c)(3) and (c)(4) for interest rate of 6 percent that is fixed for monthly debt-to-income ratio or guidance regarding considering and residual income, and the consumer’s an initial period of seven years, after verifying the consumer’s income or credit history. The commentary would which the interest rate will adjust assets to satisfy the conditions for a have provided that creditors could look annually based on a specified index qualified mortgage under proposed to commentary on the general plus a margin of 3 percent, subject to a § 226.43(e)(2)(v). repayment ability provisions under 2 percent annual interest rate For the reasons discussed in the proposed § 226.43(c)(2)(i), (ii), (iv), and adjustment cap. The index value in proposal, the Bureau is finalizing (vi) through (viii), and (c)(3), (c)(4), effect at consummation is 4.5 percent. § 226.43(e)(2)(v)(A) as proposed in (c)(6), and (c)(7) for guidance regarding The loan is consummated on March 15, renumbered § 1026.43(e)(2)(v)(A), with considering and verifying the 2014, and the first regular periodic additional clarification that the value of consumer’s repayment ability to satisfy payment is due May 1, 2014. Under the the dwelling includes any real property the conditions under § 226.43(e)(2)(v) terms of the loan agreement, the first to which the dwelling is attached. for a qualified mortgage. See proposed rate adjustment is on April 1, 2021 (the Renumbered § 1026.43(e)(2)(v)(A) also comment 43(e)(2)(v)–1 under due date of the 84th monthly payment), provides that the creditor must consider Alternative 2. The Board proposed these which occurs more than five years after and verify the consumer’s current or additions pursuant to its legal authority the date on which the first regular reasonably expected income or assets under TILA section 129C(b)(3)(B)(i). The periodic payment will be due. Thus, the other than the value of the dwelling Board believed that adding these maximum interest rate under the terms (including any real property attached to requirements may be necessary to better of the loan during the first five years the dwelling) that secures the loan, in ensure that the consumers are offered after the date on which the first regular accordance with appendix Q, in and receive loans on terms that periodic payment will be due is 6 addition to § 1026.43(c)(2)(i) and (c)(4). reasonably reflect their ability to repay percent. Under this example, the Comment 43(e)(2)(v)–2 clarifies this the loan. transaction will meet the definition of a provision, by explaining that, for In the final rule, § 1026.43(e)(2)(v)(B) qualified mortgage if the creditor purposes of this requirement, the provides that, to meet the requirements underwrites the loan using the monthly creditor must consider and verify, at a for a qualified mortgage under payment of principal and interest of minimum, any income specified in § 1026.43(e)(2), the creditor must $1,199 to repay the loan amount of appendix Q. A creditor may also consider and verify the consumer’s $200,000 over the 30-year loan term consider and verify any other income in current debt obligations, alimony, and using the maximum interest rate during accordance with § 1026.43(c)(2)(i) and child support, in accordance with the first five years after the date on (c)(4); however, such income would not appendix Q and § 1026.43(c)(2)(vi) and which the first regular periodic payment be included in the total monthly debt- (c)(3). In addition, new comment will be due of 6 percent. to-income ratio determination by 43(e)(2)(v)–3 clarifies that, for purposes

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of considering and verifying the creditor consider and verify a mortgage. The Board noted several consumer’s current debt obligations, consumer’s current debt obligations, reasons for proposing this approach. alimony, and child support pursuant to alimony, and child support into the First, the Board noted that the debt-to- § 1026.43(e)(2)(v)(B), the creditor must qualified mortgage criteria ensures that income ratio and residual income are consider and verify, at a minimum, any creditors consider, on an individual based on widely accepted standards debt or liability specified in appendix basis, and verify whether a consumer which, although flexible, do not provide Q. A creditor may also consider and has the ability to repay a qualified certainty that a loan is a qualified verify other debt in accordance with mortgage. Furthermore, together with mortgage. The Board believed this § 1026.43(c)(2)(vi) and (c)(3); however, the requirement to consider and verify approach is contrary to Congress’ such debt would not be included in the income, the Bureau believes this apparent intent to provide incentives to total monthly debt-to-income ratio requirement to consider and verify debt creditors to make qualified mortgages, determination required by obligations, alimony, and child support since they have less risky features and § 1026.43(e)(2)(vi). As described below, strengthens consumer protection and is terms. Second, the Board noted that appendix Q contains specific standards fundamental to the underlying because the definition of a qualified for defining ‘‘debt,’’ to provide certainty components of the requirement in mortgage under Alternative 1 would not to creditors as to whether a loan meets § 1026.43(e)(2)(vi), which provides a require consideration of current debt the requirements for a qualified specific debt-to-income ratio threshold. obligations or simultaneous loans, it mortgage. The final rule includes this Ultimately, the Bureau believes that would be impossible for a creditor to reference to appendix Q and additional the statute is fundamentally about calculate the debt-to-income ratio or comment to clarify the relationship establishing standards for determining a residual income without adding those between the requirement to consider a consumer’s reasonable ability to repay requirements as well. Third, the Board consumer’s current debt obligations, and therefore believes it is appropriate stated that data shows that the debt-to- alimony, and child support in to incorporate the ability-to-repay income ratio generally does not have a § 1026.43(e)(2)(v)(B) and the definition underwriting requirements into the significant predictive power of loan of ‘‘debt’’ in appendix Q. In other qualified mortgage definition to ensure performance once the effects of credit words, a creditor who considers ‘‘debt’’ consistent consumer protections for history, loan type, and loan-to-value as defined in appendix Q meets the repayment ability for a qualified ratio are considered.148 Fourth, the requirement in § 1026.43(e)(2)(v)(B), so mortgage. However, as described above, Board noted that although consideration long as that income is verified pursuant most of the ability-to-repay of the mortgage debt-to-income ratio (or to § 1026.43(c)(3). requirements must be considered and ‘‘front-end’’ debt-to-income) might help verified to satisfy the specific debt-to- consumers receive loans on terms that The Bureau is incorporating the income ratio requirement in reasonably reflect their ability to repay requirement that the creditor consider § 1026.43(e)(2)(vi), which requires the the loans, the Board’s outreach and verify the consumer’s current debt creditor to follow the standards for indicated that creditors often do not obligations, alimony, and child support ‘‘debt’’ and ‘‘income’’ in appendix Q, find that ‘‘front-end’’ debt-to-income into the definition of a qualified including the consumer’s employment ratio is a strong predictor of ability to mortgage in § 1026.43(e)(2) pursuant to status, monthly payment on the covered repay. Finally, the Board stated its its authority under TILA section transaction, monthly payment on concern that the benefit of including the 129C(b)(3)(B)(i). The Bureau finds that simultaneous loans of which the debt-to-income ratio or residual income this addition to the qualified mortgage creditor is aware, and monthly payment in the definition of qualified mortgage criteria is necessary and proper to on mortgage-related obligations. For this may not outweigh the cost to certain ensure that responsible, affordable reason, unlike the Board’s proposed consumers who may not meet widely mortgage credit remains available to Alternative 2, the final rule does not accepted debt-to-income ratio standards, consumers in a manner that is separately require consideration and but may have other compensating consistent with the purposes of TILA verification of these factors that are part factors, such as sufficient residual section 129C and necessary and of the general ability-to-repay analysis. income or other resources to be able to appropriate to effectuate the purposes of reasonably afford the mortgage. A 43(e)(2)(vi) TILA section 129C, which includes definition of qualified mortgage that assuring that consumers are offered and TILA section 129C(b)(2)(vi) states that required consideration of the receive residential mortgage loans on the term qualified mortgage includes consumer’s debt-to-income or residual terms that reasonably reflect their ability any mortgage loan ‘‘that complies with income could limit the availability of to repay the loan. The Bureau also any guidelines or regulations credit to those consumers. incorporates this requirement pursuant established by the Bureau relating to However, under proposed to its authority under TILA section ratios of total monthly debt to monthly § 226.43(e)(2)(v) under Alternative 2, a 105(a) to issue regulations that, among income or alternative measure of ability qualified mortgage would have been other things, contain such additional to pay regular expenses after payment of defined as a loan which, among other requirements, other provisions, or that total monthly debt, taking into account things, the creditor considers the provide for such adjustments for all or the income levels of the consumer and consumer’s monthly debt-to-income any class of transactions, that in the such other factors as the Bureau may ratio or residual income, pursuant to Bureau’s judgment are necessary or determine relevant and consistent with proposed § 226.43(c)(2)(vii) and (c)(7). proper to effectuate the purposes of the purposes described in paragraph The Board noted that, without TILA, which include the above purpose (3)(B)(i).’’ determining the consumer’s debt-to- of section 129C, among other things. income ratio, a creditor could originate The Bureau believes that this addition Board’s Proposal to the qualified mortgage criteria is Under proposed § 226.43(e)(2)(v) 148 The proposal cited Yuliya Demyanyk & Otto necessary and proper to achieve this under Alternative 1, creditors would not Van Hemert, Understanding the Subprime Mortgage purpose. In particular, as discussed have been required to consider the Crisis, 24 Rev. Fin. Stud. 1848 (2011); James A. Berkovec et al., Race, Redlining, and Residential above, the Bureau finds that consumer’s debt-to-income ratio or Mortgage Loan Performance, 9 J. Real Est. Fin. & incorporating the requirement that a residual income to make a qualified Econs. 263 (1994).

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a qualified mortgage without any For all these reasons, the Board did trade group commenter noted that, requirement to consider the effect of the not propose a quantitative standard for historically, the debt-to-income ratio has new loan payment on the consumer’s the debt-to-income ratio. The Board been a key metric used to assess a overall financial picture. The consumer recognized, however, that creditors, and consumer’s ability to repay a mortgage could have a very high total debt-to- ultimately consumers, may benefit from loan, and has been incorporated into income ratio under reasonable a higher degree of certainty surrounding both manual and automated underwriting standards, and be the qualified mortgage definition that a underwriting systems used in the predicted to default soon after the first quantitative standard could provide. industry. Some industry commenters scheduled mortgage payment. Therefore, the Board solicited comment asked that the final rule adopt the VA Accordingly, the Board believed that on whether and how it should prescribe calculation of residual income. See also including the debt-to-income ratio or a quantitative standard for the debt-to- the section-by-section analysis of residual income in the definition of income ratio or residual income for the section 1026.43(c)(7). Another industry qualified mortgage might ensure that the qualified mortgage definition. commenter suggested that any mortgage consumer has a reasonable ability to with a residual income of at least $600 Comments repay the loan. be sufficient for a qualified mortgage. The Board did not propose a As noted above, the Bureau received Another industry commenter suggested quantitative standard for the debt-to- comments in response to the Board’s that, at a minimum, residual income income ratio in the qualified mortgage 2011 ATR Proposal and in response to considerations would require a definition, but solicited comment on the the Bureau’s May 2012 notice to reopen workable standard with clear, specific, appropriateness of such an approach. the comment period. The reopened and objective criteria and be explicitly The Board’s proposal noted several comment period solicited comment limited to specific expense items. An reasons for declining to introduce a specifically on new data and industry trade group commenter specific debt-to-income ratio for information obtained from the Federal recommended that if the Bureau qualified mortgages. First, as explained Housing Finance Agency (FHFA) after requires the use of residual income, in the 2008 HOEPA Final Rule, the the close of the original comment creditors be allowed flexibility in Board was concerned that setting a period. In the notice to reopen the considering residual income along with specific debt-to-income ratio could limit comment period, the Bureau, among other factors in loan underwriting. credit availability without providing other things, solicited comment on data Comments that addressed a specific adequate off-setting benefits. 73 FR 4455 and information as well as sought debt-to-income ratio are discussed (July 30, 2008). The Board sought comment specifically on certain below. comment on what exceptions may be underwriting factors, such as a debt-to- Several industry commenters necessary for low-income consumers or income ratio, and their relationship to recommended that if the Bureau consumers living in high-cost areas, or measures of delinquency or their impact required consideration and verification for other cases, if the Board were to on the number or percentage of of the debt-to-income ratio or residual adopt a quantitative debt-to-income mortgage loans that would be a qualified income for a qualified mortgage, standard. mortgage. In addition, the Bureau creditors be permitted to take Second, outreach conducted by the sought comment and data on estimates compensating factors into account. They Board revealed a range of underwriting of litigation costs and liability risks suggested that the Bureau provide guidelines for debt-to-income ratios associated with claims alleging a examples of compensating factors, such based on product type, whether violation of ability-to-repay as: (1) The property being an energy- creditors used manual or automated requirements. efficient home; (2) the consumer having underwriting, and special Comments on general debt-to-income probability for increased earnings based considerations for high- and low-income ratio or residual income requirement. In on education, job training, or length of consumers. The Board believed that response to the proposed rule, some time in a profession; (3) the consumer setting a quantitative standard would industry commenters argued that the having demonstrated ability to carry a require it to address the operational final rule should not require higher total debt-load while maintaining issues related to the calculation of the consideration and verification of a a good credit history for at least 12 debt-to-income ratio. For example, the consumer’s monthly debt-to-income months; (4) future expenses being lower, Board would need clearly to define ratio or residual income for a qualified such as child-support payments to cease income and current debt obligations, as mortgage. They argued that such an for child soon to reach age of majority; well as compensating factors and the approach would create a vague, or (5) the consumer having substantial situations in which creditors may use subjective definition of qualified verified liquid assets. compensating factors. In addition, the mortgage. Certain industry commenters Consumer advocates generally debt-to-income ratio is often a floating requested that if the Bureau added supported adding consideration and metric, since the percentage changes as consideration and verification of the verification of the debt-to-income ratio new information about income or debt-to-income ratio or residual income or residual income to the definition of current debt obligations becomes to the definition of a qualified mortgage, a qualified mortgage. They noted that available. A quantitative standard the Bureau establish flexible standards. such inclusion would help ensure that would require guidelines on the timing These commenters argued that imposing consumers receive mortgages they can of the debt-to-income ratio calculation, low debt-to-income ratio requirements afford and that such factors are basic, and what circumstances would would be devastating to many potential core features of common-sense necessitate a re-calculation of the debt- creditworthy homebuyers. underwriting that are clearly related to to-income ratio. Furthermore, a Other industry commenters suggested the risk of consumer default. To that quantitative standard may also need to that if the Bureau added consideration point, these commenters contended that provide tolerances for mistakes made in and verification of the debt-to-income residual income is an essential calculating the debt-to-income ratio. ratio or residual income to the component, especially for lower-income The rule would also need to address the definition of a qualified mortgage, the families. One consumer group use of automated underwriting systems Bureau provide clear and objective commenter stressed that residual in determining the debt-to-income. standards. For example, one industry income standards should be

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incorporated, and pointed to the FHFA income requirement, some commenters general residual income standards of the data in the Bureau’s notice to reopen the and interested parties suggested that the VA as a model for a residual income comment period to demonstrate that Bureau should include within the test, and one of these commenters relying solely on debt-to-income ratios definition of a ‘‘qualified mortgage’’ recommended that the Bureau is insufficient to ensure sound lending loans with a debt-to-income ratio above coordinate with FHFA to evaluate the based on a consumer’s ability to repay. a certain threshold if the consumer has experiences of the GSEs in using Many industry and consumer group a certain amount of assets, such as residual income in determining a commenters and interested parties money in a savings or similar account, consumer’s ability to repay. supported use of a specific debt-to- or a certain amount of residual income. Some commenters opposed including income ratio threshold. For example, For example, an industry commenter a specific debt-to-income ratio threshold some suggested that if a consumer’s suggested a 45 percent total debt-to- into the qualified mortgage criteria. For total debt-to-income ratio is below a income ratio, with an allowance for example, one commenter argued that specified threshold, the mortgage loan higher total debt-to-income ratios of up though the qualified mortgage criteria should satisfy the qualified mortgage to 50 percent for consumers with should be as objective as possible, a requirements, assuming other relevant significant assets (e.g., at least one year’s specific debt-to-income threshold conditions are met. At least one worth of reserves). This commenter should not be imposed because the industry commenter supported allowing asked that the Bureau carve out criteria should be flexible to account for the use of FHA underwriting guidelines consumers who have shown ability to changing markets. Another commenter to define ‘‘debt’’ and ‘‘income.’’ maintain a high debt-to-income ratio or argued that creditors should be able to Although many commenters who have a nontraditional credit consider debt-to-income and residual supported the use of a specific debt-to- history. This commenter explained that income ratios, but creditors should not income ratio threshold, both industry the higher the debt-to-income ratio, the be restricted to using prescribed debt-to- and consumer group commenters noted more likely a brief interruption in income or residual income ratios. One that relying on debt-to-income is only income or unexpected large expense industry commenter contended that if one element of underwriting, and that could compromise repayment ability. the Bureau were to impose a 45 percent creditors have used other compensating The commenter noted that only a total debt-to-income ratio, for example, factors and underwriting criteria. Some numerical standard would provide most larger secondary market investors/ commenters acknowledged that a sufficient certainty for creditors and servicers would impose a total debt-to- consumer’s debt-to-income ratio is a investors, since they may otherwise end income ratio that is much lower (such useful measure of loan performance; up litigating what is a reasonable debt- as 43 percent or 41 percent) as a general however, they asserted that the year of to-income ratio. Another industry rule of risk management. origination (i.e., vintage) has more commenter asked that a 50 percent Final Rule bearing on loan performance. In back-end debt-to-income ratio be addition, some commenters argued that sufficient. This commenter noted that The Bureau believes, based upon its measures of consumer credit history and without clear and objective standards, review of the data it has obtained and loan-to-value are more predictive, and creditors trying to make a qualified the comments received, that the use of that broader economic factors largely mortgage would fall back on the total debt-to-income as a qualified determine loan performance. Several qualified residential mortgage mortgage criterion provides a industry commenters recommended a standards. widespread and useful measure of a debt-to-income ratio cutoff that is at the Another industry trade association consumer’s ability to repay, and that the upper end of today’s relatively commenter argued that a total debt-to- Bureau should exercise its authority to conservative lending standards, while income ratio threshold of 43 percent is adopt a specific debt-to-income ratio permitting creditors to consider loans problematic because according to the that must be met in order for a loan to that exceed that debt-to-income ratio FHFA data in the Bureau’s notice to meet the requirements of a qualified threshold if the consumer satisfies other reopen the comment period, there is no mortgage. The Bureau believes that the objective criteria (such as reserves, appreciable difference in performance qualified mortgage criteria should housing payment history, and residual for loans with a 43 percent debt-to- include a standard for evaluating income), that help creditors assess the income ratio and loans with 46 percent whether consumers have the ability to consumer’s ability to repay the loan. debt-to-income ratio. In other words, repay their mortgage loans, in addition These commenters argued that the commenters argued that the FHFA data to the product feature requirements FHFA data in the Bureau’s notice to supports a higher debt-to-income ratio specified in the statute. At the same reopen the comment period demonstrate threshold, such as 46 percent. Another time, the Bureau recognizes concerns that when loans are properly commenter noted that the FHFA data that creditors should readily be able to underwritten, debt-to-income ratios can does not include data on portfolio loans. determine whether individual mortgage be relatively high without significantly Some consumer group commenters transactions will be deemed qualified affecting loan performance. suggested that the Bureau conduct mortgages. The Bureau addresses these Numerous commenters argued that further research into the role of debt-to- concerns by adopting a bright-line debt- the Bureau should consider the costs income ratios and the relationship to-income ratio threshold of 43 percent, and benefits of selecting a maximum between a consumer’s debt-to-income as well as clear and specific standards, debt-to-income ratio for qualified ratio and residual income. One based on FHA guidelines, set forth in mortgages. Many industry and commenter noted that the Bureau appendix Q for calculating the debt-to- consumer group commenters argued should consider a tiered-approach for income ratio in individual cases. that a debt-to-income threshold that is higher-income consumers who can The Bureau believes that a consumer’s too low would unnecessarily exclude a support a higher debt-to-income ratio. debt-to-income ratio is generally large percentage of consumers from Another consumer group commenter predictive of the likelihood of default, qualified mortgages. One joint industry argued that residual income should be and is a useful indicator of such. At a and consumer group comment letter incorporated into the definition of basic level, the lower the debt-to-income suggested a 43 percent total debt-to- qualified mortgage. Several commenters ratio, the greater the consumer’s ability income ratio. In addition to a debt-to- suggested that the Bureau use the to pay back a mortgage loan would be

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under existing conditions as well as consumers’ ability to repay qualified appropriate method to define which changed circumstances, such as an mortgages and provides certainty for loans merit treatment as qualified increase in an adjustable rate, a drop in creditors to know that a loan satisfies mortgages. In particular, the Bureau future income, or unanticipated the definition of a qualified mortgage. A believes that 43 percent represents a expenses or new debts. The Bureau’s specific debt-to-income ratio threshold prudent outer boundary for a categorical analysis of FHFA’s Historical Loan also provides additional certainty to presumption of a consumer’s ability to Performance (HLP) dataset, data assignees and investors in the secondary repay. provided by the FHA,149 and data market, which should help reduce As discussed above, there was provided by commenters all bear this possible concerns regarding legal risk significant debate among the out. These data indicate that debt-to- and potentially promote credit commenters about the precise debt-to- income ratio correlates with loan availability. As numerous commenters income ratio threshold to establish. performance, as measured by have urged, there is significant value to Although a lower debt-to-income delinquency rate (where delinquency is providing objective requirements that threshold would provide greater defined as being over 60 days late), in can be determined based on loan files. assurance of a consumer’s ability to any credit cycle. Within a typical range As described below, the final rule repay a loan, many commenters argued, of debt-to-income ratios for prudent generally requires creditors to use the and the Bureau agrees, that establishing underwriting (e.g., under 32 percent standards for defining ‘‘debt’’ and a debt-to-income ratio threshold debt-to-income to 46 percent debt-to- ‘‘income’’ in appendix Q, which are significantly below 43 percent would income), the Bureau notes that adapted from current FHA guidelines, to curtail many consumers’ access to generally, there is a gradual increase in minimize burden and provide qualified mortgages. One commenter delinquency with higher debt-to-income consistent standards. The standards set estimated that roughly half of ratio.150 The record also shows that forth in appendix Q provide sufficient conventional borrowers would not be debt-to-income ratios are widely used as detail and clarity to address concerns eligible for qualified mortgage loans if an important part of the underwriting that creditors may not have adequate the debt-to-income ratio was set at 32 processes of both governmental certainty about whether a particular percent, while 85 percent of borrowers programs and private lenders. loan satisfies the requirements for being would be eligible with a ratio set at 45 The Bureau recognizes the Board’s a qualified mortgage, and therefore will percent. initial assessment that debt-to-income not deter creditors from providing At the same time, the Bureau declines ratios may not have significant qualified mortgages to consumers. The to establish a debt-to-income ratio predictive power once the effects of Bureau anticipates that the standards threshold higher than 43 percent. The credit history, loan type, and loan-to- will facilitate compliance with the Bureau recognizes that some commenters suggested that debt-to- value are considered. In the same vein, Dodd-Frank Act risk retention income ratios above 43 percent would the Bureau notes that some commenters requirements, as the 2011 QRM not significantly increase the likelihood suggested that the Bureau include Proposed Rule relied on FHA standards of default (depending to some extent on compensating factors in addition to a for defining ‘‘debt’’ and ‘‘income.’’ The the presence of compensating factors), specific debt-to-income ratio threshold. Bureau has consulted with the Federal and that some consumers may face Even if a standard that takes into agencies responsible for the QRM greater difficulty obtaining qualified account multiple factors produces more rulemaking in developing this rule, and mortgages absent a higher threshold. accurate ability-to-pay determinations will continue to do so going forward. in specific cases, incorporating a multi- However, as the debt-to-income ratio Based on analysis of available data increases, the presence of compensating factor test or compensating factors into and comments received, the Bureau the definition of a qualified mortgage factors becomes more important to the believes that 43 percent is an underwriting process and in ensuring would undermine the goal of ensuring appropriate ratio for a specific debt-to- that creditors and the secondary market that consumers have the ability to repay income threshold, and that this the loan. The general ability-to-repay can readily determine whether a approach advances the goals of particular loan is a qualified mortgage. procedures, rather than the qualified consumer protection and preserving mortgage framework, is better suited for Further, the Bureau believes that access to credit. The Bureau compensating factors would be too consideration of all relevant factors that acknowledges, based on its analysis of go to a consumer’s ability to repay a complex to calibrate into a bright-line the data, that there is no ‘‘magic mortgage loan. rule and that some compensating factors number’’ which separates affordable Thus, the Bureau emphasizes that it suggested by commenters as from unaffordable mortgages; rather, as does not believe that a 43 percent debt- appropriate, such as loan-to-value noted above, there is a gradual increase to-income ratio represents the outer ratios, do not speak to a consumer’s in delinquency rates as debt-to-income boundary of responsible lending. The repayment ability. ratios increase. That being said, the Bureau notes that even in today’s credit- Therefore, as permitted by the statute, Bureau understands that 43 percent is constrained market, approximately 22 the Bureau is adopting a specific debt- within the range of debt-to-income percent of mortgage loans are made with to-income ratio threshold because this ratios used by many creditors and a debt-to-income ratio that exceeds 43 approach provides a clear, bright line generally comports with industry percent and that prior to the mortgage criterion for a qualified mortgage that standards and practices for prudent boom approximately 20 percent of ensures that creditors in fact evaluate underwriting. As noted above, 43 mortgage loans were made above that percent is the threshold used by the threshold. Various governmental 149 The FHA’s comment letter provided in response to the 2012 notice to reopen the comment FHA as its general boundary. Although agencies, GSEs, and creditors have period describes this data. the Bureau notes that Fannie Mae’s and developed a range of compensating 150 See, e.g., 77 F.R. 33120, 33122–23 (June 5, Freddie Mac’s guidelines generally factors that are applied on a case by case 2012) (Table 2: Ever 60+ Delinquency Rates, require a 36 percent debt-to-income basis to assess a consumer’s ability to summarizing the HLP dataset by volume of loans ratio, without compensating factors, the repay when the consumer’s debt-to- and percentage that were ever 60 days or more delinquent, tabulated by the total DTI on the loans Bureau believes that a 43 percent debt- income ratio exceeds a specified ratio. and year of origination). to-income threshold represents an Many community banks and credit

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unions have found that they can relatively low household income may Q, except as provided in prudently lend to consumers with a not be able to afford a 43 percent debt- § 1026.43(e)(2)(vi)(B). Section higher debt-to-income ratio based upon to-income ratio because the remaining 1026.43(e)(2)(vi)(B) contains additional their firsthand knowledge of the income, in absolute dollar terms, is too requirements regarding the calculation individual consumer. As discussed small to enable the consumer to cover of ‘‘debt,’’ for consistency with other below, many of those loans will fall his or her living expenses. Conversely, parts of the qualified mortgage within the temporary exception that the a consumer with a relatively high definition and § 1026.43. Specifically, Bureau is recognizing for qualified household income may be able to afford that section provides that the mortgages. Over the long term, as the a higher debt ratio and still live consumer’s monthly debt-to-income market recovers from the mortgage crisis comfortably on what is left over. ratio must be calculated using the and adjusts to the ability-to-repay rules, Unfortunately, however, the Bureau consumer’s monthly payment on the the Bureau expects that there will be a lacks sufficient data, among other covered transaction, including robust and sizable market for prudent considerations, to mandate a bright-line mortgage-related obligations, in loans beyond the 43 percent threshold rule based on residual income at this accordance with § 1026.43(e)(2)(iv), and even without the benefit of the time. The Bureau expects to study any simultaneous loan that the creditor presumption of compliance that applies residual income further in preparation knows or has reason to know will be to qualified mortgages. In short, the for the five-year review of this rule made, in accordance with Bureau does not believe that consumers required by the Dodd-Frank Act. See § 1026.43(c)(2)(iv) and (c)(6). Comment who do not receive a qualified mortgage also section-by-section analysis of 43(e)(2)(vi)–1 clarifies the relationship because of the 43 percent debt-to- § 1026.43(c)(7). between the definition of ‘‘debt’’ in income ratio threshold should be cut off The Bureau believes that it is appendix Q and the requirements of from responsible credit, and has important that the final rule provide § 1026.43(e)(2)(vi)(B). Specifically, the structured the rule to try to ensure that clear standards by which creditors comment states that, as provided in a robust and affordable ability-to-repay calculate a consumer’s monthly debt-to- appendix Q, for purposes of market develops over time. income ratio for purposes of the specific § 1026.43(e)(2)(vi), creditors must The Bureau also believes that there debt-to-income threshold in include in the definition of ‘‘debt’’ a would be significant negative § 1026.43(e)(2)(vi). For this reason, the consumer’s monthly housing expense. consequences to the market from setting final rule provides specific standards for This includes, for example, the a higher threshold. For instance, if the defining ‘‘debt’’ and ‘‘income’’ in consumer’s monthly payment on the qualified mortgage debt-to-income ratio appendix Q. These standards are based covered transaction (including threshold were set above 43 percent, it on the definitions of debt and income mortgage-related obligations) and might sweep in many mortgages in used by creditors originating residential simultaneous loans. Accordingly, which there is not a sound reason to mortgages that are insured by the FHA. § 1026.43(e)(2)(vi)(B) provides the presume that the creditor had a In particular, appendix Q incorporates method by which a creditor calculates reasonable belief in the consumer’s the definitions and standards in the the consumer’s monthly payment on the ability to repay. At a minimum, HUD Handbook 4155.1, Mortgage Credit covered transaction and on any adopting a higher debt-to-income Analysis for Mortgage Insurance on simultaneous loan that the creditor threshold to define qualified mortgages One-to-Four-Unit Mortgage Loans, to knows or has reason to know will be would require a corresponding determine and verify a consumer’s total made. weakening of the strength of the monthly debt and monthly income, with The Bureau notes that the specific 43 presumption of compliance—which limited modifications to remove percent debt-to-income requirement would largely defeat the point of portions unique to the FHA applies only to qualified mortgages adopting a higher debt-to-income underwriting process, such as references under § 1026.43(e)(2). For the reasons threshold. Additionally, the Bureau also to the TOTAL Scorecard Instructions. discussed below, the specific debt-to- fears that if the qualified mortgage The use of FHA guidelines for this income ratio requirement does not boundary were to cover substantially all purpose provides clear, well-established apply to loans that meet the qualified of the mortgage market, creditors might standards for determining whether a mortgage definitions in § 1026.43(e)(4) be unwilling to make non-qualified loan is a qualified mortgage under or (f). mortgage loans, with the result that the § 1026.43(e)(2). This approach is also qualified mortgage rule would define consistent with the proposed approach 43(e)(3) Limits on Points and Fees for the limit of credit availability. The to defining debt and income in the 2011 Qualified Mortgages Bureau believes that lending in the non- QRM Proposed Rule, and therefore 43(e)(3)(i) qualified mortgage market can and could facilitate compliance for creditors. should be robust and competitive over The Bureau has consulted with the TILA section 129C(b)(2)(A)(vii) time. The Bureau expects that, as credit Federal agencies responsible for the defines a ‘‘qualified mortgage’’ as a loan conditions ease, creditors will continue QRM rulemaking and will continue to for which, among other things, the total making prudent, profitable loans in non- do so going forward as that rulemaking points and fees payable in connection traditional segments, such as to is completed, as well as to discuss with the loan do not exceed 3 percent consumers who have sufficient total changes to FHA guidelines that may of the total loan amount. TILA section assets or future earning potential to be occur over time. 129C(b)(2)(D) requires the Bureau to able to afford a loan with a higher debt- Accordingly, § 1026.43(e)(2)(vi) prescribe rules adjusting this limit to to-income ratio or consumers who have provides that, as a condition to being a ‘‘permit lenders that extend smaller a demonstrated ability to pay housing qualified mortgage under loans to meet the requirements of the expenses at or above the level of a § 1026.43(e)(2), the consumer’s total presumption of compliance.’’ The contemplated mortgage. monthly debt-to-income ratio does not statute further requires the Bureau to Finally, the Bureau acknowledges exceed 43 percent. For purposes of ‘‘consider the potential impact of such arguments that residual income may be § 1026.43(e)(2)(vi), the consumer’s rules on rural areas and other areas a better measure of repayment ability in monthly debt-to-income ratio is where home values are lower.’’ The the long run. A consumer with a calculated in accordance with appendix statute does not define and the

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legislative history does not provide with Alternative 1. The middle tier was criteria for smaller loans by narrowing guidance on the term ‘‘smaller loan’’ or a sliding scale that reduced the points the types of charges that would be the phrase ‘‘rural areas and other areas and fees cap (as a percentage of the loan included in points and fees for smaller where home values are lower.’’ amount) with each dollar increase in loans. The Board indicated that The Board proposed two alternative loan size. The three tiers of Alternative outreach participants disfavored this versions of § 226.43(e)(3)(i) to 2 would have consisted of: approach because it would have implement the 3 percent points and fees • For a loan amount of $75,000 or required different ways of calculating cap for qualified mortgages and the more, 3 percent of the total loan points and fees, depending on loan size, adjustment to the cap for smaller loans. amount; and thus likely would have increased For both alternatives, the Board • For a loan amount greater than or the burden of complying with the rules proposed a threshold of $75,000, equal to $20,000 but less than $75,000, and the risk of error. The Board also indexed to inflation, for smaller loans. a percentage of the total loan amount stated that it had considered proposing For loans above the $75,000 threshold, yielded by the following formula: an alternative points and fees threshold Æ ¥ the 3 percent points and fees cap for Total loan amount $20,000 = $Z for certain geographical areas. As the Æ × qualified mortgages would have $Z 0.0036 basis points = Y basis Board noted, however, property values applied. For loans below $75,000, points Æ ¥ shift over time, and there is substantial different limits would have applied, 500 basis points Y basis points = variation in property values and loan depending on the amount of the loan. X basis points Æ × amounts within geographical areas. The Board explained that it set the X basis points 0.01 = Allowable Thus, adjusting the limits on points and smaller loan threshold at $75,000 points and fees as a percentage of the fees based solely on geographic areas because it believed that Congress total loan amount. would have been a less straightforward • For a loan amount less than intended the exception to the 3 percent and less precise method of addressing $20,000, 5 percent of the total loan points and fees cap to apply to more the statute’s concern with smaller loans. amount. than a minimal, but still limited, No commenters supported these proportion of home-secured loans. The The approach in Alternative 2 would have smoothed the transition from one approaches. Board noted that HMDA data show that Several industry commenters argued 8.4 percent of first-lien, home-purchase tier to another and fixed an anomaly of Alternative 1. Under Alternative 1, for that points and fees have little, if any, (site-built) mortgages in 2008 and 9.7 relationship to consumers’ ability to percent of such mortgages in 2009 had loans just above and below the dividing line between tiers, a greater dollar repay their mortgage loans and that a loan amount of $74,000 or less. The qualified mortgages should therefore not Board also stated that outreach and amount of points and fees would have been allowed on the smaller loans than be subject to limits on points and fees. research indicated that $2,250—3 Although they acknowledged that the percent of $75,000—is within range of on the larger loans. For example, the allowable points and fees on a total loan Dodd-Frank Act generally prescribed a 3 average costs to originate a first-lien percent limit on points and fees for home mortgage. Thus, the Board amount of $76,000 would have been $2,280 (3 percent of $76,000), but the qualified mortgages, they urged the concluded that $75,000 appears to be an Bureau to use its authority to eliminate appropriate benchmark for applying the permissible points and fees on a total loan amount of $70,000 would have this requirement. 3 percent limit on points and fees, with Several industry commenters higher limits below that threshold been $2,450 (3.5 percent of $70,000). The Board noted that its proposal was contended that the 3 percent limit on offering creditors a reasonable points and fees for qualified mortgages opportunity to recover their origination designed to ensure that if a loan is a qualified mortgage it would not also be is too low. They maintained that the 3 costs. percent cap would require creditors to Both of the Board’s proposed a high-cost mortgage based on the points increase interest rates to recover their alternatives would have separated loans and fees. The Board stated its belief that costs and would limit consumers’ into tiers based on loan size, with each the statute is designed to reduce the flexibility to arrange their optimal tier subject to different limits on points compliance burden on creditors when combination of interest rates and points and fees. The Board’s proposed they make qualified mortgages, in order and fees. Industry commenters also Alternative 1 would have consisted of to encourage creditors to make loans claimed that the 3 percent limit would five tiers of loan sizes and with stable, understandable loan have a negative impact on consumers’ corresponding limits on points and fees: features. The Board expressed concern • For a loan amount of $75,000 or that creating points and fees thresholds access to affordable credit. Some more, 3 percent of the total loan for small loans that might result in industry commenters noted that the amount; qualified mortgages also being high-cost GSEs’ seller/servicer guides contain • For a loan amount greater than or mortgages would discourage creditors standards that limit points and fees for equal to $60,000 but less than $75,000, from making qualified mortgages loans that the GSEs purchase or 3.5 percent of the total loan amount; because the requirements and securitize, with the current standards • For a loan amount greater than or limitations of high-cost loans are limiting points and fees to the greater of equal to $40,000 but less than $60,000, generally more stringent than for other 5 percent of the mortgage amount or 4 percent of the total loan amount; loans. $1,000. The commenters argued that • For a loan amount greater than or The Board requested comment on the Bureau should use its authority adopt equal to $20,000 but less than $40,000, proposed alternative loan size ranges the GSEs’ standards instead of the 4.5 percent of the total loan amount; and and corresponding points and fees requirements prescribed by the Dodd- • For a loan amount less than limits for qualified mortgages. The Frank Act. One commenter argued that, $20,000, 5 percent of the total loan Board also requested comment on because of the complexity of the points amount. whether the loan size ranges should be and fees test, the Bureau should adopt Alternative 2 would have consisted of indexed for inflation. a tolerance of one-quarter of 1 percent three tiers of loan sizes and The Board stated that, instead of using or $250 for the 3 percent limit so that corresponding limits on points and fees. a smaller loan threshold with different de minimis errors in calculating points The first and third tiers were consistent tiers, it had considered adjusting the and fees would not prevent a loan from

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retaining the legal protection of a to recover more of their costs through reviewed over 250,000 of its recent qualified mortgage. points and fees, either by increasing the loans and found that none of the loans With respect to the two proposed threshold for smaller loans or raising the under $75,000 would meet the proposed alternative versions of section limits for loans below the threshold or cap and that 50 percent of the loans 43(e)(3)(i), industry commenters by doing both. under $125,000 would meet the cap. generally preferred Alternative 1. They Many industry commenters Several industry commenters reported explained that Alternative 2 was too recommended raising the threshold for that if the Bureau raised the smaller complex, would be difficult to smaller loans from the $75,000 loan threshold to $150,000, a implement, and would increase threshold proposed by the Board. One significantly smaller percentage of loans compliance and litigation costs. Some industry commenter suggested setting would exceed the points and fees cap. consumer advocates preferred the threshold at $100,000, indexed to A trade association representing the Alternative 2, stating that it would be inflation. Relying on loan balances for manufactured housing industry noted more beneficial to consumers. Other median home prices, another industry the Board’s concern about setting the consumer advocates preferred commenter asked that the Bureau raise points and fees cap so high that some Alternative 1, asserting that its the threshold to $125,000. Many other qualified mortgages would be deemed simplicity would minimize industry commenters recommended high-cost mortgages under HOEPA. The miscalculations that could harm raising the threshold to $150,000. One commenter argued, however, that the consumers. They stated that the commenter noted that the average loan Bureau has authority to change high- difference to the consumer between size in the United States at the end of cost mortgage thresholds and urged the Alternative 1 and Alternative 2 was the second quarter of 2010 was $193,800 Bureau to exercise this authority. The marginal. Some of these consumer and suggested using 80 percent of the commenter cited section 1431 of the advocates argued that the benefit average loan size, rounding off to the Dodd-Frank Act for the proposition that afforded by simplicity would outweigh nearest $10,000. the Board may increase the amount of the small pricing distortions. In addition to urging the Bureau to origination costs above $1,000 for loans Commenters did not object to the raise the smaller loan threshold, many less than $20,000. The commenter also Board’s general approach of setting a industry commenters recommended that said that section 1022 of the Dodd-Frank threshold amount for smaller loans and the Bureau revise the proposal to permit Act may grant the Board authority to adjusting the points and fees cap for creditors to charge higher points and exempt certain smaller sized loans below the threshold. Instead, the fees for loans below the smaller loan manufactured home loans from the 5 comments discussed what the threshold threshold for qualified mortgages. percent points and fees caps on high- loan amount should be for smaller loans Several industry commenters asked that cost mortgages for loans above $20,000, and what limits should be imposed on the Bureau set the cap between 3.5 and based on asset class, transaction points and fees for loans below the 5 percent, indexed to inflation, for all volume, and existing consumer threshold. loans under the smaller loans threshold. protections. Industry commenters contended that One industry commenter noted that Consumer advocates generally the Board’s proposed limits on points Fannie Mae and Freddie Mac permit endorsed the $75,000 threshold for and fees for smaller loans would be too points and fees up to 5 percent. An smaller loans. They questioned industry low and would not permit creditors to industry commenter suggested a cap concerns that the 3 percent threshold recover their costs. They stated that equal to the greater of 3 percent or would limit the availability of credit for many origination costs are fixed $2,000, indexed to inflation. A consumers with comparatively low loan regardless of loan size. They asserted combination of industry commenters amounts. Instead, the commenters that if a creditor could not cover those and consumer advocates recommended emphasized the importance of ensuring costs through points and fees, the a cap equal to the greater of 3 percent that qualified mortgages are affordable. creditor would either not make the or $3,000. One industry commenter In their view, the 3 percent points and mortgage or increase the interest rate to advocated a 4 percent cap for all loans fees cap is a key factor in ensuring cover the costs. Industry commenters below $125,000. Several industry affordability, so the exception for expressed concern that, for smaller commenters recommended that the cap smaller loans should apply to only a loans, a rate increase might result in the be set at a fixed amount plus a limited proportion of loans. Consumer loan becoming a high-cost mortgage or percentage to lessen the impact of advocates argued that the points and in some consumers no longer being moving from one tier to the next. fees cap should not exceed the 5 percent eligible for the loan. They contended In support of their arguments to raise HOEPA trigger. They asserted that that creditors would be reluctant to the smaller loan threshold and to raise points and fees should be reasonable, make these loans and credit availability the limits on points and fees for loans reflect actual origination costs, and not would be compromised, in particular for below the threshold, several industry result in disparate pricing schemes low-income, minority, and rural commenters provided data showing that disadvantaging consumers with smaller consumers, and first-time home buyers. many smaller loans would have loans. One commenter reported that if a exceeded the proposed points and fees One consumer advocate consumer were offered a high interest caps. For example, a trade association recommended analyzing the impact of a rate to cover costs and the rate were commenter drew on data submitted by 3 percent points and fees cap on access increased to offset the costs of a smaller a member bank that showed that the to credit for low- and moderate-income loan, the consumer would pay majority of loans under $100,000 would consumers, in particular for Community thousands of dollars more over the life exceed the points and fees cap, Reinvestment Act loans. The commenter of the loan. Industry commenters assuming fees paid to an affiliate title asked that the Bureau describe in asserted that the proposed alternatives company were included, and that many preamble the results of any analysis of did not capture the congressional intent loans between $100,000 and $150,000 points and fees by loan amount, and for of providing creditors sufficient would also exceed the cap. A trade Community Reinvestment Act and non- incentives to make smaller loans. association industry commenter shared Community Reinvestment Act loans. Industry commenters urged the Bureau data from one of its members, a In light of these comments, the to revise the proposal to allow creditors financial services provider. The member Bureau is adopting revised

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§ 1026.43(e)(3)(i) to implement the on points and fees and the adjustment § 1026.43(e)(3)(i) revises the points and limits on points and fees for qualified to the cap for smaller loans. Like the fees caps for smaller loans within the mortgages. As noted above, several Board’s proposal, § 1026.43(e)(3)(i) sets various tiers. The general effect of these industry commenters argued that points a threshold for smaller loans, establishes revisions will be to increase the points and fees have little if any bearing on tiers based on loan size, and sets limits and fees that creditors can charge for consumers’ ability to repay their on points and fees within each tier. smaller loans while still permitting mortgage loans and that the points and However, § 1026.43(e)(3)(i) uses a mix of those loans to meet the standard for a fees limits would result in higher percentage and flat dollar limits to avoid qualified mortgage. These two changes interest rates and reduced access to anomalous results at tier margins and are discussed at greater length below. credit. They urged the Bureau to use its also adjusts the definition of smaller $100,000 Threshold for Smaller Loans authority to eliminate the limits on loan to include more transactions. points and fees for qualified mortgages. Although most commenters favored To fulfill the stated purpose of the As an alternative to eliminating the this tiering methodology, as noted adjustment for smaller loans, the points and fees limits entirely, some above, some commenters suggested that threshold should be set at a level that is industry commenters requested that the the Bureau reject the Board’s tiered sufficient to permit creditors making Bureau adopt the GSEs’ standards approach and instead adopt a simpler smaller loans a reasonable opportunity limiting points and fees for loans that mechanism, with all loan amounts to recoup their origination costs and they purchase or securitize. Those below the threshold subject to a single still offer qualified mortgages but not so standards currently limit points and fees percentage cap or dollar amount cap on high as to cause loans to exceed the to the greater of 5 percent of the loan points and fees. Like the Board, the HOEPA threshold to become high-cost amount or $1,000. Bureau believes the tiered approach mortgages. As noted above, the Board The Bureau does not believe it would provides a more flexible and calibrated proposed to set the smaller loan be appropriate to eliminate the limits on mechanism for implementing the limits threshold so that three percent of that points and fees for qualified mortgages. on points and fees for smaller loans. A amount would have provided creditors The Bureau also declines to adopt the single percentage cap that would apply with a reasonable opportunity to recover GSEs’ current standards and raise the to all smaller loans may not allow their costs, with loans below that general 3 percent limit on points and creditors a reasonable opportunity to threshold subject to higher caps on fees. The goal of TILA section 129C is recover costs for very small loans. It also points and fees. Thus, the Board’s to assure that consumers are able to may create a distortion in which loans proposed $75,000 threshold would have repay their mortgages over the term of just below the smaller loan threshold created a benchmark of $2,250. The the loans. Originators that make large would be permitted to have significantly Board stated that its outreach and sums up front may be less careful in higher points and fees than loans just research indicated that $2,250 would be assuring the consumers’ ability to repay above the smaller loan threshold. A within the range of average costs to over time. Moreover, Congress may have single dollar amount cap (e.g., $3,000) originate a first-lien home mortgage. believed that the points and fees limits could result in points and fees that are However, as noted above, several may deter originators from imposing a very high percentage of the very industry commenters reported, based on unnecessary or excessive up-front smallest loans and, as a result, could recent loan data, that creditors’ points charges. In the absence of persuasive result in qualified mortgages also and fees often exceed $2,250 for smaller evidence that the points and fees limits triggering the obligations of high-cost loans and that a significant number of will undermine consumers’ access to mortgages. loans above $75,000 would exceed the affordable credit, the Bureau does not Thus, as in the Board’s proposal, the three percent cap.151 believe it would be appropriate to final rule sets a threshold for smaller This evidence suggests that the $2,250 eliminate the points and fees limits or loans and establishes tiers, based on benchmark (and the corresponding to raise the general 3 percent limit. As loan size, with different limits on points $75,000 smaller loan threshold) in the discussed in more detail below, and fees. Specifically, § 1026.43(e)(3)(i) proposal could have been insufficient to however, the Bureau is implementing provides that a transaction is not a permit creditors to recoup all or even revised points and fees limits for qualified mortgage unless the total most of their origination costs. The smaller loans. The Bureau also notes points and fees payable in connection Bureau is aware that the commenters’ that the Dodd-Frank Act did not adopt with the loan do not exceed: loan data reflects creditors’ points and a tolerance that would allow creditors to • For a loan amount greater than or fees, and not the underlying costs. exceed the points and fees limits by equal to $100,000, 3 percent of the total Nevertheless, the evidence that small amounts and declines to adopt loan amount; substantial proportions of smaller loans such a tolerance. • For a loan amount greater than or would have exceeded the points and As noted above, a consumer advocate equal to $60,000 but less than $100,000, fees limits raises concerns that the requested that the Bureau conduct an $3,000; creditors would not be able to recover analysis of the 3 percent points and fees • For a loan amount greater than or their costs through points and fees and cap on access to credit for low- and equal to $20,000 but less than $60,000, still originate qualified mortgages. moderate-income consumers, in 5 percent of the total loan amount; Creditors that are unable to recover their particular for Community Reinvestment • For a loan amount greater than or origination costs through points and Act loans. Given the lack of available equal to $12,500 but less than $20,000, fees would have to attempt to recover data, it has not been practicable for the $1,000 of the total loan amount; those costs through higher rates. If the Bureau to perform such an analysis • For a loan amount of less than higher rates would trigger the additional while finalizing this and other title XIV $12,500, 8 percent of the total loan rules. The Bureau will consider whether amount. 151 As the Board noted, resources that provide it is possible and valuable to conduct The Bureau’s final rule departs from data on origination costs tend to use different such an analysis in the future. the proposal in two ways. First, methodologies to calculate points and fees and do not use the methodology prescribed under TILA as Revised § 1026.43(e)(3)(i) employs an § 1026.43(e)(3)(i) raises the threshold for amended by the Dodd-Frank Act. The same approach similar to that proposed by the smaller loans to $100,000. Second, for concerns apply to commenters’ data on points and Board to implement the 3 percent cap loans below the $100,000 threshold, fees.

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regulatory requirements applicable to fees, reducing the likelihood that any would also have been somewhat more high-cost loans under HOEPA or would increase in rates would trigger complex, thereby increasing the risk of render some potential consumers obligations of high-cost loans or would errors. The tiers in § 1026.43(e)(3)(i) all ineligible, then access to credit for at cause loans to be higher-priced covered feature easy-to-calculate limits, making least some consumers could be transactions under § 1026.43(b)(4). At compliance easier. compromised. Moreover, for consumers the same time, the $100,000 threshold Finally, the three lower tiers are tied who plan to remain in their homes (and would not render the smaller loan to the comparable thresholds for high- their loans) for a long time, a higher exception so broad that it undermines cost loans to ensure that the points and interest rate would result in higher the general 3 percent cap on points and fees on loans that satisfy the qualified payments over the life of the loan. fees. It would cover a significant but mortgage standard do not trigger the Some commenters claimed that a still limited proportion of mortgages. additional obligations of high-cost substantial portion of loans up to According to the 2011 Home Mortgage mortgages. Under TILA as amended, a $125,000 or $150,000 would exceed the Disclosure Act 152 (HMDA) data, 20.4 high-cost mortgage has points and fees 3 percent points and fees cap and that percent of first-lien home purchase equal to 5 percent of the total the Bureau should raise the threshold mortgages and 20.9 percent of first-lien transaction amount if the transaction is accordingly. The Bureau disagrees for refinances were less than $100,000.153 $20,000 or more, and points and fees two reasons. First, this would stretch equal to the lesser of 8 percent of the the meaning of ‘‘smaller loans.’’ In 2011, Limits on Points and Fees for Smaller total transaction amount or $1,000, if slightly under 21 percent of first-lien Loans the transaction is less than $20,000. See home mortgages were below $100,000 In addition to raising the smaller loan TILA section 103(bb)(1)(A)(ii)(I) and (II). and another 22 percent were between threshold to $100,000, § 1026.43(e)(3)(i) Setting the maximum points and fees $100,000 and $150,000. Thus, also differs from the Board’s proposal by caps based on the HOEPA triggers will increasing the threshold to $150,000 setting higher limits on points and fees help ensure that a qualified mortgage is would more than double the number of for smaller loans. As noted above, the not a high-cost mortgage because of the loans entitled to an exception to the Bureau is concerned that the Board’s points and fees. congressionally-established points and proposal would not have provided Proposed comment 43(e)(3)(i)–1 fees cap and would capture over 40 creditors with a reasonable opportunity would have cross-referenced comment percent of the market. The Bureau to recover their origination costs. Thus, 32(a)(ii)–1 for an explanation of how to believes that this would be an overly § 1026.43(e)(3)(i) allows creditors higher calculate the ‘‘total loan amount.’’ The expansive construction of the term limits on points and fees for smaller Bureau adopts comment 43(e)(3)(i)–1 ‘‘smaller loans’’ for the purpose of the loans. Specifically, for loans of $60,000 substantially as proposed, but it adds an exception to the general rule capping up to $100,000, § 1026.43(e)(3)(i) allows explanation for tiers in which the points and fees for qualified mortgages points and fees of no more than $3,000. prescribed points and fees limit is a at 3 percent. Such a broad definition of For loans of $20,000 up to $60,000, fixed dollar amount rather than a ‘‘smaller loans’’ could allow the § 1026.43(e)(3)(i) allows points and fees percentage and revises the cross- exception to undermine the cap on of no more than 5 percent of the total reference because the explanation of points and fees and frustrate loan amount. For loans of $12,500 up to calculating ‘‘total loan amount’’ is congressional intent that qualified $20,000, § 1026.43(e)(3)(i) allows points moved to comment 32(b)(5)(i)–1. mortgages include limited points and and fees of no more than $1,000. For Proposed comment 43(e)(3)(i)–2 fees. The function of the smaller loan loan amounts less than $12,500, would have explained that a creditor exception to the points and fees cap is § 1026.43(e)(3)(i) allows points and fees must determine which category the loan to make it possible for creditors making of no more than 8 percent of the total falls into based on the face amount of smaller loans to originate qualified loan amount. the note (the ‘‘loan amount’’), but must mortgages. The smaller loan exception In contrast with the Board’s proposed apply the allowable points and fees should provide creditors a reasonable Alternative 1, § 1026.43(e)(3)(i) creates percentage to the ‘‘total loan amount,’’ opportunity to recover most, if not all, smooth transitions between the tiers. As which may be an amount that is of their origination costs for smaller noted above, under Alternative 1, the different than the face amount of the loans and still originate qualified one-half percent changes in the points note. The Bureau adopts comment mortgages. It should not be transformed and fees cap between tiers would have 43(e)(3)(i)–2 substantially as proposed, into a mechanism that ensures that produced the anomalous result that but it revises some of the limits to creditors can continue to charge the some smaller loans would have been reflect the changes described above. same points and fees they have in the permitted to include a higher dollar Proposed comment 43(e)(3)(i)–3 past and still have their loans meet the amount of points and fees than larger would have provided examples of qualified mortgage standard. loans. While proposed Alternative 2 calculations for different loan amounts. The Bureau concludes that a $100,000 would have avoided this problem, it The Bureau adopts comment 43(e)(3)(i)– small loan threshold strikes an 3 with revisions to reflect the changes appropriate balance between 152 12 U.S.C. 2801 et seq. to some of the limits described above. congressional goals of allowing creditors 153 The proportion of loans under the $100,000 offering smaller loans to meet the threshold would of course be larger than under a Impact on Rural Areas and Other Areas $75,000 threshold. As indicated in the Board’s Where Home Values Are Lower standard for qualified mortgages and proposal, in 2008, 8.3 percent of first-lien home ensuring that qualified mortgages purchase mortgages and 7.6 percent of refinances TILA section 129C(b)(2)(D) requires include limited points and fees. The were under $75,000 for owner-occupied, one- to the Bureau to consider the rules’ four-family, site-built properties. According to 2011 $100,000 threshold (and, as discussed HMDA data, 10.6 percent of first-lien home potential impact on ‘‘rural areas and below, the corresponding adjustments to purchases and 11 percent of first-lien refinances other areas where home values are the points and fees limits for loans were under $75,000. Nevertheless, the Bureau lower.’’ The Bureau considered the under that threshold) should provide believes that the $100,000 threshold is sufficiently concerns raised by industry commenters limited that it remains faithful to the statute’s creditors with a reasonable opportunity framework, with the smaller loan exception not that if the limits on points and fees for to recover most, if not all, of their undermining the general 3 percent limit on points smaller loans were set too low, access to origination costs through points and and fees. credit could be impaired, in particular

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for low income, minority, and rural annually for inflation. The Bureau requirements. However, the Bureau consumers, and first-time home buyers. believes the points and fees thresholds acknowledges it may take some time for Setting the threshold for smaller loans for high-cost loans and qualified the non-qualified mortgage market to too low may also negatively affect mortgages should be treated consistently establish itself in light of the market access to credit for manufactured with respect to inflation adjustments. anxiety regarding litigation risk under housing, which disproportionately Accordingly, in new § 1026.43(e)(3)(ii), the ability-to-repay rules, the general serves lower-income consumers and the Bureau provides that the dollar slow recovery of the mortgage market, rural areas. The higher threshold and amounts, including the loan amounts, and the need for creditors to adjust their higher limits on points and fees for shall be adjusted annually to reflect operations to account for several other smaller loans should help to ensure that changes in the Consumer Price Index for major regulatory and capital regimes. In creditors are able to offer qualified All Urban Consumers (CPI–U). The light of these factors, the Bureau has mortgages in rural areas and other areas adjusted amounts will be published in concluded that it is appropriate to where home values are lower. new comment 43(e)(3)(ii)–1. provide a temporary alternative The Bureau declines to adopt the definition of qualified mortgage. This 43(e)(4) Qualified Mortgage Defined— recommendation of one commenter that will help ensure access to responsible, Special Rules it exempt smaller loans for affordable credit is available for manufactured homes from the points As discussed above, the Bureau is consumers with debt-to-income ratios and fees triggers for high-cost mortgages. finalizing the general qualified mortgage above 43 percent and facilitate Section 1431 of the Dodd Frank Act definition in § 1026.43(e)(2). Under that compliance by creditors by promoting provides that a loan of $20,000 or more definition, qualified mortgages would be the use of widely recognized, federally- is deemed a high-cost mortgage if total limited to loans that satisfy the qualified related underwriting standards. points and fees exceed 5 percent of the mortgage product feature criteria in the Under this temporary provision, as a total transaction amount and that a loan statute (including prohibitions on substitute for the general qualified of less than $20,000 is deemed a high- certain risky loan features, limitations mortgage definition in § 1026.43(e)(2), cost mortgage if total points and fees on points and fees, and the requirement which contains a 43 percent debt-to- exceed the lesser of 8 percent of the to underwrite to the maximum rate in income ratio threshold, the final rule total transaction amount or $1,000, or the first five years of the loan), for provides a second definition of qualified other such dollar amount as the Bureau which the creditor considers and mortgage in § 1026.43(e)(4) for loans may prescribe by regulations. Such a verifies the consumer’s income and that meet the prohibitions on certain change is beyond the scope of this assets and current debt obligations, risky loan features (e.g., negative rulemaking and is more appropriately alimony, and child support, and for amortization and interest only features) addressed in the parallel HOEPA which the consumer’s total (or ‘‘back- and the limitations on points and fees rulemaking. end’’) debt-to-income ratio is less than under § 1026.43(e)(2) and are eligible for or equal to 43 percent.154 purchase or guarantee by the GSEs, 43(e)(3)(ii) The Bureau believes this approach while under the conservatorship of the Bona Fide Third-party Charges and establishes an appropriate benchmark FHFA, or eligible to be insured or Bona Fide Discount Points over the long term for distinguishing guaranteed by the U.S. Department of which loans should be presumed to Housing and Urban Development under As discussed in the section-by-section the National Housing Act (12 U.S.C. analysis of § 1026.32(b)(1)(i), the Bureau meet the ability-to-repay requirements under the Dodd-Frank Act, while also 1707 et seq.) (FHA), the VA, the USDA, is moving the provisions excluding or the Rural Housing Service (RHS).155 certain bona fide third-party charges leaving room for the provision of responsible mortgage credit over time to The FHA, VA, USDA, and RHS have and bona fide discount points to authority under the statute to define § 1026.32(b)(1)(i)(D) through (F). The consumers with higher debt-to-income ratios under the general ability-to-repay qualified mortgage standards for their Board had proposed to implement these own loans, so coverage under provisions in proposed § 226.43(e)(3)(ii) 154 As noted above, the Board proposed two § 1026.43(e)(4), will sunset once each through (iv). alternative definitions of qualified mortgage, but agency promulgates its own qualified Indexing Points and Fees Limits for also solicited comment on other alternative mortgage standards, and such rules take definitions. The Board specifically requested effect. See TILA section 129C(b)(3)(ii). Inflation comment on what criteria should be included in the definition of a qualified mortgage to ensure that the Coverage of GSE-eligible loans will The Board requested comment on definition provides an incentive to creditors to sunset when conservatorship ends. whether the loan size ranges for the make qualified mortgages, while also ensuring that Even if the Federal agencies do not qualified mortgage points and fees consumers have the ability to repay those loans. In issue additional rules or limits should be indexed for inflation. A addition, as described above, the Board’s proposed conservatorship does not end, the comment 43(c)-1 would have provided that few industry commenters recommended creditors may look to widely accepted temporary qualified mortgage definition that the loan size ranges or the governmental or non-governmental underwriting in § 1026.43(e)(4) will expire seven permitted dollar amounts of points and standards when assessing a consumer’s repayment fees be adjusted for inflation. The ability under the general ability-to-repay standard, 155 Eligibility standards for the GSEs and Federal Bureau believes that it is appropriate to including assessing the eight specific underwriting agencies are available at: Fannie Mae, Single Family criteria under proposed §§ 226.43(c)(2) and Selling Guide, https://www.fanniemae.com/ adjust the points and fees limits to (e)(2)(v)-Alternative 2. Similarly, proposed content/guide/sel111312.pdf; Freddie Mac, Single- reflect inflation. In addition, the Bureau comment 43(c)(7)–1 would have provided that, to Family Seller/Servicer Guide, http:// notes that, as prescribed by TILA determine the appropriate threshold for monthly www.freddiemac.com/sell/guide/; HUD Handbook section 103(aa)(3), what was originally a debt-to-income ratio or residual income, the 4155.1, http://www.hud.gov/offices/adm/hudclips/ creditor may look to widely accepted governmental handbooks/hsgh/4155.1/41551HSGH.pdf; Lenders $400 points and fees limit for high-cost and non-governmental underwriting standards. As Handbook—VA Pamphlet 26–7, Web Automated loans has been adjusted annually for noted, various commenters suggested that the final Reference Material System (WARMS), http:// inflation, and that the dollar amounts of rule should look to certain Federal agency www.benefits.va.gov/warms/pam26_7.asp; the new high-cost points and fees underwriting standards for purposes of determining Underwriting Guidelines: USDA Rural Development whether a loan has met certain aspects of the Guaranteed Rural Housing Loan Program, http:// thresholds in TILA section qualified mortgage definition (for example, debt-to- www.rurdev.usda.gov/SupportDocuments/CA-SFH- 103(bb)(1)(A)(ii)(II) will also be adjusted income ratios and residual income). GRHUnderwritingGuide.pdf.

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years after the effective date of the rule. effectuating the broader purposes of the guaranteed by the GSEs or insured or The Bureau believes that this will ability-to-repay statute during the guaranteed by the above-listed Federal provide an adequate period for interim period. The Bureau believes that agencies to qualify for the temporary economic, market, and regulatory responsible loans can be made above a definition in § 1026.43(e)(4). Rather, the conditions to stabilize. Because the 43 percent debt-to-income ratio loan need only be eligible for such Bureau is obligated by statute to analyze threshold, and has consciously purchase, guarantee, or insurance. the impact and status of the ability-to- structured the qualified mortgage Notably, the temporary qualified repay rule five years after its effective requirements in a way that leaves room mortgage definition does not include date, the Bureau will have an for responsible lending on both sides of ‘‘jumbo loans.’’ The Bureau does not opportunity to confirm that it is the qualified mortgage line. The believe that creditors making jumbo appropriate to allow the temporary temporary exception has been carefully loans need the benefit of the temporary provision to expire prior to the sunset. structured to cover loans that are exception, as the Bureau views the Covered transactions that satisfy the eligible to be purchased, guaranteed, or jumbo market as already robust and requirements of § 1026.43(e)(4) that are insured by the GSEs (while in stable. Jumbo loans can still be qualified consummated before the sunset of conservatorship) or Federal agencies mortgages if they meet the general rule § 1026.43(e)(4) will retain their qualified regardless of whether the loans are (i.e. are within the 43 percent debt-to- mortgage status after the temporary actually so purchased, guaranteed, or income ratio and underwritten in definition expires. However, a loan insured; this will leave room for private accordance with the general qualified consummated after the sunset of investors to return to the market and mortgage requirements). § 1026.43(e)(4) may only be a qualified secure the same legal protection as the Section 1026.43(e)(4)(iii) contains the mortgage if it satisfies the requirements GSEs and Federal agencies. At the same sunset provisions for the special of § 1026.43(e)(2) or (f). time, as the market recovers and the qualified mortgage definition in The alternative definition of qualified GSEs and FHA are able to reduce their § 1026.43(e)(4). Specifically, mortgage recognizes that the current presence in the market, the percentage § 1026.43(e)(4)(iii)(A) provides that each mortgage market is especially fragile as of loans that are granted qualified respective special rule in a result of the recent mortgage crisis. It mortgage status under the temporary § 1026.43(e)(4)(ii)(B) (FHA loans), also recognizes the government’s definition will shrink towards the long- (e)(4)(ii)(C) (VA loans), (e)(4)(ii)(D) extraordinary efforts to address the term structure. (USDA loans); and (e)(4)(ii)(E) (RHS crisis; GSE-eligible loans, together with loans) shall expire on the effective date the other federally insured or In addition to being a loan that is of a rule issued by each respective guaranteed loans, cover roughly 80 eligible to be made, guaranteed, or agency pursuant to its authority under percent of the current mortgage market. insured by the above-described Federal TILA section 129C(b)(3)(ii) to define a In light of this significant Federal role agencies or the GSEs while in qualified mortgage. Section and the government’s focus on conservatorship, to meet the definition 1026.43(e)(4)(iii)(B) provides that, affordability in the wake of the mortgage of qualified mortgage under unless otherwise expired under crisis, the Bureau believes it is § 1026.43(e)(4), the loan must satisfy the § 1026.43(e)(4)(iii)(A), the special rules appropriate, for the time being, to statutory qualified mortgage criteria in § 1026.43(e)(4) are available only for presume that loans that are eligible for regarding prohibitions on certain risky covered transactions consummated on purchase, guarantee, or insurance by the loan features and limitations on points or before a date that is seven years after designated Federal agencies and the and fees. Specifically, § 1026.43(e)(4)(i) the effective date of this rule. GSEs while under conservatorship have provides that, notwithstanding Comment 43(e)(4)–1 provides been originated with appropriate § 1026.43(e)(2), a qualified mortgage is a additional clarification regarding the consideration of consumers’ ability to covered transaction that satisfies the special qualified mortgage definition. repay, where those loans also satisfy the requirements of § 1026.43(e)(2)(i) Specifically, the comment provides that, requirements of § 1026.43(e)(2) through (iii). As discussed above, those subject to the sunset provided under concerning restrictions on product provisions require: that the loan provide § 1026.43(e)(4)(iii), § 1026.43(e)(4) features and total points and fees for regular periodic payments that do provides an alternative definition of limitations. The temporary definition is not result in an increase of the principal qualified mortgage to the definition carefully calibrated to provide a balance, allow the consumer to defer provided in § 1026.43(e)(2). To be a reasonable transition period to the repayment of principal, or result in a qualified mortgage under general qualified mortgage definition, balloon payments; that the loan term § 1026.43(e)(4), the creditor must satisfy including the 43 percent debt-to-income does not exceed 30 years; and that the the requirements under ratio requirement. While this temporary total points and fees payable in §§ 1026.43(e)(2)(i) through (iii), in definition is in effect, the Bureau will connection with the loan do not exceed addition to being one of the types of monitor the market to ensure it remains the threshold set forth in § 1026.43(e)(3). loans specified in §§ 1026.43(e)(4)(ii)(A) appropriate to presume that the loans As described further below, the through (E). falling within those programs have been temporary definition does not include Comment 43(e)(4)–2 clarifies the originated with appropriate requirements to (1) verify and document effect that a termination of consideration of the consumer’s the consumer’s income or assets relied conservatorship would have on loans repayment ability. The Bureau believes upon in qualifying the consumer; (2) that satisfy the qualified mortgage this temporary approach will ultimately underwrite a fixed rate loan based on a definition under § 1026.43(e)(4) because benefit consumers by minimizing any payment schedule that fully amortizes of their eligibility for purchase or increases in the cost of credit as a result the loan over the term and takes into guarantee by Fannie Mae or Freddie of this rule while the markets adjust to account all applicable taxes, insurance, Mac. The comment provides that the new regulations. and assessments; or (3) underwrite an § 1026.43(e)(4)(ii)(A) requires that a The Bureau believes this temporary adjustable-rate loan using the maximum covered transaction be eligible for alternative definition will provide an interest rate permitted in the first five purchase or guarantee by Fannie Mae or orderly transition period, while years. The Bureau highlights that a loan Freddie Mac (or any limited-life preserving access to credit and need not be actually purchased or regulatory entity succeeding the charter

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of either) operating under the the charter of either) to be a qualified classifications, differentiations, or other conservatorship or receivership of the mortgage. Rather, the loan must be provisions, and that provide for such FHFA pursuant to section 1367 of the eligible for purchase or guarantee by adjustments and exceptions for all or Federal Housing Enterprises Financial Fannie Mae or Freddie Mac (or any any class of transactions, as in the Safety and Soundness Act of 1992 (12 limited-life regulatory entity succeeding judgment of the Bureau are necessary U.S.C. 4617), as amended by the the charter of either), including and proper to effectuate the purposes of Housing and Economic Recovery Act of satisfying any requirements regarding TILA, to prevent circumvention or 2008). The special rule under consideration and verification of a evasion thereof, or to facilitate § 1026.43(e)(4)(ii)(A) does not apply if consumer’s income or assets, current compliance therewith. For the reasons Fannie Mae or Freddie Mac (or any debt obligations, and debt-to-income described above, the Bureau believes the limited-life regulatory entity succeeding ratio or residual income. To determine adjustments to the definition of the charter of either) has ceased eligibility, a creditor may rely on an qualified mortgage are necessary to operating under the conservatorship or underwriting recommendation provided effectuate the purposes of TILA, which receivership of the FHFA. For example, by Fannie Mae and Freddie Mac’s include the above-described purpose of if either Fannie Mae or Freddie Mac (or Automated Underwriting Systems TILA section 129C, among other things, succeeding limited-life regulatory (AUSs) or written guide. Accordingly, a and to facilitate compliance therewith. entity) ceases to operate under the covered transaction is eligible for The Bureau is exercising this conservatorship or receivership of the purchase or guarantee by Fannie Mae or authority to remove certain qualified FHFA, § 1026.43(e)(4)(ii)(A) would no Freddie Mac if: (i) The loan conforms to mortgage statutory criteria, as discussed longer apply to loans eligible for the standards set forth in the Fannie further below, and to add criteria related purchase or guarantee by that entity; Mae Single-Family Selling Guide or the to eligibility for Federal agency however, the special rule would be Freddie Mac Single-Family Seller/ programs and GSEs while available for a loan that is eligible for Servicer Guide; or (ii) the loan receives conservatorship, as outlined above, in purchase or guarantee by the other an ‘‘Approve/Eligible’’ recommendation order to create this qualified mortgage entity still operating under from Desktop Underwriter (DU); or an definition. conservatorship or receivership. ‘‘Accept and Eligible to Purchase’’ As noted above, § 1026.43(e)(4) Comment 43(e)(4)(iii)–3 clarifies that recommendation from Loan Prospector applies to loans that are eligible for the definition of qualified mortgage (LP). guarantee or insurance by the Federal under § 1026.43(e)(4) applies only to The Bureau is finalizing agencies listed above. The provisions of loans consummated on or before a date § 1026.43(e)(4) pursuant to its authority section 1412 apply to all residential that is seven years after the effective under TILA section 129C(b)(3)(B)(i) to mortgage loans, including loans that are date of the rule, regardless of whether prescribe regulations that revise, add to, eligible for and are guaranteed or Fannie Mae or Freddie Mac (or any or subtract from the criteria that define insured by the Federal agencies listed limited-life regulatory entity succeeding a qualified mortgage upon the findings above. However, TILA section the charter of either) continues to described above. The Bureau believes 129C(b)(3)(B)(ii) provides the Federal operate under the conservatorship or the temporary qualified mortgage agencies listed above with authority, in receivership of the FHFA. Accordingly, definition is necessary and proper to consultation with the Bureau, to § 1026.43(e)(4) is available only for ensure that responsible, affordable prescribe rules defining the types of covered transactions consummated on mortgage credit remains available to loans they insure, guarantee or or before the earlier of either: (i) The consumers in a manner consistent with administer, as the case may be, that are date Fannie Mae or Freddie Mac (or any the purposes of TILA section 129C and qualified mortgages and such rules may limited-life regulatory entity succeeding necessary and appropriate to effectuate revise, add to, or subtract from the the charter of either), respectively, cease the purposes of TILA section 129C, criteria used to define a qualified to operate under the conservatorship or which includes assuring that consumers mortgage upon certain findings. receivership of the FHFA pursuant to are offered and receive residential Consistent with this authority, the section 1367 of the Federal Housing mortgage loans on terms that reasonably Bureau leaves to these agencies, in Enterprises Financial Safety and reflect their ability to repay the loan. consultation with the Bureau, further Soundness Act of 1992 (12 U.S.C. 4617), As described above, the Bureau prescribing qualified mortgage rules as amended by the Housing and believes that the provision of qualified defining the types of loans they Economic Recovery Act of 2008; or (ii) mortgage status to loans that are eligible respectively insure, guarantee or a date that is seven years after the for purchase, guarantee, or to be insured administer, and their rules may further effective date of the rule, as provided by by the Federal entities described above revise the qualified mortgage criteria § 1026.43(e)(4)(iii). will provide a smooth transition to a finalized in this rule with respect to Finally, comment 43(e)(4)(iii)–4 more normal mortgage market. these loans. In light of the Federal clarifies that, to satisfy Similarly, the Bureau believes that agencies’ authority in TILA section § 1026.43(e)(4)(ii), a loan need not be including all loans that are eligible to be 129C(b)(3)(B)(ii), § 1026.43(e)(4) will actually purchased or guaranteed by the made, guaranteed, or insured by sunset once each agency has exercised GSEs or insured or guaranteed by the agencies of the Federal government and its authority to promulgate their own FHA, VA, USFA, or RHS. Rather, the GSEs while under conservatorship, qualified mortgage standards. § 1026.43(e)(4)(ii) requires only that the will minimize the risk of disruption as As noted above, the final rule does loan be eligible for such purchase, the market adjusts to the ability-to-repay not specifically include in the guarantee, or insurance. Rather, requirements of this rule. This temporary definition the statutory § 1026.43(e)(4)(ii) requires only that the adjustment to the qualified mortgage requirements to (1) verify and document loan be eligible for such purchase, definition will also facilitate compliance the consumer’s income or assets relied guarantee, or insurance. For example, with the ability-to-repay requirements. upon in qualifying the consumer; (2) for purposes of § 1026.43(e)(4), a The Bureau is also finalizing underwrite a fixed rate loan based on a creditor is not required to sell a loan to § 1026.43(e)(4) pursuant to its authority payment schedule that fully amortizes Fannie Mae or Freddie Mac (or any under TILA section 105(a) to issue the loan over the term and takes into limited-life regulatory entity succeeding regulations with such requirements, account all applicable taxes, insurance,

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and assessments; or (3) underwrite an (1) Operates predominantly in rural or annual originations limit; and (2) the adjustable-rate loan using the maximum underserved areas; (2) together with all retention of balloon-payment mortgages interest rate permitted in the first five affiliates, has total annual residential in portfolio. The proposal also would years. As discussed above, the Bureau mortgage loan originations that do not have implemented the four conditions believes it is appropriate, for the time exceed a limit set by the Bureau; (3) for balloon-payment qualified mortgages being, to presume that loans that are retains the balloon-payment loans in under TILA section 129C(b)(2)(E) and eligible for purchase, guarantee, or portfolio; and (4) meets any asset-size used its adjustment and exception insurance by the designated Federal threshold and any other criteria the authority to add a requirement that the agencies and the GSEs while under Bureau may establish, consistent with loan term be five years or longer. conservatorship have been originated the purposes of this subtitle. In contrast, the Board’s proposal for with appropriate consideration of The four creditor qualifications are the escrows exemption under proposed consumers’ ability to repay where the nearly identical to provisions in section § 226.45(b)(2)(iii) would have required loans satisfy the requirements of 1461 of the Dodd-Frank Act, which that the creditor have (1) in the § 1026.43(e)(2) concerning restrictions authorizes the Bureau under TILA preceding calendar year, have made on product features and total points and section 129D(c) to exempt small more than 50 percent of its first-lien fees limitations. Layering additional and creditors that operate predominantly in mortgages in rural or underserved areas; different underwriting requirements on rural or underserved areas from a (2) together with all affiliates, originated top of the requirements that are unique requirement to establish escrow and retained servicing rights to no more to each loan program would undermine accounts for certain first-lien, higher- than 100 first-lien mortgage debt the purpose of the temporary definition, priced mortgage loans. Specifically, the obligations in either the current or prior namely, to preserve access to credit statute authorizes creation of an calendar year; and (3) together with all during a transition period while the exemption for any creditor that (1) affiliates, not maintained an escrow mortgage industry adjusts to this final operates predominantly in rural or account on any consumer credit secured rule and during a time when the market underserved areas; (2) together with all by real property. The Board also sought is especially fragile. Accordingly, as affiliates has total annual residential comment on whether to add a noted above, the Bureau is using its mortgage transaction originations that requirement for the creditor to meet an authority under TILA section do not exceed a limit set by the Bureau; asset-size limit and what that size 129C(b)(3)(B)(i) to remove these (3) retains its mortgage debt obligations should be. statutory requirements from the in portfolio; and (4) meets any asset-size In both cases, the Board proposed to qualified mortgage definition in thresholds and any other criteria that use a narrow definition of rural based § 1026.43(e)(4). For similar reasons the the Bureau may establish. on the Economic Research Service (ERS) Bureau is not requiring that loans that The Board interpreted the two of the USDA’s ‘‘urban influence codes’’ meet this qualified mortgage definition provisions as serving similar but not (UICs). The UICs are based on the meet the 43 percent debt-to-income ratio identical purposes, and thus varied definitions of ‘‘metropolitan statistical requirement in § 1026.43(e)(2). The certain aspects of the proposals to areas’’ of at least one million residents eligibility requirements of the GSEs and implement the balloon-payment and ‘‘micropolitan statistical areas’’ Federal agencies incorporate debt-to- qualified mortgage and escrow with a town of at least 2,500 residents, income ratio thresholds. However, the provisions. Specifically, the Board as developed by the Office of GSEs and Federal agencies also permit interpreted the qualified mortgage Management and Budget, along with consideration of certain compensating provision as being designed to ensure other factors reviewed by the ERS that factors that are unique to each loan access to credit in rural and place counties into twelve separately program. The Bureau declines to layer underserved areas where consumers defined UICs depending on the size of an additional debt-to-income ratio may be able to obtain credit only from the largest city and town in the county. requirement to avoid undermining the community banks offering balloon- The Board’s proposal would have purpose of the temporary qualified payment mortgages, and the escrow limited the definition of rural to certain mortgage definition. provision to exempt creditors that do ‘‘non-core’’ counties that are not located not possess economies of scale to cost- in or adjacent to any metropolitan or 43(f) Balloon-Payment Qualified effectively offset the burden of micropolitan area. This definition Mortgages Made by Certain Creditors establishing escrow accounts by corresponded with UICs of 7, 10, 11, TILA section 129C(b)(2)(E) authorizes maintaining a certain minimum and 12, which would have covered the Bureau to permit qualified portfolio size from being required to areas in which only 2.3 percent of the mortgages with balloon payments, establish escrow accounts on higher- nation’s population lives. provided the loans meet four priced mortgage loans. Accordingly, the In light of the overlap in criteria conditions. Specifically, those two Board proposals would have used between the balloon-payment qualified conditions are that: (1) The loan meets common definitions of ‘‘rural’’ and mortgage and escrow exemption certain of the criteria for a qualified ‘‘underserved,’’ but did not provide provisions, the Bureau considered mortgage; (2) the creditor makes a uniformity in calculating and defining comments responding to both proposals determination that the consumer is able various other elements. For the balloon in determining how to finalize the to make all scheduled payments, except balloon-payment qualified mortgage particular elements of each rule as the balloon payment, out of income or provisions, for instance, the Board’s discussed further below. With regard to assets other than the collateral; (3) the proposed § 226.43(f) would have permitting qualified mortgages with loan is underwritten based on a required that the creditor (1) in the balloon payments generally, consumer payment schedule that fully amortizes preceding calendar year, have made group commenters stated that the the loan over a period of not more than more than 50 percent of its balloon- balloon-payment qualified mortgage 30 years and takes into account all payment mortgages in rural or exemption is a discretionary provision, applicable taxes, insurance, and underserved areas; and (2) have assets as TILA section 129C(b)(2)(E) states that assessments; and (4) the creditor meets that did not exceed $2 billion. The the Bureau ‘‘may’’ provide an four prescribed qualifications. Those Board proposed two alternatives each exemption for balloon-payment four qualifications are that the creditor: for qualifications relating to (1) the total mortgages to be qualified mortgages, and

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stated that such an exemption should a balloon payment when due. Thus, quantify, verify, and communicate not be provided in the final rule because ordinarily a consumer facing a balloon through the normal transmission such exemption would have a negative payment must obtain new financing. channels of banking organization.’’ 156 effect on consumers’ access to Depending on market conditions at the While it is not possible to disaggregate responsible and affordable credit. Trade time and also the consumer’s own the impact of each of the elements of the association and industry commenters economic circumstances, consumers community banking model, the generally supported the balloon- may find it difficult to obtain affordable combined effect is highly beneficial. payment qualified mortgage exemption, credit. Some consumers may be forced Moreover, where consumers have with some comments related to the to sell their homes to pay off the trouble paying their mortgage debt specific provisions that are discussed balloon-payment mortgage. Others may obligations, small portfolio creditors below. One trade association find it necessary to take on a new loan have strong incentives to work with the commented that the exemption should on terms that create hardships for the consumers to get them back on track, extend to all balloon-payment mortgages consumers. Unscrupulous lenders may both to protect the creditors’ balance held in portfolio by financial seek to take advantage of consumers sheets and their reputations in their institutions; as such a broader faced with the necessity of making a local communities. Market-wide data exemption would achieve Congress’s balloon payment by offering loans on demonstrate that loan delinquency and intent as well as reduce the difficulty predatory terms. charge-off rates are significantly lower at that creditors would have in complying On the other hand, in rural and other smaller banks than larger ones.157 with the requirements in the proposal. underserved areas, it is not uncommon The Bureau believes that these kinds Three trade associations and several for consumers to seek a mortgage loan of considerations underlay Congress’s industry commenters commented that of a type that cannot be sold on the decision to authorize the Bureau to the balloon-payment qualified mortgage secondary market, because of special establish an exemption under TILA exemption was needed to ensure access characteristics of either the property in section 129C(b)(2)(E) to ensure access to to credit for consumers in rural areas question or the consumer. Many credit in rural and underserved areas because smaller institutions in those community banks make mortgages that where consumers may be able to obtain areas use balloon-payment mortgages to are held in portfolio in these credit only from such community banks control interest rate risk. circumstances. To manage interest rate offering these balloon-payment The Bureau believes Congress enacted risk and avoid complexities in mortgages. Thus, the Bureau concludes the exemption in TILA section originating and servicing adjustable rate that exercising its authority is 129C(b)(2)(E) because it was concerned mortgages, these banks generally make appropriate, but also that the exemption that the restrictions on balloon-payment balloon-payment mortgage loans which should implement the statutory criteria mortgages under the ability to repay and the banks roll over, at then current to ensure it effectuates Congress’s general qualified mortgage provisions market interest rate, when the balloon- intent. Accordingly, as discussed in might unduly constrain access to credit payment mortgage comes due. For more detail below, the Bureau adopts in rural and underserved areas, where example, data available through the § 1026.43(f) largely as proposed but with consumers may be able to obtain credit National Credit Union Administration certain changes described below to only from a limited number of creditors, indicates that among credit unions implement TILA section 129C(b)(2)(E). including some community banks that which make mortgages in rural areas In particular, the Bureau has may offer only balloon-payment (using the definition of rural described concluded that it is appropriate to make mortgages. Because Congress explicitly below), 25 percent make only balloon- the specific creditor qualifications much set out detailed criteria, indicating that payment or hybrid mortgages. more consistent between the balloon- it did not intend to exclude balloon- There are also substantial data payment qualified mortgage and escrow payment mortgages from treatment as suggesting that the small portfolio exemptions than originally proposed by qualified mortgages that meet those creditors that are most likely to rely on the Board.158 The Bureau believes that criteria, and the Bureau is implementing balloon-payment mortgages to manage this approach is justified by several the statutory exemption for balloon- their interest rate risks (or to have considerations, including the largely payment mortgages to be qualified difficulty maintaining escrow accounts) identical statutory language, the similar mortgages provided they meet the have a significantly better track record congressional intents underlying the conditions described below. The Bureau than larger creditors with regard to loan two provisions, and the fact that believes those criteria reflect a careful performance. As discussed in more requiring small creditors operating judgment by Congress concerning the depth in the 2013 ATR Concurrent predominantly in rural or underserved circumstances in which the potential Proposal, because small portfolio negative impact from restricting lenders retain a higher percentage of 156 See Allen N. Berger & Gregory F. Udell, Small consumers’ access to responsible and their loans on their own books, they Business Credit Availability and Relationship Lending: The Importance of Bank Organizational affordable credit would outweigh any have strong incentives to engage in Structure, 112 Econ. J. F32 (2002). benefit of prohibiting qualified thorough underwriting. To minimize 157 See 2013 ATR Concurrent Proposal; Fed. mortgages from providing for balloon performance risk, small community Deposit Ins. Corp., FDIC Community Banking payments. The Bureau therefore lenders have developed underwriting Study, (Dec. 2012), available at http://fdic.gov/ standards that are different than those regulations/resources/cbi/study.html. believes that the scope of the exemption 158 The Bureau has similarly attempted to provided in this final rule implements employed by larger institutions. Small maintain consistency between the asset size, annual Congress’s judgment as to the proper lenders generally engage in originations threshold, and requirements balance between those two imperatives. ‘‘relationship banking,’’ in which concerning portfolio loans as between the final The Bureau believes that there are underwriting decisions rely at least in rules that it is adopting with regard to balloon qualified mortgages and the escrow exemption and compelling reasons underlying part on qualitative information gained its separate proposal to create a new type of Congress’s decision not to allow from personal relationships between qualified mortgages originated and held by small balloon-payment mortgages to enjoy lenders and consumers. This qualitative portfolio creditors. The Bureau is seeking comment qualified-mortgage status except in information focuses on subjective in that proposal on these elements and on whether other adjustments are appropriate to the existing carefully limited circumstances. It is the factors such as consumer character and rules to maintain continuity and reduce compliance rare consumer who can afford to make reliability which ‘‘may be difficult to burden. See 2013 ATR Concurrent Proposal.

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areas to track overlapping but not payment mortgages permit the and (e)(2)(v). These requirements are identical sets of technical criteria for consumer to defer repayment of similar to the requirements in the each separate provision could create principal. Additionally, a qualified Board’s proposal, except that they are unwarranted compliance burden that mortgage must explicitly fully amortize stated as affirmative requirements itself would frustrate the intent of the the loan amount over the loan term and instead of excluding qualified mortgage statutes. Although the Bureau has recast explicitly cannot result in a balloon requirements that are not required to be and loosened some of the criteria in payment under TILA section considered for balloon-payment order to promote consistency, the 129C(b)(2)(A). Since TILA section qualified mortgages. Bureau has carefully calibrated the 129C(b)(2)(A) contains these provisions, Section 1026.43(f)(1)(i), by exclusion, changes to further the purposes of each TILA section 129C(b)(2)(E) exempts exempts balloon-payment qualified rulemaking and in light of the evidence balloon-payment qualified mortgages mortgages from the requirements in suggesting that small portfolio lenders’ from meeting those requirements. TILA § 1026.43(e)(2)(i)(B), (e)(2)(i)(C), relationship banking model provides section 129C(b)(2)(E) has additional (e)(2)(iv), and (e)(2)(vi), which use significant consumer protections in its requirements that a creditor consider calculation methodologies that would own right. the consumer’s ability to repay the make the origination of balloon- For the foregoing reasons, the Bureau scheduled payments using a calculation payment qualified mortgages difficult, if is adopting § 1026.43(f)(1)(vi) to methodology appropriate for a balloon- not impossible. The requirements in implement TILA section payment mortgage. subsequent provisions of § 1026.43(f)(1) 129C(b)(2)(E)(iv) by providing that a Accordingly, the Bureau is adjusting are adopted below to require the balloon loan that meets the other criteria the ability-to-repay requirements consideration of scheduled payments specified in the regulation is a qualified generally applicable to qualified and the debt-to-income ratio made in mortgage if the creditor: (1) In the mortgages under § 1026.43(e)(2) for the conjunction with alternative calculation preceding calendar year made more balloon-payment qualified mortgage methodologies that are appropriate for than 50 percent of its covered exemption. Requirements that are the balloon-payment qualified mortgages. transactions secured by a first lien in same in both the generally applicable Comment 43(f)(1)(i)–1 clarifies that a counties designated by the Bureau as qualified mortgage requirements and the balloon-payment qualified mortgage ‘‘rural’’ or ‘‘underserved’’; (2) together balloon-payment qualified mortgage under this exemption must provide for with all affiliates extended 500 or fewer exemption are specifically described in regular periodic payments that do not first-lien covered transactions in the paragraph (f)(1)(i). The requirements in result in an increase of the principal preceding calendar year; and (3) has the generally applicable qualified balance as required by total assets that are less than $2 billion, mortgage requirements that are § 1026.43(e)(2)(i)(A), must have a loan adjusted annually for inflation. The inapplicable, for the reasons described term that does not exceed 30 years as final rule also creates greater parallelism below, to the balloon-payment qualified required by § 1026.43(e)(2)(ii), must with the escrow provision with regard mortgage exemption are replaced by have total points and fees that do not to the requirement that the affected requirements in paragraph (f)(1)(ii), (iii) exceed specified thresholds pursuant to loans be held in portfolio by requiring and (iv) that specifically address the § 1026.43(e)(2)(iii), and must satisfy the in both rules that the transactions not be provisions inherent in balloon-payment consideration and verification subject to a ‘‘forward commitment’’ mortgages. requirements in § 1026.43(e)(2)(v). agreement to sell the loan at the time of 43(f)(1)(i) 43(f)(1)(ii) consummation. These qualifications and the other requirements under the final TILA section 129C(b)(2)(E)(i) requires TILA section 129C(b)(2)(E)(ii) requires rule are discussed in more detail below. that a balloon-payment qualified a creditor making a balloon-payment mortgage meet all of the criteria for a qualified mortgage to determine that the 43(f)(1) Exemption qualified mortgage, except for the consumer is able to make all scheduled The Bureau believes that the provisions that require the loan to have: payments, except the balloon payment, provisions of TILA section 129C(b)(2)(E) (1) Regular periodic payments that out of income and assets other than the are designed to require that balloon- provide for the complete repayment of collateral. TILA section payment qualified mortgages meet the principal over the loan term, (2) terms 129C(b)(2)(E)(iii) requires a creditor same criteria for qualified mortgages as that do not result in a balloon payment, making a balloon-payment qualified described in TILA section 129C(b)(2)(A), and (3) a payment schedule that fully mortgage to determine, among other except where the nature of the balloon- amortizes the mortgage over the loan things, that the scheduled payments payment mortgage itself requires term taking into account all applicable include mortgage-related obligations. adjustment to the general rules. In TILA taxes, insurance and assessments. The Proposed § 226.43(f)(1)(ii) would have section 129C(b)(2)(A), a qualified Board’s proposed § 226.43(f)(1)(i) would required that the creditor determine that mortgage cannot allow the consumer to have implemented this provision by the consumer can make all of the defer repayment of principal. Deferred requiring that balloon-payment scheduled payments, except for the principal repayment may occur if the qualified mortgages meet the same balloon payment, from the consumer’s payment is applied to both accrued requirements for other qualified current or reasonably expected income interest and principal but the consumer mortgages, except for specific provisions or assets other than the dwelling that makes periodic payments that are less of § 226.43(e)(2) that would not have to secures the loan. Commenters did not than the amount that would be required be considered. Commenters did not address this requirement specifically. under a payment schedule that has address these requirements specifically. The Bureau is adopting substantially equal payments that fully The Bureau is adopting § 1026.43(f)(1)(i) § 1026.43(f)(1)(ii) to implement TILA repay the loan amount over the loan to implement TILA section section 129C(b)(2)(E)(ii) and a portion of term. The scheduled payments that fully 129C(b)(2)(E)(i) by providing that a TILA section 129C(b)(2)(E)(iii) by repay a balloon-payment mortgage over balloon-payment qualified mortgage requiring a creditor to determine that the loan term include the balloon must meet the criteria for a qualified the consumer can make all of the payment itself and, therefore, are not mortgage as required by payments under the terms of the legal substantially equal. Thus, balloon- § 1026.43(e)(2)(i)(A), (e)(2)(ii), (e)(2)(iii), obligation, as described in

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§ 1026.43(f)(1)(iv)(A), together with all using the calculation methodology evasion thereof, or to facilitate mortgage-related obligations and described in § 1026.43(f)(iv)(A), together compliance with such sections.’’ A excluding the balloon payment, from with all mortgage-related obligations purpose of TILA section 129C, among the consumer’s income or assets other and excluding the balloon payment. other things, is to ensure that consumers than the dwelling that secures the loan. Comment 43(f)(1)(iii)–1 clarifies that the are offered and receive loans on terms Comment 43(f)(1)(ii)–1 provides an calculation required under that they are reasonably able to repay. example to illustrate the calculation of § 1026.43(c)(7)(i)(A) should be made See TILA section 129B(a)(2). The the monthly payment on which this using the payment calculation Bureau believes that a creditor determination must be based. Comment methodology under considering and verifying the 43(f)(1)(ii)–2 provides additional § 1026.43(f)(1)(iv)(A), together with all consumer’s monthly debt-to-income clarification on how a creditor may mortgage-related obligations and ratio or residual income in order for the make the required determination that excluding the balloon payment, in order balloon-payment mortgage to qualify as the consumer is able to make all to comply with § 1026.43(f)(1)(iii). a balloon-payment qualified mortgage is scheduled payments other than the At the same time, however, the necessary, proper, and appropriate both balloon payment. Bureau declines to impose a specific to effectuate the purposes of TILA debt-to-income or residual threshold for section 129C to prevent circumvention 43(f)(1)(iii) this category of qualified mortgages or evasion thereof and to ensure that TILA section 129C(b)(3)(B)(i) permits because, as discussed above, the Bureau responsible, affordable mortgage credit the addition of additional requirements believes that small creditors excel at remains available to consumers in a or revision of the criteria that define a making highly individualized manner consistent with the purposes of qualified mortgage upon the finds determinations of ability to repay that this section. For these reasons, the discussed below. The Board’s proposal take into consideration the unique Bureau believes that § 1026.43(f)(1)(iii), did not include an explicit requirement characteristics and financial in requiring a creditor considering and to consider the consumer’s debt-to- circumstances of the particular verifying the consumer’s monthly debt- income ratio in relation to a balloon- consumer. While the Bureau believes to-income ratio or residual income in payment qualified mortgage. The Board, that many creditors can make mortgage order for the balloon-payment mortgage however, sought comment on what loans with consumer debt-to-income to qualify as a balloon-payment criteria should be included in the ratios above 43 percent that consumers qualified mortgage, effectuates the definition of a qualified mortgage to are able to repay, the Bureau believes purposes of TILA section 129C and ensure that the definition provides an that portfolio loans made by small prevents circumvention or evasion incentive to creditors to make qualified creditors are particularly likely to be thereof. mortgages, while also ensuring that made responsibly and to be affordable In addition the Bureau invokes its consumers have the ability to repay for the consumer even if such loans authority under section 105(a) in order qualified mortgages. One commenter exceed the 43 percent threshold. The to add the above qualification for a advocated eliminating the balloon- Bureau therefore believes that it is balloon-payment qualified mortgage. payment qualified mortgage exemption appropriate to presume compliance Section 105(a) authorizes the Bureau to completely as they recommended that even above the 43 percent threshold for issue regulations that, among other balloon-payment mortgages should not small creditors who meet the other things, contain such additional be permitted at all, but rather suggested criteria in § 1026.43(f). The Bureau requirements, other provisions, or that that the Board and Bureau take steps to believes that the discipline imposed provide for such adjustments for all or make the balloon-payment qualified when small creditors make loans that any class of transactions, that in the mortgage exemption rare. they will hold in their portfolio is Bureau’s judgment are necessary or As discussed above with regard to sufficient to protect consumers’ interests proper to effectuate the purposes of other categories of qualified mortgages, in this regard. Because the Bureau is not TILA, which include the above purpose the Bureau believes consideration of proposing a specific limit on consumer of section 129C, among other things. See debt-to-income ratio or residual income debt-to-income ratio, the Bureau does 15 U.S.C. 1604(a). The Bureau believes is fundamental to any determination of not believe it is necessary to require that this addition to the qualified ability to repay. A consumer is able to creditors to calculate debt-to-income mortgage criteria is necessary and repay a loan if he or she has sufficient ratio in accordance with a particular proper to achieve this purpose. funds to pay his or her other obligations standard such as that set forth in 43(f)(1)(iv) and expenses and still make the appendix Q. payments required by the terms of the In adopting this requirement, the TILA section 126C(b)(2)(E)(iii) and the loan. Thus, debt-to-income comparisons Bureau is adding a condition for a Board proposal require that the loan be provide a valuable predictive metric in balloon-payment qualified mortgage that underwritten with specific payment assessing the consumer’s repayment is not established by TILA section calculation methodologies to qualify as ability. The Bureau believes that it 129C(b)(2)(E). The Bureau adds this a balloon-payment qualified mortgage. would be inconsistent with condition pursuant to TILA section The underwriting of a loan is based on congressional intent to have balloon- 129C(b)(3)(B)(i), which authorizes the the terms of the legal obligation. The payment qualified mortgages not meet Bureau ‘‘to revise, add to, or subtract general requirements of a qualified those same requirements, as modified to from the criteria that define a qualified mortgage in § 1026.43(e)(2) govern loans the particular nature of a balloon- mortgage upon a finding that such secured by real property or a dwelling payment mortgage. regulations are necessary or proper to with multiple methods of payment Accordingly, the Bureau is adopting ensure that responsible, affordable calculations, terms, and conditions. § 1026.43(f)(1)(iii) to provide that, to mortgage credit remains available to However, unlike other the types of make a balloon-payment qualified consumers in a manner consistent with qualified mortgage, the balloon-payment mortgage, a creditor must consider and the purposes of this section, necessary qualified mortgage deals with a specific verify the consumer’s monthly debt-to- and appropriate to effectuate the type of transaction, a balloon-payment income ratio or residual income in purposes of this section and Section mortgage, with specific characteristics accordance with § 1026.43(c)(7) by 129B, to prevent circumvention or that are described in the legal

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obligation. Therefore, the Bureau contrary to the intent of Congress mortgage upon a finding that such considers the requirement of TILA requiring amortizing payments as a regulations are necessary or proper to section 129C(b)(2)(E)(iii) to be requirement of a qualified mortgage, as ensure that responsible, affordable requirements relating to the terms of the interest-only payments do not provide mortgage credit remains available to legal obligation of the loan. any reduction in principal. Accordingly, consumers in a manner consistent with Accordingly, the Bureau is adopting the Bureau is adding comment the purposes of this section, necessary § 1026.43(f)(1)(iv), requiring the legal 43(f)(1)(iv)–2 which clarifies that a loan and appropriate to effectuate the obligation of a balloon-payment that provides for interest-only payments purposes of this section and Section qualified mortgage to have the following cannot qualify for the balloon-payment 129B, to prevent circumvention or terms: (1) Scheduled payments that are qualified mortgage exemption, because evasion thereof, or to facilitate substantially equal and calculated on an it would not require the consumer to compliance with such sections.’’ A amortization period that does not make any payments towards the purpose of TILA section 129C is to exceed 30 years; (2) the interest rate principal balance of the loan contrary to ensure that consumers are offered and does not vary during the loan term, and the requirement that the scheduled receive loans on terms that they are (3) the loan term is for five years or payments result in amortization of the reasonably able to repay. See TILA longer. loan for a period that does not exceed section 129B(a)(2). The Bureau believes 30 years. that requiring the legal obligation of a Scheduled Payments balloon-payment qualified mortgage to Fixed Interest Rate TILA section 129C(b)(2)(E)(iii) contain an interest rate that does not requires that a balloon-payment TILA section 129C(b)(3)(B)(i) permits increase during the loan term is qualified mortgage must be the addition of additional requirements necessary, proper, and appropriate both underwritten based on a payment upon the finding that such regulations to effectuate the purposes of TILA schedule that fully amortizes the loan are necessary or proper to ensure that section 129C and to prevent over a period of not more than 30 years responsible, affordable mortgage credit circumvention or evasion thereof and to and takes into account all applicable remains available to consumers. The ensure that responsible, affordable taxes, insurance, and assessments. The Board’s proposal did not include any mortgage credit remains available to Board’s proposed § 226.43(f)(1)(iii) restrictions on the interest rate terms of consumers in a manner consistent with incorporated this statutory requirement. the loan, but did observe that the purposes of this section. For these Commenters did not address this community banks appear to originate reasons, the Bureau believes that requirement specifically. balloon-payment mortgages to hedge § 1026.43(f)(1)(iv)(B), in requiring the The Bureau is adopting the Board’s against interest-rate risk. The Board legal obligation of a balloon-payment proposal and implements sought comment on what criteria should qualified mortgage to contain an interest § 1026.43(f)(1)(iv) to require that the be included in the definition of a rate that does not increase during the scheduled payments, on which the qualified mortgage to ensure that the loan term, effectuates the purposes of determinations required by definition provides an incentive to TILA section 129C and prevents § 1026.43(f)(1)(ii) and (f)(1)(iii) are creditors to make qualified mortgages, circumvention or evasion thereof. based, are calculated using an while also ensuring that consumers In addition the Bureau invokes its amortization period that does not have the ability to repay qualified authority under section 105(a) in order exceed 30 years. The requirement that mortgages. to add the above qualification for a the payments include all mortgage- The Bureau believes that the purpose balloon-payment qualified mortgage. related obligations is required as part of of the exemption was to permit balloon- Section 105(a) authorizes the Bureau to § 1026.43(f)(1)(ii), above. The Bureau payment mortgages to be originated for issue regulations that, among other believes that the underwriting those consumers that still need or want things, contain such additional referenced in TILA section them, and to permit competition requirements, other provisions, or that 129C(b)(2)(E)(iii) corresponds to the between creditors that address interest provide for such adjustments for all or determination of the consumer’s rate risk through the use of adjustable any class of transactions, that in the repayment ability referenced in TILA rate mortgages and those creditors that Bureau’s judgment are necessary or section 129C(b)(2)(E)(ii). Comment address interest rate risk through the use proper to effectuate the purposes of 43(f)(1)(iv)–1 clarifies that the of balloon-payment mortgages. The TILA, which include the above purpose amortization period used to determine Bureau believes that creditors that have of Section 129C, among other things. the scheduled periodic payments that the infrastructure and resources to See 15 U.S.C. 1604(a). The Bureau the consumer must pay under the terms originate adjustable rate mortgages do believes that this addition to the of the legal obligation may not exceed not need to resort to the use of balloon- qualified mortgage criteria is necessary 30 years. payment mortgages to address interest and proper to achieve this purpose. In its proposal, the Board sought rate risk. Accordingly, the Bureau is comment on whether a balloon-payment adopting § 1026.43(f)(1)(iv)(B), which Loan Term of Five Years or Longer mortgage with interest-only payments requires that the legal obligation of a TILA section 129C(b)(3)(B)(i) permits should qualify for the balloon-payment balloon-payment qualified mortgage the adoption of additional requirements exemption. One association of State must include an interest rate that will upon the finding that such regulations bank regulators commented that loans not increase during the term of the loan. are necessary or proper to ensure that with interest-only payments would be In adopting this requirement, the responsible, affordable mortgage credit properly excluded from the exemption Bureau is adding a condition for a remains available to consumers. The in order to permit the exemption to be balloon-payment qualified mortgage that Board’s proposed § 226.43(f)(1)(iv) available only to those institutions that is not established by TILA section would have included the addition of a appropriately utilize the balloon- 129C(b)(2)(E). The Bureau adds this requirement that a balloon-payment payment mortgages to mitigate interest condition pursuant to TILA section qualified mortgage must have a loan rate risk. The Bureau agrees with this 129C(b)(3)(B)(i), which authorizes the term of five years or longer. One assessment and believes that permitting Bureau ‘‘to revise, add to, or subtract association of State bank regulators and interest-only payments would be from the criteria that define a qualified an industry trade group commented that

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the five-year term requirement was 129C(b)(2)(E). The Bureau adds this in rural or underserved areas; (2) appropriate, as the time period is condition pursuant to TILA section together with all affiliates, has total consistent with other provisions of the 129C(b)(3)(B)(i), which authorizes the annual residential mortgage loan proposed rule. One industry trade group Bureau ‘‘to revise, add to, or subtract originations that do not exceed a limit and one industry commenter from the criteria that define a qualified set by the Bureau; (3) retains the commented that three years would be a mortgage upon a finding that such balloon-payment loans in portfolio; and more appropriate term because some of regulations are necessary or proper to (4) meets any asset-size threshold and the creditors that would qualify under ensure that responsible, affordable any other criteria as the Bureau may proposed § 226.43(f)(1)(v) utilize three- mortgage credit remains available to establish. The Board proposed year terms. The Bureau is not persuaded consumers in a manner consistent with § 226.43(f)(1)(v) to impose specific that the exemption was meant by the purposes of this section, necessary requirements to implement some of Congress to permit any current business and appropriate to effectuate the these elements and sought comment on practice of creditors that would satisfy purposes of this section and Section alternatives to implement others. the requirements of proposed 129B, to prevent circumvention or Specifically, the Board: (1) Proposed a § 226.43(f)(1)(v), rather the exemption evasion thereof, or to facilitate requirement that the creditor in the was meant to provide a reasonable compliance with such sections.’’ A preceding year made more than 50 exemption for some balloon-payment purpose of TILA section 129C is to percent of its balloon-payment mortgages that still meet other ensure that consumers are offered and mortgages in rural or underserved areas; requirements of a qualified mortgage. receive loans on terms that they are (2) sought comment on whether to adopt The Bureau notes that the statute reasonably able to repay. See TILA an annual originations limit based on requires underwriting for an adjustable- section 129B(a)(2). For the reasons either the total volume of mortgages or rate qualified mortgage to be based on discussed above, the Bureau believes the total number of mortgages made in the maximum interest rate permitted that a minimum loan term for balloon- the last year by the creditor, together during the first five years. See TILA payment mortgages is necessary and with affiliates, without proposing a Section 129C(b)(2)(A)(v). Therefore, the appropriate both to effectuate the specific threshold; (3) sought comment Bureau is adopting the Board’s proposal purposes of TILA section 129C and to on two alternatives to implement the by implementing § 1026.43(f)(1)(iv)(C) prevent circumvention or evasion portfolio requirement by revoking a requiring a loan term of five years or thereof. For these reasons, the Bureau creditor’s ability to make balloon- longer because it reflects the statutory believes that § 1026.43(f)(1)(iv)(C), in payment qualified mortgages if the intent that five years is a reasonable limiting the exemption for balloon- creditor sold any balloon-payment period to repay a loan. Since other payment qualified mortgages to covered mortgages either in the last year or at requirements of a qualified mortgage transactions with loan terms of at least any time after the final rule was include a review of the mortgage over a five years and thus ensuring that such adopted; and alternatives, and (4) did five-year term, it would be more products truly support mortgage not have assets that exceeded $2 billion, consistent with the intent of the affordability, effectuates the purposes of adjusted annually for inflation. exemption for the balloon-payment TILA section 129C and prevents In contrast, the Board’s escrows mortgage to have at least a five-year circumvention or evasion thereof. The proposal would have implemented term. Bureau also believes this minimum loan nearly identical statutory requirements The Bureau believes that it is term for balloon-payment qualified under TILA 129D(c) by requiring that appropriate to structure the exemption mortgages is necessary, proper, and the creditor (1) in the preceding to prevent balloon-payment mortgages appropriate to ensure that responsible, calendar year, have made more than 50 with very short loan terms from being affordable mortgage credit remains percent of its first-lien mortgages in qualified mortgages because such loans available to consumers in a manner rural or underserved areas; (2) together would present certain risks to consistent with the purposes of Section with all affiliates, originated and consumers. A consumer with a loan 129C. term of less than five years, particularly In addition the Bureau invokes its retained servicing rights to no more than where the amortization period is authority under section 105(a) in order 100 first-lien mortgage debt obligations especially long, would face a balloon to add the above qualification for a in either the current or prior calendar payment soon after consummation, in balloon-payment qualified mortgage. year; and (3) not be permitted to invoke an amount virtually equal to the original Section 105(a) authorizes the Bureau to the exception for any first-lien higher- loan amount. The consumer would issue regulations that, among other priced mortgage loan that was subject to establish little equity in the property things, contain such additional a ‘‘forward commitment’’ to sell the loan under such terms, and if the pattern is requirements, other provisions, or that at the time of consummation. The Board repeated the consumer may never make provide for such adjustments for all or also sought comment on whether to any significant progress toward owning any class of transactions, that in the impose an asset limit without proposing the home unencumbered. Thus, the Bureau’s judgment are necessary or a specific threshold, and proposed to greater the difference between a balloon- proper to effectuate the purposes of impose a further requirement that the payment mortgage’s amortization period TILA, which include the above purpose creditor and its affiliates not maintain and its loan term, the more likely the of Section 129C, among other things. escrow accounts for any other loans in consumer would face this problem. The See 15 U.S.C. 1604(a). The Bureau order to be eligible for the exception. Bureau’s requirement of a minimum believes that this addition to the As stated above, the Bureau has term therefore complements the 30-year qualified mortgage criteria is necessary considered the comments received maximum amortization period and proper to achieve this purpose. under both proposals regarding prescribed by TILA section implementation of the largely identical 129C(b)(2)(E)(iii). 43(f)(1)(v) and (vi) statutory criteria, and has concluded In adopting this requirement, the TILA section 129C(b)(2)(E)(iv) that it is appropriate to create a much Bureau is adding a condition for a includes among the conditions for a higher degree of consistency between balloon-payment qualified mortgage that balloon-payment qualified mortgage that the elements in the two individual is not established by TILA section the creditor (1) operates predominantly rules. Implementation of each of the

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statutory elements is discussed further assurance of a committed buyer before In adopting this requirement, the below. extending the credit. Bureau is adding a condition for a balloon-payment qualified mortgage that Holding of Balloon-Payment Mortgages Comments received on the escrows is not established by TILA section in Portfolio proposal had a divergence of opinion on how the forward commitment 129C(b)(2)(E). The Bureau is adopting TILA section 129C(b)(E)(iv) requires requirement would work in practice. § 1026.43(f)(1)(vi) pursuant to TILA that the lender keep balloon-payment One trade association commenter stated section 129C(b)(3)(B)(i), which mortgages in portfolio. The Board that the forward commitment authorizes the Bureau ‘‘to revise, add to, proposed to implement this requirement requirement would prevent creditors or subtract from the criteria that define by removing a creditor’s eligibility for from selling portfolio mortgage debt a qualified mortgage upon a finding that the exemption under proposed obligations in the future. This appears to such regulations are necessary or proper § 226.43(f)(1)(v)(C) if it sold a balloon- be a misreading of the Board’s 2011 to ensure that responsible, affordable payment mortgage during two Escrows Proposal, as it would not have mortgage credit remains available to alternative periods, one that would restricted the sale of higher-priced consumers in a manner consistent with cover any time after the adoption of the mortgage loans. Instead, the proposed the purposes of this section, necessary final rule and another that would look forward commitment requirement and appropriate to effectuate the only to sales during the preceding or provided that, so long as the higher- purposes of this section and Section current calendar year. The Board priced mortgage loan was not subject to 129B, to prevent circumvention or concluded that this was the best a forward commitment at the time of evasion thereof, or to facilitate approach to implement the statutory consummation, the higher-priced compliance with such sections.’’ A requirement in the qualified mortgage mortgage loan could be sold on the purpose of TILA section 129C is to context because it would allow a secondary market without requiring an ensure that consumers are offered and creditor to determine at consummation escrow account to be established at that receive loans on terms that they are whether a particular balloon-payment time. One consumer advocacy group, reasonably able to repay. See TILA loan was eligible to be a qualified concerned about the possibility that section 129B(a)(2). The Bureau believes mortgage and allow the loan to maintain creditors would use the provision to that the prohibition on mortgages such status even if it were sold, while skirt the escrow requirements, suggested originated in conjunction with a creating strong safeguards against a blanket rule that higher-priced forward commitment from qualifying as gaming of the exception by revoking the mortgage loans that are exempt must be a balloon-payment qualified mortgage is creditor’s ability to invoke the maintained in the portfolio of the necessary, proper, and appropriate both provisions if they began selling such creditor or, alternatively, that upon sale to effectuate the purposes of TILA loans to other holders. secondary market purchasers must be section 129C and to prevent In contrast, the Board’s 2011 Escrows required to establish escrow accounts circumvention or evasion thereof. For Proposal would have implemented a for such mortgage debt obligations. these reasons, the Bureau believes that parallel statutory requirement under After consideration of these § 1026.43(f)(1)(v), in limiting the TILA section 129D(c)(3) by looking to comments and further analysis of exemption for balloon-payment whether the particular first-lien, higher- parallels between the two rulemakings, qualified mortgages to mortgages that priced mortgage loan was subject to sale the Bureau believes that it is useful and are not originated in conjunction with a under a ‘‘forward commitment.’’ appropriate to implement the no- forward commitment, effectuates the Forward commitments are agreements forward-commitment requirement in purposes of TILA section 129C and entered into at or before consummation both rules. Accordingly, the Bureau is prevents circumvention or evasion of a transaction under which a adding § 1026.43(f)(1)(v) to provide that thereof and is necessary, proper, and purchaser is committed to acquire the a loan is not eligible to be a balloon- appropriate to do so. Limiting balloon- specific loan or loans meeting specified payment qualified mortgage if it is payment qualified mortgages to those criteria from the creditor after subject, at consummation, to a that are not originated in conjunction consummation. The Board believed that commitment to be acquired by another with a forward commitment effectively the proposal was a reasonable way to person, other than a person that facilitates compliance with the statutory implement the statutory requirement separately meets the requirements of requirement that a balloon-payment because it would allow the creditor and § 1026.43(f)(1)(vi). Comment 43(f)(1)(v)– qualified mortgage is extended by a consumer to determine at 1 clarifies that a balloon-payment creditor that retains the balloon- consummation whether an escrow mortgage that will be acquired by a payment qualified mortgages in requirement was required to be purchaser pursuant to a forward portfolio. established; the Board reasoned that commitment does not satisfy the In addition the Bureau invokes its fashioning the rule in a way that would requirements of § 1026.43(f)(1)(v), authority under section 105(a) in order require that an escrow account be whether the forward commitment refers to add the above qualification for a established sometime after to the specific transaction or the balloon-payment qualified mortgage. consummation if the particular loan was balloon-payment mortgage meets Section 105(a) authorizes the Bureau to transferred to a non-eligible holder prescribed criteria of the forward issue regulations that, among other would be potentially burdensome to commitment, along with an example. things, contain such additional consumers, since the consumer may not The Bureau believes the rationale for the requirements, other provisions, or that have the funds available to make a large balloon-payment qualified mortgage provide for such adjustments for all or lump-sum payment at that time. At the exemption is not present when a loan any class of transactions, that in the same time, the Board believed the rule will be or is eligible to be acquired Bureau’s judgment are necessary or would prevent gaming of the escrows pursuant to a forward commitment, proper to effectuate the purposes of exception because it thought that small even if the creditor is exempt, as the TILA, which include the above purpose creditors would be reluctant to make a creditor does not intend to retain the of Section 129C, among other things. loan that they did not intend to keep in balloon-payment mortgage in its See 15 U.S.C. 1604(a). The Bureau their portfolios unless they had the portfolio. believes that this addition to the

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qualified mortgage criteria is necessary the Board’s approach by implementing The Bureau agrees that a broader and proper to achieve this purpose. section 1026.43(f)(2) which establishes definition of ‘‘rural’’ is appropriate to separate criteria for both ‘‘rural’’ and ensure access to credit with regard to ‘‘Operates Predominantly in Rural or ‘‘underserved.’’ This means that a both the escrows and balloon-payment Underserved Areas’’ property could qualify for designation qualified mortgage exemptions. In Under TILA section by the Bureau under either definition, particular, the Bureau believes that all 129C(b)(2)(E)(iv)(I), to qualify for the and that covered transactions made by ‘‘non-core’’ counties should be exemption, a creditor must ‘‘operate a creditor in either a rural or encompassed in the definition of rural, predominantly in rural or underserved underserved area will be included in including counties adjacent to a areas.’’ The Board’s proposed determining whether the creditor metropolitan area or a county with a § 226.43(f)(1)(v)(A) would have required operates predominantly in such areas. town of at least 2,500 residents (i.e., a creditor to have made during the counties with a UIC of 4, 6, and 9 in ‘‘Rural’’ preceding calendar year more than 50 addition to the counties with the UICs percent of its total balloon-payment As described above, the Board’s included in the Board’s definition). The mortgages in ‘‘rural or underserved’’ proposed definition of rural for Bureau also believes that micropolitan areas. The Board sought comment purposes of both the balloon-payment areas which are not adjacent to a generally on the appropriateness of the qualified mortgage and escrows metropolitan area should be included proposed approach to implement the exception relied upon the USDA ERS within the definition of rural, (i.e., phrase ‘‘operate predominantly.’’ Two ‘‘urban influence codes’’ (UICs). The counties with a UIC of 8). These trade group commenters commented UICs are based on the definitions of counties have significantly fewer that the balloon exemption should ‘‘metropolitan’’ and ‘‘micropolitan’’ as creditors originating higher-priced extend to all creditors that retain developed by the Office of Management mortgage loans and balloon-payment balloon-payment mortgages in their and Budget, along with other factors mortgages than other counties.159 portfolio, and to eliminate this proposed reviewed by the ERS, which place Including these counties within the requirement, which would have the counties into twelve separately defined definition of rural would result in 9.7 same effect as the extension of the UICs depending on the size of the percent of the population being exemption proposed generally, largest city and town in the county. The included within rural areas. Under this discussed above. Board’s proposal would have limited definition, only counties in Overall, the Bureau believes Congress the definition of rural to certain ‘‘non- metropolitan areas or in micropolitan enacted the exemption in TILA section core’’ counties that are not located in or areas adjacent to metropolitan areas 129C(b)(2)(E) to ensure access to credit adjacent to any metropolitan or would be excluded from the definition in rural and underserved areas where micropolitan area. This definition of rural. consumers may be able to obtain credit corresponded with UICs of 7, 10, 11, or The Bureau also considered adopting only from such community banks or 12. The population that would have the definition of rural used to determine credit unions offering balloon-payment been covered under the Board’s the eligibility of a property to secure a mortgages. The ‘‘operates proposed definition was 2.3 percent of single family loan under the USDA’s predominantly in’’ requirement serves the United States population under the Rural Housing Loan program. For to limit the exemption to these 2000 census. The Board believed this purposes of the Rural Housing Loan institutions. To remove this portion of limited the definition of ‘‘rural’’ to those program, USDA subdivides counties the qualifications of the creditor would properties most likely to have only into rural and non-rural areas. As a be to circumvent Congress’s stated limited sources of mortgage credit result, use of this definition would bring requirement that the exemption was because of their remoteness from urban within the definition of rural certain intended for creditors operating centers and their resources. The Board portions of metropolitan and predominantly in rural and underserved sought comment on all aspects of this micropolitan counties. Given the size of areas and would potentially extend the approach to defining rural, including some counties, particularly in western exemption to, for example, a national whether the definition should be States, this approach may provide a bank that makes loans in rural areas and broader or narrower. that is fully capable of putting on its Many commenters in both more nuanced measure of access to balance sheet fixed rate 30-year rulemakings, including more than a credit in some areas than a county-by- mortgage loans or adjustable rate dozen trade group commenters, several 159 A review of data from HMDA reporting mortgage loans. The Bureau believes individual industry commenters, one entities indicates that there were 700 creditors in that ‘‘predominantly’’ indicates a association of State banking regulators, 2011 that otherwise meet the requirements of portion greater than half, hence the and a United States Senator, suggested § 1026.35(b)(2)(iii), of which 391 originate higher- regulatory requirement of more than 50 that this definition of a rural area was priced mortgage loans in counties that meet the definition of rural, compared to 2,110 creditors that percent. too narrow and would exclude too many otherwise meet the requirements of The Board also proposed creditors from qualifying for the § 1026.35(b)(2)(iii) that originate balloon-payment § 226.43(f)(2) to implement this balloon-payment qualified mortgage mortgages in counties that would not be rural. The provision by defining the terms ‘‘rural’’ exemption and constrain the availability 391 creditors originated 12,921 higher-priced mortgage loans, representing 30 percent of their and ‘‘underserved,’’ which are not of credit to rural properties. The 43,359 total mortgage loan originations. A review of defined in the statute. The Board’s comment from a United States Senator data from credit unions indicates that there were proposed § 226.43(f)(2) established suggested using the eligibility of a 830 creditors in 2011 that otherwise meet the separate criteria for both rural and property to secure a single-family loan requirements of § 1026.35(b)(2)(iii), of which 415 originate balloon-payment and hybrid mortgages in underserved areas. Commenters under the USDA’s Rural Housing Loan counties that meet the definition of rural, compared addressing the creditor qualifications program as the definition of a rural to 3,551 creditors that otherwise meet the under § 226.43(f)(2) discussed the property. A trade association argued requirements of § 1026.35(b)(2)(iii) that originate definitions themselves, and did not that because community banks use balloon-payment mortgages in counties that would not be rural. The 415 creditors originated 4,980 comment on the necessity of creating balloon-payment mortgages to hedge balloon-payment mortgage originations, definitions for the terms rural and against interest rate risk, the exemption representing 20 percent of their 24,968 total underserved. The Bureau is adopting should not be confined to rural areas. mortgage loan originations.

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county metric. However, use of the extent to which the property was in a covered transactions because the Rural Housing Loan metrics would rural area, as an alternate definition. balloon-payment mortgages that will incorporate such significant portions of The Bureau believes the purpose of meet the requirements of the balloon- metropolitan and micropolitan counties the exemption is to permit creditors that payment qualified mortgage exemption that 37 percent of the United States rely on certain balloon-payment will be first-lien covered transactions, as population would be within areas mortgage products to continue to offer having subordinate financing along with defined as rural. Based on a review of credit to consumers, rather than leave the balloon-payment mortgage would be HMDA data and the location of the mortgage loan market, if such rare since it further constrains a mortgage transactions originated by creditors’ withdrawal would consumer’s ability to build equity in the HMDA reporting entities, the average significantly limit consumers’ ability to property and able to refinance the number of creditors in the areas that obtain mortgage credit. In light of this balloon-payment mortgage when it would meet the USDA’s Rural Housing rationale, the Bureau believes that becomes due. Accordingly, a creditor Loan program definition of rural is ten. ‘‘underserved’’ should be implemented must have made during the preceding The Bureau believes that a wholesale in a way that protects consumers from calendar year more than 50 percent of adoption of the Rural Housing Loan losing meaningful access to mortgage its total covered transactions secured by definitions would therefore expand the credit. The Bureau is proposing to do so a first lien on property in a rural or definition of rural beyond the intent of by designating as underserved only underserved area, which is the same as the escrow and balloon-payment those areas where the withdrawal of a the requirement of § 1026.35(b)(2)(iii)(A) qualified mortgage exemptions under creditor from the market could leave no in the 2013 Escrows Final Rule. sections 1412 and 1461 of the Dodd- meaningful competition for consumers’ Total Annual Residential Mortgage Loan Frank Act by incorporating areas in mortgage business. The Bureau believes Origination which there is robust access to credit. that the expanded definition of rural, as Accordingly, the final rule discussed above, and the purposes of TILA section 129C(b)(2)(E)(iv)(II) incorporates the provisions of the the balloon-payment qualified mortgage requires the Bureau to establish a escrow final rule providing that a exemption enable continued consumer limitation on the ‘‘total annual county is rural if it is neither in a ability to obtain mortgage credit. residential mortgage loan originations’’ metropolitan statistical area, nor in a for a creditor seeking to fall within the Scope of Mortgage Operations micropolitan statistical area that is balloon-payment qualified mortgage adjacent to a metropolitan statistical The Bureau has made one other exemption. The Board’s proposed area. The Bureau intends to continue change to the final rule to make the § 226.43(f)(1)(v)(B) provided two studying over time the possible selective standards more consistent as between alternatives to meet the statutory use of the Rural Housing Loan program the balloon qualified mortgage and requirement that the creditor ‘‘together definitions and tools provided on the escrows exemption with regard to what with all affiliates, has total annual USDA Web site to determine whether a type of mortgage loan operations are residential mortgage originations that do particular property is located within a tracked for purposes of determining not exceed a limit set by the Board.’’ ‘‘rural’’ area. For purposes of initial whether a creditor operates TILA section 129C(b)(2)(E)(iv)(II). The implementation, however, the Bureau predominantly in rural or underserved first alternative was a volume based believes that defining ‘‘rural’’ to include areas. As noted above, the Board’s limit, and the second alternative was a more UIC categories creates an proposed rule for balloon-payment total annual number of covered appropriate balance to preserve access qualified mortgages would have based a transactions limit. The Board’s proposal to credit and create a system that is easy creditor’s eligibility on the geographic did not propose any specific numeric for creditors to implement. distribution of its balloon-payment thresholds for either alternative, but mortgages, while the escrows proposal rather sought comment on the ‘‘Underserved’’ focused on the distribution of first-lien appropriate volume or number of loans The Board’s proposed § 226.43(f)(2)(ii) mortgages. Given that the underlying originated based on the alternatives would have defined a county as statutory language regarding ‘‘operates described in the proposal. ‘‘underserved’’ during a calendar year if predominantly’’ is the same in each In contrast, the Board’s escrow no more than two creditors extend instance and that tracking each type of proposal would have restricted consumer credit five or more times in mortgage separately would increase eligibility to creditors that, along with that county. The definition was based administrative burden, the Bureau their affiliates, originate and service no on the Board’s judgment that, where no believes it is appropriate to base the more than 100 new first-lien loans per more than two creditors are significantly threshold for both rules on the calendar year. Although the Dodd-Frank active, the inability of one creditor to distribution of all first-lien ‘‘covered Act requirement to establish escrow offer a balloon-payment mortgage would transactions’’ as defined in accounts applies only to higher-priced be detrimental to consumers who would § 1026.43(b)(1).160 The Bureau believes mortgage loans that are secured by first have limited credit options because only that counting all transactions will liens, the Board reasoned that it was one creditor would be left to provide the facilitate compliance, promote appropriate to base the threshold on all balloon-payment mortgage. Essentially, consistency in applying the two first-lien originations because creditors a consumer who could only qualify for exemptions under both rulemakings, are free to establish escrow accounts for a balloon-payment mortgage would be and be more useful in identifying which all of their first-lien mortgages required to obtain credit from the institutions truly specialize in serving voluntarily in order to achieve the scale remaining creditor in that area. Most of rural and underserved areas. The necessary to escrow cost effectively. The the same commenters that stated that Bureau also believes that it is Board estimated that a minimum the definition of rural was too narrow, appropriate to measure first-lien servicing portfolio size of 500 is as discussed above, also stated that the necessary to escrow cost effectively, and definition of underserved was too 160 As discussed above, § 1026.43(b)(1) defines assumed that the average life narrow, as well. The commenters covered transactions as closed-end consumer credit expectancy of a mortgage loan is about transactions that are secured by a dwelling, other proposed various different standards, than certain tractions that are exempt from coverage five years. Based on this reasoning, the including standards that considered the under § 1026.43(a). Board reasoned that creditors would no

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longer need the benefit of the exemption systems capability and operational scale would maintain and service a portfolio if they originated and serviced more to establish cost-efficient escrow of about 670 mortgage debt obligations than 100 new first-lien loans per year. accounts. In light of the strong concerns over time, assuming a life expectancy of In response to the balloon-payment expressed in both rulemakings about the five years per mortgage debt qualified mortgage loan proposal, two potential negative impacts on small obligation.161 Thus, the higher threshold trade groups and one association of creditors in rural and underserved areas, will help to assure that creditors who State bank regulators argued that other the Bureau conducted further analysis are subject to the escrow requirements criteria, such as the asset-size limit or to try to determine the most appropriate do in fact maintain portfolios of portfolio requirement, were sufficient thresholds, although it was significantly sufficient size to maintain the accounts and neither a volume nor a total annual constrained by the fact that data is on a cost efficient basis over time, in the number of covered transactions limit limited with regard to mortgage event that the Board’s estimate of a would be necessary. One trade group originations in rural areas generally and minimum portfolio of 500 loans was too commenter suggested combining the in particular with regard to originations low.162 However, the Bureau believes proposed alternatives and permit of balloon-payment mortgages. that the 500 annual originations creditors to pick which limit they would The Bureau started with the premise threshold in combination with the other operate under. Other trade group and that it would be preferable to use the requirements will still assure that the industry commenters indicated that it same annual originations threshold in balloon-payment qualified mortgage and would be preferable to base the annual both rules in order to reflect the escrow exceptions are available only to originations limit on the number of consistent language in both statutory small creditors that focus primarily on transactions rather than volume because provisions focusing on ‘‘total annual a relationship-lending model and face of the varying dollar amount of loans mortgage loan originations,’’ to facilitate significant systems constraints. originated, which would constrain the compliance avoiding requiring number of consumers with limited institutions to track multiple metrics, Asset-Size Threshold credit options which could obtain and to promote consistent application of Under TILA section balloon-payment mortgages in rural or the two exemptions. This requires 129C(b)(2)(E)(iv)(IV), to qualify for the underserved areas. Four trade group and significant reconciliation between the exemption, a creditor must meet any industry commenters suggested two proposals, however, because the asset-size threshold established by the increasing the threshold for the total escrows proposal focused specifically Bureau. The Board’s proposed annual number of covered transactions on loans originated and serviced in § 226.43(f)(1)(v)(D) would have by various amounts ranging from 250 to order to best gauge creditors’ ability to established the threshold for calendar 1,000 transactions. The commenters did maintain escrow accounts over time, year 2013 at $2 billion, with annual not articulate any particular reason or while servicing arrangements are not adjustments for inflation thereafter. data to support the suggested limits, directly relevant to the balloon-payment Thus, a creditor would satisfy this other than one commenter who qualified mortgage. However, to the element of the test for 2013 if it had total indicated its suggestion was intended to extent that creditors chose to offer assets of $2 billion or less on December be higher than its own amount of total balloon-payment mortgages to manage 31, 2012. This number was based on the annual covered transactions. their interest rate risk without having to limited data available to the Board at the Similarly in the escrows rulemaking, undertake the compliance burdens time of the proposal. Based on that commenters asserted that the 100-loan involved in administering adjustable limited information, the Board reasoned threshold was not in fact sufficient to rate mortgages over time, the Bureau that none of the entities it identified as make escrowing cost-effective. believes that both provisions are operating predominantly in rural or Suggestions for higher thresholds focused in a broad sense on underserved areas had total assets as of ranged from 200 to 1,000 mortgage debt accommodating creditors whose the end of 2009 greater than $2 billion, obligations per year originated and systems constraints might otherwise and therefore, the limitation should be serviced, though no commenters cause them to exit the market. set at $2 billion. The Board expressly provided data to support their With this in mind, the Bureau proposed setting the asset-size threshold suggestions for alternative thresholds or ultimately has decided to adopt a to refute the Board’s cost analysis. One threshold of 500 or fewer annual 161 A review of 2011 HMDA data shows creditors consumer advocacy commenter originations of first-lien loans for both that otherwise meet the criteria of § 1026.43(f)(1)(vi) and originate between 200 and 500 or fewer first- suggested the proposed threshold was rules. The Bureau believes that this lien covered transactions per year average 134 too high because it counted only first- threshold will provide greater flexibility transactions per year retained in portfolio. Over a lien mortgage transactions, instead of all and reduce concerns that the specific five year period, the total portfolio for these mortgage debt obligations, but offered threshold that had been proposed in the creditors would average 670 mortgage debt no specific alternative amount. Two escrows rulemaking (100 loans obligations. 162 Given that escrow accounts are typically not industry commenters also suggested that originated and serviced annually) would maintained for loans secured by subordinate liens, the origination limit should measure reduce access to credit by excluding the Bureau does not believe that it makes sense to only the number of higher-priced creditors who need special count such loans toward the threshold because they mortgage loans originated and serviced accommodations in light of their would not contribute to a creditor’s ability to achieve cost-efficiency. At the same time, the by the creditor and its affiliates. capacity constraints. At the same time, Bureau believes it is appropriate to count all first- The Bureau believes that the the increase is not as dramatic as it may lien loans toward the threshold, since creditors can requirement of TILA section first appear because the Bureau’s voluntarily establish escrow accounts for such loans 129C(b)(2)(E)(iv)(II) reflects Congress’s analysis of HMDA data suggests that in order to increase the cost-effectiveness of their program even though the mandatory account recognition that larger creditors who even small creditors are likely to sell off requirements under the Dodd-Frank Act apply only operate in rural or underserved areas a significant number of loans to the to first-lien, higher-priced mortgage loans. Focusing should be able to make credit available secondary market. Assuming that most on all first-lien originations also provides a metric without resorting to balloon-payment loans that are retained in portfolio are that is useful for gauging the relative scale of creditors’ operations for purposes of the balloon- mortgages. Similarly, the requirement of also serviced in house, the Bureau payment qualified mortgages, while focusing solely TILA section 129C(d) reflects a estimates that a creditor originating no on the number of higher-priced mortgage loan recognition that larger creditors have the more than 500 first-lien loans per year originations would not.

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at the highest level currently held by of December 31, 2012, which is the transactions during the preceding any of the institutions that appear to be same as the requirement of calendar year in accordance with smaller institutions that served areas § 1026.35(b)(2)(iii)(C) in the 2013 § 1026.35(b)(2)(iii)(B). Comment with otherwise limited credit options. Escrows Final Rule. 43(f)(1)(vi)–1.iii clarifies that the initial The Board sought comment on what asset-size threshold for a creditor is $2 Criteria Creditor Also Must Satisfy in threshold would be appropriate and billion for calendar year 2013 and will the Final Rule Adopted From the whether the asset-size test is necessary be updated each December to publish Board’s 2011 Escrows Proposal at all. Conversely, in the escrows the applicable threshold for the proposal the Board did not propose an The Bureau notes that the three following calendar year in accordance asset threshold, but rather simply criteria discussed above are the same in with§ 1026.35(b)(2)(iii)(C). The requested comment on whether a both TILA 129C(b)(2)(E)(iv) and comment further clarifies that a creditor threshold should be established and, if 129D(c). Commenters in both the that had total assets below the threshold so, what it should be. Board’s 2011 ATR Proposal and the on December 31 of the preceding year In response to the Board’s 2011 ATR Board’s 2011 Escrows Proposal also satisfies this criterion for purposes of Proposal, one association of State bank made a note of the need to have the exemption during the current regulators suggested that the asset-size consistent application of requirements calendar year. threshold be included and be the only and definitions across the Title XIV requirement for a creditor to qualify for Rulemakings. The comments received in 43(f)(2) Post-Consummation Transfer of the balloon-mortgage qualified mortgage both of the Board’s proposals identified Balloon-Payment Qualified Mortgage exemption. Two trade group the same concerns and made similar As noted in the discussion related to commenters suggested that a $2 billion suggestions for each of the criteria in paragraph (f)(1)(v) above, TILA section asset-size threshold was appropriate, both the Board’s 2011 ATR Proposal and 129C(b)(E)(iv) requires that the lender with one also suggesting that the asset- 2011 Escrows Proposal. The Bureau keep balloon-payment mortgages in size threshold be the only requirement believes the balloon-payment qualified portfolio, which addressed in both the for a creditor to qualify for the balloon- mortgage exemption is designed to Board’s 2011 ATR Proposal and 2011 mortgage qualified mortgage exemption. ensure access to credit in rural and Escrows Proposal in different ways. In One industry commenter suggested that underserved areas where consumers light of the differences between the two the asset-size threshold be $10 billion. may be able to obtain credit only from rulemakings and in particular the In response to the Board’s 2011 a limited number of creditors. One way important ramifications of qualified Escrows Proposal, the association of to ensure continued access to credit for mortgage status over the life of the loan, State bank regulators again suggested these consumers is to reduce and however, the Bureau believes that it is that an asset-size threshold be the only streamline regulatory requirements for also appropriate for this final rule to requirement to qualify for the escrow creditors so that creditors maintain contain additional safeguards exception, but did not propose a participation in or enter these markets. concerning post-consummation sales specific dollar threshold. A trade One method by which this can be that are not pursuant to a forward association suggested a threshold of $1 accomplished is by having one set of commitment in order to prevent gaming billion, but did not provide a rational requirements that are consistent of the balloon-payment qualified for that amount. between differing regulatory purposes. mortgage exception. As noted above, the For reasons discussed above, the These criteria, since they are identical Board had proposed an approach under Bureau is adopting a mortgage in TILA, can be adopted once in one which the creditor would lose its origination limit as contemplated by the section of Regulation Z and referenced eligibility to originate balloon-payment statute. Given that limitation, restricting by the other section. qualified mortgages once it sold any the asset size of institutions that can Accordingly, the Bureau is adopting balloon-payment mortgages. Under one claim the exemption is of limited § 1026.43(f)(1)(vi) to require the creditor alternative, a single sale after the importance. Nonetheless, the Bureau to meet the satisfy the requirements effective date of the rule would have believes that an asset limitation is still stated in § 1026.35(b)(iii)(A), (B), and permanently disqualified the creditor helpful because very large institutions (C), adopted in the 2013 Escrows Final from invoking the exception, while the should have sufficient resources to Rule, in order to originate a balloon- other alternative would have adapt their systems to provide payment qualified mortgage under disqualified the creditor from invoking mortgages without balloon payments § 1026.43(f)(1). Comment 43(f)(1)(vi)–1.i the exception for two calendar years. and with escrow accounts even if the clarifies that the Bureau publishes In addition to the comments received scale of their mortgage operations is annually a list of counties that qualify on the Board’s 2011 Escrows Proposal relatively modest. A very large as rural or underserved in accordance related to the forward commitment institution with a relatively modest with § 1026.35(b)(2)(iii)(A). The requirement discussed in paragraph mortgage operation also does not have comment further clarifies that the (f)(1)(v), above, two trade group the same type of reputational and Bureau’s annual determination of rural commenters and one industry balance-sheet incentives to maintain the or underserved counties are based on commenter indicated that the second same kind of relationship-lending the definitions set forth in alternative was preferable, but urged the model as a smaller community-based § 1026.35(b)(2)(iv). Comment Bureau only to look at the last calendar lender. Accordingly, the Bureau 43(f)(1)(vi)–1.ii clarifies that the creditor year, instead of the current or prior believes that the $2 billion asset along with all affiliates must not years. Of these commenters, one trade limitation by the Board remains an originate more than 500 first lien group and the industry commenter appropriate limitation and should be suggested adding a de minimis number applied in both rulemakings. exemption and the structure of the mortgage of permitted transfers of balloon- Accordingly, the creditor must have lending industry. The choice of $2 billion in assets payment qualified mortgages. One trade 163 as a threshold for purposes of TILA section group commenter noted that the statute total assets of less than $2 billion as 129C(b)(2)(E) does not imply that a threshold of that type or of that magnitude would be an appropriate requires that only balloon-payment 163 The $2 billion threshold reflects the purposes way to distinguish small firms for other purposes qualified mortgages be kept in portfolio. of the balloon-payment qualified mortgage or in other industries. Another trade group commenter

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questioned the impact that either of the consistency with the portfolio • Only a qualified mortgage may Board’s alternatives would have on a requirement. The third exception would contain a prepayment penalty; rural creditors’ ability to sell a balloon- address the need of creditors to sell • A qualified mortgage with a payment mortgage if the creditor was loans to comply with requirements of prepayment penalty may not have an directed to do pursuant to action prudential regulators, conservators, adjustable rate and may not have an requirements of prudential regulators, receivers and others who have the annual percentage rate that exceeds the such as a prompt corrective action responsibility to ensure creditors are threshold for a higher-priced mortgage notice. operating within the bounds of the law. loan; • The Bureau agrees with commenters The fourth exemption addresses The prepayment penalty may not that the first alternative would work changes in the ownership of the creditor exceed three percent of the outstanding against the stated purpose of the itself, so that the balloon-payment balance during the first year after balloon-payment qualified mortgage qualified mortgages held by the creditor consummation, two percent during the exemption, as creditors that would not do not lose their qualified mortgage second year after consummation, and qualify would forever be excluded from status solely because of the change in one percent during the third year after this exemption in the future. Over time, ownership of the creditor. consummation; • There can be no prepayment this would further reduce the creditors Accordingly, the Bureau is adopting penalty after the end of the third year originating balloon-payment qualified § 1026.43(f)(2) to require a creditor to after consummation; and mortgages and thereby reduce the retain a balloon-payment qualified availability of credit to those markets. In • A creditor may not offer a consumer mortgage in its portfolio, otherwise the a loan with a prepayment penalty addition, the Bureau believes the balloon-payment qualified mortgage Board’s second alternative mitigates but without offering the consumer a loan will no longer be a qualified mortgage, that does not include a prepayment does not eliminate these difficulties. with four exceptions as set forth above. Under the second alternative the penalty. Comment 43(f)(2)–1 clarifies that Taken together, the Dodd-Frank Act’s disqualification from originating creditors must generally hold a balloon- balloon-payment qualified mortgages amendments to TILA relating to payment qualified mortgage in portfolio, would be temporary rather than prepayment penalties mean that most subject to four exceptions. Comment permanent, but even so creditors who closed-end, dwelling-secured 43(f)(2)–2 clarifies that the four found it necessary to sell off a balloon- transactions: (1) May provide for a exceptions apply to all subsequent payment mortgage would pay a steep prepayment penalty only if the transfers, and not just the initial transfer price in terms of their ability to transaction is a fixed-rate, qualified of the balloon-payment qualified originate loans in the future, and credit mortgage that is neither high-cost nor mortgage, and provides an example. availability would be negatively higher-priced under §§ 1026.32 and Comment 43(f)(2)(i)–1 clarifies the impacted. Commenters that supported 1026.35; (2) may not, even if permitted application of the exception relating to the second alternative did so with the to provide for a prepayment penalty, stated preference for the second transfers of the balloon-payment charge the penalty more than three years alternative to the first, instead of the qualified mortgage three years or more following consummation or in an requirements of the second alternative after consummation. Comment amount that exceeds two percent of the itself. 43(f)(2)(ii)–1 clarifies the application of amount prepaid; and (3) may be The Bureau believes these concerns the exemption relating to the transfer of required to limit any penalty even can be eliminated or reduced by a balloon-payment qualified mortgage to further to comply with the points and providing, as a general rule, that if a a creditor that meets the requirements of fees limitations for qualified mortgages, balloon-payment qualified mortgage is § 1026.43(f)(1)(vi). Comment or to stay below the points and fees sold, that mortgage loses its status as a 43(f)(2)(iii)–1 clarifies the application of trigger for high-cost mortgages. Section qualified mortgage, but the creditor does the exemption related to the transfer of 1026.43(g) now reflects these principles. not lose its ability to originate balloon- a balloon-payment qualified mortgage The Board proposal implemented payment qualified mortgages in the pursuant to the requirements of a TILA section 129C(c) in § 226.43(g) future. The rule would be subject to four supervisory regulator and provides an without significant alteration, except exceptions to permit a balloon-payment example. Comment 43(f)(2)(iv)–1 that under proposed § 226.43(g)(2)(ii), qualified mortgage to be sold in clarifies the application of the the Board proposed to apply the narrowly defined circumstances without exemption related to the transfer of a percentage tests outlined in the statute losing its qualified mortgage status. The balloon-payment qualified mortgage as a to the amount of the outstanding loan first exception would allow for a sale to result or the merger or sale of the balance prepaid, rather than to the any person three years after creditor and provides an example. entire outstanding loan balance, to consummation; this would require the 43(g) Prepayment Penalties provide tighter restrictions on the creditor to keep the balloon-payment penalties allowed on partial qualified mortgage for the same period As discussed above regarding prepayments. of time that a consumer could bring a treatment of prepayment penalties Commenters generally supported the claim for violation of § 1026.43 under under the points and fees test for Board’s proposal, though some industry TILA section 130(e). This facilitates qualified mortgages and for high-cost commenters expressed concern that managing interest rate risk by selling loans under HOEPA in § 1026.32(b)(1) limitations on prepayment penalties seasoned balloon-payment qualified and the definition of prepayment would reduce prices on the sale of mortgages, but encourages responsible penalty under § 1026.32(b)(6), the Dodd- mortgages in the secondary market due underwriting because the originating Frank Act restricts prepayment to increased prepayment risk. Consumer creditor would keep all risk of penalties in a number of ways. Section advocates generally supported limiting affirmative claims while those claims 1026.43(g) implements TILA section prepayment penalties, as described by could be asserted. The second 129C(c), which establishes general amended TILA section 129C(c), as an exemption would permit creditors to limits on prepayment penalties for all important element in ensuring sell to other qualifying creditors, which residential mortgage loans. Specifically, affordability. Other industry would provide flexibility and TILA section 129C(c) provides that: commenters expressed concern that

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such a limitation on the imposition of not be permitted on either product § 1026.43(g) were warranted, prepayment penalties would lead to absent further accommodation. commenters nevertheless discussed the fewer creditors conditionally waiving The Board proposal sought comment intersection of bridge loans and closing costs, noting that this on whether further provisions prepayment penalties. As discussed in implication might limit access to credit. addressing the treatment of reverse the section-by-section analysis of At least one industry commenter argued mortgages were warranted. Because § 1026.32(b)(6), some industry that the Board’s proposal to limit reverse mortgages are not subject to the commenters expressed concern that the prepayment penalties was too broad in ability-to-repay requirements, the Board availability of, or cost of, construction- did not propose to define a category of scope, stating the legislative history to-permanent loans might suffer, should demonstrated that the true target of the closed-end reverse mortgages as the rule restrict the permissible prepayment penalty prohibition of TILA qualified mortgages, though it sought prepayment penalty charges levied by a section 129C(c) was limited to comment on the possibility of using its mortgages with teaser rates and/or authority to do so, given that qualified creditor if a consumer does not convert balloon payments and to protect mortgage status affects both application the construction loan into a permanent subprime consumers, not those of the Dodd-Frank Act prepayment loan with the same creditor within a consumers who chose a product with a penalty provisions and certain specified time period. As discussed in lower interest rate in exchange for a provisions concerning securitization the section-by-section analysis of prepayment penalty provision. The and ‘‘qualified residential mortgages.’’ § 1026.32(b)(6), some commenters may Bureau does not find this argument See TILA section 129C(b)(2)(A)(ix) and have been mistaken with respect to persuasive, given the plain language of (b)(3)(B).164 The Board specifically whether certain fees were, in fact, a amended TILA section 129C(c). requested comment on whether special prepayment penalty. To the extent fees After review, the Bureau is adopting rules should be created to permit certain charged by a bridge loan are a most of the Board’s proposal, although reverse mortgages to have prepayment prepayment penalty, however, they are as discussed below the Bureau is penalties. In particular, the Board prohibited as of the effective date. altering the prepayment limitation in sought comment on how it might create According to § 1026.43(a)(3)(iii), the the first year after consummation to criteria for a ‘‘qualified mortgage’’ construction phase of a construction-to- reflect the separate limitations enacted reverse mortgage that would be permanent loan cannot be a qualified in sections 1431 and 1432 of the Dodd- consistent with the purposes of mortgage, and thus under Frank Act, regarding high-cost qualified mortgages under TILA section § 1026.43(g)(1)(ii)(B) such a loan cannot mortgages. 129C(b), and requested any supporting include a prepayment penalty. data on the prepayment rates for reverse Scope; Reverse Mortgages and mortgages. Construction-to-permanent loans are Temporary Loans Consumer advocates generally discussed in more detail in the section- Section 1026.43(g) implements TILA supported the Board’s proposal to apply by-section analysis of § 1026.43(a). section 129C(c), which applies to a the prepayment penalty requirements to Accordingly, the Bureau is finalizing ‘‘residential mortgage loan,’’ that is, to a reverse mortgages, and industry the rule at this time without special consumer credit transaction secured by commenters did not object. Moreover, provisions to otherwise alter the general a dwelling, including any real property commenters did not provide data or scope of this rule, as discussed in the attached to the dwelling, other than an other advocacy to refute the Board’s section-by-section analysis of open-end credit plan or a transaction reasoning for including reverse § 1026.43(a), such as by allowing the secured by a consumer’s interest in a mortgages within the scope of application of prepayment penalties for timeshare plan. See TILA section § 1026.43(g): (1) That the overwhelming either reverse mortgages or temporary 103(cc)(5). Consequently, the regulation majority of reverse mortgages being loans. The Bureau may revisit the issue refers to ‘‘covered transaction,’’ which originated in the current market are in subsequent years, either as part of a as defined in § 1026.43(b)(1) and insured by the FHA, which does not discussed further in the section-by- allow reverse mortgages to contain future rulemaking to evaluate section analysis of § 1026.43(a) excludes prepayment penalties; and (2) excluding application of all title XIV requirements open-end credit plans and transactions ‘‘qualified’’ reverse mortgages from to reverse mortgages or as part of the secured by timeshares from coverage coverage of the prepayment penalty five-year review of significant rules consistent with statutory exclusions. prohibition would not be necessary or required under section 1022(d) of the However, neither the definition of appropriate to effectuate the purposes of Dodd-Frank Act. ‘‘residential mortgage loan’’ nor the TILA section 129C, absent an articulated 43(g)(1) When Permitted TILA section 129C(c)(1) prepayment reason why such exclusion would penalty prohibition excludes reverse ‘‘assure that consumers are offered and TILA section 129C(c)(1)(A) provides mortgages or temporary or ‘‘bridge’’ receive residential mortgage loans on that a covered transaction must not loans with a term of 12 months or less, terms that reasonably affect their ability include a penalty for paying all or part such as a loan to finance the purchase to repay the loans and that are of the principal balance before it is due of a new dwelling where the consumer understandable and not unfair, unless the transaction is a qualified plans to sell a current dwelling. See deceptive, or abusive.’’ See TILA section mortgage as defined in TILA section TILA sections 103(cc)(5), 129C(a)(8), 129B(a)(2). 129C(b)(2). TILA section 129C(c)(1)(B) 129C(c). Moreover, because under TILA While the Board did not specifically section 129C(c)(1)(A), only a qualified seek comment with respect to whether further restricts the range of qualified mortgage may have a prepayment further provisions addressing the mortgages on which prepayment penalty and reverse mortgages and treatment of bridge loans under penalties are permitted by excluding temporary loans are excluded from the qualified mortgages that have an ability-to-repay and qualified mortgage 164 Open-end credit plans are excluded from the adjustable rate or that meet the requirements of the Dodd-Frank Act definition of ‘‘residential mortgage loan,’’ and thus thresholds for ‘‘higher-priced mortgage open-end reverse mortgages are not subject to the loans’’ because their APRs exceed the (and thus may not be qualified prepayment penalty requirements under TILA mortgages), prepayment penalties would section 129C(c). TILA section 103(cc)(5). average prime offer rate for a

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comparable transaction by a specified and a rising interest rate on the other. consumer attempts to refinance out of a number of percentage points.165 The Bureau does not find this argument balloon-payment qualified mortgage To implement TILA section persuasive. TILA section 129C(1)(B)(i) before the balloon payment is due. The 129C(c)(1), the Board proposed prohibits a transaction with ‘‘an Board solicited comment on whether it § 226.43(g)(1), which provided that a adjustable rate’’ from including a would be appropriate to use its legal covered transaction may not include a prepayment penalty. Longstanding rules authority under TILA sections 105(a) prepayment penalty unless the under Regulation Z for closed-end and 129B(e) to provide that a balloon- prepayment penalty is otherwise transactions generally categorize payment qualified mortgage may not permitted by law, and the transaction: transactions based on the possibility of have a prepayment penalty in any case. (1) Has an APR that cannot increase APR changes, rather than interest rate Most commenters generally supported after consummation; (2) is a qualified changes.166 This distinction is relevant the Board’s decision not to extend the mortgage, as defined in § 226.43(e) or (f); because covered transactions may have prepayment penalty ban to all balloon- and (3) is not a higher-priced mortgage an APR that cannot increase after payment loans, noting the need for such loan, as defined in § 226.45(a). The consummation even though a specific financial products in rural and Board proposed under § 226.43(g)(1)(i) interest rate, or payments, may increase underserved areas. In light of the access that a prepayment penalty must be after consummation. For example, the concerns, the Bureau declines to otherwise permitted by applicable law. APR for a ‘‘step-rate mortgage’’ without exercise its exception authority under The Board reasoned that TILA section a variable-rate feature does not change TILA sections 105(a) and 129B(e) to add 129C(c) limits, but does not specifically after consummation, because the rates a blanket prohibition of prepayment authorize, including a prepayment that will apply and the periods for penalties for all balloon-payment loans. penalty with a covered transaction. which they will apply are known at Accordingly, the Bureau is adopting Thus, TILA section 129C(c) does not consummation. See § 1026.18(s)(7)(ii) § 1026.43(g)(1)(ii)(B) as proposed. The override other applicable laws, such as (defining ‘‘step-rate mortgage’’ for Bureau will continue to monitor the use State laws, that may be more restrictive purposes of transaction-specific interest of balloon-payment qualified mortgages with respect to prepayment penalties, so rate and payment disclosures). Thus, the and their use of prepayment penalties. danger of an interest rate/prepayment a prepayment penalty would not be Threshold for a Higher-Priced Mortgage penalty ‘‘trap’’ is mitigated in a step-rate permitted if otherwise prohibited by Loan applicable law. This approach is loan because the consumer knowledge consistent with prepayment penalty of the exact payments to expect each Under TILA section 129C(c)(1)(B), a requirements for high-cost mortgages month for the 36 months following covered transaction may not include a under § 1026.32(d)(7)(i) and higher- consummation during which a prepayment penalty unless the priced mortgage loans under prepayment penalty might apply. The transaction’s APR is below the specified § 1026.35(b)(2)(i). Bureau therefore is adopting threshold for ‘‘higher-priced mortgage The Board proposed § 1026.43(g)(1)(ii)(A) as proposed. A loans.’’ As discussed above, those § 226.43(g)(1)(ii)(A) to interpret the fixed-rate mortgage or a step-rate thresholds are determined by reference statutory language to apply to covered mortgage therefore may have a to the applicable average prime offer transactions for which the APR may prepayment penalty, but an adjustable- rate. The Board proposed under increase after consummation. This rate mortgage may not have a § 226.43(g)(1)(ii)(C) that a creditor regulatory language is consistent with prepayment penalty. See would determine whether a transaction other uses of ‘‘variable-rate’’ within § 1026.18(s)(7)(i) through (iii) (defining is a higher-priced mortgage loan based Regulation Z, such as comment ‘‘fixed-rate mortgage,’’ ‘‘step-rate on the transaction coverage rate rather 17(c)(1)–11, which provides examples of mortgage,’’ and ‘‘adjustable-rate than the APR, for purposes of the variable-rate transactions. mortgage’’). prepayment penalty restriction, because Some consumer advocates did not APRs are based on a broader set of Balloon-Payment Mortgages support the Board’s proposal, arguing charges, including some third-party that for certain mortgages (specifically Under TILA section 129C(c)(1)(A), a charges such as mortgage insurance step-rate mortgages) the interest rate can covered transaction may not include a premiums, than average prime offer increase after consummation without prepayment penalty unless the rates. The Board expressed a concern affecting the APR. These commenters transaction is a qualified mortgage that using the APR metric posed a risk argued that the purpose of TILA section under TILA section 129C(b)(2). The of over-inclusive coverage beyond the 129C(c)(1)(B)(i) is to avoid allowing a Board proposed to implement TILA subprime market and instead proposed creditor to lock a consumer into a rising- section 129C(c)(1)(A) in using the transaction coverage rate. cost mortgage via a prepayment penalty § 226.43(g)(1)(ii)(B) and noted that, In August 2012, the Bureau extended and a rising interest rate. Consumer under section 129C(b)(2)(e), a covered the notice-and-comment period for groups expressed concern that a transaction with a balloon payment may comments relating to the proposed consumer might become ‘‘trapped’’ by a be a qualified mortgage if the creditor adoption of the more inclusive finance prepayment penalty on the one hand, originates covered transactions charge, including the transaction primarily in ‘‘rural’’ or ‘‘underserved’’ coverage rate. At that time, the Bureau 165 The applicable APR threshold depends on areas, as discussed in detail above in the noted that it would not be finalizing the whether a first lien or subordinate lien secures the section-by-section analysis of more inclusive finance charge in transaction and whether or not the transaction’s § 1026.43(f); thus, a consumer could January 2013. See 77 FR 54843 (Sept. 6, original principal obligation exceeds the maximum 2012). The Bureau therefore does not principal obligation for a loan eligible for purchase face a prepayment penalty if the by Freddie Mac, that is, whether or not the covered address in this rulemaking the transaction is a ‘‘jumbo’’ loan. Specifically, the APR 166 See, e.g., § 1026.18(f) (requiring disclosures numerous public comments that it threshold is: (1) 1.5 percentage points above the regarding APR increases), § 1026.18(s)(7)(i) through received concerning the proposed average prime offer rate, for a first-lien, non- (iii) (categorizing disclosures for purposes of alternatives for the APR coverage test. ‘‘jumbo’’ loan; (2) 2.5 percentage points above the interest rate and payment disclosures), average prime offer rate, for a first-lien ‘‘jumbo’’ § 1026.36(e)(2)(i) and (ii) (categorizing transactions The Bureau instead will address such loan; and (3) 3.5 percentage points above the for purposes of the safe harbor for the anti-steering comments in connection with its average prime offer rate, for a subordinate-lien loan. requirement under § 1026.36(e)(1)). finalization of the 2012 TILA–RESPA

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Integration Proposal, thus resolving that proposed text should be modified to of two percent of the amount prepaid at issue together with the Bureau’s incorporate the limitation of any time following consummation for determination whether to adopt the prepayment penalty amounts to two most credit transactions secured by a more inclusive finance charge. The percent of the amount prepaid, as consumer’s principal dwelling by Bureau is thus adopting the definition of provided under TILA sections providing that HOEPA protections a higher-priced loan as defined in 103(bb)(1)(A)(iii) and 129(c)(1). The (including a ban on prepayment § 1026.35(a), which corresponds to the Board also solicited comment on penalties) apply to mortgage loans with thresholds specified in TILA section whether to adopt some other threshold prepayment penalties that exceed two 129C(1)(B)(ii). to account for the limitations on points percent of the outstanding loan balance and fees, including prepayment 43(g)(2) Limits on Prepayment Penalties prepaid. The Bureau concludes that, to penalties, to satisfy the requirements for comply with both the high-cost TILA section 129C(c)(3) provides that ‘‘qualified mortgages,’’ under TILA mortgage provisions and the qualified a prepayment penalty may not be section 129C(b)(2)(A)(vii) and proposed mortgage provisions, creditors imposed more than three years after the § 226.43(e)(2)(iii). originating most closed-end mortgage covered transaction is consummated The Bureau did not receive significant loans secured by a consumer’s principal and limits the maximum amount of the comment on the proposed adjustment of dwelling would need to limit the prepayment penalty. Specifically, TILA determining the maximum penalty prepayment penalty on the transaction section 129C(c)(3) limits the amount by applying the percentages to: (1) No more than two percent of the prepayment penalty to (1) three percent established in the statute to the amount amount prepaid during the first and of the outstanding principal balance of the outstanding loan balance prepaid, second years following consummation, during the first year following rather than to the entire outstanding (2) no more than one percent of the consummation; (2) two percent during loan balance, and therefore is adopting amount prepaid during the third year the second year following § 1026.43(g)(2) to measure prepayment following consummation, and (3) zero consummation; and (3) one percent penalties using the outstanding loan thereafter. during the third year following balance prepaid, as proposed. The Accordingly, the Bureau is modifying consummation. Bureau is making this adjustment the final rule to reflect the two percent The Board’s proposed § 226.43(g)(2) pursuant to its authority under TILA cap imposed by the Dodd-Frank Act was substantially similar to TILA section 105(a) to issue regulations with amendments to HOEPA. As adopted in section 129C(c)(3) except that the Board such requirements, classifications, proposed to determine the maximum differentiations, or other provisions, and final form, § 1026.43(g)(2) amends the penalty amount by applying the that provide for such adjustments and maximum prepayment penalty percentages established in the statute to exceptions for all or any class of threshold for qualified mortgages during the amount of the outstanding loan transactions, as in the judgment of the the first year following consummation, balance prepaid, rather than to the Bureau are necessary and proper to specified as three percent in TILA entire outstanding loan balance. The effectuate the purposes of TILA, to section 129C(c), to two percent, to Board reasoned that calculating the prevent circumvention or evasion reflect the interaction of the qualified maximum prepayment penalty based on thereof, or to facilitate compliance mortgage and HOEPA revisions. In the amount of the outstanding loan therewith. For instance, the Bureau addition to finalizing this provision as balance that is prepaid, rather than the believes that it would be inconsistent a matter of reasonable interpretation of entire outstanding loan balance, would with congressional intent to strong how the statutory provisions work effectuate the purposes of TILA section disfavor and limit prepayment penalties together, the Bureau is making this 129C(c) to facilitate partial (and full) for the Bureau to allow creditors to adjustment pursuant to its authority prepayment by more strictly limiting the charge one or two percent of the entire under TILA section 105(a) to issue amounts of prepayment penalties outstanding loan balance every time that regulations with such requirements, imposed. a consumer pays even a slightly greater classifications, differentiations, or other The Board noted in its proposal that amount than the required monthly provisions, and that provide for such under HOEPA as amended by the Dodd- payment due. adjustments and exceptions for all or Frank Act, TILA section The Bureau did not receive significant any class of transactions, as in the 103(bb)(1)(A)(iii) now defines a ‘‘high- comment on how to resolve the differing judgment of the Bureau are necessary cost mortgage’’ as any loan secured by prepayment thresholds for high-cost and proper to effectuate the purposes of the consumer’s principal dwelling in mortgages and qualified mortgages, as TILA, to prevent circumvention or which the creditor may charge described by the Board. But the Bureau evasion thereof, or to facilitate prepayment fees or penalties more than believes that it is imperative to provide compliance therewith. The Bureau is 36 months after the closing of the clear guidance to creditors with respect exercising this adjustment to prevent transaction, or in which the fees or to all new limitations on prepayment creditor uncertainty regarding the penalties exceed, in the aggregate, more penalties in dwelling-secured credit interaction of qualified mortgages and than two percent of the amount prepaid. transactions, as imposed by the Dodd- high-cost mortgage rules, thus Moreover, under amended TILA section Frank Act. As noted by the Board, new facilitating compliance. For example, 129(c)(1), high-cost mortgages are TILA section 129C(c)(3) limits assume a creditor issues a loan that prohibited from having prepayment prepayment penalties for fixed-rate, meets the specifications of a penalties. Accordingly, any prepayment non-higher-priced qualified mortgages § 1026.43(e) qualified mortgage. The penalty in excess of two percent of the to three percent, two percent, and one loan terms specify that this creditor may amount prepaid on any closed-end percent of the outstanding loan balance charge up to three percent of any mortgage would both trigger and violate prepaid during the first, second, and prepaid amount in the year following HOEPA’s high-cost mortgage third years following consummation, consummation. If the Bureau protections. The Board did not propose respectively. However, amended TILA implements TILA section 129C(c) and to implement these limitations on sections 103(bb)(1)(A)(iii) and 129(c)(1) sections 103(bb)(1)(A)(iii) and 129(c)(1) prepayment penalties in § 226.43(g)(2), for high-cost mortgages effectively for high-cost mortgages, which but did solicit comment on whether the prohibit prepayment penalties in excess effectively prohibit prepayment

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penalties in excess of two percent of the a prepayment penalty must: (1) Have an Under § 1026.43(g)(1)(i), a covered amount prepaid at any time following APR that cannot increase after transaction with an APR that may consummation, then the creditor will consummation and the same type of increase after consummation may not have complied with certain provisions interest rate as the covered transaction have a prepayment penalty. The Board of TILA while violating others. Thus, to with a prepayment penalty (that is, both proposed in § 226.43(g)(3)(i) that, if a avoid this complex interaction, the must be fixed-rate mortgages or both creditor offers a covered transaction Bureau is eliminating the possibility of must be step-rate mortgages); (2) have with a prepayment penalty, the creditor simultaneous compliance with and the same loan term as the covered must offer an alternative covered violation of TILA by reducing the transaction with a prepayment penalty; transaction without a prepayment maximum prepayment penalty allowed (3) satisfy the periodic payment penalty and with an APR that may not in the year following consummation to conditions for qualified mortgages; and increase after consummation. The Board two percent under § 1026.43(g)(2)(ii)(A). (4) satisfy the points and fees conditions also proposed that the covered Comment 43(g)(2)–1 clarifies that a for qualified mortgages. Proposed transaction with a prepayment penalty covered transaction may include a § 226.43(g)(3) also provided that the and the alternative covered transaction prepayment penalty that may be alternative covered transaction must be without a prepayment penalty must imposed only during a shorter period or a transaction for which the consumer have the same type of interest rate. The in a lower amount than provided in likely qualifies. Board offered these proposals to ensure § 1026.43(g)(2). Comment 43(g)(2)–1 The Bureau did not receive significant that a consumer is able to choose provides the example of a prepayment comment on the proposal and is between substantially similar alternative penalty that a creditor may impose for adopting § 1026.43(g)(3) as proposed. transactions. The Bureau did not receive two years after consummation that is The Bureau is adding the additional significant comment on the proposal limited to one percent of the amount conditions proposed by the Board to and is adopting the Board’s proposal prepaid. The Bureau is changing the those specified in TILA section regarding the APR and the type of prepayment example in comment 129C(c)(4) to ensure that the alternative interest rate for the alternative 43(g)(2)–1 to reflect the Bureau’s covered transactions is a realistic transaction. adjustment in § 1026.43(g)(2)(ii)(A) of alternative for the consumer: A loan Higher-priced mortgage loans. The the maximum prepayment penalty in under substantially similar terms as the Board proposed that, under the first year after consummation from loan with a prepayment penalty for § 226.43(g)(3), if a creditor offers a covered transaction with a prepayment three percent to two percent. which the consumer likely qualifies. The Bureau recognizes that TILA penalty, which may not be a higher- The Bureau is including these section 129C(b)(2)(A)(vii) indirectly priced mortgage loan, the creditor may additional requirements pursuant to the limits the amount of a prepayment offer the consumer an alternative Bureau’s authority under TILA section penalty for a qualified mortgage, by covered transaction without a 105(a) to prescribe regulations that limiting the maximum ‘‘points and fees’’ prepayment penalty that is a higher- contain such additional requirements, for a qualified mortgage to three percent priced mortgage loan. The Board classifications, differentiations, or other of the total loan amount. See reasoned that TILA section 129C(c)(4) is provisions, or provide for such § 1026.43(e)(2)(iii), discussed above. intended to ensure that a consumer has adjustments or exceptions for all or any The definition of ‘‘points and fees’’ a choice whether to obtain a covered includes the maximum prepayment class of transactions, as in the judgment transaction with a prepayment penalty, penalty that may be charged, as well as of the Bureau are necessary or proper to not to limit the pricing of the alternative any prepayment penalty incurred by the effectuate the purposes of TILA, to covered transaction without a consumer if the loan refinances a prevent circumvention or evasion prepayment penalty that the creditor previous loan made or currently held by thereof, or to facilitate compliance must offer. In fact, all things being the same creditor or an affiliate of the therewith. equal, one would expect a creditor to creditor. See TILA section 103(bb)(4)(E), The Bureau believes that cover the increased risk of prepayment § 1026.32(b)(1), and accompanying requirements designed to ensure that by increasing the rate, thereby section-by-section analysis. Thus, if a the alternative covered transactions increasing the likelihood that the creditor wants to include the maximum effectuate the purposes of TILA section transaction might be a higher-priced two percent prepayment penalty as a 129C(c)(4) by enabling the consumer to mortgage loan. Furthermore, the Board term of a qualified mortgage, it generally focus on a prepayment penalty’s risks noted that restricting the pricing of the would have to forego any other charges and benefits without having to consider required alternative covered transaction that are included in the definition of or evaluate other differences between without a prepayment penalty might points and fees. See the section-by- the alternative covered transactions. For result in some creditors choosing to section analysis of § 1026.32(b)(1). example, under final § 1026.43(g)(3), a offer fewer loans. The Board thus did consumer is able to compare a fixed-rate not propose to limit rate increases for 43(g)(3) Alternative Offer Required mortgage with a prepayment penalty the alternative covered transaction. The Under TILA section 129C(c)(4), if a with a fixed-rate mortgage without a Bureau did not receive significant creditor offers a consumer a covered prepayment penalty, rather than with a comment on this aspect of the proposal transaction with a prepayment penalty, step-rate mortgage without a and is adopting the rule as proposed. the creditor also must offer the prepayment penalty. Also, the Bureau Timing of offer. The Board proposal consumer a covered transaction without believes requiring that the alternative concerning the alternative offer without a prepayment penalty. The Board covered transaction without a a prepayment penalty that a creditor is proposed § 226.43(g)(3), which prepayment penalty be one for which required to offer under TILA section contained language to implement TILA the consumer likely qualifies effectuates 129C(c)(4) did not specify that the section 129C(c)(4) and added provisions the purposes of and prevents creditor makes this alternative offer at or to ensure comparability between the circumvention of TILA section by a particular time. The Board proposal two alternative offers. Specifically, the 129C(c)(4), by providing for consumers was consistent with § 1026.36(e)(2) and proposed rule would mandate that the to be able to choose between options (3), which provide a safe harbor for the alternative covered transaction without that likely are available. anti-steering requirement if a loan

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originator presents certain loan options similar. Accordingly, the Board an alternative covered transaction to the consumer. These rules also do not proposed that the alternative covered without a prepayment penalty under contain a timing requirement. The transaction without a prepayment § 1026.43(g)(3) and knows only some of Board solicited comment on whether it penalty must: (1) Have the same loan the points and fees that will be charged would be appropriate to require that term as the covered transaction with a for the loan. For example, a creditor creditors offer the alternative covered prepayment penalty; (2) satisfy the may not know that a consumer intends transaction without a prepayment periodic payment conditions in to buy single-premium credit penalty during a specified time period, § 1026.43(e)(2)(i); and (3) satisfy the unemployment insurance, which would such as before the consumer pays a non- points and fees condition under be included in the points and fees for refundable fee or at least fifteen § 1026.43(e)(2)(iii), based on the the covered transaction. Proposed calendar days before consummation. information known to the creditor at the comment 43(g)(3)(iv)–1 clarified that the The Board also solicited comment on time the transaction is offered. The points and fees condition is satisfied if whether, if a timing requirement were Bureau did not receive significant the creditor reasonably believes, based included for the required alternative comment on the proposal and is on the information known to the offer, whether a timing requirement adopting the Board’s proposal. The creditor at the time the offer is made, should also be included under the safe Bureau is including this provision both that the amount of points and fees to be harbor for the anti-steering requirement, as part of its interpretation of TILA charged for an alternative covered for consistency. The Bureau did not section 129C(c)(4) and using its transaction without a prepayment receive significant comment on the authority under TILA sections 105(a), penalty will be less than or equal to the proposal and is not including a specific which provides that the Bureau’s amount of points and fees allowed for timing requirement. The Bureau will regulations may contain such additional a qualified mortgage under continue to study required alternative requirements, classifications, § 1026.43(e)(2)(iii). The Bureau did not offers to ensure that creditors offer differentiations, or other provisions, and receive significant comment on the consumers a meaningful alternative may provide for such adjustments and proposal and is adopting the comment transaction that does not contain a exceptions for all or any class of largely as proposed. prepayment penalty, in accordance with transactions as in the Bureau’s judgment The Board proposed comment the purposes of TILA section 129C(c)(4). are necessary or proper to effectuate the 43(g)(3)(v)–1 to clarify what is meant by In the course of its review, if the Bureau purposes of TILA, prevent an alternative transaction for which the determines that more specific timing circumvention or evasion thereof, or consumer likely qualifies. In this requirements would provide more facilitate compliance therewith. 15 example, the creditor has a good faith consumer choice, the Bureau may U.S.C. 1604(a), 1639b(e). This approach belief the consumer can afford monthly propose to revise § 1026.43(g)(3) is further supported by the authority payments of up to $800. If the creditor accordingly. under TILA section 129B(e) to condition offers the consumer a fixed-rate The Board proposed comment terms, acts or practices relating to mortgage with a prepayment penalty for 43(g)(3)(i)–1 to clarify that the covered residential mortgage loans that the which monthly payments are $700 and transaction with a prepayment penalty Bureau finds necessary and proper to an alternative covered transaction and the alternative covered transaction ensure that responsible, affordable without a prepayment penalty for which without a prepayment penalty both mortgage credit remains available to monthly payments are $900, the requirements of § 1026.43(g)(3)(v) are must be either fixed-rate mortgages or consumers in a manner consistent with step-rate mortgages. The Bureau did not not met. Proposed comment 43(g)(3)(v)– the purposes and to effectuate the receive significant comment on the 1 also clarified that, in making the purposes of section 129B and 129C, and proposal and is adopting the comment determination the consumer likely that are in the interest of the consumer, with some revisions for clarification qualifies for the alternative covered among other things. 15 U.S.C. 1639b(e). only. For purposes of § 1026.43(g)(3)(i), transaction, the creditor may rely on The purposes of TILA include the the term ‘‘type of interest rate’’ means information provided by the consumer, purposes that apply to 129B and 129C, whether the covered transaction is a even if the information subsequently is to assure that consumers are offered and fixed-rate mortgage, as defined in determined to be inaccurate. The receive residential mortgage loans on § 1026.18(s)(7)(iii), or a step-rate Bureau did not receive significant terms that reasonably reflect their ability mortgage, as defined in comment on the proposal and is § 1026.18(s)(7)(ii). to repay the loan. See 15 U.S.C. adopting the Board’s comment as Substance of offer. As discussed 1639b(a)(2). The Bureau believes that proposed. Comment 43(g)(3)(v)–1 is above, § 1026.43(g)(1)(ii)(B) provides requiring the creditor that offers the substantially similar to comment that a covered transaction with a consumer a loan with a prepayment 36(e)(3)–4, which provides clarification prepayment penalty must be a qualified penalty to also offer the consumer the under the rules providing a safe harbor mortgage, as defined in § 1026.43(e)(2), ability to choose an alternative covered for the anti-steering requirements if, (e)(4), or (f). The Board proposal transaction that is otherwise among other things, a loan originator concerning the alternative offer without substantially similar, besides not presents the consumer with loan a prepayment penalty that a creditor is including a prepayment penalty, is options for which the consumer likely required to offer under TILA section necessary and proper to fulfill such qualifies.167 In addition to agreeing with 129C(c)(4) did not mandate that the purposes by ensuring that the consumer alternative covered transaction offered is offered a reasonable alternative 167 Section 1026.36(e) generally prohibits, in a without a prepayment penalty must also product that the consumer can repay consumer credit transaction, a loan originator from be a qualified mortgage. But under and which does not include a ‘‘steering’’ a consumer to consummate a transaction prepayment penalty. For this reason, based on the fact that the originator will receive proposed § 226.43(g)(3)(ii) through (iv), greater compensation from the creditor in that the Board proposed to incorporate three this provision is also in the interest of transaction than in other transactions the originator conditions of qualified mortgages on the the consumer. offered or could have offered to the consumer, alternative offer, so that consumers may The Board proposed comment unless the consummated transaction is in the consumer’s interest. Section 1026.36(e)(3) explains choose between alternative covered 43(g)(3)(iv)–1 to provide guidance for that there is a safe harbor for this anti-steering transactions that are substantially cases where a creditor offers a consumer requirement when the loan originator presents the

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the Board’s reasoning, the Bureau is proposal also provided under proposed either with or without risky features, adopting this rule and comment to § 226.43(g)(4)(ii) that the creditor must such as a prepayment penalty) or the promote consistency and further the establish, by agreement, that the lowest total dollar amount of origination Bureau’s initiative to provide mortgage broker must present the points or fees and discount points, and streamlined regulatory guidance. consumer an alternative covered thus might not be among the loan transaction without a prepayment 43(g)(4) Offer Through a Mortgage options most important for consumers penalty that meets the conditions in Broker to evaluate. Also, the creditor may have § 1026.43(g)(3) offered by (1) the operational difficulties in confirming The requirement to offer an creditor, or (2) another creditor, if the whether or not a mortgage broker has alternative covered transaction without transaction has a lower interest rate or presented to the consumer the a prepayment penalty applies to a a lower total dollar amount of alternative covered transaction without ‘‘creditor.’’ See TILA section 129C(c)(4). origination points or fees and discount a prepayment penalty. TILA section 103(f), in relevant part, points. The Board proposed comment defines ‘‘creditor’’ to mean a person The Bureau did not receive significant 43(g)(4)–1 to clarify that the creditor who both: (1) Regularly extends comment on proposed § 226.43(g)(4) may satisfy the requirement to present consumer credit which is payable by and is adopting § 1026.43(g)(4) largely the mortgage broker such alternative agreement in more than four as proposed. By providing for the covered transaction without a installments or for which the payment presentation of a loan option with a prepayment penalty by providing the of a finance charge is or may be lower interest rate or a lower total dollar mortgage broker a rate sheet that states required, and (2) is the person to whom amount of origination points or fees and the terms of such an alternative covered the debt arising from the consumer discount points than the loan option transaction without a prepayment credit transaction is initially payable on offered by the creditor, § 1026.43(g)(4) penalty. The Board proposed comment the face of the evidence of indebtedness facilitates compliance with 43(g)(4)–2 to clarify that the creditor’s (or, if there is no such evidence of § 1026.43(g)(3) and with the safe harbor agreement with the mortgage broker indebtedness, by agreement). 15 U.S.C. for the anti-steering requirement in may provide for the mortgage broker to 1602(f). connection with a single covered present both the creditor’s covered The Board proposed § 226.43(g)(4), transaction, as governed by transaction and a covered transaction which would apply when a creditor § 1026.36(e)(3)(i). Section 1026.43(g)(4) offered by another creditor with a lower offers a covered transaction with a does not affect the conditions that a loan interest rate or a lower total dollar prepayment penalty through a mortgage originator must meet to take advantage amount of origination points or fees and broker, as defined in § 1026.36(a)(2), to of the safe harbor for the anti-steering discount points. Comment 43(g)(4)–2 account for operational differences in requirement, however. Thus, if a loan also cross-references comment 36(e)(3)– offering a covered transaction through originator chooses to use the safe 3 for guidance in determining which the wholesale channel versus through harbor, the originator must present the the retail channel.168 The Board consumer with: (1) The loan option with step-rate mortgage has a lower interest proposed under § 226.43(g)(4) that, if a the lowest interest rate overall, (2) the rate. The Board proposed comment creditor offers a covered transaction to loan option with the lowest interest rate 43(g)(4)–3 to clarify that a creditor’s a consumer through a mortgage broker, without certain risky features, including agreement with a mortgage broker for as defined in § 1026.36(a)(2), the a prepayment penalty, and (3) the loan purposes of § 1026.43(g)(4) may be part creditor must present to the mortgage option with the lowest total origination of another agreement with the mortgage broker an alternative covered points or fees and discount points. See broker, for example, a compensation transaction without a prepayment § 1026.36(e)(3)(i). The Bureau believes agreement. The comment clarifies that penalty that meets the conditions in that requiring a mortgage broker to the creditor thus need not enter into a § 1026.43(g)(3). The Board reasoned that present to a consumer the creditor’s separate agreement with the mortgage the requirement to offer an alternative alternative covered transaction without broker with respect to each covered covered transaction without a a prepayment penalty could confuse the transaction with a prepayment penalty. prepayment penalty properly is applied consumer if he or she is presented with The Bureau did not receive significant to creditors and not to mortgage brokers, numerous other loan options under comment on proposed comments because creditors ‘‘offer’’ covered § 1026.36(e). Presenting a consumer 43(g)(4)–1 through –3 and is adopting transactions, even if mortgage brokers with four or more loan options for each these comments largely as proposed. present those offers to consumers. type of transaction in which the Provisions Not Adopted Further, the Board noted that, if consumer expresses an interest may not Congress had intended to apply TILA help the consumer to make a As explained in the preamble to the section 129C(c)(4) to mortgage brokers, meaningful choice. When compared Board’s proposal, the Board did not Congress would have explicitly applied with other loan options a mortgage propose specific rules under proposed that provision to ‘‘mortgage originators’’ broker presents to a consumer, a § 226.43(g)(4) to apply in the case where in addition to creditors.169 The Board’s creditor’s covered transaction without a the loan originator is the creditor’s prepayment penalty might not have the employee. The Bureau did not receive consumer with: (1) The loan option with the lowest lowest interest rate (among transactions significant comment on that omission interest rate overall, (2) the loan option with the and likewise is not adopting special lowest interest rate without certain risky features, originator’’ to mean any person who, for direct or provisions under § 1026.43(g)(4) to including a prepayment penalty, and (3) the loan indirect compensation or gain, or in the expectation option with the lowest total origination points or apply where the loan originator is the of direct or indirect compensation or gain, takes a creditor’s employee. The Bureau fees and discount points. See § 1026.36(e)(3)(i). residential mortgage loan application, assists a 168 For ease of discussion, the terms ‘‘mortgage consumer in obtaining or applying to obtain a believes that, in such cases, the broker’’ and ‘‘loan originator’’ as used in this residential mortgage loan, or offers or negotiates employee likely can present alternative discussion have the same meaning as under the terms of a residential mortgage loan. 15 U.S.C. covered transactions with and without a Bureau’s requirements for loan originator 1602(cc). The term ‘‘mortgage originator’’ is used, prepayment penalty to the consumer compensation. See § 1026.36(a)(1), (2). for example, for purposes of the anti-steering 169 TILA section 103(cc), as added by section requirement added to TILA by section 1403 of the without significant operational 1401 of the Dodd-Frank Act, defines ‘‘mortgage Dodd-Frank Act. See TILA section 129B(c). difficulties.

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The Board solicited comment on The Bureau did not receive significant consummates a covered transaction whether additional guidance was comment on the proposal and is without a prepayment penalty, needed regarding offers of covered adopting the Board’s proposal. Like § 1026(g)(6) states that it is unnecessary transactions through mortgage brokers § 1026.43(g)(4), § 1026.43(g)(5) does not to require that the creditor offer the that use the safe harbor for the anti- affect the conditions that a creditor that consumer an alternative covered steering requirement, under is a loan originator must meet to take transaction without a prepayment § 226.36(e)(2) and (3). The Bureau did advantage of the safe harbor for the anti- penalty. Thus § 1026.43(g) applies only not receive significant comment on the steering requirement. Accordingly, if a if the consumer consummates a covered proposal and concludes that additional creditor that is a loan originator chooses transaction with a prepayment penalty. guidance is not currently required. The to use the safe harbor, the creditor must 43(h) Evasion; Open-End Credit Bureau will continue to study the present the consumer (1) the loan option interaction between prepayment penalty with the lowest interest rate overall, (2) TILA section 129C, which addresses restrictions, as applied to mortgage the loan option with the lowest interest the ability-to-repay requirements and brokers under § 1026.43(g)(4) and the rate without certain risky features, qualified mortgages, applies to safe harbor for the anti-steering including a prepayment penalty, and (3) residential mortgage loans. TILA section requirement, under § 1026.36(e)(2) and the loan option with the lowest total 103(cc)(5) defines ‘‘residential mortgage (3) to ensure that brokers are operating origination points or fees and discount loans’’ as excluding open-end credit with sufficient guidance. In the course points. See § 1026.36(e)(3)(i). plans, such as HELOCs. In its proposal, of its review, if the Bureau determines The Board proposed comment the Board recognized that the exclusion that more guidance would provide 43(g)(5)–1 to clarify that a loan of open-end credit plans could lead clarity or otherwise reduce compliance originator includes any creditor that some creditors to attempt to evade the burden, then the Bureau may propose to satisfies the definition of the term but requirements of TILA section 129C by add additional guidance. makes use of ‘‘table-funding’’ by a third structuring credit that otherwise would party. The Bureau did not receive have been structured as closed-end as 43(g)(5) Creditor That Is a Loan significant comment on the proposed open-end instead. Originator comment and is adopting it as proposed. The Board proposed § 226.43(h) to The Board proposed comment 43(g)(5)– The Board proposed § 226.43(g)(5) to prohibit a creditor from evading the 2 to cross-reference guidance in address table funding situations, where requirements of § 226.43 by structuring comment 36(e)(3)–3 on determining a transaction that does not meet the a creditor does not provide the funds for which step-rate mortgage has a lower definition of open-end credit in a covered transaction out of its own interest rate. The Bureau did not receive § 226.2(a)(20) as open-end credit, such resources but rather obtains funds from significant comment on the proposal as a HELOC. The Board proposed another person and, immediately after and is adopting the Board’s proposed comment 43(h)–1 to explain that where consummation, assigns the note, loan comment. contract, or other evidence of the debt a loan is documented as open-end credit obligation to the other person. Such a 43(g)(6) Applicability but the features and terms, or other creditor generally presents to a TILA section 129C(c)(1)(A) provides circumstances, demonstrate that the consumer loan options offered by other that only a qualified mortgage may loan does not meet the definition of creditors, and this creditor is a loan contain a prepayment penalty and TILA open-end credit, then the loan is subject originator subject to the anti-steering section 129C(c)(4) further requires the to the rules for closed-end credit, requirements in § 1026.36(e). See creditor to offer the consumer an including § 226.43. The Board proposed § 1026.36(a)(1); comment 36(a)(1)–1. alternative offer that does not contain a these provisions using its authority Like other loan originators, such a prepayment penalty. The Board under TILA sections 105(a) and 129B(e) creditor may use the safe harbor for the proposed § 226.43(g)(6) to provide that to prevent circumvention or evasion. anti-steering requirements under § 226.43(g) would apply only if a The Board noted that an overly broad § 1026.36(e)(2) and (3). The Board transaction is consummated with a anti-evasion rule could limit consumer proposed that, if the creditor is a loan prepayment penalty and would not be choice by casting doubt on the validity originator, as defined in § 1026.36(a)(1), violated if (1) a covered transaction is of legitimate open-end plans, and the and the creditor presents a consumer a consummated without a prepayment Board thus solicited comment on covered transaction with a prepayment penalty or (2) the creditor and consumer whether to limit the anti-evasion rule’s penalty offered by a person to which the do not consummate a covered application, for example, to HELOCs creditor would assign the covered transaction. The Bureau did not receive secured by first liens where the transaction after consummation, the significant comment on the proposal consumer draws down all or most of the creditor must present the consumer an and is adopting the Board’s proposal entire line of credit immediately after alternative covered transaction without under § 1026.43(g)(6). the account is opened. a prepayment penalty offered by (1) the Section 1026.43(g)(2) limits the period Consumer groups generally supported prospective assignee, or (2) another during which a prepayment penalty the proposed anti-evasion provision; person, if the transaction offered by the may be imposed and the amount of any some consumer groups suggested that other person has a lower interest rate or prepayment penalty. As provided in the provision should be expanded to a lower total dollar amount of § 1026(g)(6), those prepayment penalty require all HELOCs to comply with all origination points or fees and discount limitations apply only if a covered Dodd-Frank Act requirements, points. The Board reasoned that its transaction with a prepayment penalty expressing concern over the potential proposal provided flexibility with is consummated. Similarly, for consumer abuse. Industry respect to the presentation of loan § 1026.43(g)(3) requires a creditor that commenters generally sought options, which facilitates compliance offers a consumer a covered transaction clarification on the anti-evasion rule, with § 1026.43(g)(3) and with the safe with a prepayment penalty to offer the noting that ambiguity with respect to harbor for the anti-steering requirement consumer an alternative covered the provision might limit creditors’ in connection with the same covered transaction without a prepayment ability, or willingness, to offer HELOCs transaction. See § 1026.36(e)(3)(i). penalty. Where a consumer or other open-end credit products.

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The Bureau is adopting the Board’s also affording creditors sufficient time addition, the Bureau has consulted, or proposal largely as proposed. Section to implement the more complex or offered to consult with, the prudential 1026.43(h) is also consistent with the resource-intensive new requirements. regulators, SEC, HUD, FHFA, the Board’s 2008 HOEPA Final Rule, As noted above, in response to the Federal Trade Commission, and the § 1026.35(b)(4), which provides a proposal, some industry commenters Department of the Treasury, including similar anti-evasion provision with requested that the Bureau provide regarding consistency with any respect to higher-priced mortgage loans. additional time for compliance because prudential, market, or systemic The Bureau is including this provision the Bureau is finalizing several mortgage objectives administered by such both as part of its interpretation of TILA rules at the same time. These agencies. The Bureau also held section 129C and using its authority commenters expressed concern over discussions with or solicited feedback under TILA section 105(a), which both the breadth and complexity of new from the United States. Department of provides that the Bureau’s regulations rules expected from the Bureau and Agriculture, Rural Housing Service, the may contain such additional from other regulators. Some commenters Federal Housing Administration, and requirements, classifications, stated that small institutions, in the Department of Veterans Affairs differentiations, or other provisions, and particular, might face a higher cost of regarding the potential impacts of the may provide for such adjustments and compliance under the timeframes final rule on those entities’ loan exceptions for all or any class of established in section 1400(c) of the programs. transactions as in the Bureau’s judgment Dodd-Frank Act. One industry The Board issued the 2011 ATR are necessary or proper to effectuate the commenter explained that the new rules Proposal prior to the transfer of purposes of TILA, prevent would require creditors to alter financial rulemaking authority to the Bureau. As circumvention or evasion thereof, or products, modify compliance systems, the Board was not subject to Dodd- facilitate compliance therewith, and and train staff. Another industry Frank Act section 1022(b)(2), the 2011 TILA section 129B(e) to prevent commenter noted that some credit ATR Proposal did not contain a circumvention or evasion. 15 U.S.C. unions and other institutions that rely proposed Dodd-Frank Act section 1022 1604(a), 1639b(e). The purposes of TILA on third-party providers, such as analysis. include the purposes that apply to software vendors, to assist with The Dodd-Frank Act and the final rule section 129C, to assure that consumers compliance might face particular establish minimum standards for are offered and receive residential challenges with implementing necessary consideration of a consumer’s mortgage loans on terms that reasonably changes over a short time period since repayment ability for creditors reflect their ability to repay the loan. such third parties will need time to originating certain closed-end, See 15 U.S.C. 1639b(a)(2). While some incorporate necessary updates and residential mortgage loans. These industry commenters requested further conduct testing, and include the underwriting requirements are similar, clarification on this provision, so as to changes in their scheduled releases. but not identical, to the ability-to-repay avoid limiting consumer choice, the Some commenters urged the Bureau to requirements that apply to high-cost and Bureau believes that no further higher-priced mortgage loans under coordinate publishing and effective 171 commentary is required. A creditor that dates among the title XIV rules and the current regulations. In general, the Act and the final rule prohibit a creditor offers a consumer an open-end line of QRM rulemaking, in order to assist from making a covered transaction credit in the ordinary course of business creditors in minimizing compliance unless the creditor makes a reasonable need not be concerned with running burden. and good faith determination, based on afoul of the anti-evasion requirement, For the reasons already discussed verified and documented information, and a creditor need not undertake any above, the Bureau believes that an that the consumer has a reasonable additional compliance or reporting steps effective date of January 10, 2014 for ability to repay the loan according to its to do so. A creditor only violates this final rule and most provisions of § 1026.43(h) when the creditor terms. the other title XIV final rules will ensure These documentation and verification structures credit secured by a that consumers receive the protections consumer’s dwelling that does not meet requirements effectively prohibit no in these rules as soon as reasonably documentation and limited the definition of open-end credit in practicable, taking into account the § 1026.2(a)(20) as an open-end plan in documentation loans that were common timeframes established by the Dodd- in the later years of the housing bubble. order to evade the ability-to-repay Frank Act, the need for a coordinated requirements. The Bureau’s approach The final rule generally requires the approach to facilitate implementation of creditor to verify the information relied should allow creditors acting in good the rules’ overlapping provisions, and faith to continue to provide credit to on in considering a consumer’s debts the need to afford creditors and other relative to income or residual income consumers in the manner best fit for affected entities sufficient time to business needs and consumer demand, after paying debts, using reasonably implement the more complex or without concern of accidentally running reliable third-party records, with special resource-intensive new requirements. afoul of the anti-evasion requirement. VII. Dodd-Frank Act Section 1022(b)(2) on depository institutions and credit unions with VI. Effective Date Analysis $10 billion or less in total assets as described in This final rule is effective on January section 1026 of the Dodd-Frank Act; and the impact A. Overview on consumers in rural areas. 10, 2014. The rule applies to 171 The Bureau notes that under the final rule, transactions for which the creditor In developing the final rule, the ‘‘higher-priced covered transaction’’ is defined in received an application on or after that Bureau has considered potential § 1026.43(b)(4). ‘‘Higher-priced mortgage loan’’ date. As discussed above in part III.C, 170 (HPML) is defined in § 1026.35. ‘‘High-cost benefits, costs, and impacts. In mortgage’’ is defined in § 1026.32. The Bureau the Bureau believes that this approach further notes that interest rate thresholds specified is consistent with the timeframes 170 Specifically, section 1022(b)(2)(A) of the in the ‘‘higher-priced covered transaction’’ established in section 1400(c) of the Dodd-Frank Act calls for the Bureau to consider the definition (higher-priced threshold) are similar to potential benefits and costs of a regulation to the HPML thresholds, except the final rule’s higher- Dodd-Frank Act and, on balance, will consumers and covered persons, including the priced threshold does not include a specified rate facilitate the implementation of the potential reduction of access by consumers to threshold for ‘‘jumbo’’ loans, as provided in rules’ overlapping provisions, while consumer financial products or services; the impact § 1026.35.

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rules for verifying a consumer’s income creditor satisfied the ability-to-pay based must be documented and verified. or assets. The creditor must calculate requirements so that the loan qualifies As is true with respect to the first the monthly mortgage payment based on for a legal safe harbor under the ability- category of qualified mortgages the greater of the fully-indexed rate or to-repay requirements. A loan that described above, a loan that satisfies any introductory rate, assuming satisfies these criteria and is a higher- these criteria and is not a higher-priced monthly, fully amortizing payments that priced covered transaction receives a covered transaction receives a legal safe are substantially equal. The final rule rebuttable presumption of compliance harbor under the ability-to-repay provides special payment calculation with the ability-to-repay requirements. requirements. A loan that satisfies these rules for loans with balloon payments, The second option for originating a criteria and is a higher-priced covered interest-only loans, and negative qualified mortgage provides a temporary transaction receives a rebuttable amortization loans. expansion of the general definition. presumption of compliance with the The final rule provides special rules Through this option, a loan is a ability-to-repay requirements. for complying with the ability-to-repay qualified mortgage if it meets the The third option for qualified requirements for a creditor refinancing a prohibitions on certain loan features, mortgages exists only for small creditors ‘‘non-standard mortgage’’ into a the limitations on points and fees and operating predominantly in rural or ‘‘standard mortgage.’’ Under the final loan terms that apply under the general underserved areas, who are allowed rule, a non-standard mortgage is defined definition and also meets one of the under the rule to originate a balloon- as an adjustable-rate mortgage with an following requirements: is eligible for payment qualified mortgage. introductory fixed interest rate for a purchase or guarantee by the Federal Specifically, this option exists for period of one year or longer, an interest- National Mortgage Association (Fannie lenders originating 500 or fewer covered only loan, or a negative amortization Mae) or the Federal Home Loan transactions, secured by a first lien, in loan. Under this provision, a creditor Mortgage Corporation (Freddie Mac) the preceding calendar year, with assets refinancing a non-standard mortgage (collectively, the GSEs), while operating equal to or under $2 billion (to be into a standard mortgage does not have under the conservatorship or adjusted annually), and who made more to consider the specific underwriting receivership of the FHFA; is eligible to than 50 percent of their total covered criteria a lender must otherwise be purchased or guaranteed by any transactions secured by first liens on consider under the general ability-to- limited-life regulatory entity succeeding properties in counties that are ‘‘rural’’ or repay option, if certain conditions are the charter of either the GSEs; or is ‘‘underserved.’’ These creditors are met. eligible to be insured by the FHA, VA allowed to offer loans with balloon To provide creditors more certainty or USDA or USDA RHS. This temporary payments assuming the loan also meets about their potential liability under the provision expires with respect to GSE- certain loan-specific criteria: the ability-to-pay standards while eligible loans when conservatorship of creditor must satisfy the requirements protecting consumers from unaffordable the GSEs ends and expires with respect under the general qualified mortgage loans, the Dodd-Frank Act creates a to each other category of loans on the definition regarding consideration and presumption of compliance with the effective date of a rule issued by each verification of income or assets and debt ability-to-pay requirement when respective Federal agency pursuant to obligations; the loan cannot permit creditors make ‘‘qualified mortgages.’’ its authority under TILA section negative amortization; the creditor must According to the statute, covered 129C(b)(3)(ii) to define a qualified determine that the consumer can make transactions, in general, are qualified mortgage. Alternatively, if GSE all of the scheduled payments (other mortgages where: the loan does not conservatorship continues or the than the final balloon payment) under contain negative amortization, interest- Federal agencies do not issue rules the terms of the legal obligation from the only payments, or balloon payments defining qualified mortgage pursuant to consumer’s current or reasonably (except in certain limited TILA section 129C(b)(3)(ii), the expected income or assets other than the circumstances); the term does not temporary qualified mortgage definition dwelling that secures the transaction; exceed 30 years; points and fees expires seven years after the effective the loan must have a term of least five (excluding up to two bona fide discount date of the rule. years and no more than 30 years; the points) do not exceed three percent of Unlike loans that are qualified interest rate is fixed during the term of the total loan amount; the income or mortgages under the general definition, the loan; the creditor must base the assets and debt obligations are there is no specific monthly debt-to- payment calculation on the scheduled considered and verified; the income ratio threshold to be a qualified periodic payments, excluding the underwriting is based on the maximum mortgage under this temporary balloon payment; and the loan must not rate during the first five years, uses a provision, except as may be required to be subject to a forward commitment at payment schedule that fully amortizes be eligible for purchase or guarantee or the time of consummation. the loan over the loan term, and takes to be insured by the GSEs or Federal Unlike loans that are qualified into account all mortgage-related agencies. The temporary qualified mortgages under the general definition, obligations. mortgage definition does not there is no specific debt-to-income ratio Under the final rule creditors have specifically include documentation and requirement for balloon-payment three options for originating a qualified verification requirements or a specific qualified mortgages. However, creditors mortgage. Under the first option, the payment calculation requirement. The must generally consider and verify a loan must satisfy basic documentation Bureau understands that, to be eligible consumer’s monthly debt-to-income and verification requirements for for purchase or guarantee by the GSE’s ratio. Like the other qualified mortgage income or assets and debt, and the or to be eligible to be guaranteed or definitions, a loan that satisfies the consumer must have a total (or ‘‘back- insured by the Federal agencies, a loan criteria for a balloon-payment qualified end’’) debt-to-income ratio that is less must first satisfy certain payment mortgage and is not a higher-priced than or equal to 43 percent. With calculation requirements and repayment covered transaction receives a legal safe respect to a loan that satisfies these ability analyses (which include harbor under the ability-to-repay criteria and is not a higher-priced consideration of a consumer’s total requirements for as long as the loan is covered transaction, there is a monthly debt-to-income ratio) and the held in portfolio by the creditor who conclusive presumption that the information on which the calculation is originated the loan. The safe harbor also

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applies to balloon-payment qualified After the expiration of the three-year for this rule,173 and the public mortgages which are sold three years or time period, the consumer is precluded comments thereon. more after consummation. A loan that from bringing an affirmative claim However, the Bureau notes that for satisfies the balloon payment qualified against the creditor. At any time, when some aspects of this analysis, there are mortgage criteria and is a higher-priced a creditor or an assignee initiates a limited data available with which to covered transaction receives a rebuttable foreclosure action, a consumer may quantify the potential costs, benefits, presumption of compliance with the assert a violation of these provisions ‘‘as and impacts of the final rule. For ability-to-repay requirements. a matter of defense by recoupment or example, data on the number and As discussed above, the final rule setoff.’’ There is no time limit on the use volume of various loan products provides a conclusive presumption of of this defense, although the originated for the portfolios of bank and compliance with the ability-to-repay non-bank lenders exists only in certain recoupment or setoff of finance charge requirements for loans that satisfy the circumstances. Data regarding many of and fees is limited to the first three definition of a qualified mortgage and the benefits of the rule such as the are not higher-priced covered years of finance charges and fees paid benefits from prevented defaults or from transactions (i.e., APR does not exceed by the consumer under the mortgage. prevented injuries to the financial Average Prime Offer Rate (APOR) + 1.5 B. Data and Quantification of Benefits, system are also limited. percentage points for first liens or 3.5 Costs and Impacts In light of these data limitations, the percentage points for subordinate analysis below generally provides a liens).172 The final rule provides a Section 1022 of the Dodd-Frank Act qualitative discussion of the benefits, rebuttable presumption of compliance requires that the Bureau, in adopting the costs, and impacts of the final rule. with ability-to-repay requirements for rule, consider potential benefits and General economic principles, together all other qualified mortgage loans, costs to consumers and covered persons with the limited data that are available, meaning qualified mortgage loans that resulting from the rule, including the provide insight into these benefits, are higher-priced covered transactions. potential reduction of access by costs, and impacts. Where possible, the A consumer who seeks to rebut the consumers to consumer financial Bureau has made quantitative estimates presumption must prove that, at the products or services resulting from the based on these principles and the data time of consummation, in light of the rule, as noted above; it also requires the that are available. For the reasons stated consumer’s income and debt Bureau to consider the impact of in this preamble, the Bureau considers obligations, the consumer’s monthly proposed rules on covered persons and that the rule as adopted faithfully payment (including mortgage-related the impact on consumers in rural areas. implements the purposes and objectives obligations) on the covered transaction These potential benefits and costs, and of Congress in the statute. Based on each and any simultaneous loans of which these impacts, however, are not and all of these considerations, the Bureau has concluded that the rule is the creditor was aware, would leave the generally susceptible to particularized appropriate as an implementation of the consumer with insufficient residual or definitive calculation in connection income to pay living expenses, Act. with this rule. The incidence and scope including recurring and material of such potential benefits and costs, and C. Baseline for Analysis obligations or expenses of which the such impacts, will be influenced very creditor was aware. The provisions of Dodd Frank Finally, the final rule implements the substantially by economic cycles, concerning minimum loan standards Dodd-Frank Act limits on prepayment market developments, and business and and the ability-to-repay requirement are penalties, lengthens the time creditors consumer choices, that are substantially self-effectuating, and the Dodd-Frank must retain records that evidence independent from adoption of the rule. Act does not require the Bureau to adopt compliance with the ability-to-repay No commenter has advanced data or a regulation to implement these and prepayment penalty provisions, and methodology that it claims would amendments. The Act does require the prohibits evasion of this rule, in enable precise calculation of these Bureau to issue regulations to ‘‘carry out connection with credit that does not benefits, costs, or impacts. Moreover, the purposes of’’ the subsection meet the definition of open-end credit, the potential benefits of the rule on governing qualified mortgages, which by structuring a closed-end extension of consumers and covered persons in includes the ‘‘presumption of credit as an open-end plan. creating market changes anticipated to compliance’’ accorded those mortgages. A consumer who brings an action address market failures are especially In the absence of such regulations, the against a creditor for a violation of the hard to quantify. statutory provisions would take effect ability-to-repay requirements within In considering the relevant potential on January 21, 2013, and there would be three years from when the violation benefits, costs, and impacts, the Bureau no clarification beyond the statute as to the meaning of the ability-to-repay occurs may be able to recover special has utilized the available data discussed statutory damages equal to the sum of requirement, which mortgages meet the in this preamble, where the Bureau has all finance charges and fees paid by the statutory criteria for a qualified found it informative, and applied its consumer, unless the creditor mortgage, and the nature of the knowledge and expertise concerning demonstrates that the failure to comply presumption of compliance with respect consumer financial markets, potential is not material; actual damages; to such mortgages. Thus, many costs statutory damages in an individual business and consumer choices, and and benefits of the final rule considered action or class action, up to a prescribed economic analyses that it regards as below would arise largely or entirely threshold; and court costs and attorney most reliable and helpful, to consider from the statute, not from the final rule. fees that would be available for the relevant potential benefits and costs, The final rule would provide substantial violations of other TILA provisions. and relevant impacts. The data relied benefits compared to allowing these upon by the Bureau includes the public provisions to take effect alone by 172 The Average Prime Offer Rate means ‘‘the comment record established by the clarifying parts of the statute that are average prime offer rate for a comparable proposed rule, as well as the data ambiguous. Greater clarity on these transaction as of the date on which the interest rate described in the Bureau’s Federal for the transaction is set, as published by the Bureau.’’ TILA section 129C(b)(2)B). Register notice reopening the comment 173 See 77 FR 33120 (June 5, 2012)

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issues should reduce the compliance 2003 useful to assess some of the rule’s construction loans, and bridge loans burdens on covered persons by reducing possible effects when credit conditions, with a term of 12 months or less. costs for attorneys and compliance and the economy more generally, return E. Potential Benefits and Costs to officers as well as potential costs of to normal. During this period, home Consumers and Covered Persons over-compliance and unnecessary prices were generally rising and the litigation. housing market was in a positive phase. In the analysis of benefits, costs and Section 1022 of the Dodd-Frank Act Notably, interest rates were falling in impacts, the Bureau has chosen to permits the Bureau to consider the 2002 and 2003, which created a very consider the ability-to-repay provisions benefits and costs of the rule solely large surge in refinancing activity. This together with the various qualified compared to the state of the world in period may not be perfectly mortgage provisions. The discussion which the statute takes effect without an representative of an ‘‘average’’ market, below first addresses the economics of implementing regulation. To provide but these years span almost a full an ability-to-repay standard, and the public better information about the business cycle, capturing the end of considers the specific market failures benefits and costs of the statute, 1990’s expansion, the early 2000’s that the statute and the rule aim to however, the Bureau has nonetheless recession and the beginning of the next address. In general, market failures may chosen to evaluate the benefits, costs, expansion.177 include incomplete markets, and impacts of the major provisions of The analysis also uses data from the externalities, imperfect competition, the final rule against a pre-statutory period 2004 through 2009. Beginning in imperfect information, or imperfect baseline. That is, the Bureau’s analysis 2004, the mortgage market in the United information processing by consumers below considers the benefits, costs, and States was in the height of the housing and several of those are discussed impacts of the relevant provisions of the bubble. In 2007 home prices, mortgage here.178 The benefits and costs of the Dodd-Frank Act combined with the lending, and the economy more requirement to assess ability to repay final rule implementing those generally collapsed. The period that based upon documented and verified provisions relative to the regulatory covers the ‘‘bubble’’ years and the crash information are then discussed along regime that pre-dates the Act and that followed is also useful to gauge the with the impacts of the new liabilities, remains in effect until the final rule impacts of the final rule. It is exactly the and the presumption of compliance that takes effect. As noted, current lending conditions during those years, mitigates those liabilities established regulations have parallel but not and the damage they caused, that the under the Dodd-Frank Act. identical ability-to-repay rules applied statute and the final rule are primarily Additional provisions of the rule are to higher-price and high-cost mortgage designed to prevent. Examining the considered including the impacts of the loans.174 performance and effects of the provisions related to points and fees, In the analysis, in addition to mortgages offered during this period, prepayment penalties and the definition referring to present market conditions, loans that were largely originated based of ‘‘rural or underserved’’. The the Bureau refers at times to data from on the perceived value of collateral, relationship between these provisions other historical periods—the market as offers insights into the potential benefits and other mortgage related rulemakings it existed from 1997 to 2003 and the and costs of the rule. is discussed. The benefits, costs and years of the bubble and the collapse— D. Coverage of the Final Rule impacts of the final rule in relation to to provide the public a fuller sense of several major alternatives are then The provisions of the final rule the potential impacts of the rule in other discussed. require creditors to determine a market conditions.175 Considering the consumer’s ability to repay a current state of the market makes clear 1. Economics of Ability To Repay ‘‘residential mortgage loan, ’’ excluding the near term benefits and costs of the The basic requirement of Section 1411 reverse mortgages and temporary bridge provisions. However, at this point in the of the Dodd-Frank Act is that a covered loans of 12 months or less, (referred to credit cycle, the market is highly transaction may only be made when the as ‘‘covered transactions’’) ’’and restrictive and operating under very creditor has made a ‘‘reasonable and establish new rules and prohibitions on tight credit conditions.176 Against this good faith’’ determination that the prepayment penalties. For these background, the benefits and the costs consumer will be able to repay the loan. purposes, this rule covers with some of the rule may appear smaller than In the absence of any market exceptions, any dwelling-secured otherwise. imperfections, when negotiating a loan, The Bureau considers the mortgage consumer credit transaction, regardless both the lender and borrower would market as it existed from 1997 through of whether the consumer credit understand and consider the probability transaction involves a home purchase, of default and the related costs should refinancing, home equity loan, first lien 174 The Bureau has chosen, as a matter of such a default occur. Creditors would discretion, to consider the benefits and costs of or subordinate lien, and regardless of extend credit if, and only if, the ‘‘price’’ those provisions that are required by the Dodd- whether the dwelling is a principal Frank Act in order to better inform the rulemaking. of the loan, i.e., the risk-adjusted return residence, second home, vacation home (the return taking into account the The Bureau has discretion in future rulemakings to (other than a timeshare residence), a choose the relevant provisions to discuss and to expected loss from default) is high choose the most appropriate baseline for that one- to four-unit residence, enough to justify the investment. particular rulemaking. condominium, cooperative, mobile 175 The statute and final rule are designed to Informed consumers would accept the home, or manufactured home. However, loan if, and only if, the benefits of ensure a minimal level of underwriting across the Dodd-Frank Act specifically various states of the housing market and credit financing the property are worth the cycle. As a result, the Bureau determined, as a excludes from these provisions open- costs, including any expected costs in matter of discretion, that it was beneficial to end credit plans or extensions of credit the likelihood that they default and compare certain aspects of the rule against different secured by an interest in a timeshare scenarios, using different historical data. plan. The final rule generally also 176 See Board of Governors of the Federal Reserve 178 For a general discussion of market failures, System, ‘‘Monetary Policy Report to the Congress,’’ excludes reverse mortgages, residential including incomplete markets, see Chapter 4 (July 17, 2012), available at http:// (‘‘Market Failure’’) in Joseph E. Stiglitz. Economics www.federalreserve.gov/monetarypolicy/files/ 177 Reliable loan level data from earlier time of the Public Sector, 3d edition. New York: W. W. 20120717_mprfullreport.pdf. periods is generally unavailable. Norton & Company, Inc. (2000).

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cannot maintain access to the specific information provided about the loans or creditor to internalize particular property. and ensuring that the seller has costs, often magnified by information The primary benefits or costs from an provided only loans that meet agreed failures and systematic biases that lead ability-to-repay requirement therefore upon criteria. In addition, contracts to underestimation of the risks involved. derive from situations, where, absent provide that ex-post, should a loan The first such costs are simply the such a requirement, these conditions are perform poorly, the originator may have pecuniary costs from a defaulted loan— not met or where certain externalities to repurchase the loan. This contracting if the loan originator or the creditor does may exist. These may include situations feature is also designed to ensure that not bear the ultimate credit risk, he or where the originator or creditor is not the initial creditor of the loan has the she will not invest sufficiently in fully informed or has incorrect proper incentives to verify the verifying the consumer’s ability to information about the transaction. More borrower’s ability to repay or the repay. Even in cases where the lender likely, a fully informed originator or collateral value. Still, not all creditor may not fully internalize all of information about the loan may be does bear those costs, he or she will the relevant costs, and is willing to captured and passed among sequential usually not fully internalize the private extend credit even though the consumer owners of the loan; some tacit costs that a defaulting borrower will may lack the ability to repay. Since the information, not passed on, may give incur should default occur. Further, consumer willingly enters into the the creditor an informational advantage there are social costs from default that transaction, he or she must also be over others and diminishes the creditors may not internalize, as uninformed of either the true likelihood creditors’ incentives to verify the discussed below.181 or true costs of default, or must not fully consumer’s ability to repay.179 As noted earlier, the borrower also internalize all of the relevant costs. As However, even lenders who maintain must decide whether to enter into the discussed below, some of these loans in portfolio may pay insufficient mortgage, and fully informed, perfectly situations arise when the lender or the attention to the borrower’s ability to rational consumers should consider borrower, fully understanding the risks repay. Cases where the loan creditor can their own risk of default and private of the loan and the inherent costs to earn sufficiently high up-front costs in the event of default. However, themselves, do not factor costs borne by compensation, or where incentives of parties outside the transactions into the individual loan originators and the as with lenders, borrowers may not fully their decisions. creditor differ, may lead to lending that anticipate the future probability or costs Collateral based or ‘‘hard money’’ does not include a realistic assessment of default, either because they are lending is one possible case where such of the borrower’s ability to repay. For uninformed or for other reasons. lending could occur. If the lender is example, a retail loan originator who Consumers may underestimate the true assured (or believes he is assured) of earns commission may not have the costs of homeownership or be overly recovering the value of the loan by same incentives as the owners of the optimistic about their own future (or gaining possession of the asset, the bank that employs the loan originator even current) financial condition. This lender may not pay sufficient attention and who will bear the ultimate cost of can be exacerbated in the case of less to the ability of the borrower to repay the loan once on portfolio. Even if such sophisticated consumers negotiating the loan or to the impact of default on loan originators do not have final with more informed mortgage third parties. For very low loan-to-value decision-making authority as to whether professionals who have an interest in (LTV) mortgages, i.e., those where the the creditor will make the loan, the loan closing the loan and who may falsely value of the property more than covers originator controls the information that reassure consumers about the the value of the loan, the lender may not the underwriter receives and may have consumers’ ability to repay. care at all if the borrower can afford the an information advantage that could payments. Even for higher LTV systematically bias underwriting Consumers (and as noted above, mortgages, if prices are rising sharply, decisions.180 This information problem, creditors) may also misjudge the current borrowers with even limited equity in and therefore the risk of poorly or future value of the property securing the home may be able to gain financing underwritten portfolio loans, may be the loan.182 This latter phenomenon was since lenders can expect a profitable even greater where the originator is not very much in evidence during the later sale or refinancing of the property as an employee of the creditor as is true in years of the housing bubble as many long as prices continue to rise. the brokerage and correspondent consumers simply assumed that in Other cases may involve loan lending contexts. times of financial stress, they could originators who do not bear the credit In all these cases, the common always sell or refinance. Further, risk of the loan, and therefore do not problem is the failure of the originator consumers may not understand or may bear the ultimate costs of default. The underestimate the costs they will incur common case is lenders who sell their 179 Some consumers may also benefit from in the event of default, such as the loss informational asymmetries that lead to the loans: these lenders earn upfront of the borrower’s own home, costs of origination fees from consumers and secondary market purchasing their mortgages without full information about the characteristics of relocation, and the borrower’s loss of gains on sale but (absent complete the loan. future credit, employment and other contracts that provide otherwise) may 180 Examples of empirical evidence of the not generally bear the costs of a later persistence of moral hazard among employees in 181 borrower default. As the relative size of commercial and retail lending, include originators With these market failures, even if regulation of residential mortgages, appears in Sumit Agarwal limits opportunities for lenders to extend credit the upfront fees increase, the potential and and Itzhak Ben-David, ‘‘Do Loan Officers’ without retaining a portion of the risk, there may agency problems do as well. The market Incentives Lead to Lax Lending Standards?’’ Federal be cases where lenders will not pay enough recognizes the informational issues in Reserve Bank of Chicago working paper (2012); attention to a borrower’s ability to repay. Aritje Berndt; and Burton Hollifield, and Patrik 182 See Foote, Christopher L., Kristopher S. these transactions and has developed Sandas, 2010, The Role of Mortgage Brokers in the mechanisms to mitigate adverse Subprime Crisis, Working paper, Carnegie Mellon Gerardi, and Paul S. Willen, ‘‘Why Did So Many selection and moral hazard. For University. Cole, Shawn, Martin Kanz, and Leora People Make So Many Ex Post Bad Decisions? The Causes of the Foreclosure Crisis,’’ Public Policy example, purchasers of loans engage in Klapper (2010), Rewarding Calculated Risk-Taking: Evidence from a Series of Experiments with Discussions Papers, Federal Reserve Bank of Boston due diligence, either directly or by Commercial Bank Loan Officers, Working paper, (2012), available at http://www.bostonfed.org/ hiring third parties, validating the Harvard Business School. economic/ppdp/2012/ppdp1202.pdf.

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opportunities for which credit reports or within a short period of time of the liability, they have an additional credit scores weigh in the decision.183 foreclosed sale.186 incentive to monitor the behavior of the Research is also beginning to examine As noted above, neither party to the original creditor. The ex-post liability to other spillover effects from foreclosures transaction is likely to internalize costs the consumer mitigates the incentives including increases in neighborhood for the creditor to shirk on the ex-ante to third parties. Even among very crime 187 and social effects on family investments in the underwriting. informed consumers and creditors, most members such as hampered school Even creditors making the optimal will not internalize the social costs that performance.188 Social policy has long choice of effort when documenting, delinquency or foreclosure can have.184 favored homeownership for the societal verifying and underwriting the loan may Research has consistently shown that a benefits that may ensue; the negative still face some legal challenges from foreclosure will have a negative effect spillovers from foreclosures can be seen consumers ex-post. This will occur on the other homeowners in the vicinity as the inverse of this dynamic.189 when a consumer proves unable to either through the displacement of The Dodd-Frank Act and the final rule repay a loan and wrongly believes (or demand that otherwise would have address these potential market failures chooses to assert) that the creditor failed increased the neighborhood prices, through minimum underwriting to properly assess the consumer’s ability reduced valuations of future sales if the requirements at origination and new to repay before making the loan. This buyers and/or the appraisers are using liability for originators and assignees in will likely result in some litigation the sold foreclosed property as a cases where the standards are found not expense, although the Bureau believes comparable, vandalism, and to be met. For qualified mortgages that that over time, that expense will likely disinvestment.185 While the estimated have earned the conclusive diminish as experience with litigation magnitudes and the breadth of the presumption, meeting the qualified resolves more precise guidelines impact differ, researchers seem to agree mortgage product criteria and regarding what level of compliance is underwriting requirements and pricing that there is a negative impact on houses considered complete. After some of the loan at a prime rate are judged in in the vicinity of the foreclosure, and experience, litigation expense will most the rule to be enough to ensure that the likely result where compliance is this impact is the highest for the houses lender made a reasonable and good faith insufficient or from limited novel sets of that are the closest to the foreclosed determination that the borrower will be facts and circumstances where some house and for the houses that get sold able to repay the loan. For loans where ambiguity remains.190 Regardless of the final rule creates a presumption of which party incurs the costs, the 183 See for example, Kenneth P. Brevoort and compliance but leaves room for the economic costs of these actions are the Cheryl R. Cooper, Foreclosure’s Wake: The Credit borrower to rebut the presumption of Experiences of Individuals Following Foreclosure, resources used to litigate these cases, Working Paper, 2010 available at http:// compliance, or loans for which there is thereby helping to ensure compliance works.bepress.com/kbrevoort/2. no presumption (i.e., loans that are not and limiting the incidence of loosely 184 Section 1022 requires consideration of benefits qualified mortgages) the lender may documented originations. The and costs to consumers and covered persons. The exert greater care in underwriting the reimbursement of interest and fees, ability to pay rule also has important potential loan than would be true in the absence benefits and costs for other individuals and firms, along with the statutory damages, paid and for society at large. The Bureau discusses these of any liability for extending a loan to the borrower, constitute, in economic benefits and costs here because they are particularly which the consumer cannot afford to terms, a transfer—a cost to the originator important to the Bureau’s development, and public repay. Lenders therefore face an initial or assignee and a benefit to the understanding of, the final rule. The rule market tradeoff when choosing the 191 implements statutory provisions, enacted in the compensated borrower. wake of the financial crisis, that seem clearly optimal level of costs to bear in intended to help prevent the potential negative documenting and underwriting the loan 2. Potential Benefits of the Ability-To- social externalities of poor underwriting while and assessing the ability to repay Repay Provisions for Consumers and preserving the potential positive social externalities (subject to the minimum standards all Covered Persons of mortgage lending. The Bureau reserves discretion loans must meet): some increased effort in the case of each rule whether to discuss benefits The final rule will help to ensure that and costs other than to consumers and covered (and therefore increased cost) at the loans are not made without regard for persons. time of origination may lower costs the borrower’s ability to repay and 185 There are several papers documenting various resulting from possible liability should thereby protect consumers and as noted magnitudes of the negative effect on the nearby the borrower become delinquent or above, others affected by defaults and properties. Data in Massachusetts from 1987 to 2009 default. Since assignees now share this indicate that aside from a 27% reduction in the foreclosures. (These others are value of a house (possibly due to losses associated themselves consumers and the adverse with abandonment), foreclosures lead to a 1% 186 Frame, W. Scott (2010): Estimating the effect spillover effect from defaults and reduction in the value of every other house within of mortgage foreclosures on nearby property values: foreclosures very much impacts their 5 tenths of a mile. See John Y. Campbell, Stefano A critical review of the literature, Economic Giglio, and Parag Pathak, Forced Sales and House Review, Federal Reserve Bank of Atlanta, ISSN economic well being.) Historically, the Prices, American Economic Review 101(5) (2011), 0732–1813, Vol. 95, http://hdl.handle.net/10419/ conditions under which credit is abstract available at: http://www.aeaweb.org/ 57661. extended have been cyclical in nature. 187 articles.php?doi=10.1257/aer.101.5.2108. Data from See for example, Ingrid Gould Ellen, Johanna Periods of tight credit, such as the Fannie Mae for the Chicago MSA, show that a Lacoe, and Claudia Sharygin, Do Foreclosures foreclosure within 0.9 kilometers can decrease the Cause Crime?, Working Paper 2011. price of a house by as much as 8.7%, however the 188 A summary of recent and ongoing research is 190 The Bureau recognizes that there may always magnitude decreases to under 2% within five years presented in Julia B. Isaacs, The Ongoing Impact of be some frivolous lawsuits for which lenders will of the foreclosure. See Zhenguo Lin, Eric Foreclosures on Children, First Focus/The pay legal expenses. In addition, uncertainty Rosenblatt, and Vincent W. Yao. ‘‘Spillover Effects Brookings Institution, April 2012. See also Samuel inherent in the legal system also implies a base of Foreclosures on Neighborhood Property Values,’’ R. Dastrup and Julian R. Betts, Elementary level of litigation. The Journal of Real Estate Finance and Economics, Education Outcomes and Stress at Home: Evidence 191 In a cost benefit accounting, the ex-post 2009, 38(4), 387–407. Similarly, data from a from Mortgage Default in San Diego. realization of the contingent payment from the Maryland dataset for 2006–2009 show that a 189 See for example, the literature summarized in creditor to the borrower is a transfer, a cost on one foreclosure results in a 28% increase in the default Dwight Jaffee and John M. Quigley, The future of side and a benefit on the other. For risk-averse risk to its nearest neighbors. See Charles Towe and the government sponsored enterprises: the role for consumers, the ex-ante insurance value of the Chad Lawley, 2011, ‘‘The Contagion Effect of government in the U.S. mortgage market, NBER contingent payment is also a benefit. In other Neighboring Foreclosures,’’ SSRN Working Paper Working Paper Series, Working Paper 17685, words, consumers are better off knowing that if they 1834805. available at http://www.nber.org/papers/w17685. are harmed, they will recover some damages.

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conditions that exist in the current the consumers who inhabited them) and segments of the market, particularly the mortgage market, are marked by reduced on the financial system and economy substantial majority of covered loan activity, very stringent lending writ large. transactions that current ability-to-pay standards, and extreme care in The benefits from the ability-to-repay requirements do not cover now and are underwriting. In such periods, the requirements therefore come from not expected to cover in the future. benefits of a regime designed to require further limiting and deterring As prices rose, aspiring homeowners prudent underwriting, may be less unaffordable lending, above and beyond borrowed money by misstating their apparent, and, in the near term, the current ability-to-pay requirements income; many loan originators were at adopting such a regime, as the final rule for higher-priced mortgage loans, and least indifferent to or even complicit or does, will likely have little direct and thereby reducing the ensuing private proactive in these endeavors. The immediate effect either on consumers or and social costs of excess delinquency systemic effects were evident: the covered persons. As explained further and default. For example, the basic extension of credit against inflated in the discussion of costs to consumers requirement that all loans be incomes expanded the supply of credit, and covered persons, lenders generally underwritten based on documented which in turn continued the rapid rise are already doing what the rule requires income and debt would have eliminated of house prices in the later years of the and a large majority of their loans will many of the loans made later in the housing boom and exacerbated the qualify for the conclusive presumption bubble that led to crisis. Described as eventual crash.195 of compliance. ‘‘stated-income’’ loans or ‘‘liar-loans,’’ The statute and the final rule also However, as credit expands, as it these mortgages became very prevalent require that creditors must underwrite almost inevitably will, the final rule will in the later years of the expansion and based on an amortizing payment using help to ensure that loans are made had very poor, and worse than expected, the fully indexed rate (or the maximum properly and with regard for the performance when the markets rate in five years for qualified borrower’s ability to repay. To assess the collapsed.192 There is also growing mortgages) and including, with limited benefits of the final rule, therefore, it is evidence that incomes on many exceptions, any balloon payments in the useful to examine the provisions of the mortgage applications were overstated first five years. This effectively bans the final rule in the context of the recent in the years before the crash.193 practice of underwriting loans based housing bubble and its collapse in 2007. Importantly, while limited and reduced upon low upfront payments, either the There is growing evidence that many documentation loans were a large lower interest-only payments on of the market failures in the previous segment of the subprime market, many interest-only loans or negatively discussion were in play in the years of these loans were also made to prime, amortizing option ARMs or the teaser leading up to the housing collapse. In higher credit score borrowers and on rates on hybrid ARMs. some cases, lenders and borrowers properties with lower loan-to-value In their later incarnations, interest- entered into loan contracts on the ratios.194 This suggests a substantial only and negatively amortizing loans misplaced belief that the home’s value benefit to the documentation and (along with loans with terms greater would provide sufficient protection. verification requirements across all than 30 years) were often sold on the These cases included subprime basis of the consumer’s ability to afford borrowers who were offered loans 192 From 2000 to 2009, reduced documentation the initial payments and without regard because the lender believed that the loans grew from 2 percent of outstandings to 9 to the consumer’s ability to afford percent. See FCIC Report pgs 110–111 for house value either at the time of discussion of these loans. Other research subsequent payments once the rate was origination or in the near future could documents the poor performance of these loans and recast. At the peak of the market, cover any default. Some of these that the increased risk was not properly priced. See, between 2004 and 2006, the percentage borrowers were also counting on for example, Michael LaCour-Little and Jing Yang, Taking the Lie Out of Liar Loans: The Effect of of loans that were interest-only, option increased housing values and a future Reduced Documentation on the Performance and ARMs or 40-year mortgages rose from opportunity to refinance; others likely Pricing of Alt-A and Subprime Mortgages, 2012, just 7 percent of originations to 29 understood less about the transaction Working Paper and Wei Jiang, Ashlyn Aiko Nelson, percent. The lower payment possibility and were at an informational and Edward Vytlacil, Liar’s Loan? Effects of Origination Channel and Information Falsification for these loans allows borrowers to disadvantage relative to the lender. on Mortgage Delinquency, 2011, Working Paper. qualify for loans that they otherwise These cases also included Alt-A loans Some authors have tried to understand the may not have been able to afford; but taken by borrowers hoping to speculate differences between cases where lenders offered this comes with the same risks just on housing values. these loans as a benefit to certain customers and cases where customers simply chose a higher- described. The performance of many of In both of these situations, these loans priced limited doc alternative. See Irina Paley and these loans was also very poor, and frequently involved less traditional Konstantinos Tzioumis, Rethinking Stated-income worse than expected, with the onset of products, loans structured with minimal Loans: Separating the Wheat from The Chaff, the downturn.196 The final rule does not monthly payments in order to allow the Working Paper, 2011. For evidence that the risk on these loans was not fully priced, see Cost of Freddie borrower to qualify and to carry the loan Mac’s Affordable Housing Mission, presentation to 195 See Financial Stability Oversight Council, for a period of time with minimal Board of Directors, 2009 at http://fcic- Macroeconomic Effects of Risk Retention expense. Many of these loans were sold static.law.stanford.edu/cdn_media/fcic-docs/2009- Requirements, January 2011, at 12. (‘‘[T]here is into the secondary market, limiting the 06-04FreddieMac- some evidence that the increased supply in CostofAffordableHousingMission.pdf p.12 subprime mortgage credit was in part responsible lenders’ credit risk, but many lenders analyzing the ‘‘unexpectedly poor performance of for greater home price appreciation * * * [and] also retained these loans on their own * * * Alt-A purchases’’ increases in home prices may have reinforced portfolios either with the intent of 193 For example, see Robert B. Avery, Neil Bhutta, expectations for future appreciation, which may earning the full anticipated profits from Kenneth P. Brevoort, and Glenn B. Canner, The have fueled more lending. Increases in loan volume, Mortgage Market in 2011: Highlights from the Data in turn, may have precipitated further increases in such loans over time or with the intent Reported under the Home Mortgage Disclosure Act, home prices.’’); Mian, Atif and Amir Sufi, ‘‘The to hold the loans for a period of time FEDS Working Paper Series, 2012. See also FCIC Consequences of Mortgage Credit Expansion: before selling them. And throughout the Report, pgs. 110–111; LaCour-Little and Yang, 2012; Evidence from the U.S. Mortgage Default Crisis,’’ housing boom, most lenders and Jiang, Nelson, and Vytlacil, 2011; Paley and Quarterly Journal of Economics, vol. 124, no. 4 (2009). borrowers entering into such agreements Tzioumis, 2011. 194 See FCIC Report, pgs. 110–111; LaCour-Little 196 See Amromin, Gene, Jennifer Huang, Clemens failed to consider the costs that default and Yang, 2012; Jiang, Nelson, and Vytlacil, 2011; Sialm, and Edward Zhong, ‘‘Complex Mortgages,’’ would inflict on other properties (and Paley and Tzioumis, 2011. Continued

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ban such products outright, but rather indeed, for some borrowers, these loans such, this provision may offer lenders requires that lenders that make such can be efficient contracts that allow for more incentive to underwrite these loans have a ‘‘reasonable and good the extension of credit (see discussion loans carefully. As loans with higher faith’’ belief in the borrower’s ability to below).201 However, the widespread use points and fees are usually assumed to repay and that in formulating such a of the product put many borrowers in be offered to borrowers in weaker belief the lender must calculate the precarious financial positions and may financial circumstances, this provision monthly payment based on the fully also have fueled the systemic rise in offers protection to that class of indexed rate and fully amortizing home prices.202 The elimination of these borrowers.203 payments, and does not allow these products should limit both the As discussed above, the various loans to enjoy the presumption of individual and the systemic harms liability provisions provide the compliance associated with qualified which ultimately translate, in the largest incentives for lenders to take proper mortgage status. The new underwriting part, into harms to individual care judging the borrower’s ability to requirements, coupled with the liability consumers. repay. This incentive is strongest for for violating these rules, should deter The final rule reduces the likelihood loans that are not qualified mortgages. improper loans and ensure proper that these products will reemerge on a Within the qualified mortgage space, underwriting and diligence when broad scale and thus should limit the higher priced mortgage loans (HPMLs) making such loans; again limiting cases potential for individual and the are still subject to ability-to-repay of personal or social harm. systemic harms. The final rule bans no- liability but afforded a rebuttable Underwriting hybrid ARMs to the doc and the old low-doc loans since the presumption of compliance. This teaser rate was also a very common level of documentation is lower than liability already exists under rules that practice, in particular among subprime that required by the rule). * * * The took effect in October 2009 for HPMLs, loans of the early 2000’s. So called ‘‘2/ rule reduces the incentive to offer these so that relative to existing rules, there 28’’ and ‘‘3/27’’ loans were often other alternative mortgage products by are few benefits (or costs) associated underwritten based on the low initial requiring that underwriting be done with the liability provisions for such payment,197 and exposed the borrower assuming a fully amortizing payment at loans. However, there are some material to potential payment shocks, and a need the fully indexed rate. The final rule differences in the underwriting to refinance, two or three years into the also does not provide any legal requirements and smaller differences in mortgage.198 For example, in 2005, the protection for the lender that makes the scope of the presumption where the teaser rate on subprime ARMs with an these loans (or the investor that acquires liability now applies where it did not in initial fixed-rate period of two or three or guarantees them) as the loans are the past. The new assignee liability may years was 3.5 percentage points below categorically disqualified from being also strengthen the incentives relative to the fully indexed rate.199 As a result, qualified mortgage. These non- the existing rules. mortgages originated in that year faced amortizing products will likely persist Comparing the rebuttable a potentially large change in the interest only in narrow niches for more presumption for higher priced qualified rate and payment, or ‘‘payment shock,’’ sophisticated borrowers who want to mortgages to the conclusive at the first adjustment even absent any match their mortgage payment to presumption (safe harbor) provision for change in the index. changes in their expected income qualified mortgages below the higher- The evidence is mixed on whether stream and who have the resources to priced threshold highlights the benefit payment shock at the initial interest rate qualify for the products under the of leaving the possibility of rebuttal in adjustment causes default.200 And stringent underwriting assumptions the place. Borrowers paying higher rates on statute and regulation require. But these mortgage loans that meet the qualified Federal Reserve Bank of Chicago Working Paper products will not likely be marketed as mortgage product features are most 2010–17 (2010), available at http:// broadly as they were during the bubble. likely to have lower credit scores, lower www.chicagofed.org/digital_assets/publications/ working_papers/2010/wp2010_17.pdf. In addition to the products just incomes and/or other risk factors; as 197 See for example, Christopher Mayer, Karen described, loans with points and fees such, it is among these subprime Pence, and Shane M. Sherlund, ‘‘The Rise in (except for bona fide discount points) borrowers that a greater possibility Mortgage Defaults,’’ Journal of Economic that exceed three percent of the total exists for lenders to place the borrower Perspectives 23, no. 1 (Winter 2009): Table 2, amount cannot be qualified mortgages, Attributes for Mortgages in Subprime and Alt-A into a loan that he or she may not have Pools, p. 31. (showing that from 2003 to mid-2007, except as applicable for smaller loans as the ability to repay. The ability of the about 70 percent of subprime loans in securitized defined. Creditors may take more care in borrower to rebut the presumption of pools were hybrid adjustable rate mortgage loans.) originating a loan when more of the compliance leaves lenders with the 198 Brent W. Ambrose & Michael LaCour-Little, return derives from performance over additional incentive to ‘‘double check’’ Prepayment Risk in Adjustable Rate Mortgages time (interest payments) rather from Subject to Initial Year Discounts: Some New the loan to examine further the Evidence, 29 Real Est. Econs. 305 (2001) (showing upfront payments (points and fees). As borrower’s financial condition and that the expiration of teaser rates causes more ARM residual income, and to ensure that prepayments, using data from the 1990s). The same a causal relationship between payment shock at the these higher risk borrowers have the result, using data from the 2000s and focusing on initial interest rate adjustment and default. In subprime mortgages, is reported in Shane Sherland, contrast, see Anthony Pennington-Cross & Giang means to live in the home they just The Past, Present and Future of Subprime Ho, The Termination of Subprime Hybrid and purchased or refinanced. Mortgages, (Div. of Research & Statistics and Div. Fixed-Rate Mortgages, 38 Real Est. Econs. 399, 420 Where a consumer is unable to afford of Monetary Affairs, Fed. Reserve Bd., Washington, (2010), for evidence that among consumers with his or her mortgage—and proves that the DC 2008); The result that larger payment increases certain hybrid ARMs originated in the 2000s, a generally cause more ARM prepayments, using data substantial number experienced an increase in lender lacked a reasonable and good from the 1980s, appears in James Vanderhoff, monthly payment of at least 5% at the initial faith belief in the consumer’s repayment Adjustable and Fixed Rate Mortgage Termination, interest rate adjustment, and that the default rate for ability at the time the loan was made— Option Values and Local Market Conditions, 24 these loans was three times higher than it would the damages the borrower recovers are Real Est. Econs. 379 (1996). have been if the payment had not changed. a benefit to that party. The same 199 See Christopher Mayer, Karen Pence, & Shane 201 See for example, Gary Gorton, The Panic of Sherlund, The Rise in Mortgage Defaults, 23 J. Econ. 2007, paper presented at the Federal Reserve Bank damages should also be considered a Persps. 27, 37 (2009). of Kansas City’s Jackson Hole Conference, August 200 Mayer, Pence, & Sherlund, supra note 125, at 2008, p. 12–18. 203 In general, smaller dollar loans are more likely 37 provide data from the 2000s that does not find 202 .See for example, Mian and Sufi, 2009. to be impacted by the points and fees provisions.

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cost to the lender and as such, estimates 3. Potential Costs of the Ability-To- verify borrowers’ income, debt and regarding the frequency of such actions Repay Provisions to Consumers and credit history. Reduced documentation and the dollar amounts involved are in Covered Persons loans were originally offered to high the next section discussing costs. In this part the Bureau considers costs credit quality borrowers with substantial incomes. However, in the Another impact of the differentiated to consumers and covered persons of the ability to repay provisions of the 2000’s, the prevalence of these loans structure of the final rule, where certain increased substantially and the loans enjoy a conclusive presumption, statute and final rule, including any potential cost in the form of reduced borrowers to whom they were offered others are given a rebuttable changed. Anecdotally, some of these presumption and still others are subject access to credit for consumers. The primary ongoing costs of the loans could have been made with full to ability to repay scrutiny without the documentation; however, for that subset requirements of the final rule rest in the benefit of a presumption, is that some of loans, it was precisely the reduced underwriting costs, including costs at borrowers may gain ‘‘better’’ loans as processing times and paperwork costs of origination to verify information on lenders choose to make loans that originating these loans that made them which the lender relies in the qualify for the highest level of legal popular among mortgage brokers and underwriting decision and the increased protection. Lenders in less competitive originators during the boom. liability on lenders and assignees. As environments who have some flexibility From this perspective, for certain previously noted, in the current consumers and creditors, requiring full over product offerings and/or pricing environment, lenders are already largely power may find it more profitable to documentation and verification may complying with these requirements and result in the loan being made with a less offer a borrower a qualified mortgage thus the rule should impose minimal, if rather than a non-qualified mortgage if, efficient contractual form, or possibly in any, ex ante costs. But in other credit the loan not being made. In these latter for such lenders, the expected value of environments, when creditors may wish the heightened legal protection is cases, consumers would lose the to lower their underwriting criteria and benefits they get from the mortgage (the enough of an expected cost savings to require less documentation and perform benefits of owning a home, for example, offset any revenue reduction from less verification, the rule would require or the benefits of obtaining better terms making the qualified mortgage. For them to make a good faith and on a loan through a refinancing) and example, a creditor may restructure the reasonable determination of ability to creditors would lose any profits on the price of a transaction with points and repay and to require them to incur ex- loan. However, for most other fees otherwise just above the points and ante costs to document, verify and originators, and consumers, reduced fees limit for a qualified mortgage to consider income and debt (and credit documentation loans were a way to have fewer upfront costs, and a higher history). This should increase the grant credit to unqualified borrowers interest rate, so that the loan is then quality of underwriting of mortgages at who did not have the means to afford under the limit and a qualified origination and thereby limit the the mortgage. As discussed in the mortgage. Similarly, situations could prevalence of future delinquency and benefits section, the elimination of these exist where lowering the price on a loan default, and the level of ex-post costs. loans in these circumstances is a would make the loan eligible for the safe (Of course, exogenous or unanticipated principal benefit of the rule.204 harbor rather than the rebuttable events and borrower behavior will still For borrowers for whom the most presumption. The prevalence of these result in some delinquent and efficient outcome (from a societal situations, or others similar situations, defaulting loans and some possible legal perspective) is, in fact, a reduced is hard to predict and depends on the actions.) In this scheme, the possibility documentation mortgage, the of legal recourse by the borrower serves future prices for mortgages in each of requirements in the final rule have two as an incentive for better lender these segments, the competitive nature possible costs. The time and material to assessment of repayment ability as well verify the required underwriting of the segments, and the individual as offering borrowers redress for elements with documents are true lender’s and borrower’s situation. wrongdoing. Lenders will determine the resource costs; depending on The benefits of the rule, as discussed optimal combination of upfront competitive conditions, the lender or above, will be widely shared among underwriting cost and ex-post liability the borrower may bear the actual costs. individual borrowers, creditors, costs; to the extent these costs increase Precise estimates of these costs from investors, and the public (consumers) and competitive conditions allow time and motion studies or cost function generally. As discussed above, the loss lenders to pass this cost onto borrowers, analyses are not available, but the that occurs when a consumer is unable some borrowers will pay more for their required pay stubs or tax records should to repay a loan is felt by the consumer, loans. At the margin, certain loans that not be a large burden. The final rule the holder(s) of that loan, and other were made in the past, namely those allows income to be verified utilizing parties outside the transaction including where the borrower has limited ability copies of tax returns which the other consumers and would-be- to repay, will not be made. consumer can provide the creditor and consumers. Ensuring that lenders make a. Costs of the Documentation and permits debts to be verified utilizing a a reasonable and good faith Underwriting Requirements credit report. For those with more idiosyncratic income sources that would determination of the borrower’s ability Two distinct requirements of the final to repay should prevent a widespread somehow not be reflected on a tax rule—the requirement to verify income return, the costs may be slightly higher. deterioration of underwriting standards, or assets, debt, and credit history, and the extension of excess credit and the However, it is also possible that certain the requirement to underwrite a loans that would be made absent the broader negative effects that can have on mortgage based on an assessment of documentation requirements would not these parties. To the extent lenders are debt load using the fully indexed rate be made under the rule. This could deterred from making unaffordable and fully amortizing payment—create happen, for example, in cases where the loans, or encouraged to make more costs for certain creditors and affordable loans, all of these parties will consumers. The final rule follows the 204 In these cases, the requirements of the final benefit. statute in requiring that all creditors rule are the benefits that were described earlier.

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cost of documenting the required factors exemptions from these requirements loans, that used underwriting systems is sufficiently high or where the and seeking comment on the scope of that did not look at or verify income, borrower pays an exorbitant ‘‘privacy’’ such exemptions. debts, or assets, but rather relied cost in disclosing the documents. The There may also be some situations primarily on credit score and LTV. final rule only requires that income or where lenders may have systems to Under the final rule, these lenders assets be verified to the extent they are document and verify the required would be impacted in two ways: They relied upon by the creditor in assessing information, but who do so in a manner would have to collect and verify the consumer’s ability to repay; thus the that varies slightly from the provisions income, assets and debts; and more consumer is not required to disclose or of the rule. These lenders may have to importantly, they would have to change document income or assets except if the bear some costs to modify their systems much of their underlying business consumer prefers to have her ability to or practices, but as noted above the model to consider the required factors. repay assessed without regard to the Bureau understands there to be few As noted, the Bureau does not believe undisclosed information. In the event such cases. Lenders who do collect such lending is currently being that there are cases in which, despite information as required by the final practiced, and the benefits of preventing these rules, a consumer who could rule, but who may use it differently may such lending may be substantial (as qualify for a mortgage is unwilling to also incur some costs. For example, discussed above). incur the privacy cost in documenting certain lenders may have systems or The requirements that all loans be income or assets, the transaction will procedures in which the calculation of underwritten assuming a fully not occur: and the benefit to consumers the DTI ratio does not conform to the amortizing payment and the fully and lenders from these ‘lost’ requirements in appendix Q. Such a indexed rate (or to obtain qualified transactions is the relevant cost. creditor could continue its current mortgage status the maximum rate Relative to industry practice today, practices, which should they satisfy the within 5 years of origination) have costs these requirements are likely to impose ability-to-repay requirements, albeit similar in nature to the documentation only a very limited burden for creditors. without the benefit of a presumption of requirements. There are some With the exception of the two situations compliance. Lenders that prefer to make individuals or households with discussed below, most loans today are qualified mortgages with a presumption projected increases in income that will made under very stringent, and perhaps of compliance would have to bear the match the projected increased housing inefficiently high, documentation costs to modify systems or make other costs; the final rule allows the creditor requirements.205 The Bureau changes in order to calculate the to factor expected future income into understands that full documentation is required figures according to the rule. the denominator of the debt-to-income required for all purchase loans and Modifications to information technology calculation but does require that the many refinance loans being supported systems may also be necessary to enable numerator be calculated on the fully- by government programs such as FHA. lenders to label and track qualified indexed payment. There also may be In addition, both Fannie Mae and mortgages. individuals with constant income but a More broadly, the Bureau also Freddie Mac currently require full housing need that is shorter than the recognizes that the establishment of the documentation. The Bureau believe that introductory period. In at least these ability-to-pay requirements and the only a small subset of loans that latter cases, there may be some loans related distinction for qualified creditors intend to hold on portfolio are where it is efficient to qualify the mortgages under the Act, will require underwritten today without the borrower only on the current payment modifications to existing compliance documentation that meets or is very or some other amount. It is difficult to systems and to creditors’ other close to the documentation required by quantify the set of borrowers affected in the final rule. For this limited set of management policies and procedures. For example, review and monitoring this way, however to the extent that loans, the rule imposes the costs already those loans are not made, both the described: The direct compliance costs procedures may have to be altered to ensure compliance with the new lender and borrower will incur the costs to collect the required documentation in of lost profits and lost consumer order to verify the information provided requirements. Again, given the current state of the mortgage market, it is likely benefits, respectively. by the consumer and any costs from The provisions of the rule requiring forgone transactions. that many of these procedures are largely already in place. extended retention times for One exception to the stringent documentation sufficient to show documentation requirements now If measured relative to the benchmark of the earlier periods, either the period compliance with the rule (from two prevailing in the market (and exceeding years to three years) will also impose the requirements of the rule) are certain from 1997 to 2003 or the later years of the bubble, the requirements of the final some very limited costs on creditors. streamlined refinance programs aimed Electronic storage, communication and at aiding the housing market recovery rule could be seen to impose more substantial costs. Over the former backup are very inexpensive and are and certain targeted housing support likely to decrease in costs further. programs offered to low and moderate period, there were more limited income borrowers. The Bureau documentation loans than today, b. Liability Costs however it appears that many of these recognizes that the requirements of the Creditor may trade off the ex-ante final rule could greatly increase costs for arose in the situations described where such lending is efficient. By the latter underwriting cost just discussed with these programs and hinder their ex-post liability costs that stem from success. It also recognizes that the period, there were even more such loans and the balance appears to have shifted TILA’s liability provisions and their possibility of consumer harm is likely interaction with the rule’s qualified limited in these contexts. As a result, to one where many if not most of the limited documentation loans had mortgage and presumption of elsewhere in today’s Federal Register compliance provisions.206 Qualified the Bureau is proposing certain misstated income and other deficiencies. 206 The Bureau’s regulations are accompanied by 205 To the extent that these requirements are During those periods there were likely some form of liability for non-compliance, and the inefficiently high, the cost is due to current practice some lenders, as evidenced by the Bureau generally does not address litigation costs and not to the final rule discussed here. existence of no-income, no-asset (NINA) and liability as part of its analysis under Section

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mortgages with interest rates below the rule to the liability they would have also include data on the characteristics threshold for higher-priced covered incurred under the legal regime that and performance of individual loans. transactions enjoy a conclusive existed under federal law just before Over the 1997 to 2003 period, this presumption of compliance (although passage of the Act. segment comprised roughly 13 percent disputes may arise as to whether a of originations. The remaining loans are i. Size of the Market Segments particular loan meets the qualified those held on the balance sheets of mortgage test); qualified mortgages The data used in estimating liability banks, thrifts and credit unions. While above the specified interest rate costs comes from several sources. Data aggregate data regarding the threshold enjoy a rebuttable regarding the loans guaranteed or performance of these portfolios is presumption of compliance with the purchased by Fannie Mae and Freddie available, comprehensive loan level data ability-to-repay requirements; and, loans Mac are from the Historical Loan similar to the enterprise, FHA and that are not qualified mortgages are Performance (HLP) dataset maintained private-label loans is not.209 As a result, subject to general ability-to-repay by FHFA. The FHFA shared a one the actual characteristics of individual provisions, under which the borrower percent random sample of these loans loans are not available. will bear the burden of proof for with the Bureau, along with information Without the temporary provisions establishing a violation. Within each about their characteristics and granting qualified mortgage status to segment, lenders and borrowers (or their performance. In the notice to reopen the certain loans that are eligible to be attorneys in contingency arrangements) comment period for this rulemaking, the purchased by the GSEs or insured by must pay for the costs of litigation, Bureau detailed these data and FHA, VA and RHS, of the mortgages whether such litigation arises in the requested comment. Commenters were originated during the 1997 to 2003 context of a private right of action generally supportive of using these data, period, the Bureau estimates that brought by the borrower, or a defense but suggested looking at other sources as roughly 70 percent of would have been raised by the borrower to a foreclosure. well including proprietary industry qualified mortgages. Most of these loans Originators and assignees also face datasets available for sale. These data would qualify for the safe harbor, and various contingencies that may arise if cover a large but select portion of GSE perhaps one to four percent points of such a claim is raised or succeeds. loans. In contrast, the HLP data cover these loans would have been qualified Within each segment, the additional the entire universe of GSE loans and mortgages subject to the rebuttable costs increase proportionally with even the one percent sample is more presumption. Another 22 percent of borrowers’ probability of delinquency or representative. As such, the Bureau loans would have been non-qualified default. For example, the additional cost believes the HLP data are the better data mortgages subject to the ability-to-repay for qualified mortgages with a rebuttable for the GSE segment of the market and requirements. The remaining 8 percent presumption of compliance is smallest has consulted with the suggested of loans made over that period were for lower debt-to-income (DTI) ratio sources in other parts of the analysis. appear to have been made without loans (since these borrowers are less Over the 1997–2003 period loans sufficient documentation to be likely to be in a position to need or want guaranteed or purchased by the GSEs permitted under TILA section 129C to bring claims) and increases as the DTI comprised roughly 47 percent of the documentation or were subprime hybrid ratio (keeping other factors constant) mortgage market. adjustable rate mortgages underwritten rises. The same is true as the interest Similarly, information on loans to teaser rates in a way that is no longer rate of a loan increases, assuming that insured by the FHA was provided by the allowed under the final rule. An interest rate is accurately calibrated to FHA in response to the June 5, 2012 important caveat is that these estimates risk. notice. The data cover the years from are not adjusted to account for: (1) In estimating empirically the long-run 1997 to 2011 and exclude Home Equity Loans with total points and fees above additional liability costs from alleged or Conversion Mortgages (HECM) as well the thresholds and therefore not eligible actual violations of the final rule, the as mortgages with seller-funded to be qualified mortgages; (2) the Bureau examines the mortgage market downpayment.207 Combined with loan exception of rural balloon loans to as it existed from 1997 to 2003. The insured by the Veterans Administration qualified mortgages; or the exception for Bureau applies that market data and the or the Rural Housing Service, these streamlined refinancings of non- pre-statute baseline to compare the loans comprised an estimated 9 percent traditional loans.210 liability for creditors under the final of the market during this period. The Based on data from 2011, the Bureau Bureau did not get loan-level data from estimates that without the temporary 1022 because the considerations are self-evident the VA or RHS.208 provisions granting qualified mortgage and the analysis is simplified by assuming full Data on mortgages in non-agency compliance. In general, to the extent regulated status to certain loans purchasable by entities under-comply with a consumer protection securitizations were taken from the GSEs or insurable by FHA, VA and regulation, they will experience less compliance proprietary industry sources that the RHS, 76 percent of mortgages would costs, consumers will experience less benefits, and Bureau has licensed. While less have been qualified mortgages inside the entities will be at a higher risk of litigation costs complete than the HLP files, these data and liability, including from private suits to the extent the relevant statute, such as TILA, provides 209 The proprietary industry data available for for private liability. In addition, even if there is full 207 As described in the comment letter, ‘‘the data sale only contains loan level information for compliance, there will always be some residual risk conform generally to the type and kind of FHA data portfolio loans that are serviced by the largest of non-meritorious litigation. The Bureau, however, featured in a recent Discussion Paper published by servicers in the country. has chosen to discuss litigation costs and liability the Philadelphia Federal Reserve in December 2011, 210 Estimates for the GSE loans and the FHA loans in this analysis because these considerations are FHA Lending: Recent Trends and Their Implication are derived from the datasets provided to the CFPB particularly important in the context of this final for the Future.’’ The letter contains charts and data and described above. For loans in private label rule. The meaning and effect of the presumption of from that paper. securities, estimates are made based upon reported compliance that attaches to qualified mortgages is 208 In sizing the mortgage market and various average characteristics of loans in subprime and a key issue in this rulemaking and has been a major components, the Bureau relied on aggregate market Alt-A securitizations. The aggregate value of loans focus for commenters and interested parties. As data from the Mortgage Market Annual, published originated and held on balance sheet are estimated such, the Bureau is addressing these considerations by Inside Mortgage Finance and on data provided using data from Inside Mortgage Finance and the in this analysis. In other rulemakings, the Bureau by the Market Data section of the FHA Web site distribution of DTI is assumed to mirror the notes that consideration of litigation costs is not which can be found at http://www.fhfa.gov/ distribution at the GSEs. Statistical projections always necessary and remains at its discretion. Default.aspx?Page=70. described below support such an assumption.

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the safe harbor, 2 percent of mortgages them eligible; for which the lender requirements in the final rule that would have been qualified mortgages verified income, assets, and debts and qualified mortgage loans be fully with a rebuttable presumption, and 22 properly calculated the DTI ratio to be documented, have verified income and percent of mortgages would have been 43 percent or less; and which are not be underwritten to the maximum subject to the ability-to-repay higher priced. And even if a loan is payment in the first five years of the requirements. These estimates are erroneously categorized as a qualified loan (with the exception for rural subject to the same limitation stated mortgage with a safe harbor, a borrower balloon loans) will in most cases also above.211 still cannot recover unless the lender satisfy the requirements for obtaining has violated the general ability-to-repay the presumption under the 2008 HOEPA ii. Liability Costs for Qualified requirements, including the requirement Final Rule. The final rule’s requirements Mortgages that the lender make a ‘‘reasonable and for obtaining the status of a qualified For qualified mortgages claimed to be good faith’’ determination that the mortgage (and thus the rebuttable within the safe harbor, borrowers will consumer had the ability to repay. presumption) are slightly more have no claim against the lender for Generally, only a small percentage of prescriptive than the existing rules for ability-to-repay violations unless the borrowers contest foreclosure and even gaining that presumption and this loan does not in fact meet the smaller percentage do so with the difference in the criteria for requirements for safe harbor treatment. benefit of legal representation. This fact, qualification may leave borrowers with Based on the experience of loans and the limited chance of success for slightly less opportunity to rebut the originated during the 1997–2003 period, borrowers to raise successful claims, presumption of compliance.214 the Bureau estimates that roughly four makes it very unlikely that many claims For the subset of these borrowers that percent of qualified mortgages loans will arise from borrowers with these are in default more than three years into will ever be 60 days delinquent and less qualified mortgages. the mortgage, that seek to and are able than one percent are expected to result For qualified mortgage loans above to successfully rebut the lender’s in foreclosure.212 The performance of the higher-priced threshold, costs (as presumption of compliance (when the qualified mortgages that have a well as benefits) of the final rule derive seeking an offset during foreclosure), conclusive presumption of compliance from the differences, including and that are therefore entitled to is expected to be slightly better than differences with respect to the originator compensation, the returns from this these averages. and assignee liability, between the action are in fact reduced relative to the The Bureau believes that only a very existing liability rules and the final rule. existing rules which do not limit the small fraction of these delinquent or Under existing rules, creditors that recovery period in a claim for offset in foreclosed-upon borrowers would seek make a higher-priced mortgage loan a foreclosure proceeding brought by the to raise an ability-to-repay claim. The (HPML) are not allowed to extend credit creditor. As such, the probability that conclusive presumption precludes without regard to ‘‘the consumer’s lenders will have to defend such an liability for loans which meet the repayment ability as of consummation, action is reduced relative to current eligbility criteria for a safe haror, i.e. including the consumer’s current and rules although the subset described loans whose product features make reasonably expected income, above is likely to be so small that the employment, assets other than the impact will be immaterial. As discussed 211 The estimates in this analysis are based upon collateral, current obligations, and below, relative to the existing rules data and statistical analyses performed by the mortgage-related obligations.’’ Further, a lenders may face increased putback risk Bureau. To estimate counts and properties of creditor is presumed to have complied from investors although that, too, is mortgages for entities that do not report under HMDA, the Bureau has matched HMDA data to Call if the creditor properly verifies and small. Report data and MCR data and has statistically documents income and assets, made the For the set of borrowers that are in projected estimated loan counts for those determination using the largest payment default within the first three years, depository institutions that do not report these data of principal and interest scheduled in potential damages are not reduced; either under HMDA or on the NCUA call report. however, the increased requirements at The Bureau has projected originations of higher- the first seven years following priced mortgage loans for depositories that do not consummation, and took into account origination to qualify for qualified report HMDA in a similar fashion. These the ratio of total debt obligations to mortgage status, and the projections use Poisson regressions that estimate income, or the income the consumer correspondingly more limited grounds loan volumes as a function of an institution’s total on which to rebut the presumption assets, employment, mortgage holdings and had after paying debt obligations. geographic presence. Neither HMDA nor the Call As noted, 1 to 4 percent of loans, reduce the probability of a successful Report data have loan level estimates of the DTI. To based on data from the 1997- 2003 challenge. So here too, the probability estimate these figures, the Bureau has matched the period, are estimated to be qualified that lenders will have to defend such an HMDA data to data on the HLP dataset provided by action may be reduced or at least held the FHFA. This allows estimation of coefficients in mortgages with a rebuttable a probit model to predict DTI using loan amount, presumption. As just described, the constant relative to current rules. income and other variables. This model is then delinquency rates and default rates are Overall, therefore the ex-post liabilities used to estimate DTI for loans in HMDA. expected to be just around 4 percent and 212 In the HLP data, under four percent of loans 1 percent respectively. 214 Under the Board’s rule, the presumption of originated from 1997 to 2003 that satisfy most of the compliance attaches if the creditor ‘‘tak[es] into requirements of the first definition of a qualified Nearly all of the mortgages that will account’’ either the ‘‘ratio of total debt obligations mortgage (i.e.,not no-doc or low-doc, not IO, not be qualified mortgages above the higher- to income or the income the consumer will have neg-am and with DTI ratio equal to or below 43%) priced threshold are currently covered after paying debt obligations.’’ The consumer may were ever 60 days delinquent. Among all FHA by the existing HPML presumption of rebut the presumption ‘‘with evidence that the insured loans over the same years, just under 6 213 creditor nonetheless disregarded repayment’’ such percent of loans with a DTI ratio equal to or below compliance, because the as by offering ‘‘evidence of a very high debt-to- 43 percent were ever 60 days delinquent. Some of income ratio and very limited residual income.’’ these loans would have a conclusive presumption 213 There may be some loans that are currently Under the final rule, however, a creditor cannot of compliance with the ability-to-pay requirements made with a rebuttable presumption that will no claim the benefit of the presumption of compliance and others would have the rebuttable presumption. longer have that presumption but instead will be if the debt to income is very high, since the final The four percent and one percent figures are likely covered the general ability to repay standards. For rule contains specific debt-to-income criteria for to slightly overestimate the rates for loans in the example, higher priced covered transactions with qualified mortgages. Thus, under the final rule, to safe harbor and may be underestimates for loans more than three points and fees will not qualify for rebut the presumption the consumer must prove with the rebuttable presumption. the presumption under the final rule. insufficient residual income.

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for lenders are likely reduced for these The Freddie Mac seller servicer guide mortgages. Costs for putbacks, or loans loans. has similar provisions.217 With the buyers of which force the sellers to Relative to current rules for HPMLs, contracts like these already in place, it take back on their books because they the current rule extends liability to appears that amending contracts for the do not satisfy the final rule are also assignees.215 The establishment of particulars of the final rule should be estimated. assignee liability does not increase the small. Second, underwriting guidelines, Estimating the increased liability amount that a borrower can obtain from pooling and servicing agreements and costs involves a series of assumptions a successful legal action; however, it other contracts in the mortgage market about the performance of these loans, does increase the number of parties are currently being reworked and the probability that borrowers will bring from whom the borrower can seek refined.218 Among the myriad of particular actions, and the subsequent redress. Borrowers in a foreclosure changes, addenda to manage the ability- behavior of lenders and courts. Some action in a judicial state can now assert to-repay liabilities of the current rule assumptions about costs are also their claim against the assignee bringing should be only a small cost. necessary. the foreclosure action, rather than Under the ability-to-repay provisions, iii. Non-Qualified Mortgages and having to initiate an affirmative lawsuit consumers can bring an action against Estimation of Costs against the originator that no longer the lender at any point during the first holds the loan. The effect is to reduce The remaining loans are not qualified three years of the loan or as an offset to the costs of bringing these defensive mortgages. These include for example, foreclosure at any time. In the latter actions and therefore increasing their mortgage loans with a back-end DTI cases, the recovery of interest and likely number. For loans that are not ratio over 43 percent, loans with points finance charges is capped at the amount sold, or for borrowers wishing to bring and fees above three percent of the loan paid during the first three years. affirmative actions, the establishment of balance, mortgages with a term over 30 The Bureau has estimated these costs assignee liability has little or no effect. years, or balloon loans that do not as follows. To begin, assume an average The extension of liability to assignees qualify for qualified mortgage balloon loan balance of $210,000 (just below the may also increase the cost of contracting definition.219 For loans in this segment mean balance for first lien loans between the two parties. Under the final priced below the higher-priced reported in HMDA in 2011), an average rule, the borrower now has a contingent threshold, the obligation to assess the interest rate of 7 percent (the average claim against two parties. As a result, consumer’s ability to repay and the mortgage rate for 30 yr. mortgages from the two parties will want to contract ex- liability where the lender fails to do so 1997 to 2003) 221, and an average of ante about the extent of each party’s is a new liability for both the originator $3,150 (1.5 points) paid up front in fees. liability under the various and any assignees. For loans in this Further, assume that, on average, contingencies. This increase in segment above the higher-priced affirmative cases and contested early contracting costs should be small for threshold, lenders cannot invoke a foreclosures happen at the midpoint of two reasons. First, even in the absence rebuttable presumption of compliance the period, 18 months after of assignee liability, the market has and for those loans that are not high- consummation. This implies that for the already included these contingencies in cost loans, assignees are subject to affirmative cases, and the early standard contracts. For example, expanded liability as compared to foreclosures borrowers contest, following the Board’s 2008 rule, the current rules.220 successful borrowers are reimbursed for The Bureau has estimated litigation fees and interest an average of roughly Fannie Mae seller servicer guide was 222 amended to include provisions that costs under the new ability to pay $29,200. (The Bureau assumes in this HPMLs are ‘‘eligible for delivery to standards for non-qualified mortgages. calculation that all prevailing borrowers Fannie Mae provided [that] * * * Estimating costs for non-qualified receive $4,000 in statutory TILA lenders represent and warrant when mortgages should reasonably serve an damages.) For the later foreclosures, they sell an HPML to Fannie Mae that upper bound for the costs for qualified defined here as foreclosure that occur the mortgage complies in all respects three or more years after loan Updates to Reporting under the Home Mortgage consummation, borrowers who contest with Regulation Z requirements for Disclosure Act,’’ Announcement 09–24 (July 10, foreclosure are reimbursed for 36 HPMLs, including the underwriting and 2009), available at https://www.fanniemae.com/ 216 months of interest or roughly $51,250. consumer protection requirements. ’’ content/announcement/0924.pdf. Based on data from the FHFA for 217 See Freddie Mac, ‘‘Higher-Priced Mortgages 1997–2003 for loans with DTI ratios 215 As amended by section 1413 of the Dodd- Loans and Rate Spread Data,’’ Bulletin 2009–17 Frank Act, TILA provides that when a creditor, an (July 8, 2009), available at http:// above 43 percent, it is reasonable to assignee, other holder or their agent initiates a www.freddiemac.com/sell/guide/bulletins/pdf/ assume, 3.5 percent of loans reach 60 foreclosure action, a consumer may assert a bll0917.pdf. day delinquency during the first three 218 violation of TILA section 129C(a) ‘‘as a matter of See Federal Housing Finance Agency, years of the loan but do not start a defense by recoupment or setoff.’’ TILA section ‘‘Strategic Plan for Enterprise Conservatorships,’’ 130(k). There is no time limit on the use of this (Feb. 21, 2012), available at http://www.fhfa.gov/ foreclosure process, an additional 1.5 defense and the amount of recoupment or setoff is webfiles/23344/ percent of loans start the foreclosure limited, with respect to the special statutory StrategicPlanConservatorshipsFINAL.pdf. Also see process within the first three years, and damages, to no more than three years of finance Federal Housing Finance Agency, ‘‘Building a New an additional 1.5 percent of loans start charges and fees. In contrast, for high cost loans as Infrastucture for the Secondary Mortgage Market,’’ under existing law, an assignee generally continues available at http://www.fhfa.gov/webfiles/24572/ the foreclosure process after three to be subject to all claims and defenses, not only FHFASecuritizationWhitePaper100412FINAL.pdf. in foreclosure, with respect to that mortgage that the 219 The Bureau believes that the requirements for 221 H.15 monthly series from Federal Reserve consumer could assert against the creditor of the higher-priced balloon loans made by lenders who Board of Governors downloaded from St, Louis mortgage, unless the assignee demonstrates, by a do not meet the rural or underserved test effectively Fred at http://research.stlouisfed.org/fred2/series/ preponderance of evidence, that a reasonable ban these products. MORTG/downloaddata?cid=114. person exercising ordinary due diligence, could not 220 Note that several state laws have ability-to- 222 Because some of the costs are independent of determine that the mortgage was a high cost repay requirements applicable to conforming loans loan size, one has to make assumptions about the mortgage. TILA 131(d). and/or higher priced loans, and there are variations underlying loan value; otherwise, all calculations 216 See Fannie Mae, ‘‘Delivery of Higher-Priced in their applicability, requirements, and liability could simply be done as percentages of loan Mortgage Loans, Revised Qualifying Rate provisions. The benefits and costs of the final rule balances. The figures used here are consistent with Requirements, Assessment of Late Charges, will be attenuated to the extent that certain states those used by commenters that provided similar Clarifications to Points and Fees Limitation, and already provide similar requirements. calculations.

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years.223 The Bureau believes that representing industry) suggest that recent experience with the 2008 HOEPA consumers who have fallen behind on during the recent years there were Final Rule or analogous state laws their mortgage payments are unlikely to roughly 900 mortgage-related TILA would suggest and is a very initiate an ability to repay claim in court cases filed each year in Federal court conservative upper bound. One half of prior to foreclosure. Rather, they will while data regarding the number of these borrowers, should they prevail, likely seek to work with their servicer TILA claims brought in state courts are assumed to be entitled to 18 months and the owner of the loan to cure the were not provided.224 of interest and the other half to 36 delinquency through, e.g., forbearance More specifically the Bureau has months of interest. Based on our or some form of loan modification, or considered the available evidence with assumed loan size ($210,000), interest where that is not possible, to reach an respect to the extent of litigation under rate (7%), and origination fees ($3,150) agreement to enable the consumer to laws potentially analogous to this one, as discussed above, on average a walk away from the property and the such as the 2008 HOEPA Final Rule successful borrower will have a claim of loan (i.e., deed in lieu or short sale). (which does not provide assignee $40,225 (including the statutory TILA Once a foreclosure proceeding is liability, except as applicable to high damages, before legal costs). commenced, however, it will then be in cost mortgages) and under HOEPA and To estimate legal costs, assume that in the interest of consumers to assert state anti-predatory lending laws (which each case, the lender will move for ability-to-repay claims where there is a generally do provide for assignee summary judgment based upon what plausible basis to do so; this is liability). So far as the Bureau is aware, they are likely to claim to be undisputed especially true in judicial foreclosure claims under these rules have been very evidence documenting their states because an ability-to-repay claim infrequent. Industry participants likely consideration of borrowers’ ability to can be asserted as a defense by way of have access to the most complete pay. The consumer would likely claim offset against whoever holds the loan at information about litigation activity, that he or she was unable to pay the the time of the foreclosure (i.e., the much of which activity is not reported mortgage from its inception, and would originator or assignee). in legal databases such as Lexis and have to present evidence from which it The ability of consumers to assert Westlaw. Industry commenters, could be inferred that the creditor did such claims either defensively or, in however, did not bring forth any not make a ‘‘reasonable and good faith non-judicial foreclosure states, in evidence to suggest that claims have determination’’ of the consumer’s ability affirmative actions will depend to some been anything but rare. Thus, relative to to repay. To estimate legal costs, assume extent upon their ability to obtain legal the one to two million annual that in each case, following any representation. In its notice reopening foreclosure starts from 2009 through discovery permitted, the lender will the comment period for the rule, the 2011,225 the record supports a move for summary judgment, which is Bureau specifically requested conclusion that litigation under TILA a written request for a judgment in the information and data regarding the generally and under the most directly moving party’s favor (along with a frequency of such actions. In general, analogous federal and state laws has written legal brief in support of the industry commenters asserted, that even been very limited. motion with supporting documents and under the rebuttable presumption Industry commenters maintained that affidavits) before a lawsuit goes to trial, standard, future legal actions under the past experience is not a guide because claiming that all factual and legal issues rule would be very common. In contrast, new liability under the Dodd-Frank Act can be decided in the moving party’s consumer and community groups will increase incentives for litigation. favor, as a means to avoid trial pointed to the available evidence and The Bureau recognizes that the altogether. The opposing party (i.e., the availability of new ability-to-repay experience to suggest that only a very consumer) would need to show that remedies may make it easier for small minority of consumers in there are triable issues of fact. The consumers to obtain representation (by foreclosure are represented and that analysis assumes that, in these motions, providing those consumers whose loans very few claims are brought. Consumer the lender will succeed four-fifths of the are not currently covered by the Board group commenters pointed out the time. In the remaining one fifth of cases, rule with new rights; and those practical limitations of consumers to the lender settles prior to summary consumers whose loans are covered, bring an ability-to-repay claim, noting judgment and pays the full value of the that few distressed homeowners would with more easily asserted, and to that claim. This assumption is also be able to afford and obtain legal extent more valuable claims). Thus, the conservative. In evidence provided by representation often necessary to mount analysis below of litigation costs relies industry commenters which the a successful rebuttal in litigation. on very conservative (likely unrealistic) commenters suggested were analogous, Consumer groups also provided assumptions about the extent to which lenders prevailed in nearly all of the percentages of borrowers in foreclosure the Dodd-Frank liability provisions will increase litigation levels above levels cases cited. who are represented by lawyers, noting To litigate these cases, the borrower is the difficulty of bringing a TILA under current laws. assumed to spend 60 hours of attorney violation claim, and addressed estimates Among the three percent of borrowers time up to and including responding to of litigation costs, such as attorney’s that are in foreclosure, the Bureau the motion for summary judgment while fees. The data provided however are assumes that 20 percent will bring an the lender, given its resources, is quite limited: two commenters (both action against the lender for failing to meet the ability-to-repay requirements; assumed to spend 170 hours up to and including filing the relevant motions.226 223 These values are derived from GSE loans with that implies that 0.6 percent of at DTI ratio above 43% originated during the 1997– borrowers will bring claims. As noted, In 2011, the average wage for lawyers in 2003 period. For these loans, roughly 7 percent ever this value is many times higher than the legal services industry was $68.75/ reached 60 days late, one-half of those in the first hr; adjusting that figure to reflect three years. Roughly 3 percent ever reached 180 days delinquent which is a rough proxy for 224 See Mortgage Bankers Association comment benefits and other forms of foreclosure. One could also assume that some letter, docket CFPB–2012–0029, submitted Sep. 7, additional borrowers simply stop paying their loans 2012. See also National Consumer Law Center 226 Comment letters submitted to the Board strategically in order to extract funds from the comment letter, docket CFPB–2012–0029, suggest roughly this number of hours when originator or assignee, however that possibility submitted Sep. 7, 2012. assessing the cost of a rebuttable presumption. See seems unreasonable. 225 MBA National Delinquency Survey. MBA Comment Letter dated July 22, 2011.

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compensation, and a 50 percent mark- one would expect a corresponding made under the ability-to-repay up for firm yields an hourly rate for diminution of litigation over time. standard without any presumption of legal services of $150/hr. With these As a second sensitivity test, going compliance) are estimated to increase by assumptions, borrowers are willing to back to the original legal cost estimates, approximately twelve basis points (or 3 bring cases, and lenders will defend one can assume that of the 3.5 percent basis points (0.03 percentage points) on them, since on average both sides are of borrowers who find themselves the rate); under very conservative ahead relative to simply dropping the behind on their payments during the estimates, this figure could be as high as claim or paying it in full.227 To reflect first three years, 84 percent (or 3 percent forty basis points (or ten basis points the expected value of these costs, the of total borrowers) chose to bring (0.01 percentage points) on the rate). costs of non-qualified mortgages would affirmative claims. This would Depending on the competitive increase by 10 basis points (0.1 percent quintuple the original estimates on a per conditions in the relevant product and of the loan amount, or roughly $212 for loan basis to fifty basis points spread geographic markets, some of this the $210,000 loan).228 Assuming loans over a four-year average life. Similarly, increase will be passed on to borrowers with a weighted average life of four one could assume that a larger and the rest will be absorbed by lenders. years, this could add roughly 2.5 basis percentage of borrowers in default bring Certain borrowers may be priced out of points (0.025 percentage points) to the claims. Raising that assumption from 20 the market as a result of the price rate of each loan. Were the whole cost percent to 40 percent results in increase. However, the number of such passed on to the consumer, increasing estimated costs of 20 basis points per borrowers is likely to be very small the rate from 7.0 percent to 7.025 loan. given the values above since an increase percent, the monthly payment would Originators and assignees share the of even ten basis points on the rate on rise by roughly $3.50. The resource cost liability for ability-to-repay violations. an average mortgage would increase the to litigate this case is also roughly 10 Depending on the contract in place, monthly payment by less than $10. basis points since it includes the lenders will bear some repurchase risk for those loans that are sold into the vi. Temporary Provisions for Qualified lenders’ and the borrowers’ legal Mortgages expenses of $25,500 and $9,000, secondary market. For example, sellers respectively, and excludes the transfer of loans to the GSEs already bear this As described in the preamble, the of $40,225 that occurs in successful risk for HPMLs since the enterprises final rule recognizes the fragility of the cases. have the right to put the loan back in current mortgage market and therefore case of ability-to-repay violations. In includes temporary measures extending iv. Sensitivity Analysis cases where the lender is defunct or qualified mortgage status to loans that in there are other issues affecting the the long run may not be qualified As part of a sensitivity analysis, the lender’s capacity to reassume the risk, mortgages. These include loans with a Bureau has estimated these costs under the purchaser of the loan may be unable DTI above 43 percent and that different assumptions. Notably, industry to exercise that right and will bear the nonetheless can be purchased or commenters provided estimates of the additional liability costs. The need of guaranteed by the GSEs, insured by the costs for various types of cases related both the seller and the buyer to budget FHA, VA or RHS. Based on the data as to mortgage actions. These comments for expected capital and liquidity of year-end 2011, such loans are suggest a much higher cost for legal charges in these situations, and to approximately 18 percent of the market. expenses of $300 per hour and closer to negotiate the specific transactions, will Without fuller data on the points and 300 hours to litigate cases that involve also add some costs. However, in recent fees and product features associated motions for summary judgment. Using work, some economists have estimated with most loans, it is hard to estimate these figures (and the assumption that that even for loans from the 2005 to precisely the size of this segment or borrowers’ legal expenses include a 2008 vintage repurchase risk added predict how large it would be several proportionally higher 150 hours at conservatively about 19 basis points (or years from now with, or without, the $300/hr), the increased cost of each loan 0.19 percent of the loan amount) to the statute taking effect. Ignoring those is approximately 31 basis points or an cost of a loan. Given the much lower features, based on information about the increase in the interest rate of just under default rates in the coming years (based rates and fees on these loans we believe 8 basis points (0.08 percentage points). on the default rates during the 1997– roughly 97 percent of these loans should Importantly, in this scenario, using the 2003 period), and the increased qualify for the legal safe harbor with the assumptions set forth previously about underwriting requirements mandated by conclusive presumption of compliance loan size and other factors, lenders the final rule even for non-qualified (i.e., they are not higher-priced covered would spend $107,000 to defend claims mortgages, these costs are likely to be transactions) and 3 percent are worth substantially less than the legal closer to 1–3 basis points at most.230 estimated to qualify for the rebuttable costs ($40,225).229 It is possible, presumption (i.e., they are higher-priced however, that lenders would be willing v. Summary of Litigation Costs covered transactions). The temporary to litigate such cases in order to Combining liability costs and expansion of the definition of a discourage future litigation but, if so, repurchase costs, estimated costs for qualified mortgage results in over 95 non-qualified mortgage loans (loans percent of the market being granted 227 For illustration purposes, the Bureau assumes qualified mortgage status. that 20 percent of the potential litigants have 230 Securitized loans performed very poorly just Extending qualified mortgage status to private costs of litigation of less than $1,000. Under following the bubble, with delinquency rates many these loans reduces costs to lenders as the assumptions above, the creditor prefers to incur times that of loans in more typical times. Adjusting described above and limits some of the the legal costs to file for summary judgment as the figures to reflect this better performance and the opposed to settling outright (the creditor’s expected increased origination standards in the final rule, consumer protections that an increased payoff is roughly $5,000 dollars more in this case). yields the 1–3 basis points. See Andreas Fuster, possibility of liability would create if a 228 This is calculated as 0.6 percent of borrowers Laurie Goodman, David Lucca and Laurel Madar, creditor were able to satisfy the GSE or bringing cases multiplied by $35,345 in expected Linsey Molloy, Paul Willen, The Rising Gap federal agency underwriting standards lender costs per case divided by the $210,000 loan Between Primary and Seconadary Mortgage Rates, amount. November 2012 available at: http:// without having a reasonable and good 229 At the same time, higher litigation costs may www.newyorkfed.org/research/conference/2012/ faith believe in the consumer’s ability to deter certain consumers from bringing suit. mortgage/primsecsprd_frbny.pdf. repay. However, the added certainty

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from this reduced liability should loosening of credit in order to prevent amortization requirements to such benefit both consumers and covered the deterioration of lending standards to entities as certain nonprofits and state persons. The mortgage market is still dangerous levels. A primary goal of the housing finance agencies, as well as fragile, even four plus years past the statute was to prevent a repeat of the certain refinancing programs. As most turbulent portions of the financial deterioration of lending standards that applied to such entities and programs, crisis. With lenders and the markets in contributed to the financial crisis, the final rule may restrict access to general adjusting to new regulations which harmed consumers in various mortgage credit, including for designed to counter the forces behind ways and significantly curtailed their consumers who may otherwise have the crisis, extending qualified mortgage access to credit. Such a goal will, by limited credit options, while doing little status to these segments of loans should definition, entail some potential to further the consumer protection limit any disruption to the supply of diminution of access to credit as market purposes of the statute. To address these mortgage credit with only limited effects standards change over time. The Bureau concerns, the Bureau has proposed on consumers. The extension of believes that, to the extent the final rule separately to exempt some such entities qualified mortgage status to these loans reduces credit access, it will primarily and programs from these documentation should allow the market time to digest reduce inefficient lending that ignores and amortization requirements. the rules and for any increase in premia or inappropriately discounts a associated with uncertainty about consumer’s ability to repay the loan, The Bureau also notes that concerns litigation and putback costs to diminish. thereby preventing consumer harm, have been raised regarding the rather than impeding access to credit for application of the qualified mortgage c. Access to Credit borrowers that do have an ability to criteria and the general ability to repay Overall, the Bureau believes that the repay. The Bureau notes that the rule requirements to certain small creditors. final rule will not lead to a significant may have a disproportionate impact on These concerns arise from the reduction in consumers’ access to access to credit for consumers with observation that for many community consumer financial products and atypical financial characteristics, such banks and credit unions, for example, services, namely mortgage credit. The as income streams that are inconsistent compliance resources are scarce and Bureau notes the potential for the ability over time or particularly difficult to compliance costs as a percentage of to repay requirements, including document. revenue can be high. At the same time, increased documentation and There also exists the potential for both these institutions employ a traditional amortization requirements, to prevent increased documentation requirements model of relationship lending that did some consumers from qualifying for a and increased liability to increase the not succumb to the general deterioration loan. First, the final rule generally bans price of mortgage loans for some in lending standards that contributed to no-doc and low-doc loans to the extent consumers. As discussed above, price the financial crisis. Moreover, because the level of documentation is lower than increases from both increased this business model may be based on that required by the rule. The final rule documentation requirements and particularized knowledge of customers would by definition prevent borrowers increased liability should be small. The and the development of durable who would only qualify for these types documentation requirements, such as customer relationships, the resulting of loans from receiving a mortgage; as providing a pay stub or tax return, will loans may be beneficial to customers discussed, that is one of the benefits of impose relatively little additional cost to even when they do not conform to the the rule. Second, the final rule generally most consumers. Similarly, the general standards set forth in the final increases documentation requirements increased documentation costs for rule. Further, these institutions have for mortgage loans and requires creditors should not be significant, or particularly strong incentives not only underwriting to be done based on an result in more than relatively small to maintain positive reputations in their assumed fully amortizing loan at the increases in the cost of mortgage loans. communities, but also, because they fully indexed rate. With respect to liability costs, the often keep the loans they make in their As noted above, when measured Bureau notes that over 95 percent of the own portfolios, to pay appropriate against the current marketplace, the current market is estimated to satisfy attention to the borrower’s ability to Bureau anticipates the effect of these one of the definitions of a qualified repay the loan. Accordingly, the Bureau requirements on access to credit to be mortgage, greatly reducing the expected has proposed separately to provide very small. The Bureau anticipates that, cost of litigation. The Bureau also notes additional criteria by which certain as the economy recovers, the currently that the clear standards established for small portfolio lenders may make restrictive credit environment will determining whether a loan is a qualified mortgages. loosen. Indeed, if anything, the Bureau qualified mortgage should reduce anticipates that the immediate effect of uncertainty regarding litigation costs, Greater access to credit can be the rule may be to contribute to the which will mitigate any resulting associated with higher home prices and recovery of the mortgage market by impact on access to credit. In light of the higher homeownership rates, and as reducing legal uncertainty which may foregoing considerations, the Bureau discussed in the section on costs, there be affecting lending. This is especially believes that the ability to repay is some evidence of positive social true if the impact of the rule were requirements and the accompanying effects from home ownership. As such, compared to a post-statutory baseline potential litigation costs will create, at were the rule to overly restrict credit, it (i.e. to the implementation of the Dodd- most, relatively small price increases for is important to note that these positive Frank ability to pay and qualified mortgage loans. These small price spillovers would also be limited. mortage provisions without increases, in turn, are not likely to result However, the Bureau does not believe implementing regulations.) in the denial of credit to more than a that the rule will result in an Measured against the years leading up relatively small number of borrowers, inappropriate reduction in access to to the financial crisis, when lending some of whom commenters pointed out credit; rather, over time, the final rule standards were quite loose, the effects of could be low income, at the margin. should ensure that lending standards do the final rule on access to credit would The Bureau notes that concerns have not deteriorate to dangerous levels, of course have been significantly larger. been raised concerning the application while at the same time ensuring that The final rule will set a floor to the of increased documentation and lending not be too restrictive.

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4. Potential impacts of other provisions based on the HOEPA triggers will help charges must be included in the points Below, the Bureau discusses the ensure that a qualified mortgage is not and fees calculations. a high-cost mortgage because of the impacts of several other provisions of b. Prepayment Penalties the final rule and notes their interaction points and fees. The Dodd-Frank Act substantially The Final Rule implements the with other rulemakings. These include provisions of Dodd-Frank with respect the points and fees provisions (which expanded the scope of compensation included in points and fees for both the to prepayment penalties. Specifically, in interact with the HOEPA rulemaking), accordance with the statute, the rule the provisions of the statute regarding qualified mortgage and high-cost mortgage points and fees limits. In prohibits prepayment penalties for any prepayment penalties, and the mortgage other than a fixed-rate definition of rural or underserved areas addition to compensation paid to mortgage brokerage firms and individual mortgage that is a qualified mortgage (which interacts with the current and not a higher-priced mortgage.231 rulemaking regarding escrow account brokers, points and fees also includes compensation paid to other mortgage Where the Final Rule permits requirements for certain higher-priced prepayment penalties, it limits these mortgage loans and with the 2013 originators, including employees of a creditor (i.e., loan officers). Under the penalties to 2 percent of the outstanding HOEPA final rule). The interagency rule balance on the loan during the first year on appraisal requirements for high-risk existing rule, only consumer payments to mortgage brokers are included in after consummation and 1 percent of the mortgage loans also interacts with the outstanding balance during the second QM definition. points and fees for the high-cost mortgage threshold. Also under the Act, year after consummation. Available information from the a. Points and Fees Provisions any fees paid to and retained by sources described above suggests that affiliates of the creditor must be To be a ‘‘qualified mortgage,’’ the loans originated today do not contain included in points and fees (except for statute requires (among the other prepayment penalties, and this is likely any bona fide third-party charge not requirements already discussed) that the to be true for the foreseeable future. retained by the creditor, loan originator, total points and fees payable in Neither loans originated for sale to connection with the loan do not exceed or an affiliate of either, unless otherwise Fannie Mae and Freddie Mac, nor loans 3 percent of the total loan amount and required under the rule). The final rule insured by FHA generally contain requires the Bureau to prescribe rules restates these provisions. prepayment penalties.232 Moreover, the adjusting this limit to ‘‘permit lenders In a concurrent proposal published Bureau understands that prime loans, that extend smaller loans to meet the elsewhere in today’s Federal Register, which make up the vast majority of requirements of the presumption of the Bureau proposed one alternative originations today, have in recent years compliance.’’ As noted earlier, such a which would permit loan originator rarely had prepayment penalties.233 restriction may have the effect of compensation to be netted against other Some originators may make subprime limiting cases where creditors, having upfront charges paid by the consumer loans they hold on portfolio for which received more funds up front, are less and one that would not. Still, the they charge prepayment penalties, but concerned about the long-term inclusion of loan originator data on terms of loans on portfolio are performance of the loan. compensation in points and fees under not available and at least in the current In the final rule, that limit is amended the Final Rule (together with the market, this is likely to be a very small to a tiered approach with the following statutory provisions implementing in number of loans. With the low interest limits: for a loan amount greater than or the Final Rule regarding the treatment of rates that prevail today, lenders see little equal to $100,000, three percent of the charges due to third parties affiliated reason to limit prepayment risk by total loan amount; for a loan amount with the creditor) could have the effect charging prepayment penalties. greater than or equal to $60,000 but less of limiting the number of loans eligible Prepayment penalties by design than $100,000, $3,000; for a loan to be qualified mortgages. For most impose costs on consumers to switch amount greater than or equal to $20,000 prime loans, the Bureau believes that from their current loans to loans with but less than $60,000, five percent of the this change will not have a major lower interest rates. This cost can be total loan amount; for a loan amount impact: current industry pricing particularly high for consumers with greater than or equal to $12,500 but less practices and the exemption for bona potentially increasing payments and than $20,000, $1,000 of the total loan fide discount points suggest that few of who seek to refinance to avoid the amount; and, for a loan amount of less these loans will be constrained by the increases. Moreover, these penalties are than $12,500, eight percent of the total points and fees limits. complex and often not transparent to loan amount. For loans near the border of higher- consumers. Consumers may not focus The higher limits for smaller dollar priced loans (i.e. loans one percentage on prepayment penalty terms because loans should allow more loans to be point above APOR), the exemption for they are more focused on the terms they made as qualified mortgages. Data on bona-fide discount points is reduced the points and fees associated with a and for loans priced at two percentage 231 For purposes of this provision of the rule, a representative set of loans is not points or more above APOR the higher priced mortgage is defined in the Act as a exemption is eliminated. For these first lien, non-jumbo mortgage with an APR that is currently available. As a result, the more than 150 basis points above APOR; a first lien, Bureau cannot estimate precisely how loans, the inclusion of loan originator jumbo mortgage with an APR that is more than 250 many loans are impacted by this change. compensation and affiliate fees could basis points above APOR; and a second lien Under TILA as amended, a high-cost limit qualified mortgage status for mortgage with an APR that is 350 basis points above mortgage has points and fees equal to certain loans. Loans that will qualify for APOR. 232 As explained in the final rule, FHA loans used five percent of the total transaction the safe harbor, but where the borrower a method of interest calculaton which results in amount if the transaction is $20,000 or pays for these charges through a higher consumers who pay off loans during the course of more, and points and fees equal to the interest rate, may lose the conclusive a month being obligated to pay interest until the lesser of eight percent of the total presumption of compliance and instead end of the month. The Final Rule treats that as a prepayment penalty and provides an extended transaction amount or $1,000, if the have only the rebuttable presumption. compliance period to allow time for FHA to change transaction is less than $20,000. Setting This impact is most likely greater for this feature of its loans. the maximum points and fees caps lenders with affiliated companies whose 233 See 73 FR 44522 (July 30, 2008).

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find more salient, such as interest rate who made more than 50 percent of their According to the definition used in and payment amount. Leading up to the total covered transactions secured by the final rule, approximately 10 percent mortgage crisis, some loan originators first liens on properties in counties that of the U.S. population lives in areas that sometimes took advantage of are ‘‘rural’’ or ‘‘underserved.’’ For the the Bureau defines as rural or consumers’ lack of awareness or purposes of the final rule, and the 2013 underserved: the Bureau estimates that understanding of prepayment Escrow rule published elsewhere in 2,707 small creditors, currently issuing penalties.234 Originators could sell today’s Federal Register, the Bureau has first-lien mortgages and operating unsuspecting consumers loans with defined rural to include noncore predominantly in rural or underserved substantial expected payment increases counties and those micropolitan areas, will be able to originate balloon as well as substantial prepayment counties that are not adjacent to qualified mortgages as a result of the penalties that would prevent the metropolitan statistical areas using the provision. Given the low population consumer from refinancing. Department of Agriculture’s urban density of the areas currently defined as By limiting prepayment penalties to influence codes. Relative to the rural, the corresponding limits on the prime, fixed-rate qualified mortgages, proposed rule that only included a number of creditors, and the challenges the Final Rule benefits consumers by subset of rural counties, the final rule of making loans that could be sold in limiting these cases and lowering the expands the exemption. The Bureau has the secondary market, keeping this cost of exiting a mortgage. Consumers not altered the definition of underserved source of credit in the community with will be able to refinance at lower cost, from that contained in the proposed the safeguards added by the rule is either when market rates drop or when rule. likely more important to consumers the consumer’s risk profile improves. In Although there is no comprehensive than the consumer protections other cases, consumers who are sold evidence with respect to the prevalence associated with not allowing balloon mortgages with rates higher than their of balloon loans, the Bureau loans to be qualified mortgages. In risk profile warrants will be able to understands anecdotally from outreach somewhat less rural areas, for example refinance their mortgages to a market that in these rural areas, creditors the micropolitan counties not covered rate at lower cost. In still other cases, sometimes have difficulty selling certain by the definition in the final rule, there consumers will be able to sell their loans on the secondary market either are more creditors that can provide homes and move at lower cost. This cost because of unique features of the rural alternative forms of credit, such as ARM reduction from restriction of property or of the rural borrower. In loans, and more creditors in general. prepayment penalties is particularly these instances, the creditors will make d. Qualified Mortgages and Appraisals important to consumers who incur a portfolio loan. Because of their small One impact of the current definition drops in income or increases in size, some of these creditors eschew of qualified mortgage is related to expenses that cause them to struggle to ARMs and manage interest rate risk by higher-risk mortgages as defined in the make their mortgage payments. making balloon payment loans which Act. The Act contains special appraisal However, to the extent prepayment the creditors then roll-over based on requirements with respect to higher-risk penalties compensate investors for then-current interest rate when the mortgages; those requirements are the legitimate prepayment risk, restricting balloon payment comes due. subject of an interagency rulemaking penalties will reduce the value of Relative to a pre-statutory baseline, process which resulted in a proposed certain mortgages and limit the returns the rural balloon provisions of the rule rule in August which the agencies to creditors and investors (which have minimal effect. Relative to a post- expect to finalize shortly. The Act includes entities that are covered statutory baseline in which the statute generally defines a higher-risk mortgage persons as well as entities that are not was implemented without the exception as a closed-end consumer credit covered persons). In these cases, the for rural lenders, the provisions of the transaction secured by a principal cost of credit for some consumers will rule have the following impacts on dwelling with an APR exceeding rate rise as creditors raise prices to consumers and covered persons. thresholds substantially similar to rate compensate for increased prepayment Creditors covered by the rule’s triggers currently in Regulation Z for risk. Currently, the number of loans that definition are permitted to make balloon higher-priced mortgage loans, but would have prepayment penalties but loans which are qualified mortgages, excluding qualified mortgages. In for the Final Rule appears to be very potentially mitigating consumer access general, as the number of loans defined small, however, so costs to consumers to credit issues that might arise if as qualified mortgages increases, the and covered persons are expected to be balloon payment mortgages were number of loans that would be covered de minimis. restricted. The rule creates certain by the proposed appraisal requirements c. Definition of Small Lenders, Rural minimum, consumer-protective decreases. Based on the general and Underserved requirements with respect to such definition of qualified mortgage in the balloon loans, such as a minimum term final rule, those higher priced mortgage The final rule allows certain small of five years and a requirement that the loans with a debt-to-income ratio of 43 creditors operating predominantly in interest rate be fixed for that period of or less would be exempt from the new rural or underserved areas to originate time. The rule also requires that requirements for interior appraisals. The balloon-payment qualified mortgages. creditors verify and consider income temporary provision allowing additional Specifically, this option exists for and debts before making such loans loans (e.g. loans with a higher debt to lenders originating 500 or fewer covered (albeit without a fixed debt-to-income income ratio and that are purchasable transactions (including their affiliates), requirement). However, to the extent by the GSEs or insurable by FHA), to be secured by a first lien, in the preceding these creditors rely on this permission qualified mortgages could further calendar year, with assets under $2 to make balloon loans rather than other remove mortgages from that billion (to be adjusted annually), and types of qualified mortgages, the rule requirement. The impact of this also denies these consumers the reduction in the scope of appraisal 234 Over 70 percent of subprime loans from 2001 consumer protections associated with requirements is relatively muted for first through 2007 had prepayment penalties. See Demyank and Hemert, Review of Financial Studies, not giving balloon loans qualified lien mortgages because of the small 24,6, 2011. mortgage status. number of high-risk mortgages to begin

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with and the fact that most lenders increasing counterparty risk for entities availability of balloon loans following already do a full interior appraisal and purchasing mortgages from these the rule. While the balloon loans in the share the results with the consumer. institutions. As described above, non-rural areas that are not underserved creditors and secondary market cannot be qualified mortgages, small E. Potential Specific Impacts of the purchasers are expected to contract lenders operating predominantly in the Final Rule around the new ability-to-repay rural or underserved areas can, under 1. Depository Institutions and Credit liability. For example, both Fannie Mae certain conditions, originate balloons Unions With $10 Billion or Less in Total and Freddie Mac require lenders to loans that are qualified mortgages. Thus, Assets, as Described in Section 1026 represent and warrant that loans sold to rural consumers will preserve access to Some depository institutions and the enterprises meet the current ability- credit, while potentially experiencing credit unions with $10 billion or less in to-repay requirements and to repurchase the lack of protection associated with total assets as described in Section 1026 loans in cases where violations are prohibiting balloon transactions from found. Under such an arrangement,235 may see different impacts from the final being qualified mortgages. Despite the should a consumer bring a claim, the fact that excluding a small creditor from rule than larger institutions. These purchaser will look to the originator to the balloon loan market generally does differences are driven by the lending repurchase the loan; if the originator is not significantly disrupt the price- practices and portfolios at smaller no longer in business or does not have setting process, this might not be true depository institutions and credit the financial means to do so, the for rural markets. In particular, there are unions, notably those below roughly $2 purchaser will have to bear the risk. 567 counties that have three creditors or billion in assets, and by the nature of This places greater incentive on fewer (that originate five or more these institutions’ relationship to the purchasers to vet potential covered transactions per year), secondary market. counterparties and may impact some according to HMDA 2011. Going from The Bureau understands that lending smaller institutions’ ability to sell loans. three creditors to two could practices at many smaller institutions The impact is likely greatest for loans significantly increase prices for (according to comment letters and made under the general ability-to-repay consumers. outreach) are based on a more personal standard rather than for qualified Data regarding the specific mortgages relationship-based model, and less on mortgages. In the near term, the originated and held on bank and credit automated systems, at least when the temporary provisions expanding the union portfolios is very limited; the lender plans to keep the loan on number of qualified mortgages, will exception is the data on the credit union portfolio rather than sell it. To the greatly mitigate costs for these call report showing the total number extent that the documentation and institutions. and amount of balloon loans together verification requirements in the final with hybrid adjustable-rate mortgages. rule differ from current practice at these 2. Impact of the Provisions on According to these data, there appear to institutions, the final rule may impose Consumers in Rural Areas be few institutions, and therefore very some new compliance costs. However, The final rule should have minimal few consumers affected in this way. In unless these institutions keep all of the differential impacts on consumers in counties where the problem should be loans they originate on portfolio, which rural areas. In these areas, a greater worst, namely micropolitan counties not seems unlikely, they are already subject fraction of loans are made by smaller covered by the rural or underserved to documentation requirements from the institutions and carried on portfolio. definition, there are just under 50 credit secondary market so that any The availability or pricing for fixed rate unions that extend balloon loans and incremental costs are likely to be small. or adjustable-rate loans that are not ARMs; in total they originate 1,200 In addition, data from HMDA indicate qualified mortgages is likely to be balloon loans. Consumers seeking credit that, on average, a larger proportion of unaffected. Notably, the liability for at these institutions, or similarly loan originations at smaller institutions these loans is nearly unchanged; those situated banks or thrifts, may face some are higher-priced mortgage loans and below the threshold will be subject to costs in taking a different product or in will therefore have the rebuttable the safe harbor while those above the switching institutions depending on the presumption of compliance rather than threshold have a rebuttable presumption product offerings and prices in the the safe harbor. These loans already are similar to the one in place under market. The Bureau believes any price subject to an obligation to assess existing regulation. Only the very small increase is likely not significant as these repayment ability and a rebuttable number of loans made by these areas are served by multiple lenders. On presumption under the Board’s 2009 institutions and then sold may be average, according to the 2011 HMDA rule, so any new effects on these loans impacted by the changes in data, 16 lenders on average made from the final rule, at least the loans counterparty risk. Consumers higher-priced mortgage loans in these these institutions keep on portfolio, are constrained to borrow from these counties, a proxy for what could be expected to be limited. Historically, lenders may see a small increase in the balloon loans. delinquency rates on mortgages at price of credit, either from the lenders smaller institutions are lower than the now having to fund the loan on the F. Alternatives Considered average in the industry and as such, the balance sheet or facing reduced prices Two factors are most relevant when expected litigation costs for these loans in the secondary market. The possible comparing the benefits, costs and are also probably quite low. increases in compliance costs just impacts of the final rule to alternative Nevertheless, the proposal posted described may also lead to very small regulatory implementations: the elsewhere in today’s Federal Register increases in rates. requirements for underwriting each loan asks for comment on whether the safe An important difference between the and the eventual legal liability attached harbor should be extended to additional rural and the non-rural consumers is the to that loan. The current rule differs loans at particular smaller institutions. from the Board’s proposal along both The establishment of assignee liability 235 It is also possible that other contracting dimensions, particularly in regard to for violation of the ability-to-repay arrangements will develop. The industry is qualified mortgages, as it uses a slightly currently working on various changes to the provisions may also differentially traditional pooling and servicing agreements, for different structure overall, such as impact smaller institutions by example. incorporating a specific debt-to-income

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ratio requirement. It also varies in slightly in order to provide this creditor’s interest, there is a greater structure from some other proposals consumer protection. Requiring the possibility that the consumer may not offered by commenters. However, even additional verification of debts for have the ability to repay the loan. This within the structure developed in the qualified mortgages also provides change likely increases costs slightly in final rule, the parameters within the additional consumer protection. Since order to provide this consumer rule (e.g. the DTI ratio threshold) could this is current practice in the market protection. Both Alternative 2 and the have been different. In order to more today, this likely adds very little cost for final rule have very similar fully illuminate the impacts of the final the time being; however, it does impose documentation and verification rule, this section first considers the final costs as credit expands to the point that standards so there is little difference in rule in comparison to the proposals and the market would otherwise relax the benefits and costs along that then to other reasonable alternatives. verification requirements—as well as dimension. Relative to Alternative 2, the In the 2011 ATR Proposal, the Board benefits to consumers and society at difference in the liability standard is for proposed two alternative definitions for large from preventing loans based on those qualified mortgages below the a qualified mortgage. The Board’s unverified (or no) data. Compared to higher-priced threshold. In the final Alternative 1 proposed to define a Alternative 1, the only difference in the rule, these loans have a conclusive qualified mortgage using only the strength of the liability protection for presumption of compliance rather than statutory provisions (except for the qualified mortgages is for those loans just a rebuttable presumption. discretionary requirement to consider above the higher-priced threshold. In As noted in the preamble, a coalition the consumer’s debt-to-income ratio or the final rule, these loans have a of industry and consumer advocates residual income). That is, the definition rebuttable presumption of compliance presented another alternative proposal of a qualified mortgage would be based rather than a conclusive presumption. to the Bureau that would have provided on product features, cost limitations However, given that the legal standard a tiered approach to defining a qualified (points and fees limit) and income today is a rebuttable presumption, the mortgage. Under the first tier, if the verification but would not require the final rule nearly maintains the status consumer’s total debt-to-income ratio is creditor to follow any other specific quo for borrowers with HPMLs; 43 percent or less, the loan would be a underwriting procedures. Alternative 1 adopting Alternative 1 would have been qualified mortgage, and no other tests would have operated as a legal safe a slight diminution of these borrower’s would be required. Under the second harbor with the conclusive presumption legal rights. tier, if the consumer’s total debt-to- of compliance. The Board’s Alternative 2 would have income ratio is more than 43 percent, The final rule maintains a minimum provided the lender with a rebuttable the creditor would apply a series of tests standard for documenting and verifying presumption of compliance and would related to the consumer’s front-end loans and varies the legal liability with have defined a ‘‘qualified mortgage’’ as debt-to-income ratio (housing debt to the perceived consumer risk. including the statutory criteria as well income), stability of income and past Alternative 1, on the other hand, placed the additional underwriting payment history, availability of reserves, more emphasis on the restrictions on requirements from the general ability-to- and residual income to determine if a product features to protect consumers. repay standard. The Board proposed to loan is a qualified mortgage. This would Loans without interest-only, negative permit, but not require, creditors to have allowed some loans with up to 50 amortization or balloon features, or comply with the underwriting percent DTI ratios to meet the qualified where total points and fees do not requirements by looking to ‘‘widely mortgage definition. To the extent that exceed three points were assumed safe accepted governmental and non- it relies on additional factors beyond the and therefore had limited requirements governmental underwriting standards’’ DTI ratio, this alternative is similar to for documenting income and debt (such as the FHA’s standards). The the Board’s approach. However, the (relative to other loans) and were important difference between this coalition’s proposal generally restricted afforded the conclusive presumption of aspect of Alternative 2 and Alternative the factors considered to be factors compliance. 1 is that, under Alternative 2, the related to ability to repay, rather than Compared to this alternative, the final relative weights for such tradeoffs had other factors related to credit or rule with the temporary provisions to be derived from widely accepted collateral in its determination. These likely offers qualified mortgage status to standards. commenters also supported a rebuttable a similar number of loans: without the Compared to Alternative 2, the final presumption standard for qualified effects of the temporary provisions, rule with the temporary provisions mortgages. fewer loans would qualify as qualified likely offers qualified mortgage status to Relative to this alternative, the final mortgages. The final rule also mandates a similar number of loans; without the rule will likely include fewer loans as stricter documentation and verification effects of the temporary provisions, qualified mortgages. The loans that will of qualified mortgages and limits the fewer loans would be eligible to be not be qualified mortgages are those that presumption of compliance in the case qualified mortgages. Under the final would qualify only under one or more of higher-priced covered transactions. rule, there is little difference in the of the additional factors besides DTI Compared to Alternative 1, only those documentation and verification ratio that the alternative included: loans that meet the product, features requirements; however, the housing expenses, stability of income, and point-and-fee limitations and that presumption of compliance is reserves etc. As a result, these loans will have a DTI ratio less than or equal to 43 strengthened for the majority of have to meet the ability-to-repay percent are qualified mortgages. This qualified mortgages. Compared to standard of the final rule, providing approach limits the reliance on Alternative 2 (and to Alternative 1), additional consumer protections with compensating factors when only those loans that meet the product, the minor added costs described above. underwriting high DTI ratio loans and features and cost limitations and that Relative to a rule including these recognizes that while such loans may be have a DTI ratio less than or equal to 43 factors, the final rule is simpler and in the creditor’s interest, there is a percent are qualified mortgages. This easier to implement for industry, greater possibility that the consumer limits the use of compensating factors lowering costs overall. In addition, may not have the ability to repay the for high DTI loans and recognizes that creditors are free to include such factors loan. This change likely increases costs while such loans may be in the in their own credit decisions and to

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develop the best models for their also is subject to certain additional residential mortgage loans on terms that inclusion. The Bureau views this more procedures under the RFA involving the reasonably reflect their ability to repay dynamic outcome as a benefit relative to convening of a panel to consult with the loans and that are understandable a more prescriptive rule detailing how small business representatives prior to and not unfair, deceptive or abusive. such factors should be traded off against proposing a rule for which an IRFA is Prior to the Dodd-Frank Act, existing each other. This alternative did include required.237 Regulation Z provided ability-to-repay a rebuttable presumption of compliance In the 2011 ATR Proposal, the Board requirements for high-cost and higher- for all qualified mortgages; as such, the did not certify that the rule would not priced mortgages. Accordingly, new final rule’s safe harbor limits liability have a significant economic impact on TILA section 129C generally prohibits a costs and consumer benefits, as already a substantial number of small entities creditor from making a residential discussed, for those qualified mortgages and therefore prepared an IRFA.238 In mortgage loan unless the creditor makes that are not higher priced covered this IRFA the Board solicited comment a reasonable and good faith transactions. on any costs, compliance requirements, determination, based on verified and As noted, the Bureau also considered or changes in operating procedures documented information, that the certain alternatives to its own version of arising from the application of the consumer has a reasonable ability to the final rule. One such alternative proposed rule to small businesses, repay the loan according to its terms, would have used a threshold of a 36 comment regarding any state or local including any mortgage-related percent DTI ratio to define qualified statutes or regulations that would obligations (such as property taxes and mortgages. This would have left roughly duplicate, overlap, or conflict with the mortgage insurance). Consistent with an additional 15 percent of loans, both proposed rule, and comment on the statute, the final rule applies the during the 1997–2003 period and during alternative means of compliance for ability-to-repay requirements of TILA 2011, without a presumption of small entities with the ability-to-repay section 129C to any consumer credit compliance. As noted however, the requirements and restrictions on transaction secured by a dwelling, Bureau believes that 43 percent is a prepayment penalties. Comments except an open-end credit plan, more efficient threshold: it is an addressing the ability-to-repay timeshare plan, reverse mortgage, or accepted market standard, rates of requirements and restrictions on temporary loan. delinquency and default for borrowers prepayment penalties are addressed in Congress also recognized the between 36 and 43 percent are still the section-by-section analysis above. importance of maintaining access to modest, and many borrowers— Comments addressing the impact on the responsible, affordable mortgage credit. particularly in higher cost housing cost of credit are discussed below. To provide creditors more certainty markets—borrow at these levels. about their potential liability under the 1. A Statement of the Need for, and The Bureau also considered whether ability-to-repay standards while Objectives of, the Rule all qualified mortgages should have the protecting consumers from unaffordable same degree of presumption with the The Bureau is publishing a final rule loans, the Dodd-Frank Act creates a qualified mortgage standard—either all to establish new ability-to-repay presumption of compliance with the being afforded a conclusive requirements related to mortgage ability-to-repay requirement when presumption of compliance or all being origination. As discussed in the creditors make ‘‘qualified mortgages.’’ afforded a rebuttable presumption. As preamble, the final rule’s amendments Qualified mortgages do not contain discussed in the section-by-section to Regulation Z implement certain certain features that Congress deemed to analysis, the Bureau determined that the amendments to TILA that were added create a risk to consumers’ ability to bifurcated approach in which only by sections 1411, 1412, 1413, and 1414 repay, and must be underwritten using higher-priced covered transactions of the Dodd-Frank Act in response to standards set forth in the statute that are provide the consumer with the the recent foreclosure crisis to address designed to assure that consumers will opportunity to rebut the presumption of certain lending practices (such as low- have the ability to repay these loans. compliance best balances the concerns or no-documentation loans or The final rule establishes standards for of costs, certainty, and consumer underwriting mortgages without complying with the ability-to-repay protection. including any principal repayments in requirements, including defining the underwriting determination) that led ‘‘qualified mortgage.’’ The final rule VIII. Final Regulatory Flexibility Act to consumers having mortgages they provides three options for originating a The Regulatory Flexibility Act (RFA) could not afford, thereby contributing to qualified mortgage: under the general generally requires an agency to conduct high default and foreclosure rates. definition in § 1026.43(e)(2), for loans an initial regulatory flexibility analysis A full discussion of the market where the consumer’s monthly debt-to- (IRFA) and a final regulatory flexibility failures motivating these provisions of income ratio would not exceed 43 analysis (FRFA) of any rule subject to the Dodd-Frank Act and the final rule is percent; under the definition notice-and-comment rulemaking included in the preamble and in the § 1026.43(e)(4), for a maximum of seven requirements, unless the agency certifies Bureau’s section 1022 analysis above. years, for loans that are eligible for that the rule will not have a significant Those discussions also describe the purchase by the GSEs while in economic impact on a substantial specific ways the final rule addresses conservatorship or certain other Federal number of small entities.236 The Bureau these issues. However, in general, the agencies, and under § 1026.43(f), for purpose of the Dodd-Frank Act ability- loans that have balloon-payment 236 For purposes of assessing the impacts of the to-repay requirements is to assure that features if the creditor operates final rule on small entities, ‘‘small entities’’ is consumers are offered and receive predominantly in rural or underserved defined in the RFA to include small businesses, small not-for-profit organizations, and small areas and meets certain asset-size and government jurisdictions. 5 U.S.C. 601(6). A ‘‘small and operated and is not dominant in its field.’’ 5 transaction volume limits. business’’ is determined by application of Small U.S.C. 601(4). A ‘‘small governmental jurisdiction’’ Congress did not explicitly define the Business Administration regulations and reference is the government of a city, county, town, township, nature of the presumption of to the North American Industry Classification village, school district, or special district with a System (NAICS) classifications and size standards. population of less than 50,000. 5 U.S.C. 601(5). compliance that attaches to a qualified 5 U.S.C. 601(3). A ‘‘small organization’’ is any ‘‘not- 237 5 U.S.C. 609. mortgage. Congress also left some for-profit enterprise which is independently owned 238 76 FR 27479–27480. contours of a qualified mortgage

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undefined, such as whether there The Board requested comments on the commenter argued that community should be a minimum debt-to-income IRFA. banks, for example, generally have ratio. Congress left these decisions to The Board did not receive any conservative requirements for a the Bureau and granted broad authority comments in its IRFA. Industry consumer’s debt-to-income ratio, to revise, add to, or subtract from the commenters generally expressed especially for loans that are held in qualified mortgage criteria upon a concern with respect to the costs they portfolio by the bank, and consider finding that doing so is ‘‘necessary or anticipated from the 2011 ATR many factors when underwriting for proper’’ or ‘‘necessary and appropriate’’ Proposal. The Bureau received mortgage loans, such as payment to achieve certain specified standards, numerous comments describing in history, liquid reserves, and other such as ensuring that responsible, general terms the impact of the assets. Because several factors are affordable mortgage credit remains proposed rule on small creditors and the considered and evaluated in the available to consumers. need for the qualified mortgage underwriting process, this commenter As discussed above, the final rule definition to be structured as a safe asserted that community banks can be recognizes both the need to assure that harbor with clear, well-defined flexible when underwriting for mortgage consumers are offered and receive loans standards to ensure that the largest loans and provide arrangements for based on a reasonable and good faith number of consumers possible can certain consumers that fall outside of determination of their repayment ability access credit. Small creditors are the normal debt-to-income ratio for a and the need to ensure that responsible, particularly concerned about the certain loan. This commenter contended affordable mortgage credit remains litigation risk associated with the that strict quantitative standards would available to consumers. The Bureau requirement to make a reasonable and inhibit community banks’ relationship believes, based upon its analysis of the good faith determination of consumers’ lending and ability to use their sound data available to it, that, under the final ability to repay based on verified and judgment in the lending process. Some rule, the vast majority of loans documented information. Because of commenters contended that requiring originated today can meet the standards their size, small creditors note that they specific quantitative standards could for a qualified mortgage so long as are particularly unsuited to bear the restrict credit access and availability for creditors follow the required burden and cost of litigation and would consumers. procedures, such as verifying income or find it particularly difficult to absorb the A number of other commenters assets, and current debt obligations, cost of an adverse judgment. Indeed, expressed concerns that the availability alimony and child support. The Bureau small creditors insist that they will not of portfolio mortgage loans from small also believes, based upon its analysis of continue to make mortgage loans unless creditors would be severely limited they are protected from liability for because the proposed exception for the historical performance of loans violations of the ability-to-repay rules rural balloon loans was too restrictive. meeting the rule’s definition of by a conclusive presumption of Some industry commenters urged the ‘‘qualified mortgages,’’ that consumers compliance or ‘‘safe harbor.’’ These Bureau to allow balloon mortgage loans will be able to repay these loans. The small creditors’ concerns about held in portfolio by the originating Bureau believes that the final rule will compliance with the ability-to-repay banks for the life of the loan to be not restrict creditors’ ability to make rule and associated litigation risk have included under this safe harbor so that responsible loans, both within and been repeatedly expressed to the Bureau small creditors could continue to meet outside the qualified mortgage space. by their trade associations and the specific needs of their customers. The final rule provides special rules prudential regulators. These comments, and the responses, for complying with the ability-to-repay Several commenters on the proposal are discussed in the section-by-section requirements for a creditor refinancing a urged the Bureau to adopt less stringent analysis and element 6–1 of this FRFA. ‘‘non-standard mortgage’’ into a regulatory requirements for small 3. Response to the Small Business ‘‘standard mortgage.’’ The purpose of creditors or for loans held in portfolio Administration Chief Counsel for this provision is to provide flexibility by small creditors. For example, at least Advocacy for creditors to refinance a consumer out two commenters on the proposal, a of a risky mortgage into a more stable credit union and a state trade group for The SBA Office of Advocacy one without undertaking a full small banks, urged the Bureau to (Advocacy) provided a formal comment underwriting process. exempt small portfolio creditors from letter to the Bureau in response to the In addition to the ability-to-repay and the ability-to-repay and qualified Bureau’s reopening of the comment qualified mortgage provisions, the final mortgage rule. Two other trade group period for certain issues relating to the rule implements the Dodd-Frank Act commenters urged the Bureau to adopt ability-to-repay/qualified mortgage limits on prepayment penalties and less stringent regulatory requirements rulemaking. Among other things, this lengthens the time creditors must retain for small creditors than for larger letter expressed concern about the records that evidence compliance with creditors at least in part because following issues: the qualified mortgage the ability-to-repay and prepayment mortgage loans made by small creditors definition and the use of data as a penalty provisions. often are held in portfolio and therefore means for measuring a consumer’s ability to repay. 2. Summary of Significant Issues Raised historically have been conservatively underwritten. First, Advocacy expressed concern by Comments in Response to the Initial Some industry commenters supported that the qualified mortgage definition Regulatory Flexibility Analysis, not including quantitative standards for will have major implications on the Statement of the Assessment of the such variables as debt-to-income ratios viability of community banks. Advocacy Bureau of Such Issues, and a Statement and residual income because they pointed to the assertion made by small of Any Changes Made as a Result of argued that underwriting a loan banks that they will no longer originate Such Comments involves weighing a variety of factors, mortgage loans if they are only provided The Board’s IRFA estimated the and creditors and investors should be with a rebuttable presumption of possible compliance costs for small allowed to exercise discretion and compliance. In addition, according to entities from each major component of weigh risks for each individual loan. To Advocacy, small banks contend that the rule against a pre-statute baseline. that point, one industry trade group establishing the qualified mortgage as a

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rebuttable presumption of compliance historical record of loan performance. originate or extend closed-end loans will reduce the availability and To reduce uncertainty in potential secured by a dwelling are potentially affordability of mortgages to consumers litigation, the final rule defines the subject to at least some aspects of the due to increased litigation and standard by which a consumer may final rule. compliance costs, and the exit by rebut the presumption of compliance For purposes of assessing the impacts afforded to higher-priced qualified certain small lenders unable to manage of the final rule on small entities, ‘‘small the risk. According to Advocacy, small mortgages. entities’’ is defined in the RFA to banks assert that one way to enable The Bureau notes that the Board’s include small businesses, small them to compete effectively (and to proposed § 1026.43 did not include nonprofit organizations, and small ensure consumers can obtain affordable special provisions for portfolio loans loans) is to establish the qualified made by small creditors and the Board’s government jurisdictions. 5 U.S.C. mortgage as a safe harbor and allow for proposal did not address such an 601(6). A ‘‘small business’’ is non-traditional loans such as mortgages accommodation. However, this final determined by application of SBA with balloon payments to continue to be rule is related to a proposed rule regulations and reference to the North made. published elsewhere in today’s Federal American Industry Classification The Bureau carefully considered the Register. As discussed in more detail System (NAICS) classifications and size arguments for establishing the qualified below, in that proposal, the Bureau is standards.241 5 U.S.C. 601(3). Under mortgage as a safe harbor or rebuttable proposing certain amendments to this such standards, banks and other presumption of compliance in light of final rule, including a proposal to define depository institutions are considered the proposed rule, and a complete as a qualified mortgage a larger category ‘‘small’’ if they have $175 million or less discussion of the consideration of the of loans made and held in portfolio by in assets, and for other financial Bureau’s final rule can be found in the small creditors than this final rule businesses, the threshold is average respective section of the section-by- defines as a qualified mortgage. annual receipts (i.e., annual revenues) section analysis, the Bureau’s section Second, Advocacy expressed concern that do not exceed $7 million.242 1022(b)(2) discussion, and in element 6– about using loan performance, as The Bureau can identify through data measured by the delinquency rate, as an 1 of this FRFA. under the Home Mortgage Disclosure appropriate metric to evaluate whether As discussed in more detail Act, Reports of Condition and Income consumers had the ability to repay at elsewhere, the final rule provides a safe (Call Reports), and data from the harbor under the ability-to-repay the time their loans were consummated. Advocacy noted that a consumer’s National Mortgage Licensing System requirements for mortgage loans that (NMLS) the approximate numbers of satisfy the definition of a qualified circumstances might change after the loan was made due to unemployment or small depository institutions that will mortgage and are not higher-priced be subject to the final rule. Origination covered transactions (i.e., APR does not illness. The Bureau agrees that data is available for entities that report exceed Average Prime Offer Rate consumers’ circumstances can change in HMDA, NMLS or the credit union (APOR) 239 + 1.5 percentage points for and lead to delinquency or default. call reports; for other entities, the first liens or 3.5 percentage points for However, the Bureau also believes that Bureau has estimated their origination subordinate liens). The final rule DTI is an indicator of the consumer’s activities using statistical projection provides a rebuttable presumption for ability to repay. All things being equal, methods. all other qualified mortgage loans, consumers carrying loans with higher meaning qualified mortgage loans that DTI ratios will be less able to absorb any The following table provides the are higher-priced covered transactions such shocks and are more likely to Bureau’s estimate of the number and (i.e., APR exceeds APOR + 1.5 default. types of entities to which the rule will percentage points for first lien or 3.5 4. A Description of and an Estimate of apply: percentage points for subordinate lien). the Number of Small Entities to Which The Bureau believes that a bifurcated the Rule Will Apply when four conditions are met: (i) The credit is approach to the presumption of offered or extended to consumers; (ii) the offering The final rule will apply to creditors or extension of credit is done regularly; (iii) the compliance provides the best way of that engage in originating or extending credit is subject to a finance charge or is payable balancing consumer protection and certain dwelling-secured credit. The by a written agreement in more than four access to credit considerations and is installments, and (iv) the credit is primarily for credit provisions of TILA and consistent with the purposes of the personal, family, or household purposes.’’ Section Regulation Z have broad applicability to statute, while calibrating consumer 1026.1(c)(1). Regulation Z provides, in general, that individuals and businesses that a person regularly extends consumer credit only if protections and risk levels to match the originate and extend even small the person extended credit more than 5 times for transactions secured by a dwelling in the preceding 239 numbers of home-secured credit. See year. The Average Prime Offer Rate means ‘‘the 240 average prime offer rate for a comparable 1026.1(c)(1). Small entities that 241 The current SBA size standards are found on transaction as of the date on which the interest rate SBA’s Web site at http://www.sba.gov/content/ for the transaction is set, as published by the 240 Regulation Z generally applies to ‘‘each table-small-business-size-standards. Bureau.’’ TILA section 129C(b)(2)B). individual or business that offers or extends credit 242 See id.

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5. Projected Reporting, Recordkeeping, (containing the ability-to-repay/ such entities to collect and analyze and Other Compliance Requirements qualified mortgage provisions and consumer income, asset, and liability prepayment penalty restrictions) for information, the complexity of the terms The final rule does not impose new three years after consummation. The of credit products that they offer, and reporting requirements. The final rule final rule clarifies that creditors need the range of such product offerings. To does, however, impose new not maintain actual paper copies of the the extent that most small creditors’ recordkeeping and other compliance documentation used to underwrite a processes already align with the rule, requirements on certain small entities. transaction. For most covered persons, any additional compliance costs should The requirements on small entities from the required records will be kept in be minimal. each major component of the rule are electronic form and creditors need When originating mortgages, the presented below. retain only enough information to creditor must calculate the monthly The Bureau discusses impacts against reconstruct the required records. This mortgage payment based on the greater a pre-statute baseline. This baseline should limit any burden associated with of the fully indexed rate or any assumes compliance with the Federal the record retention requirement for introductory rate, assuming monthly, rules that overlap with the final rule. creditors. fully amortizing payments that are The impact of the rule relative to the substantially equal. The final rule pre-statute baseline will be smaller than Other Compliance Requirements provides special payment calculation the impact would be if not for As discussed in detail in the section- rules for loans with balloon payments, compliance with the existing Federal by-section analysis and the Bureau’s interest-only loans, and negative rules. In particular, creditors have section 1022(b)(2) discussion above, the amortization loans. The final rule may already incurred some of the one-time final rule imposes new compliance therefore increase compliance costs for costs necessary to comply with the final requirements on creditors. In general, small entities, particularly for creditors rule when they came into compliance creditors will have to update their that offer products that contain balloon with the 2008 HOEPA Final Rule on policies and procedures; additionally, payments, interest-only loans, and higher-priced mortgage loans. And creditors may have to update their negative amortization loans. The precise creditors already have budgeted for systems, for example, to store flags costs to small entities of updating their some of the ongoing costs of the final identifying qualified mortgages, and to processes and systems to account for rule to the extent those are costs ensure compliance. The Bureau believes these additional calculations are necessary to remaining in compliance that small creditors’ major one-time difficult to predict, but these costs are with the 2008 HOEPA Final Rule. These costs will be to learn about the final mitigated, in some circumstances, by expenses attributable to the 2008 rule, consider whether they need to the presumption of compliance or safe HOEPA Final Rule will facilitate and modify their underwriting practices and harbor for qualified mortgages. thereby reduce the cost of compliance procedures to comply with the rule and, The Final Rule also includes with this final rule. if necessary, modify their practices and requirements for documentation and procedures. The precise costs to small verification of certain information that Recordkeeping Requirements entities of modifying their underwriting the creditor must consider in assessing The final rule imposes new record practices, should they need to do so, are a consumer’s repayment ability. The retention requirements on covered difficult to predict. These costs will final rule provides special rules for persons. As discussed above, the final depend on a number of factors, verification of a consumer’s income or rule requires creditors to retain evidence including, among other things, the assets, and provides examples of records of compliance with § 1026.43 current practices and systems used by that can be used. Different verification

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requirements apply to qualified same or similar to those required in the Qualified Mortgage Provisions mortgages. Creditors that originate ordinary course of business of the small The general definition of the qualified qualified mortgages under the general entities affected by the final rule. mortgage includes a very clear standard definition must verify a consumer’s Compliance by the small entities that of 43 percent for the debt-to-income income or assets, current debt will be affected by the final rule will threshold and clear methods to compute obligations, alimony, and child support, require continued performance of the that figure. The clarity of this provision, and must also verify a consumer’s basic functions that they perform today: and others, should make monthly debt-to-income ratio. The final Managing information about consumers implementation of and compliance with rule does not contain specific and conducting sound underwriting these provisions of the rule. The Bureau verification requirements for creditors practices for mortgage originations. carefully considered the arguments for originating qualified mortgages under 6–1. Description of the Steps the Agency establishing the qualified mortgage as a the temporary provisions; however, has Taken To Minimize the Significant safe harbor or rebuttable presumption of such loans must comply with eligibility Economic Impact on Small Entities compliance in light of the proposed requirements (including underwriting rule, and a complete discussion of the The Bureau understands the new requirements) of the GSEs or the Federal consideration of the Bureau’s final rule provisions will impose a cost on small agency program applicable to the loan. can be found in the respective section entities, and has attempted to mitigate The final rule also provides special of the section-by-section analysis. The the burden consistent with statutory rules for complying with the ability-to- final rule establishes standards for objectives. The Bureau has also taken repay requirements for a creditor complying with the ability-to-repay numerous additional steps that are refinancing a ‘‘non-standard mortgage’’ requirements, including defining likely to reduce the overall cost of the into a ‘‘standard mortgage.’’ This ‘‘qualified mortgage.’’ The final rule rule. Nevertheless, the rule will provision is based on TILA section provides three options for originating a certainly create new one-time and 129C(a)(6)(E), which contains special qualified mortgage: under the general ongoing costs for creditors. The section- rules for the refinance of a ‘‘hybrid definition in § 1026.43(e)(2), for loans by-section analysis of each provision loan’’ into a ‘‘standard loan.’’ The where the consumer’s monthly debt-to- and the Bureau’s section 1022 analysis purpose of this provision is to provide income ratio would not exceed 43 flexibility for creditors to refinance a contain a complete discussion of the percent; under the definition consumer out of a risky mortgage into a following steps taken to mitigate the § 1026.43(e)(4), for a maximum of seven more stable one without undertaking a burden. years, for loans that are eligible for full underwriting process. Under the The final rule provides small creditors purchase by the GSEs while in final rule, a non-standard mortgage is with the option of offering only conservatorship or certain other Federal defined as an adjustable-rate mortgage qualified mortgages, which will enjoy agencies, and under § 1026.43(f), for with an introductory fixed interest rate either a presumption of compliance loans that have balloon-payment for a period of one year or longer, an with respect to the repayment ability features if the creditor operates interest-only loan, or a negative requirement (for higher-priced covered predominantly in rural or underserved amortization loan. Under this option, a transactions) or a safe harbor from the creditor refinancing a non-standard repayment ability requirement, thus areas and meets certain asset-size and mortgage into a standard mortgage does reducing litigation risks and costs for transaction volume limits. The final rule not have to consider the eight specific small creditors. provides a safe harbor under the ability- underwriting criteria under the general The Bureau believes that a variety of to-repay requirements for mortgage ability-to-repay option, if certain underwriting standards can yield loans that satisfy the definition of a conditions are met, thus reducing reasonable, good faith ability-to-repay qualified mortgage and are not higher- compliance costs for small entities. determinations. The Bureau is priced covered transactions (i.e., APR Prepayment limitations, as discussed permitting creditors to develop and does not exceed Average Prime Offer 243 in detail in the section-by-section apply their own underwriting standards Rate (APOR) + 1.5 percentage points analysis and the Bureau’s section 1022 (and to make changes to those standards for first liens or 3.5 percentage points analysis, are also included in the final over time in response to empirical for subordinate liens). The final rule rule. information and changing economic and provides a rebuttable presumption for other conditions) as long as those all other qualified mortgage loans, Estimate of the Classes of Small Entities standards lead to ability-to-repay meaning qualified mortgage loans that Which Will Be Subject to the determinations that are reasonable and are higher-priced covered transactions Requirement in good faith. In addition, the Bureau (i.e., APR exceeds APOR + 1.5 Section 603(b)(4) of the RFA requires will permit creditors to use their own percentage points for first lien or 3.5 an estimate of the classes of small definitions and other technical percentage points for subordinate lien). entities which will be subject to the underwriting criteria and notes that The Bureau believes that a bifurcated requirement. The classes of small underwriting guidelines issued by approach to the presumption of entities which will be subject to the governmental entities such as the FHA compliance provides the best way of reporting, recordkeeping, and are a source to which creditors may balancing consumer protection and compliance requirements of the final refer for guidance on definitions and access to credit considerations and is rule are the same classes of small technical underwriting criteria. The consistent with the purposes of the entities that are identified above in part Bureau believes this flexibility is statute, while calibrating consumer VIII.B.4. necessary given the wide range of protections and risk levels to match the Section 604(a)(5) of the RFA also creditors, consumers, and mortgage historical record of loan performance. requires an estimate of the type of products to which this rule applies. The To reduce uncertainty in potential professional skills necessary for the Bureau believes this increased preparation of the reports or records. flexibility will reduce the burden on 243 The Average Prime Offer Rate means ‘‘the average prime offer rate for a comparable The Bureau anticipates that the small creditors by allowing them to transaction as of the date on which the interest rate professional skills required for determine the practices that fit best with for the transaction is set, as published by the compliance with the final rule are the their business model. Bureau.’’ TILA section 129C(b)(2)B).

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litigation, the final rule defines the regarding the proposed provisions for than 43 percent could be a qualified standard by which a consumer may holding balloon-payment loans in mortgage if all other criteria are met. rebut the presumption of compliance portfolio, the final rule provides more The Bureau also is proposing to allow afforded to higher-priced qualified flexible portfolio requirements which small creditors to charge a higher mortgages. The Bureau’s approach to the permit certain transfers. annual percentage rate for first-lien standards with which a consumer can qualified mortgages in the proposed Concurrent Proposal for Portfolio Loans rebut the presumption that applies to new category and still benefit from a Made by Small Creditors higher-priced transactions is further conclusive presumption of compliance designed to ensure careful calibration. The Bureau notes that the Board’s or ‘‘safe harbor.’’ In addition, the Bureau The Bureau considered several proposal did not include special also is proposing to allow small alternatives, including only the safe provisions for portfolio loans made by creditors operating predominantly in harbor standard and only the rebuttable small creditors and the Board’s proposal rural or underserved areas to offer first- presumption standard. In its did not address such an lien balloon loans with a higher annual rulemaking, the Bureau tried to balance accommodation. percentage rate and still benefit from a consumers’ access to credit concerns The Bureau understands that creditors conclusive presumption of compliance with the consumer protection associated generally have in place underwriting with the ability to repay rules or ‘‘safe with reducing consumers’ cost of policies, procedures, and internal harbor.’’ The Bureau is proposing these litigation. Compared to the final rule, controls that require verification of the changes because it believes they may be only the safe harbor standard marginally consumer’s reasonably expected income necessary to preserve access to credit for increased consumers’ access to credit, or assets, employment status, debt some consumers. The regulatory but significantly reduced consumer obligations and simultaneous loans, and requirement to make a reasonable and protection. Conversely, only the debt-to-income or residual income. good faith determination based on rebuttable presumption standard Notably, in response to the proposal, verified and documented evidence that marginally increased consumer commenters stated that most creditors a consumer has a reasonable ability to protection, but significantly decreased today are already complying with the repay may entail significant litigation consumers’ access to credit. full ability-to-repay underwriting risk for small creditors. The Bureau standards. For these institutions, there believes that small creditors have Balloon-Payment Qualified Mortgage would be no additional burden as a historically engaged in responsible Provisions result of the verification requirements in mortgage underwriting that includes The Bureau has also provided an the final rule, since those institutions thorough and thoughtful determinations exception to the general provision that collect the required information in the of consumers’ ability to repay, at least a qualified mortgage may not provide normal course of business. To the extent in part because they bear the risk of for a balloon payment for loans that are small creditors do not verify and default associated with loans held in originated by certain small creditors and document some or all of the information their portfolios. The Bureau also that meet specified criteria. The Bureau required by the proposed rule in the believes that because small creditors’ understands that community banks normal course of business, they will lending model is based on maintaining originate balloon-payment loans to need to engage in certain one-time ongoing, mutually beneficial hedge against interest rate risk, rather implementation efforts and system relationships with their customers, they than making adjustable-rate mortgages, adjustments. These one-time costs might therefore have a more comprehensive and that community banks hold these include expenses related to creditors understanding of their customers’ balloon-payment loans in portfolio needing to reanalyze their product lines, financial circumstances and are better virtually without exception because retrain staff, and reorganize the able to assess ability to repay than larger they are not eligible for sale in the processing and administrative elements creditors. secondary market. Under the final rule, of their mortgage operations. Further, the Bureau understands that the Bureau is permitting small creditors In a related proposed rule published the only sources of mortgage credit operating predominantly in rural or elsewhere in today’s Federal Register, available to consumers in rural and underserved areas to originate a balloon- the Bureau is proposing certain underserved areas may be small payment qualified mortgage. amendments to this final rule, including creditors because larger creditors may Unlike loans that are qualified an additional definition of a qualified be unable or unwilling to lend in these mortgages under the general definition, mortgage for certain loans made and areas. For these reasons, the Bureau is there is no specific debt-to-income ratio held in portfolio by small creditors. The proposing a new category of qualified requirement for balloon-payment proposed new category would include mortgages that would include small qualified mortgages. However, creditors certain loans originated by small creditor portfolio loans and is also must consider and verify a consumer’s creditors that: (1) Have total assets less proposing to raise the annual percentage monthly debt-to-income ratio. Like the than $2 billion at the end of the rate threshold for the safe harbor to other qualified mortgage definitions, a previous calendar year; and (2) together accommodate small creditors’ higher loan that satisfies the criteria for a with all affiliates, originated 500 or costs. The Bureau believes these steps balloon-payment qualified mortgage and fewer covered transactions, secured by may be necessary to preserve some rural is not a higher-priced covered first-liens during the previous calendar and underserved consumers’ access to transaction receives a legal safe harbor year. These loans generally conform the non-conforming credit. under the ability-to-repay requirements. requirements under the general A loan that satisfies those criteria and is definition of a qualified mortgage except 6–2. Description of the Steps the Agency a higher-priced covered transaction the 43 percent limit on monthly debt-to- Has Taken To Minimize Any Additional receives a rebuttable presumption of income ratio. Under the proposed Cost of Credit for Small Entities compliance with the ability-to-repay additional definition, a creditor would Section 603(d) of the RFA requires the requirements. The Bureau believes that not have to use the instructions in the Bureau to consult with small entities this exception will decrease the appendix to the final rule to calculate regarding the potential impact of the economic impact of the final rule on debt-to-income ratio, and a loan with a proposed rule on the cost of credit for small entities. In response to concerns consumer debt-to-income ratio higher small entities and related matters. 5

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U.S.C. 603(d). The Bureau notes that the separately discussed in the proposal’s lengthens the time creditors must retain Board was not subject to this PRA section. For full public records that evidence compliance with requirement when it issued its IRFA. transparency, the Bureau now claims the ability-to-repay and prepayment The Bureau does not believe that the these requirements as information penalty provisions. Currently, final rule will result in an increase in collections. The Bureau received no Regulation Z requires creditors to retain the cost of business credit for small PRA-related comments to the Board’s evidence of compliance for two years entities. Instead, the final rule will proposal on the information collections after disclosures must be made or action apply only to mortgage loans obtained in §§ 1026.25(c)(3) and 1026.43(c). must be taken. The final rule amends by consumers primarily for personal, Regulation Z to require creditors to A. Overview family, or household purposes and the retain evidence of compliance with the final rule will not apply to loans As described below, the final rule ability-to-repay/qualified mortgage obtained primarily for business amends the collections of information provisions and prepayment penalty purposes. Given that the final rule does currently in Regulation Z to implement restrictions in § 1026.43 for three years not increase the cost of credit for small amendments to TILA made by the after consummation for consistency entities, the Bureau has not taken Dodd-Frank Act. The Dodd-Frank Act with statute of limitations on claims additional steps to minimize the cost of prohibits a creditor from making a under TILA section 129C. See generally credit for small entities. mortgage loan unless the creditor makes the section-by-section analysis of a reasonable and good faith IX. Paperwork Reduction Act Analysis §§ 1026.25 and 1026.43, above. determination, based on verified and The information collection in the final Certain provisions of this final rule documented information, that the rule is required to provide benefits for contain ‘‘collection of information’’ consumer will have a reasonable ability consumers and would be mandatory. requirements within the meaning of the to repay the loan, including any See 15 U.S.C. 1601 et seq.; 12 U.S.C. Paperwork Reduction Act of 1995 (44 mortgage-related obligations (such as 2601 et seq. Because the Bureau does U.S.C. 3501 et seq.) (Paperwork property taxes). TILA section 129C(a); not collect any information under the Reduction Act or PRA). 15 U.S.C. 1639c(a). The Dodd-Frank Act final rule, no issue of confidentiality This final rule amends 12 CFR part provides special protection from arises. The likely respondents would be 1026 (Regulation Z). Regulation Z liability for creditors who make depository institutions (i.e., commercial currently contains collections of ‘‘qualified mortgages.’’ TILA section banks/savings institutions and credit information approved by the Office of 129C(b); 15 U.S.C. 1639c(b). The unions) and non-depository institutions Management and Budget (OMB). The purpose of the Dodd-Frank Act ability- (i.e., mortgage companies or other non- Bureau’s OMB control number for to-repay requirement is to assure that bank lenders) subject to Regulation Z.244 Regulation Z is 3170–0015. The PRA (44 consumers are offered and receive Under the final rule, the Bureau U.S.C 3507(a), (a)(2) and (a)(3)) requires residential mortgage loans on terms that generally accounts for the paperwork that a Federal agency may not conduct reasonably reflect their ability to repay burden associated with Regulation Z for or sponsor a collection of information the loans and that are understandable the following respondents pursuant to unless OMB approved the collection and not unfair, deceptive or abusive. its administrative enforcement under the PRA and the OMB control TILA section 129B(a)(2); 15 U.S.C. authority: insured depository number obtained is displayed. Further, 1639b(a)(2). Prior to the Dodd-Frank institutions with more than $10 billion notwithstanding any other provision of Act, existing Regulation Z provided in total assets, their depository law, no person is required to comply ability-to-repay requirements for high- institution affiliates, and certain with, or is subject to any penalty for cost and higher-priced mortgage loans. nondepository lenders. The Bureau and failure to comply with, a collection of The Dodd-Frank Act expanded the the FTC generally both have information that does not display a scope of the ability-to-repay enforcement authority over non- currently valid OMB control number (44 requirement to cover all residential depository institutions for Regulation Z. U.S.C. 3512). mortgage loans. Accordingly, the Bureau has allocated to This final rule contains information The final rule establishes standards itself half of the estimated burden to collection requirements that have not for complying with the ability-to-repay non-depository institutions. Other been approved by the OMB and, requirement, including defining Federal agencies are responsible for therefore, are not effective until OMB ‘‘qualified mortgage.’’ The final rule estimating and reporting to OMB the approval is obtained. The unapproved provides three options for originating a total paperwork burden for the information collection requirements are qualified mortgage: under the general institutions for which they have contained in sections 1026.25(c)(3) and definition in § 1026.43(e)(2), for loans administrative enforcement authority. 1026.43(c)–(f) of these regulations. The where the consumer’s monthly debt-to- They may, but are not required to, use Bureau will publish a separate notice in income ratio do not exceed 43 percent; the Bureau’s burden estimation the Federal Register announcing the under the definition § 1026.43(e)(4), for methodology. submission of these information a maximum of seven years, for loans Using the Bureau’s burden estimation collection requirements to OMB as well that are eligible for purchase by the methodology, the total estimated burden as OMB’s action on these submissions; GSEs while in conservatorship or under the changes to Regulation Z for including, the OMB control number and certain other Federal agencies, and all of the nearly 14,300 institutions expiration date. under § 1026.43(f), for loans that have a subject to the final rule, including On May 11, 2011, the Board of balloon-payment if the creditor operates Governors of the Federal Reserve predominantly in rural or underserved 244 For purposes of this PRA analysis, references System (Board) published notice of the areas and meets certain underwriting to ‘‘creditors’’ or ‘‘lenders’’ shall be deemed to refer collectively to commercial banks, savings proposed rule in the Federal Register requirements, and asset-size and institutions, credit unions, and mortgage companies (76 FR 27390). The information transaction volume limits. (i.e., non-depository lenders), unless otherwise collection requirements in In addition to the ability-to-repay and stated. Moreover, reference to ‘‘respondents’’ shall §§ 1026.25(c)(3) and 1026.43(c)–(f) were qualified mortgage provisions, the final generally mean all categories of entities identified in the sentence to which this footnote is appended, contained in the Board’s proposal; rule implements the Dodd-Frank Act except as otherwise stated or if the context indicates however, these requirements were not limits on prepayment penalties and otherwise.

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Bureau respondents,245 would be under § 1026.43(e)(4); however, such evidence of compliance with § 1026.43 approximately 14,300 hours for one- loans must comply with eligibility (containing the ability-to-repay/ time changes. The aggregate estimates of requirements (including underwriting qualified mortgage provisions and total burdens presented in this part VIII requirements) of the GSEs or the Federal prepayment penalty restrictions) for are based on estimated costs that are agency program applicable to the loan. three years after consummation. See weighted averages across respondents. The Bureau estimates one-time and part V above, section-by-section analysis The Bureau expects that the amount of ongoing costs to respondents of of § 1026.25. time required to implement each of the complying with the requirements in The Bureau estimates one-time and changes for a given institution may vary § 1026.43 as follows. ongoing costs to respondents of based on the size, complexity, and One-time costs. The Bureau estimates complying with the record retention practices of the respondent. that covered persons will incur one-time requirement in § 1026.25 as follows. costs associated with reviewing the final One-time costs. The Bureau estimates B. Information Collection Requirements rule. Specifically, the Bureau estimates that covered persons will incur one-time The Bureau believes the following that, for each covered person, one costs associated with reviewing the final aspects of the final rule would be attorney and one compliance officer will rule. Specifically, the Bureau estimates information collection requirements each take 21 minutes (42 minutes in that, for each covered person, one under the PRA. total) to read and review the sections of attorney and one compliance officer will the Federal Register that describe the each take 9 minutes (18 minutes in 1. Ability-To-Repay Verification and verification and documentation total) to read and review the sections of Documentation Requirements requirements, based on the length of the the final rule that describe the record Section 1026.43(c)(2) of the final rule sections. retention requirements, based on the contains eight specific criteria that a The Bureau estimates the one-time length of the sections. creditor must consider in assessing a costs to the 135 depository institutions The Bureau estimates the one-time consumer’s repayment ability. Section (including their depository affiliates) costs to the 135 depository institutions 1026.43(c)(3) of the final rule requires that are mortgage originator respondents (including their depository affiliates) creditors originating residential of the Bureau under Regulation Z would that are mortgage originator respondents mortgage loans to verify the information be $7,700, or 94 hours. For the of the Bureau under Regulation Z would that the creditor relies on in estimated 2,787 nondepository be $3,300, or 40 hours. For the determining a consumer’s repayment institutions and 77 privately insured estimated 2,787 nondepository ability under § 1026.43(c)(2) using credit unions that are subject to the institutions and 77 privately insured reasonably reliable third-party records. Bureau’s administrative enforcement credit unions that are subject to the Section 1026.43(c)(4) of the final rule authority, the Bureau is taking the half Bureau’s administrative enforcement provides special rules for verification of the burden for purposes of this PRA authority, the Bureau is taking the half a consumer’s income or assets, and analysis. Accordingly, the Bureau the burden for purposes of this PRA provides examples of records that can estimates the total one-time costs across analysis. Accordingly, the Bureau be used to verify the consumer’s income all relevant providers of reviewing the estimates the total one-time costs across or assets (for example, tax-return and relevant sections of the Federal Register all relevant providers of reviewing the payroll transcripts). to be about 1000 hours or roughly relevant sections of the Federal Register If a creditor chooses to make a $81,000. to be about 430 hours or roughly qualified mortgage, different verification Ongoing costs. The Bureau does not $35,000. requirements apply to qualified believe that the verification and Ongoing costs. The Bureau believes mortgages. Creditors that originate documentation requirements of the final that any burden associated with the qualified mortgages under rule will result in additional ongoing final rule’s record keeping requirement § 1026.43(e)(2) or (f) must verify a costs for most covered persons. The will be minimal or de minimis. Under consumer’s income or assets, and Bureau understands that creditors current rules, creditors must retain current debt obligations, alimony and generally have in place underwriting evidence of compliance with Regulation child support and must also verify a policies, procedures, and internal Z for two years after consummation; the consumer’s monthly debt-to-income controls that require verification of the final rule extends that period to three ratio (or, in the case of qualified consumer’s reasonably expected income years after consummation for evidence mortgages under § 1026.43(f), residual or assets, employment status, debt of compliance with the ability-to-repay/ income). The final rule does not contain obligations and simultaneous loans, qualified mortgage provisions and the specific verification requirements for credit history, and debt-to-income or prepayment penalty limitations in this creditors originating qualified mortgages residual income. Notably, in response to final rule. The final rule clarifies that the 2011 ATR Proposal, commenters creditors need retain only enough 245 There are 153 depository institutions (and information to reconstruct the required their depository affiliates) that are subject to the stated that most creditors today are Bureau’s administrative enforcement authority. In already complying with the full ability- records. addition there are 146 privately insured credit to-repay underwriting standards. For The final rule clarifies that creditors unions that are subject to the Bureau’s these institutions, there would be no need not maintain actual paper copies administrative enforcement authority. For purposes of the documentation used to of this PRA analysis, the Bureau’s respondents additional burden as a result of the under Regulation Z are 135 depository institutions verification requirements in the final underwrite a transaction. See comments that originate either open or closed-end mortgages; rule, since those institutions collect the 25(a)(2) and 25(c)(3)–1. For most 77 privately insured credit unions that originate required information in the normal covered persons, the required records either open or closed-end mortgages; and an will be kept in electronic form. This estimated 2,787 non-depository institutions that are course of business. subject to the Bureau’s administrative enforcement further reduces any burden associated authority. Unless otherwise specified, all references 2. Record Retention Requirement with the final rule’s record retention to burden hours and costs for the Bureau The final rule imposes new record requirement for creditors that keep the respondents for the collection under Regulation Z retention requirements on covered required records in electronic form, as are based on a calculation that includes one half of burden for the estimated 2,787 nondepository persons. As discussed above in part V, the only additional requirement will be institutions and 77 privately insured credit unions. the final rule requires creditors to retain to store data for an additional year, to

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the extent such creditors are currently Subpart D—Miscellaneous or State agency program for any storing such data for the minimum guaranty or insurance that protects the period required by Regulation Z. ■ 2. Section 1026.25 is amended by: creditor against the consumer’s default ■ Furthermore, the Bureau believes that A. Revising paragraph (a); and or other credit loss; ■ many creditors will retain such records B. Adding and reserving paragraphs (C) For any guaranty or insurance that for at least three years in the ordinary (c)(1) and (c)(2). protects the creditor against the ■ course of business, even in the absence C. Adding paragraph (c)(3). consumer’s default or other credit loss of a change to record retention The additions and revisions read as and that is not in connection with any requirements, due to the Dodd-Frank follows: Federal or State agency program: (1) If the premium or other charge is Act’s extension of the statute of § 1026.25 Record retention. limitations for civil liability for payable after consummation, the entire (a) General rule. A creditor shall amount of such premium or other violations of the prepayment penalty retain evidence of compliance with this provisions or ability-to-repay provisions charge; or regulation, other than advertising (2) If the premium or other charge is (including the qualified mortgage requirements under §§ 1026.16 and payable at or before consummation, the provisions) to three years after the date 1026.24 and certain requirements for portion of any such premium or other of a violation. Even absent the rule, the mortgage loans under paragraph (c) of charge that is not in excess of the Bureau believes that most creditors will this section, for two years after the date amount payable under policies in effect retain records of compliance with disclosures are required to be made or at the time of origination under section § 1026.43 for the life of the loan, given action is required to be taken. The 203(c)(2)(A) of the National Housing Act that the statute allows borrowers to administrative agencies responsible for (12 U.S.C. 1709(c)(2)(A)), provided that bring a defensive claim for recoupment enforcing the regulation may require a the premium or charge is required to be or setoff in the event that a creditor or creditor under their jurisdictions to refundable on a pro rata basis and the assignee initiates foreclosure retain records for a longer period if refund is automatically issued upon proceedings. necessary to carry out their enforcement notification of the satisfaction of the C. Summary of Burden Hours responsibilities under section 108 of the underlying mortgage loan; Act. (D) Any bona fide third-party charge The below table summarizes the one * * * * * not retained by the creditor, loan time and annual burdens under (c) Records related to certain originator, or an affiliate of either, Regulation Z associated with requirements for mortgage loans. (1) unless the charge is required to be information collections affected by the [Reserved] included in points and fees under final rule for Bureau respondents under (2) [Reserved] paragraph (b)(1)(i)(C), (iii), or (iv) of this the PRA. For the two collections, the (3) Records related to minimum section; one-time burden for Bureau respondents standards for transactions secured by a (E) Up to two bona fide discount is approximately 1,570 hours. dwelling. Notwithstanding paragraph (a) points paid by the consumer in The Consumer Financial Protection of this section, a creditor shall retain connection with the transaction, if the Bureau has a continuing interest in the evidence of compliance with § 1026.43 interest rate without any discount does public’s opinions of our collections of of this regulation for three years after not exceed: information. At any time, comments consummation of a transaction covered (1) The average prime offer rate, as regarding the burden estimate, or any by that section. defined in § 1026.35(a)(2), by more than other aspect of this collection of one percentage point; or information, including suggestions for Subpart E—Special Rules for Certain (2) For purposes of paragraph (a)(1)(ii) reducing the burden, may be sent to: Home Mortgage Transactions of this section, for transactions that are secured by personal property, the The Consumer Financial Protection ■ average rate for a loan insured under Bureau (Attention: PRA Office), 1700 G 3. Section 1026.32 is amended by: ■ Title I of the National Housing Act (12 Street NW., Washington, DC, 20552, or A. Revising the section heading; ■ U.S.C. 1702 et seq.) by more than one by the internet to B. Revising paragraph (b)(1); ■ percentage point; and [email protected]. C. Removing and reserving paragraph (b)(2); (F) If no discount points have been List of Subjects in 12 CFR Part 1026 ■ D. Adding paragraph (b)(3) through (6) excluded under paragraph (b)(1)(i)(E) of The additions and revisions read as this section, then up to one bona fide Advertising, Consumer protection, follows: discount point paid by the consumer in Mortgages, Reporting and recordkeeping connection with the transaction, if the requirements, Truth in Lending. § 1026.32 Requirements for high-cost interest rate without any discount does mortgages. Authority and Issuance not exceed: * * * * * (1) The average prime offer rate, as For the reasons set forth in the (b) Definitions. For purposes of this defined in § 1026.35(a)(2), by more than preamble, the Bureau amends subpart, the following definitions apply: two percentage points; or Regulation Z, 12 CFR part 1026, as set (1) In connection with a closed-end (2) For purposes of paragraph (a)(1)(ii) forth below: credit transaction, points and fees of this section, for transactions that are means the following fees or charges that secured by personal property, the PART 1026—TRUTH IN LENDING are known at or before consummation: average rate for a loan insured under (REGULATION Z) (i) All items included in the finance Title I of the National Housing Act (12 charge under § 1026.4(a) and (b), except U.S.C. 1702 et seq.) by more than two ■ 1. The authority citation for part 1026 that the following items are excluded: percentage points; continues to read as follows: (A) Interest or the time-price (ii) All compensation paid directly or Authority: 12 U.S.C. 2601; 2603–2605, differential; indirectly by a consumer or creditor to 2607, 2609, 2617, 5511, 5512, 5532, 5581; 15 (B) Any premium or other charge a loan originator, as defined in U.S.C. 1601 et seq. imposed in connection with any Federal § 1026.36(a)(1), that can be attributed to

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that transaction at the time the interest penalty means a charge imposed for annual percentage rate that exceeds the rate is set; paying all or part of the transaction’s average prime offer rate for a (iii) All items listed in § 1026.4(c)(7) principal before the date on which the comparable transaction as of the date (other than amounts held for future principal is due, other than a waived, the interest rate is set by 1.5 or more payment of taxes), unless: bona fide third-party charge that the percentage points for a first-lien covered (A) The charge is reasonable; creditor imposes if the consumer transaction, or by 3.5 or more (B) The creditor receives no direct or prepays all of the transaction’s principal percentage points for a subordinate-lien indirect compensation in connection sooner than 36 months after covered transaction. with the charge; and consummation, provided, however, that (5) Loan amount means the principal (C) The charge is not paid to an interest charged consistent with the amount the consumer will borrow as affiliate of the creditor; monthly interest accrual amortization reflected in the promissory note or loan (iv) Premiums or other charges method is not a prepayment penalty for contract. payable at or before consummation for extensions of credit insured by the (6) Loan term means the period of any credit life, credit disability, credit Federal Housing Administration that are time to repay the obligation in full. unemployment, or credit property consummated before January 21, 2015. (7) Maximum loan amount means the insurance, or any other life, accident, (ii) [Reserved] loan amount plus any increase in health, or loss-of-income insurance for * * * * * principal balance that results from which the creditor is a beneficiary, or ■ 4. Add § 1026.43 to read as follows: negative amortization, as defined in any payments directly or indirectly for § 1026.18(s)(7)(v), based on the terms of any debt cancellation or suspension § 1026.43 Minimum standards for the legal obligation assuming: transactions secured by a dwelling. agreement or contract; (i) The consumer makes only the (v) The maximum prepayment (a) Scope. This section applies to any minimum periodic payments for the penalty, as defined in paragraph (b)(6)(i) consumer credit transaction that is maximum possible time, until the of this section, that may be charged or secured by a dwelling, as defined in consumer must begin making fully collected under the terms of the § 1026.2(a)(19), including any real amortizing payments; and mortgage loan; and property attached to a dwelling, other (ii) The maximum interest rate is (vi) The total prepayment penalty, as than: reached at the earliest possible time. defined in paragraph (b)(6)(i) of this (1) A home equity line of credit (8) Mortgage-related obligations mean section, incurred by the consumer if the subject to § 1026.40; property taxes; premiums and similar consumer refinances the existing (2) A mortgage transaction secured by charges identified in § 1026.4(b)(5), (7), mortgage loan with the current holder of a consumer’s interest in a timeshare (8), and (10) that are required by the the existing loan, a servicer acting on plan, as defined in 11 U.S.C. 101(53(D)); creditor; fees and special assessments behalf of the current holder, or an or imposed by a condominium, affiliate of either. (3) For purposes of paragraphs (c) cooperative, or homeowners association; (2) [Reserved] through (f) of this section: (3) Bona fide discount point—(i) (i) A reverse mortgage subject to ground rent; and leasehold payments. Closed-end credit. The term bona fide § 1026.33; (9) Points and fees has the same discount point means an amount equal (ii) A temporary or ‘‘bridge’’ loan with meaning as in § 1026.32(b)(1). to 1 percent of the loan amount paid by a term of 12 months or less, such as a (10) Prepayment penalty has the same the consumer that reduces the interest loan to finance the purchase of a new meaning as in § 1026.32(b)(6). rate or time-price differential applicable dwelling where the consumer plans to (11) Recast means: to the transaction based on a calculation sell a current dwelling within 12 (i) For an adjustable-rate mortgage, as that is consistent with established months or a loan to finance the initial defined in § 1026.18(s)(7)(i), the industry practices for determining the construction of a dwelling; or expiration of the period during which amount of reduction in the interest rate (iii) A construction phase of 12 payments based on the introductory or time-price differential appropriate for months or less of a construction-to- fixed interest rate are permitted under the amount of discount points paid by permanent loan. the terms of the legal obligation; the consumer. (b) Definitions. For purposes of this (ii) For an interest-only loan, as (ii) [Reserved] section: defined in § 1026.18(s)(7)(iv), the (4) Total loan amount—(i) Closed-end (1) Covered transaction means a expiration of the period during which credit. The total loan amount for a consumer credit transaction that is interest-only payments are permitted closed-end credit transaction is secured by a dwelling, as defined in under the terms of the legal obligation; calculated by taking the amount § 1026.2(a)(19), including any real and financed, as determined according to property attached to a dwelling, other (iii) For a negative amortization loan, § 1026.18(b), and deducting any cost than a transaction exempt from coverage as defined in § 1026.18(s)(7)(v), the listed in § 1026.32(b)(1)(iii), (iv), or (vi) under paragraph (a) of this section. expiration of the period during which that is both included as points and fees (2) Fully amortizing payment means a negatively amortizing payments are under § 1026.32(b)(1) and financed by periodic payment of principal and permitted under the terms of the legal the creditor. interest that will fully repay the loan obligation. (ii) [Reserved] amount over the loan term. (12) Simultaneous loan means (5) Affiliate means any company that (3) Fully indexed rate means the another covered transaction or home controls, is controlled by, or is under interest rate calculated using the index equity line of credit subject to § 1026.40 common control with another company, or formula that will apply after recast, that will be secured by the same as set forth in the Bank Holding as determined at the time of dwelling and made to the same Company Act of 1956 (12 U.S.C. 1841 et consummation, and the maximum consumer at or before consummation of seq.). margin that can apply at any time the covered transaction or, if to be made (6) Prepayment penalty—(i) Closed- during the loan term. after consummation, will cover closing end credit transactions. For a closed- (4) Higher-priced covered transaction costs of the first covered transaction. end credit transaction, prepayment means a covered transaction with an (13) Third-party record means:

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(i) A document or other record consumer’s income or assets that the (A) A loan with a balloon payment, as prepared or reviewed by an appropriate creditor relies on in accordance with defined in § 1026.18(s)(5)(i), using: person other than the consumer, the § 1026.43(c)(4); (1) The maximum payment scheduled creditor, or the mortgage broker, as (ii) For purposes of paragraph (c)(2)(ii) during the first five years after the date defined in § 1026.36(a)(2), or an agent of of this section, a creditor may verify a on which the first regular periodic the creditor or mortgage broker; consumer’s employment status orally if payment will be due for a loan that is (ii) A copy of a tax return filed with the creditor prepares a record of the not a higher-priced covered transaction; the Internal Revenue Service or a State information obtained orally; and or taxing authority; (iii) For purposes of paragraph (2) The maximum payment in the (iii) A record the creditor maintains (c)(2)(vi) of this section, if a creditor payment schedule, including any for an account of the consumer held by relies on a consumer’s credit report to balloon payment, for a higher-priced the creditor; or verify a consumer’s current debt covered transaction; (iv) If the consumer is an employee of obligations and a consumer’s (B) An interest-only loan, as defined the creditor or the mortgage broker, a application states a current debt in § 1026.18(s)(7)(iv), using: document or other record maintained by obligation not shown in the consumer’s (1) The fully indexed rate or any the creditor or mortgage broker credit report, the creditor need not introductory interest rate, whichever is regarding the consumer’s employment independently verify such an obligation. greater; and status or employment income. (4) Verification of income or assets. A (2) Substantially equal, monthly (c) Repayment ability—(1) General creditor must verify the amounts of payments of principal and interest that requirement. A creditor shall not make income or assets that the creditor relies will repay the loan amount over the a loan that is a covered transaction on under § 1026.43(c)(2)(i) to determine term of the loan remaining as of the date unless the creditor makes a reasonable a consumer’s ability to repay a covered the loan is recast. and good faith determination at or transaction using third-party records (C) A negative amortization loan, as before consummation that the consumer that provide reasonably reliable defined in § 1026.18(s)(7)(v), using: will have a reasonable ability to repay evidence of the consumer’s income or (1) The fully indexed rate or any the loan according to its terms. assets. A creditor may verify the introductory interest rate, whichever is (2) Basis for determination. Except as consumer’s income using a tax-return greater; and provided otherwise in paragraphs (d), transcript issued by the Internal (2) Substantially equal, monthly (e), and (f) of this section, in making the Revenue Service (IRS). Examples of payments of principal and interest that repayment ability determination other records the creditor may use to will repay the maximum loan amount required under paragraph (c)(1) of this verify the consumer’s income or assets over the term of the loan remaining as section, a creditor must consider the include: of the date the loan is recast. following: (i) Copies of tax returns the consumer (6) Payment calculation for (i) The consumer’s current or filed with the IRS or a State taxing simultaneous loans. For purposes of reasonably expected income or assets, authority; making the evaluation required under other than the value of the dwelling, (ii) IRS Form W–2s or similar IRS paragraph (c)(2)(iv) of this section, a including any real property attached to forms used for reporting wages or tax creditor must consider, taking into the dwelling, that secures the loan; withholding; account any mortgage-related (ii) If the creditor relies on income (iii) Payroll statements, including obligations, a consumer’s payment on a from the consumer’s employment in military Leave and Earnings Statements; simultaneous loan that is: determining repayment ability, the (iv) Financial institution records; (i) A covered transaction, by following consumer’s current employment status; (v) Records from the consumer’s paragraph (c)(5)of this section; or (iii) The consumer’s monthly payment employer or a third party that obtained (ii) A home equity line of credit on the covered transaction, calculated in information from the employer; subject to § 1026.40, by using the accordance with paragraph (c)(5) of this (vi) Records from a Federal, State, or periodic payment required under the section; local government agency stating the terms of the plan and the amount of (iv) The consumer’s monthly payment consumer’s income from benefits or credit to be drawn at or before on any simultaneous loan that the entitlements; consummation of the covered creditor knows or has reason to know (vii) Receipts from the consumer’s use transaction. will be made, calculated in accordance of check cashing services; and (7) Monthly debt-to-income ratio or with paragraph (c)(6) of this section; (viii) Receipts from the consumer’s residual income—(i) Definitions. For (v) The consumer’s monthly payment use of a funds transfer service. purposes of this paragraph (c)(7), the for mortgage-related obligations; (5) Payment calculation—(i) General following definitions apply: (vi) The consumer’s current debt rule. Except as provided in paragraph (A) Total monthly debt obligations. obligations, alimony, and child support; (c)(5)(ii) of this section, a creditor must The term total monthly debt obligations (vii) The consumer’s monthly debt-to- make the consideration required under means the sum of: the payment on the income ratio or residual income in paragraph (c)(2)(iii) of this section covered transaction, as required to be accordance with paragraph (c)(7) of this using: calculated by paragraphs (c)(2)(iii) and section; and (A) The fully indexed rate or any (c)(5) of this section; simultaneous (viii) The consumer’s credit history. introductory interest rate, whichever is loans, as required by paragraphs (3) Verification using third-party greater; and (c)(2)(iv) and (c)(6) of this section; records. A creditor must verify the (B) Monthly, fully amortizing mortgage-related obligations, as required information that the creditor relies on in payments that are substantially equal. by paragraph (c)(2)(v) of this section; determining a consumer’s repayment (ii) Special rules for loans with a and current debt obligations, alimony, ability under § 1026.43(c)(2) using balloon payment, interest-only loans, and child support, as required by reasonably reliable third-party records, and negative amortization loans. A paragraph (c)(2)(vi) of this section. except that: creditor must make the consideration (B) Total monthly income. The term (i) For purposes of paragraph (c)(2)(i) required under paragraph (c)(2)(iii) of total monthly income means the sum of of this section, a creditor must verify a this section for: the consumer’s current or reasonably

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expected income, including any income (2) Scope. The provisions of this (i) Non-standard mortgage. For from assets, as required by paragraphs paragraph (d) apply to the refinancing of purposes of the comparison conducted (c)(2)(i) and (c)(4) of this section. a non-standard mortgage into a standard pursuant to paragraph (d)(2)(ii) of this (ii) Calculations— (A) Monthly debt- mortgage when the following conditions section, the creditor must calculate the to-income ratio. If a creditor considers are met: monthly payment for a non-standard the consumer’s monthly debt-to-income (i) The creditor for the standard mortgage based on substantially equal, ratio under paragraph (c)(2)(vii) of this mortgage is the current holder of the monthly, fully amortizing payments of section, the creditor must consider the existing non-standard mortgage or the principal and interest using: ratio of the consumer’s total monthly servicer acting on behalf of the current (A) The fully indexed rate as of a debt obligations to the consumer’s total holder; reasonable period of time before or after monthly income. (ii) The monthly payment for the the date on which the creditor receives (B) Monthly residual income. If a standard mortgage is materially lower the consumer’s written application for creditor considers the consumer’s than the monthly payment for the non- the standard mortgage; monthly residual income under standard mortgage, as calculated under (B) The term of the loan remaining as paragraph (c)(2)(vii) of this section, the paragraph (d)(5) of this section. of the date on which the recast occurs, creditor must consider the consumer’s (iii) The creditor receives the assuming all scheduled payments have remaining income after subtracting the consumer’s written application for the been made up to the recast date and the consumer’s total monthly debt standard mortgage no later than two payment due on the recast date is made obligations from the consumer’s total months after the non-standard mortgage and credited as of that date; and monthly income. has recast. (C) A remaining loan amount that is: (1) For an adjustable-rate mortgage (d) Refinancing of non-standard (iv) The consumer has made no more under paragraph (d)(1)(i)(A) of this mortgages—(1) Definitions. For than one payment more than 30 days section, the outstanding principal purposes of this paragraph (d), the late on the non-standard mortgage balance as of the date of the recast, following definitions apply: during the 12 months immediately assuming all scheduled payments have (i) Non-standard mortgage. The term preceding the creditor’s receipt of the been made up to the recast date and the non-standard mortgage means a covered consumer’s written application for the payment due on the recast date is made transaction that is: standard mortgage. (A) An adjustable-rate mortgage, as and credited as of that date; (v) The consumer has made no (2) For an interest-only loan under defined in § 1026.18(s)(7)(i), with an payments more than 30 days late during introductory fixed interest rate for a paragraph (d)(1)(i)(B) of this section, the the six months immediately preceding outstanding principal balance as of the period of one year or longer; the creditor’s receipt of the consumer’s (B) An interest-only loan, as defined date of the recast, assuming all written application for the standard scheduled payments have been made up in § 1026.18(s)(7)(iv); or mortgage; and (C) A negative amortization loan, as to the recast date and the payment due (vi) If the non-standard mortgage was on the recast date is made and credited defined in § 1026.18(s)(7)(v). consummated on or after January 10, (ii) Standard mortgage. The term as of that date; or 2014, the non-standard mortgage was standard mortgage means a covered (3) For a negative amortization loan made in accordance with paragraph (c) transaction: under paragraph (d)(1)(i)(C) of this or (e) of this section, as applicable. (A) That provides for regular periodic section, the maximum loan amount, (3) Exemption from repayment ability payments that do not: determined after adjusting for the (1) Cause the principal balance to requirements. A creditor is not required outstanding principal balance. increase; to comply with the requirements of (ii) Standard mortgage. For purposes (2) Allow the consumer to defer paragraph (c) of this section if: of the comparison conducted pursuant repayment of principal; or (i) The conditions in paragraph (d)(2) to paragraph (d)(2)(ii) of this section, the (3) Result in a balloon payment, as of this section are met; and monthly payment for a standard defined in § 1026.18(s)(5)(i); (ii) The creditor has considered mortgage must be based on substantially (B) For which the total points and fees whether the standard mortgage likely equal, monthly, fully amortizing payable in connection with the will prevent a default by the consumer payments based on the maximum transaction do not exceed the amounts on the non-standard mortgage once the interest rate that may apply during the specified in paragraph (e)(3) of this loan is recast. first five years after consummation. section; (4) Offer of rate discounts and other (e) Qualified mortgages—(1) Safe (C) For which the term does not favorable terms. A creditor making a harbor and presumption of exceed 40 years; covered transaction under this compliance—(i) Safe harbor for (D) For which the interest rate is fixed paragraph (d) may offer to the consumer transactions that are not higher-priced for at least the first five years after rate discounts and terms that are the covered transactions. A creditor or consummation; and same as, or better than, the rate assignee of a qualified mortgage, as (E) For which the proceeds from the discounts and terms that the creditor defined in paragraphs (e)(2), (e)(4), or (f) loan are used solely for the following offers to new consumers, consistent of this section, that is not a higher- purposes: with the creditor’s documented priced covered transaction, as defined (1) To pay off the outstanding underwriting practices and to the extent in paragraph (b)(4) of this section, principal balance on the non-standard not prohibited by applicable State or complies with the repayment ability mortgage; and Federal law. requirements of paragraph (c) of this (2) To pay closing or settlement (5) Payment calculations. For section. charges required to be disclosed under purposes of determining whether the (ii) Presumption of compliance for the Real Estate Settlement Procedures consumer’s monthly payment for a higher-priced covered transactions. (A) Act, 12 U.S.C. 2601 et seq. standard mortgage will be materially A creditor or assignee of a qualified (iii) Refinancing. The term lower than the monthly payment for the mortgage, as defined in paragraphs refinancing has the same meaning as in non-standard mortgage, the following (e)(2), (e)(4), or (f) of this section, that is § 1026.20(a). provisions shall be used: a higher-priced covered transaction, as

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defined in paragraph (b)(4) of this (1) The outstanding principal balance (D) For a loan amount greater than or section, is presumed to comply with the over the remaining term of the loan as equal to $12,500 (indexed for inflation) repayment ability requirements of of the date the interest rate adjusts to the but less than $20,000 (indexed for paragraph (c) of this section. maximum interest rate set forth in inflation): $1,000 (indexed for inflation); (B) To rebut the presumption of paragraph (e)(2)(iv)(A) of this section, (E) For a loan amount less than compliance described in paragraph assuming the consumer will have made $12,500 (indexed for inflation): 8 (e)(1)(ii)(A) of this section, it must be all required payments as due prior to percent of the total loan amount. proven that, despite meeting the that date; or (ii) The dollar amounts, including the requirements of paragraphs (e)(2), (e)(4), (2) The loan amount over the loan loan amounts, in paragraph (e)(3)(i) of or (f) of this section, the creditor did not term; this section shall be adjusted annually make a reasonable and good faith (v) For which the creditor considers on January 1 by the annual percentage determination of the consumer’s and verifies at or before consummation change in the Consumer Price Index for repayment ability at the time of the following: All Urban Consumers (CPI–U) that was consummation, by showing that the (A) The consumer’s current or reported on the preceding June 1. See consumer’s income, debt obligations, reasonably expected income or assets the official commentary to this alimony, child support, and the other than the value of the dwelling paragraph (e)(3)(ii) for the current dollar consumer’s monthly payment (including any real property attached to amounts. (including mortgage-related obligations) the dwelling) that secures the loan, in (4) Qualified mortgage defined— on the covered transaction and on any accordance with appendix Q and special rules—(i) General. simultaneous loans of which the paragraphs (c)(2)(i) and (c)(4) of this Notwithstanding paragraph (e)(2) of this creditor was aware at consummation section; and section, a qualified mortgage is a would leave the consumer with (B) The consumer’s current debt covered transaction that satisfies: insufficient residual income or assets obligations, alimony, and child support (A) The requirements of paragraphs other than the value of the dwelling in accordance with appendix Q and (e)(2)(i) through (iii) of this section; and (including any real property attached to paragraphs (c)(2)(vi) and (c)(3) of this (B) One or more of the criteria in the dwelling) that secures the loan with section; and paragraph (e)(4)(ii) of this section. (ii) Eligible loans. A qualified which to meet living expenses, (vi) For which the ratio of the mortgage under this paragraph (e)(4) including any recurring and material consumer’s total monthly debt to total must be one of the following at non-debt obligations of which the monthly income at the time of consummation: creditor was aware at the time of consummation does not exceed 43 (A) A loan that is eligible: consummation. percent. For purposes of this paragraph (1) To be purchased or guaranteed by (2) Qualified mortgage defined— (e)(2)(vi), the ratio of the consumer’s the Federal National Mortgage general. Except as provided in total monthly debt to total monthly Association or the Federal Home Loan paragraphs (e)(4) or (f) of this section, a income is determined: Mortgage Corporation operating under qualified mortgage is a covered (A) Except as provided in paragraph the conservatorship or receivership of transaction: (e)(2)(vi)(B) of this section, in the Federal Housing Finance Agency (i) That provides for regular periodic accordance with the standards in pursuant to section 1367(a) of the payments that are substantially equal, appendix Q; Federal Housing Enterprises Financial except for the effect that any interest (B) Using the consumer’s monthly Safety and Soundness Act of 1992 (12 rate change after consummation has on payment on: U.S.C. 4617(a)); or the payment in the case of an (1) The covered transaction, including (2) To be purchased or guaranteed by adjustable-rate or step-rate mortgage, the monthly payment for mortgage- any limited-life regulatory entity that do not: related obligations, in accordance with succeeding the charter of either the (A) Result in an increase of the paragraph (e)(2)(iv) of this section; and Federal National Mortgage Association principal balance; (2) Any simultaneous loan that the or the Federal Home Loan Mortgage (B) Allow the consumer to defer creditor knows or has reason to know Corporation pursuant to section 1367(i) repayment of principal, except as will be made, in accordance with of the Federal Housing Enterprises provided in paragraph (f) of this section; paragraphs (c)(2)(iv) and (c)(6) of this Financial Safety and Soundness Act of or section. 1992 (12 U.S.C. 4617(i)); (C) Result in a balloon payment, as (3) Limits on points and fees for (B) A loan that is eligible to be defined in § 1026.18(s)(5)(i), except as qualified mortgages. (i) A covered insured by the U.S. Department of provided in paragraph (f) of this section; transaction is not a qualified mortgage Housing and Urban Development under (ii) For which the loan term does not unless the transaction’s total points and the National Housing Act (12 U.S.C. exceed 30 years; fees, as defined in § 1026.32(b)(1), do 1707 et seq.); (iii) For which the total points and not exceed: (C) A loan that is eligible to be fees payable in connection with the loan (A) For a loan amount greater than or guaranteed the U.S. Department of do not exceed the amounts specified in equal to $100,000 (indexed for Veterans Affairs; paragraph (e)(3) of this section; inflation): 3 percent of the total loan (D) A loan that is eligible to be (iv) For which the creditor amount; guaranteed by the U.S. Department of underwrites the loan, taking into (B) For a loan amount greater than or Agriculture pursuant to 42 U.S.C. account the monthly payment for equal to $60,000 (indexed for inflation) 1472(h); or mortgage-related obligations, using: but less than $100,000 (indexed for (E) A loan that is eligible to be insured (A) The maximum interest rate that inflation): $3,000 (indexed for inflation); by the Rural Housing Service. may apply during the first five years (C) For a loan amount greater than or (iii) Sunset of special rules. (A) Each after the date on which the first regular equal to $20,000 (indexed for inflation) respective special rule described in periodic payment will be due; and but less than $60,000 (indexed for paragraph (e)(4)(ii)(B), (C), (D), or (E) of (B) Periodic payments of principal inflation): 5 percent of the total loan this section shall expire on the effective and interest that will repay either: amount; date of a rule issued by each respective

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agency pursuant to its authority under extended pursuant to paragraph (f)(1), penalty and the alternative covered TILA section 129C(b)(3)(ii) to define a immediately loses its status as a transaction: qualified mortgage. qualified mortgage under paragraph (i) Has an annual percentage rate that (B) Unless otherwise expired under (f)(1) if legal title to the balloon-payment cannot increase after consummation and paragraph (e)(4)(iii)(A) of this section, qualified mortgage is sold, assigned, or has the same type of interest rate as the the special rules in this paragraph (e)(4) otherwise transferred to another person covered transaction with a prepayment are available only for covered except when: penalty; for purposes of this paragraph transactions consummated on or before (i) The balloon-payment qualified (g), the term ‘‘type of interest rate’’ refers January 10, 2021. mortgage is sold, assigned, or otherwise to whether a transaction: (f) Balloon-payment qualified transferred to another person three years (A) Is a fixed-rate mortgage, as defined mortgages made by certain creditors— or more after consummation of the in § 1026.18(s)(7)(iii); or (1) Exemption. Notwithstanding balloon-payment qualified mortgage; (B) Is a step-rate mortgage, as defined paragraph (e)(2) of this section, a (ii) The balloon-payment qualified in § 1026.18(s)(7)(ii); qualified mortgage may provide for a mortgage is sold, assigned, or otherwise (ii) Has the same loan term as the loan balloon payment, provided: transferred to a creditor that satisfies the term for the covered transaction with a (i) The loan satisfies the requirements requirements of paragraph (f)(1)(vi) of prepayment penalty; for a qualified mortgage in paragraphs this section; (iii) Satisfies the periodic payment (e)(2)(i)(A), (e)(2)(ii), (e)(2)(iii), and (iii) The balloon-payment qualified conditions under paragraph (e)(2)(i) of (e)(2)(v) of this section, but without mortgage is sold, assigned, or otherwise this section; regard to the standards in appendix Q; transferred to another person pursuant (iv) Satisfies the points and fees (ii) The creditor determines at or to a capital restoration plan or other conditions under paragraph (e)(2)(iii) of before consummation that the consumer action under 12 U.S.C. 1831o, actions or this section, based on the information can make all of the scheduled payments instructions of any person acting as known to the creditor at the time the under the terms of the legal obligation, conservator, receiver or bankruptcy transaction is offered; and as described in paragraph (f)(1)(iv) of trustee, an order of a State or Federal (v) Is a transaction for which the this section, together with the governmental agency with jurisdiction creditor has a good faith belief that the consumer’s monthly payments for all to examine the creditor pursuant to consumer likely qualifies, based on the mortgage-related obligations and State or Federal law, or an agreement information known to the creditor at the excluding the balloon payment, from between the creditor and such an time the creditor offers the covered the consumer’s current or reasonably agency; or transaction without a prepayment expected income or assets other than the (iv) The balloon-payment qualified penalty. dwelling that secures the loan; mortgage is sold, assigned, or otherwise (4) Offer through a mortgage broker. If (iii) The creditor considers at or transferred pursuant to a merger of the the creditor offers a covered transaction before consummation the consumer’s creditor with another person or with a prepayment penalty to the monthly debt-to-income ratio or acquisition of the creditor by another consumer through a mortgage broker, as residual income and verifies the debt person or of another person by the defined in § 1026.36(a)(2), the creditor obligations and income used to creditor. must: determine that ratio in accordance with (g) Prepayment penalties—(1) When (i) Present the mortgage broker an paragraph (c)(7) of this section, except permitted. A covered transaction must alternative covered transaction without that the calculation of the payment on not include a prepayment penalty a prepayment penalty that satisfies the the covered transaction for purposes of unless: requirements of paragraph (g)(3) of this determining the consumer’s total (i) The prepayment penalty is section; and monthly debt obligations in (c)(7)(i)(A) otherwise permitted by law; and (ii) Establish by agreement that the shall be determined in accordance with (ii) The transaction: mortgage broker must present the paragraph (f)(iv)(A) of this section, (A) Has an annual percentage rate that consumer an alternative covered together with the consumer’s monthly cannot increase after consummation; transaction without a prepayment payments for all mortgage-related (B) Is a qualified mortgage under penalty that satisfies the requirements of obligations and excluding the balloon paragraph (e)(2), (e)(4), or (f) of this paragraph (g)(3) of this section, offered payment; section; and by: (iv) The legal obligation provides for: (C) Is not a higher-priced mortgage (A) The creditor; or (A) Scheduled payments that are loan, as defined in § 1026.35(a). (B) Another creditor, if the transaction substantially equal, calculated using an (2) Limits on prepayment penalties. A offered by the other creditor has a lower amortization period that does not prepayment penalty: interest rate or a lower total dollar exceed 30 years; (i) Must not apply after the three-year amount of discount points and (B) An interest rate that does not period following consummation; and origination points or fees. increase over the term of the loan; and (ii) Must not exceed the following (5) Creditor that is a loan originator. (C) A loan term of five years or longer. percentages of the amount of the If the creditor is a loan originator, as (v) The loan is not subject, at outstanding loan balance prepaid: defined in § 1026.36(a)(1), and the consummation, to a commitment to be (A) 2 percent, if incurred during the creditor presents the consumer a acquired by another person, other than first two years following consummation; covered transaction offered by a person a person that satisfies the requirements and to which the creditor would assign the of paragraph (f)(1)(vi) of this section; (B) 1 percent, if incurred during the covered transaction after and third year following consummation. consummation, the creditor must (vi) The creditor satisfies the (3) Alternative offer required. A present the consumer an alternative requirements stated in creditor must not offer a consumer a covered transaction without a § 1026.35(b)(2)(iii)(A), (B), and (C). covered transaction with a prepayment prepayment penalty that satisfies the (2) Post-consummation transfer of penalty unless the creditor also offers requirements of paragraph (g)(3) of this balloon-payment qualified mortgage. A the consumer an alternative covered section, offered by: balloon-payment qualified mortgage, transaction without a prepayment (i) The assignee; or

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(ii) Another person, if the transaction 3. Analyzing a Consumer’s Employment 3. Establishing an Overtime and Bonus offered by the other person has a lower Record. Income Earning Trend. interest rate or a lower total dollar a. When analyzing the probability of a. The creditor must establish and amount of origination discount points continued employment, creditors must document an earnings trend for overtime and examine: bonus income. If either type of income shows and points or fees. i. The consumer’s past employment record; a continual decline, the creditor must (6) Applicability. This paragraph (g) ii. Qualifications for the position; document in writing a sound rationalization applies only if a covered transaction is iii. Previous training and education; and for including the income when qualifying the consummated with a prepayment iv. The employer’s confirmation of consumer. penalty and is not violated if: continued employment. b. A period of more than two years must (i) A covered transaction is b. Favorably consider a consumer for a be used in calculating the average overtime consummated without a prepayment mortgage if he/she changes jobs frequently and bonus income if the income varies penalty; or within the same line of work, but continues significantly from year to year. (ii) The creditor and consumer do not to advance in income or benefits. In this 4. Qualifying Part-Time Income. consummate a covered transaction. analysis, income stability takes precedence a. Part-time and seasonal income can be (h) Evasion; open-end credit. In over job stability. used to qualify the consumer if the creditor 4. Consumers Returning to Work After an documents that the consumer has worked the connection with credit secured by a Extended Absence. A consumer’s income part-time job uninterrupted for the past two consumer’s dwelling that does not meet may be considered effective and stable when years, and plans to continue. Many low and the definition of open-end credit in recently returning to work after an extended moderate income families rely on part-time § 1026.2(a)(20), a creditor shall not absence if he/she: and seasonal income for day to day needs, structure the loan as an open-end plan a. Is employed in the current job for six and creditors should not restrict to evade the requirements of this months or longer; and consideration of such income when section. b. Can document a two-year work history qualifying these consumers. 5. Reserved appendices N, O, and P prior to an absence from employment using: b. Part-time income received for less than are added, and appendix Q is added to i. Traditional employment verifications; two years may be included as effective and/or income, provided that the creditor justifies read as follows: ii. Copies of IRS Form W–2s or pay stubs. and documents that the income is likely to Appendix N to Part 1026—[Reserved] Note: An acceptable employment situation continue. includes individuals who took several years c. Part-time income not meeting the Appendix O to Part 1026—[Reserved] off from employment to raise children, then qualifying requirements may not be used in Appendix P to Part 1026—[Reserved] returned to the workforce. qualifying. c. Important: Situations not meeting the Note: For qualifying purposes, ‘‘part-time’’ Appendix Q to Part 1026—Standards criteria listed above may not be used in income refers to employment taken to for Determining Monthly Debt and qualifying. Extended absence is defined as supplement the consumer’s income from Income six months. regular employment; part-time employment B. Salary, Wage and Other Forms of is not a primary job and it is worked less than Section 1026.43(e)(2)(vi) provides that, to Income. 40 hours. satisfy the requirements for a qualified 1. General Policy on Consumer Income 5. Income from Seasonal Employment. mortgage under § 1026.43(e)(2), the ratio of Analysis. a. Seasonal income is considered the consumer’s total monthly debt to total a. The income of each consumer who will uninterrupted, and may be used to qualify monthly income at the time of consummation be obligated for the mortgage debt must be the consumer, if the creditor documents that cannot exceed 43 percent. Section analyzed to determine whether his/her the consumer: 1026.43(e)(2)(vi)(A) requires the creditor to income level can be reasonably expected to i. Has worked the same job for the past two calculate the ratio of the consumer’s total continue through at least the first three years years, and monthly debt to total monthly income using of the mortgage loan. ii. Expects to be rehired the next season. the following standards, with additional b. In most cases, a consumer’s income is b. Seasonal employment includes: requirements for calculating debt and income limited to salaries or wages. Income from i. Umpiring baseball games in the summer; appearing in § 1026.43(e)(2)(vi)(B). other sources can be considered as effective, or ii. Working at a department store during I. Consumer Eligibility when properly verified and documented by the creditor. the holiday shopping season. A. Stability of Income. Notes: 6. Primary Employment Less Than 40 Hour 1. Effective Income. Income may not be i. Effective income for consumers planning Work Week. used in calculating the consumer’s income to retire during the first three-year period a. When a consumer’s primary ratios if it comes from any source that cannot must include the amount of: employment is less than a typical 40-hour be verified, is not stable, or will not continue. a. Documented retirement benefits; work week, the creditor should evaluate the 2. Verifying Employment History. b. Social Security payments; or stability of that income as regular, on-going a. The creditor must verify the consumer’s c. Other payments expected to be received primary employment. employment for the most recent two full in retirement. b. Example: A registered nurse may have years, and the consumer must: ii. Creditors must not ask the consumer worked 24 hours per week for the last year. i. Explain any gaps in employment that about possible, future maternity leave. Although this job is less than the 40-hour span one or more months, and 2. Overtime and Bonus Income. work week, it is the consumer’s primary ii. Indicate if he/she was in school or the a. Overtime and bonus income can be used employment, and should be considered military for the recent two full years, to qualify the consumer if he/she has effective income. providing evidence supporting this claim, received this income for the past two years, 7. Commission Income. such as college transcripts, or discharge and it will likely continue. If the employment a. Commission income must be averaged papers. verification states that the overtime and over the previous two years. To qualify b. Allowances can be made for seasonal bonus income is unlikely to continue, it may commission income, the consumer must employment, typical for the building trades not be used in qualifying. provide: and agriculture, if documented by the b. The creditor must develop an average of i. Copies of signed tax returns for the last creditor. bonus or overtime income for the past two two years; and Note: A consumer with a 25 percent or years. Periods of overtime and bonus income ii. The most recent pay stub. greater ownership interest in a business is less than two years may be acceptable, b. Consumers whose commission income considered self-employed and will be provided the creditor can justify and was received for more than one year, but less evaluated as a self-employed consumer for document in writing the reason for using the than two years may be considered favorably underwriting purposes. income for qualifying purposes. if the underwriter can:

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i. Document the likelihood that the income 11. Social Security Income. Social Security C. Consumers Employed by a Family will continue, and income must be verified by the Social Owned Business. ii. Soundly rationalize accepting the Security Administration or on Federal tax 1. Income Documentation Requirement. commission income. returns. If any benefits expire within the first In addition to normal employment Notes: full three years of the loan, the income source verification, a consumer employed by a i. Unreimbursed business expenses must may not be used in qualifying. family owned business is required to provide be subtracted from gross income. Notes: evidence that he/she is not an owner of the ii. A commissioned consumer is one who i. The creditor must obtain a complete business, which may include: receives more than 25 percent of his/her copy of the current awards letter. a. Copies of signed personal tax returns, or annual income from commissions. ii. Not all Social Security income is for iii. A tax transcript obtained directly from retirement-aged recipients; therefore, b. A signed copy of the corporate tax return the IRS may be used in lieu of signed tax documented continuation is required. showing ownership percentage. returns, and the cost of the transcript may be iii. Some portion of Social Security income Note: A tax transcript obtained directly charged to the consumer. may be ‘‘grossed up’’ if deemed nontaxable from the IRS may be used in lieu of signed 8. Qualifying Commission Income Earned by the IRS. tax returns, and the cost of the transcript may for Less Than One Year. 12. Automobile Allowances and Expense be charged to the consumer. a. Commission income earned for less than Account Payments. D. General Information on Self-Employed one year is not considered effective income. a. Only the amount by which the Consumers and Income Analysis. Exceptions may be made for situations in consumer’s automobile allowance or expense 1. Definition: Self Employed Consumer. A which the consumer’s compensation was account payments exceed actual consumer with a 25 percent or greater changed from salary to commission within a expenditures may be considered income. ownership interest in a business is similar position with the same employer. b. To establish the amount to add to gross considered self-employed. b. A consumer may also qualify when the income, the consumer must provide the 2. Types of Business Structures. There are portion of earnings not attributed to following: four basic types of business structures. They commissions would be sufficient to qualify i. IRS Form 2106, Employee Business include: the consumer for the mortgage. Expenses, for the previous two years; and a. Sole proprietorships; 9. Employer Differential Payments. If the ii. Employer verification that the payments b. Corporations; employer subsidizes a consumer’s mortgage will continue. c. Limited liability or ‘‘S’’ corporations; payment through direct payments, the c. If the consumer uses the standard per- and amount of the payments: mile rate in calculating automobile expenses, d. Partnerships. a. Is considered gross income, and as opposed to the actual cost method, the b. Cannot be used to offset the mortgage portion that the IRS considers depreciation 3. Minimum Length of Self Employment. payment directly, even if the employer pays may be added back to income. a. Income from self-employment is the servicing creditor directly. d. Expenses that must be treated as considered stable, and effective, if the 10. Retirement Income. Retirement income recurring debt include: consumer has been self-employed for two or must be verified from the former employer, i. The consumer’s monthly car payment; more years. or from Federal tax returns. If any retirement and b. Due to the high probability of failure income, such as employer pensions or ii. Any loss resulting from the calculation during the first few years of a business, the 401(k)’s, will cease within the first full three of the difference between the actual requirements described in the table below are years of the mortgage loan, such income may expenditures and the expense account necessary for consumers who have been self- not be used in qualifying. allowance. employed for less than two years.

4. General Documentation Requirements d. Business credit report for corporations ii. Is not subject to quarterly tax returns, or for Self Employed Consumers. Self-employed and ‘‘S’’ corporations. does not file them, then the income shown consumers must provide the following 5. Establishing a Consumer’s Earnings on the P&L statement may be included in the documentation: Trend. analysis, provided the income stream based a. Signed, dated individual tax returns, a. When qualifying a consumer for a on the P&L is consistent with the previous with all applicable tax schedules for the most mortgage loan, the creditor must establish the years’ earnings. recent two years; consumer’s earnings trend from the previous c. If the P&L statements submitted for the b. For a corporation, ‘‘S’’ corporation, or two years using the consumer’s tax returns. current year show an income stream partnership, signed copies of Federal considerably greater than what is supported b. If a consumer: business income tax returns for the last two by the previous year’s tax returns, the i. Provides quarterly tax returns, the years, with all applicable tax schedules; creditor must base the income analysis solely c. Year to date profit and loss (P&L) income analysis may include income through on the income verified through the tax statement and balance sheet; and the period covered by the tax filings, or returns.

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d. If the consumer’s earnings trend for the analyze the business’s financial strength, 1. General Policy on Adjusting Income previous two years is downward and the including the: Based on a Review of IRS Form 1040. The most recent tax return or P&L is less than the i. Source of the business’s income; amount shown on a consumer’s IRS Form prior year’s tax return, the consumer’s most ii. General economic outlook for similar 1040 as adjusted gross income must either be recent year’s tax return or P&L must be used businesses in the area. increased or decreased based on the to calculate his/her income. b. Annual earnings that are stable or creditor’s analysis of the individual tax 6. Analyzing the Business’s Financial increasing are acceptable, while businesses Strength: that show a significant decline in income return and any related tax schedules. a. To determine if the business is expected over the analysis period are not acceptable. 2. Guidelines for Analyzing IRS Form 1040. to generate sufficient income for the E. Income Analysis: Individual Tax The table below contains guidelines for consumer’s needs, the creditor must carefully Returns (IRS Form 1040). analyzing IRS Form 1040:

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F. Income Analysis: Corporate Tax Returns 2. Need To Obtain Consumer Percentage of i. Corporate tax return IRS Form 1120; and (IRS Form 1120). Ownership Information. ii. Individual tax returns. 1. Description: Corporation. A corporation a. Corporate compensation to the officers, b. When a consumer’s percentage of is a State-chartered business owned by its generally in proportion to the percentage of ownership does not appear on the tax stockholders. ownership, is shown on the: returns, the creditor must obtain the

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information from the corporation’s a. In order to determine a consumer’s self- b. The table below describes the items accountant, along with evidence that the employed income from a corporation the found on IRS Form 1120 for which an consumer has the right to any compensation. adjusted business income must: adjustment must be made in order to 3. Analyzing Corporate Tax Returns. i. Be determined; and determine adjusted business income. ii. Multiplied by the consumer’s percentage of ownership in the business.

G. Income Analysis: ‘‘S’’ Corporation Tax back to the income in proportion to the statements support a two-year receipt history. Returns (IRS Form 1120S). consumer’s share of income. This income must be averaged over the two 1. Description: ‘‘S’’ Corporation. c. Income must also be reduced years. a. An ‘‘S’’ corporation is generally a small, proportionately by the total obligations b. Subtract any funds that are derived from start-up business, with gains and losses payable by the partnership in less than one these sources, and are required for the cash passed to stockholders in proportion to each year. investment, before calculating the projected stockholder’s percentage of business d. Important: Cash withdrawals from the interest or dividend income. ownership. partnership may have a severe negative 2. Trust Income. b. Income for owners of ‘‘S’’ corporations impact on the partnership’s ability to a. Income from trusts may be used if comes from IRS Form W–2 wages, and is continue operating, and must be considered guaranteed, constant payments will continue taxed at the individual rate. The IRS Form in the income analysis. for at least the first three years of the 1120S, Compensation of Officers line item is II. Non-Employment Related Consumer mortgage term. transferred to the consumer’s individual IRS Income b. Required trust income documentation Form 1040. includes a copy of the Trust Agreement or A. Alimony, Child Support, and 2. Analyzing ‘‘S’’ Corporation Tax Returns. other trustee statement, confirming the: Maintenance Income Criteria. Alimony, child a. ‘‘S’’ corporation depreciation and i. Amount of the trust; support, or maintenance income may be ii. Frequency of distribution; and depletion may be added back to income in considered effective, if: proportion to the consumer’s share of the 1. Payments are likely to be received iii. Duration of payments. corporation’s income. consistently for the first three years of the c. Trust account funds may be used for the b. In addition, the income must also be mortgage; required cash investment if the consumer reduced proportionately by the total 2. The consumer provides the required provides adequate documentation that the obligations payable by the corporation in less documentation, which includes a copy of withdrawal of funds will not negatively affect than one year. the: income. The consumer may use funds from c. Important: The consumer’s withdrawal i. Final divorce decree; the trust account for the required cash of cash from the corporation may have a ii. Legal separation agreement; investment, but the trust income used to severe negative impact on the corporation’s iii. Court order; or determine repayment ability cannot be ability to continue operating, and must be iv. Voluntary payment agreement; and affected negatively by its use. considered in the income analysis. 3. The consumer can provide acceptable 3. Notes Receivable Income. H. Income Analysis: Partnership Tax evidence that payments have been received a. In order to include notes receivable Returns (IRS Form 1065). during the last 12 months, such as: income to qualify a consumer, he/she must 1. Description: Partnership. i. Cancelled checks; provide: a. A partnership is formed when two or ii. Deposit slips; i. A copy of the note to establish the more individuals form a business, and share iii. Tax returns; or amount and length of payment, and in profits, losses, and responsibility for iv. Court records. ii. Evidence that these payments have been running the company. Notes: consistently received for the last 12 months b. Each partner pays taxes on his/her i. Periods less than 12 months may be through deposit slips, cancelled checks, or proportionate share of the partnership’s net acceptable, provided the creditor can tax returns. income. adequately document the payer’s ability and b. If the consumer is not the original payee 2. Analyzing Partnership Tax Returns. willingness to make timely payments. on the note, the creditor must establish that a. Both general and limited partnerships ii. Child support may be ‘‘grossed up’’ the consumer is now a holder in due course, report income on IRS Form 1065, and the under the same provisions as non-taxable and able to enforce the note. partners’ share of income is carried over to income sources. 4. Eligible Investment Properties. Schedule E of IRS Form 1040. B. Investment and Trust Income. Follow the steps in the table below to b. The creditor must review IRS Form 1065 1. Analyzing Interest and Dividends. calculate an investment property’s income or to assess the viability of the business. Both a. Interest and dividend income may be loss if the property to be subject to a depreciation and depletion may be added used as long as tax returns or account mortgage is an eligible investment property.

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C. Military, Government Agency, and underwriting, the subsidy will be assumed to ii. Not be used as a direct offset to the Assistance Program Income. continue for at least three years. mortgage payment. 1. Military Income. b. If the consumer is receiving the subsidy 3. Income from Roommates in a Single a. Military personnel not only receive base directly, the amount received is treated as Family Property. pay, but oftentimes are entitled to additional income. The amount received may also be a. Income from roommates in a single forms of pay, such as: treated as nontaxable income and be ‘‘grossed family property occupied as the consumer’s i. Income from variable housing up’’ by 25 percent, which means that the primary residence is not acceptable. Rental allowances; amount of the subsidy, plus 25 percent of income from boarders however, is acceptable, ii. Clothing allowances; that subsidy may be added to the consumer’s if the boarders are related by blood, marriage, iii. Flight or hazard pay; income from employment and/or other or law. iv. Rations; and sources. b. The rental income may be considered v. Proficiency pay. c. Creditors may treat this subsidy as an effective, if shown on the consumer’s tax b. These types of additional pay are ‘‘offset’’ to the monthly mortgage payment return. If not on the tax return, rental income acceptable when analyzing a consumer’s (that is, reduce the monthly mortgage paid by the boarder may not be used in income as long as the probability of such pay payment by the amount of the home qualifying. to continue is verified in writing. ownership assistance payment before 4. Documentation Required To Verify Note: The tax-exempt nature of some of the dividing by the monthly income to determine Rental Income. Analysis of the following above payments should also be considered. the payment-to-income and debt-to-income required documentation is necessary to verify all consumer rental income: 2. VA Benefits. ratios). The subsidy payment must not pass a. IRS Form 1040 Schedule E; and a. Direct compensation for service-related through the consumer’s hands. disabilities from the Department of Veterans b. Current /rental agreements. d. The assistance payment must be: Affairs (VA) is acceptable, provided the 5. Analyzing IRS Form 1040 Schedule E. i. Paid directly to the servicing creditor; or creditor receives documentation from the a. The IRS Form 1040 Schedule E is ii. Placed in an account that only the VA. required to verify all rental income. servicing creditor may access. b. Education benefits used to offset Depreciation shown on Schedule E may be education expenses are not acceptable. Note: Assistance payments made directly added back to the net income or loss. 3. Government Assistance Programs. to the consumer must be treated as income. b. Positive rental income is considered a. Income received from government D. Rental Income. gross income for qualifying purposes, while assistance programs is acceptable as long as 1. Analyzing the Stability of Rental Income. negative income must be treated as a the paying agency provides documentation a. Rent received for properties owned by recurring liability. indicating that the income is expected to the consumer is acceptable as long as the c. The creditor must confirm that the continue for at least three years. creditor can document the stability of the consumer still owns each property listed, by b. If the income from government rental income through: comparing Schedule E with the real estate assistance programs will not be received for i. A current lease; owned section of the URLA. at least three years, it may not be used in ii. An agreement to lease, or 6. Using Current Leases To Analyze Rental qualifying. iii. A rental history over the previous 24 Income. c. Unemployment income must be months that is free of unexplained gaps a. The consumer can provide a current documented for two years, and there must be greater than three months (such gaps could signed lease or other rental agreement for a reasonable assurance that this income will be explained by student, seasonal, or military property that was acquired since the last continue. This requirement may apply to renters, or property rehabilitation). income tax filing, and is not shown on seasonal employment. b. A separate schedule of real estate is not Schedule E. 4. Mortgage Credit Certificates. required for rental properties as long as all b. In order to calculate the rental income: a. If a government entity subsidizes the properties are documented on the Uniform i. Reduce the gross rental amount by 25 mortgage payments either through direct Residential Loan Application. percent for vacancies and maintenance; payments or tax rebates, these payments may Note: The underwriting analysis may not ii. Subtract PITI and any homeowners be considered as acceptable income. consider rental income from any property association dues; and b. Either type of subsidy may be added to being vacated by the consumer, except under iii. Apply the resulting amount to income, gross income, or used directly to offset the the circumstances described below. if positive, or recurring debts, if negative. mortgage payment, before calculating the 2. Rental Income From Consumer 7. Exclusion of Rental Income From qualifying ratios. Occupied Property. Property Being Vacated by the Consumer. 5. Homeownership Subsidies. a. The rent for multiple unit property Underwriters may not consider any rental a. A monthly subsidy may be treated as where the consumer resides in one or more income from a consumer’s principal income, if a consumer is receiving subsidies units and charges rent to tenants of other residence that is being vacated in favor of under the housing choice voucher home units may be used for qualifying purposes. another principal residence, except under the ownership option from a public housing b. Projected rent for the tenant-occupied conditions described below: agency (PHA). Although continuation of the units only may: Notes: homeownership voucher subsidy beyond the i. Be considered gross income, only after i. This policy assures that a consumer first year is subject to Congressional deducting vacancy and maintenance factors, either has sufficient income to make both appropriation, for the purposes of and mortgage payments without any rental

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income, or has an equity position not likely loan application and confirmed by tax residence, the rental income, reduced by the to result in defaulting on the mortgage on the returns (Schedule E of form IRS 1040). appropriate vacancy factor, may be property being vacated. 8. Policy Exceptions Regarding the considered in the underwriting analysis ii. This applies solely to a principal Exclusion of Rental Income From a Principal under the circumstances listed in the table residence being vacated in favor of another Residence Being Vacated by a Consumer. below. principal residence. It does not apply to When a consumer vacates a principal existing rental properties disclosed on the residence in favor of another principal

E. Non Taxable and Projected Income. Note: If the consumer is not required to file eligible for endorsement, the creditor must 1. Types of Non Taxable Income. a Federal tax return, the tax rate to use is 25 obtain from the consumer a pay stub or other Certain types of regular income may not be percent. acceptable evidence indicating that he/she subject to Federal tax. Such types of 3. Analyzing Projected Income. has started the new job. a. Projected or hypothetical income is not nontaxable income include: III. Consumer Liabilities: Recurring a. Some portion of Social Security, some acceptable for qualifying purposes. However, exceptions are permitted for income from the Obligations Federal government employee retirement following sources: 1. Types of Recurring Obligation. Recurring income, Railroad Retirement Benefits, and i. Cost-of-living adjustments; obligations include: some State government retirement income: ii. Performance raises; and a. All installment loans; b. Certain types of disability and public iii. Bonuses. b. Revolving charge accounts; assistance payments; b. For the above exceptions to apply, the c. Real estate loans; c. Child support; income must be: d. Alimony; d. Military allowances; and i. Verified in writing by the employer; and e. Child support; and e. Other income that is documented as ii. Scheduled to begin within 60 days of f. Other continuing obligations. being exempt from Federal income taxes. loan closing. 2. Debt to Income Ratio Computation for 2. Adding Non Taxable Income to a 4. Project Income for New Job. Recurring Obligations. Consumer’s Gross Income. a. Projected income is acceptable for a. The creditor must include the following a. The amount of continuing tax savings qualifying purposes for a consumer when computing the debt to income ratios for attributed to regular income not subject to scheduled to start a new job within 60 days recurring obligations: Federal taxes may be added to the of loan closing if there is a guaranteed, non- i. Monthly housing expense; and consumer’s gross income. revocable contract for employment. ii. Additional recurring charges extending ten months or more, such as b. The percentage of non-taxable income b. The creditor must verify that the consumer will have sufficient income or cash a. Payments on installment accounts; that may be added cannot exceed the reserves to support the mortgage payment b. Child support or separate maintenance appropriate tax rate for the income amount. and any other obligations between loan payments; Additional allowances for dependents are not closing and the start of employment. c. Revolving accounts; and acceptable. Examples of this type of scenario are teachers d. Alimony. c. The creditor: whose contracts begin with the new school b. Debts lasting less than ten months must i. Must document and support the amount year, or physicians beginning a residency be included if the amount of the debt affects of income grossed up for any non-taxable after the loan closes fall under this category. the consumer’s ability to pay the mortgage income source, and c. The loan is not eligible for endorsement during the months immediately after loan ii. Should use the tax rate used to calculate if the loan closes more than 60 days before closing, especially if the consumer will have the consumer’s last year’s income tax. the consumer starts the new job. To be limited or no cash assets after loan closing.

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Note: Monthly payments on revolving or iv. Any other obligation. i. Paragraph 32(b)(1)(iii) and paragraph 1 open-ended accounts, regardless of the b. If the creditor obtains documented proof are added. balance, are counted as a liability for that the primary obligor has been making j. Under Paragraph 32(b)(1)(iv), paragraph qualifying purposes even if the account regular payments during the previous 12 1 is revised and paragraphs 2 and 3 are appears likely to be paid off within 10 months, and does not have a history of added. months or less. delinquent payments on the loan during that k. 32(b)(3) Bona fide discount point, 3. Revolving Account Monthly Payment time, the payment does not have to be 32(b)(3)(i) Closed-end credit, and paragraph 1 Calculation. If the credit report shows any included in the consumer’s monthly are added. revolving accounts with an outstanding obligations. l. 32(b)(4) Total loan amount, 32(b)(4)(i) balance but no specific minimum monthly V. Consumer Liabilities: Projected Closed-end credit, and paragraph 1 are payment, the payment must be calculated as added. the greater of: Obligations and Obligations Not Considered Debt m. 32(b)(6) Prepayment penalty and a. 5 percent of the balance; or paragraphs 1 and 2 are added. b. $10. 1. Projected Obligations. D. Section 1026.43—Minimum Standards Note: If the actual monthly payment is a. Debt payments, such as a student loan for Transactions Secured by a Dwelling is documented from the creditor or the creditor or balloon-payment note scheduled to begin added. obtains a copy of the current statement or come due within 12 months of the The revisions and additions read as reflecting the monthly payment, that amount mortgage loan closing, must be included by follows: may be used for qualifying purposes. the creditor as anticipated monthly 4. Reduction of Alimony Payment for obligations during the underwriting analysis. Supplement I to Part 1026—Official Qualifying Ratio Calculation. Since there are b. Debt payments do not have to be Interpretations tax consequences of alimony payments, the classified as projected obligations if the * * * * * creditor may choose to treat the monthly consumer provides written evidence that the alimony obligation as a reduction from the debt will be deferred to a period outside the Subpart D—Miscellaneous consumer’s gross income when calculating 12-month timeframe. qualifying ratios, rather than treating it as a c. Balloon-payment notes that come due * * * * * monthly obligation. within one year of loan closing must be considered in the underwriting analysis. Section 1026.25—Record Retention IV. Consumer Liabilities: Contingent 2. Obligations Not Considered Debt. 25(a) General rule. Liability Obligations not considered debt, and 1. Definition: Contingent Liability. A therefore not subtracted from gross income, * * * * * contingent liability exists when an individual include: 2. Methods of retaining evidence. Adequate is held responsible for payment of a debt if a. Federal, State, and local taxes; evidence of compliance does not necessarily another party, jointly or severally obligated, b. Federal Insurance Contributions Act mean actual paper copies of disclosure defaults on the payment. (FICA) or other retirement contributions, statements or other business records. The 2. Application of Contingent Liability such as 401(k) accounts (including evidence may be retained by any method that Policies. The contingent liability policies repayment of debt secured by these funds): reproduces records accurately (including described in this topic apply unless the c. Commuting costs; computer programs). Unless otherwise consumer can provide conclusive evidence d. Union dues; required, the creditor need retain only from the debt holder that there is no e. Open accounts with zero balances; enough information to reconstruct the possibility that the debt holder will pursue f. Automatic deductions to savings required disclosures or other records. Thus, debt collection against him/her should the accounts; for example, the creditor need not retain each other party default. g. Child care; and open-end periodic statement, so long as the 3. Contingent Liability on Mortgage h. Voluntary deductions. specific information on each statement can Assumptions. Contingent liability must be 6. In Supplement I to Part 1026—Official be retrieved. considered when the consumer remains Interpretations: * * * * * obligated on an outstanding FHA-insured, A. Under Section 1026.25—Record 25(c) Records related to certain VA-guaranteed, or conventional mortgage Retention: requirements for mortgage loans. secured by property that: i. Under 25(a) General rule, paragraph 2 is 25(c)(3) Records related to minimum a. Has been sold or traded within the last revised. standards for transactions secured by a 12 months without a release of liability, or ii. Section 25(c) Records related to certain dwelling. b. Is to be sold on assumption without a requirements for mortgage loans, 25(c)(3) 1. Evidence of compliance with repayment release of liability being obtained. Records related to minimum standards for ability provisions. A creditor must retain 4. Exemption From Contingent Liability transactions secured by a dwelling, and evidence of compliance with § 1026.43 for Policy on Mortgage Assumptions. When a paragraphs 1 and 2 are added. three years after the date of consummation of mortgage is assumed, contingent liabilities B. The heading for Section 1026.32 is a consumer credit transaction covered by that need not be considered if the: revised. section. (See comment 25(c)-2 for guidance a. Originating creditor of the mortgage C. Under revised Section 1026.32: on the retention of evidence of compliance being underwritten obtains, from the servicer i. Under 32(b) Definitions: with the requirement to offer a consumer a of the assumed loan, a payment history a. Paragraph 32(b)(1) and paragraph 1 are loan without a prepayment penalty under showing that the mortgage has been current added. § 1026.43(g)(3).) If a creditor must verify and during the previous 12 months, or b. Under Paragraph 32(b)(1)(i), paragraph 1 document information used in underwriting b. Value of the property, as established by is revised. a transaction subject to § 1026.43, the an appraisal or the sales price on the HUD– c. Paragraph 32(b)(1)(i)(B) and paragraph 1 creditor shall retain evidence sufficient to 1 Settlement Statement from the sale of the are added. demonstrate compliance with the property, results in a loan-to-value (LTV) d. Paragraph 32(b)(1)(i)(C) and paragraphs documentation requirements of the rule. ratio of 75 percent or less. 1 and 2 are added. Although a creditor need not retain actual 5. Contingent Liability on Cosigned e. Paragraph 32(b)(1)(i)(D) and paragraphs paper copies of the documentation used in Obligations. 1, 2, 3, and 4 are added. underwriting a transaction subject to a. Contingent liability applies, and the debt f. Paragraph 32(b)(1)(i)(E) and paragraphs § 1026.43, to comply with § 1026.25(c)(3), the must be included in the underwriting 1, 2, and 3 are added. creditor must be able to reproduce such analysis, if an individual applying for a g. Paragraph 32(b)(1)(i)(F) and paragraphs records accurately. For example, if the mortgage is a cosigner/co-obligor on: 1 and 2 are added. creditor uses a consumer’s Internal Revenue i. A car loan; h. Under Paragraph 32(b)(1)(ii), paragraphs Service (IRS) Form W–2 to verify the ii. A student loan; 1 and 2 are revised and paragraphs 3 and 4 consumer’s income, the creditor must be able iii. A mortgage; or are added. to reproduce the IRS Form W–2 itself, and

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not merely the income information that was amount of the maximum prepayment penalty insurance premiums payable after contained in the form. that may be charged or collected is known at consummation are excluded from points and 2. Dwelling-secured transactions and or before consummation. fees. prepayment penalties. If a transaction iii. Certain mortgage and credit insurance ii. Payable at or before consummation. A. covered by § 1026.43 has a prepayment premiums. Notwithstanding the guidance in General. Under § 1026.32(b)(1)(i)(C)(2), penalty, the creditor must maintain records comment 32(b)(1)-1.i, under private mortgage insurance premiums that document that the creditor complied § 1026.32(b)(1)(i)(C)(1) and (iii) premiums payable at or before consummation (i.e., with requirements for offering the consumer and charges for private mortgage insurance single or up-front premiums) may be an alternative transaction that does not and credit insurance that are payable after excluded from points and fees, even though include a prepayment penalty under consummation are not included in points they are included in the finance charge under § 1026.43(g)(3), (4), or (5). However, the and fees, even if the amounts of such § 1026.4(a) and (b). However, the portion of creditor need not maintain records that premiums and charges are known at or before the premium that exceeds the amount document compliance with those provisions consummation. payable under policies in effect at the time if a transaction is consummated without a Paragraph 32(b)(1)(i). of origination under section 203(c)(2)(A) of prepayment penalty or if the creditor and 1. General. Section 1026.32(b)(1)(i) the National Housing Act (12 U.S.C. consumer do not consummate a covered includes in the total ‘‘points and fees’’ items 1709(c)(2)(A)) is included in points and fees. transaction. If a creditor offers a transaction included in the finance charge under To determine whether any portion of the with a prepayment penalty to a consumer § 1026.4(a) and (b). However, certain items premium exceeds the amount payable under through a mortgage broker, to evidence that may be included in the finance charge policies in effect at the time of origination compliance with § 1026.43(g)(4) the creditor are excluded from points and fees under under section 203(c)(2)(A) of the National should retain evidence of the alternative § 1026.32(b)(1)(i)(A) through (F). Items Housing Act, a creditor references the covered transaction presented to the excluded from the finance charge under other premium amount that would be payable for mortgage broker, such as a rate sheet, and the provisions of § 1026.4 are not included in the the transaction under that Act, as agreement with the mortgage broker required total points and fees under § 1026.32(b)(1)(i), implemented by applicable regulations and by § 1026.43(g)(4)(ii). but may be included in points and fees under other written authorities issued by the * * * * * § 1026.32(b)(1)(ii) through (vi). To illustrate: Federal Housing Administration (such as A fee imposed by the creditor for an Mortgagee Letters), even if the transaction Subpart E—Special Rules for Certain appraisal performed by an employee of the would not qualify to be insured under that Home Mortgage Transactions creditor meets the definition of ‘‘finance Act (including, for example, because the charge’’ under § 1026.4(a) as ‘‘any charge principal amount exceeds the maximum * * * * * payable directly or indirectly by the insurable under that Act). consumer and imposed directly or indirectly B. Non-refundable premiums. To qualify Section 1026.32—Requirements for by the creditor as an incident to or a for the exclusion from points and fees, High-Cost Mortgages condition of the extension of credit.’’ private mortgage insurance premiums * * * * * However, § 1026.4(c)(7) specifies that payable at or before consummation must be appraisal fees are not included in the finance required to be refunded on a pro rata basis 32(b) Definitions. charge. A fee imposed by the creditor for an and the refund must be automatically issued Paragraph 32(b)(1). appraisal performed by an employee of the upon notification of the satisfaction of the 1. Known at or before consummation. underlying mortgage loan. Section 1026.32(b)(1) includes in points and creditor therefore would not be included in fees for closed-end credit transactions those the finance charge and would not be counted C. Example. Assume that a $3,000 private items listed in § 1026.32(b)(1)(i) through (vi) in points and fees under § 1026.32(b)(1)(i). mortgage insurance premium charged on a that are known at or before consummation. Section 1026.32(b)(1)(iii), however, expressly closed-end mortgage loan is payable at or The following examples clarify how to includes in points and fees items listed in before closing and is required to be refunded determine whether a charge or fee is known § 1026.4(c)(7) (including appraisal fees) if the on a pro rata basis and that the refund is at or before consummation. creditor receives compensation in connection automatically issued upon notification of the i. General. In general, a charge or fee is with the charge. A creditor would receive satisfaction of the underlying mortgage loan. ‘‘known at or before consummation’’ if the compensation for an appraisal performed by Assume also that the maximum premium creditor knows at or before consummation its own employee. Thus, the appraisal fee in allowable under the National Housing Act is that the charge or fee will be imposed in this example must be included in the $2,000. In this case, the creditor could connection with the transaction, even if the calculation of points and fees. exclude $2,000 from points and fees but charge or fee is scheduled to be paid after Paragraph 32(b)(1)(i)(B). would have to include the $1,000 that consummation. Thus, for example, if the 1. Federal and State mortgage insurance exceeds the allowable premium under the creditor charges the consumer $400 for an premiums and guaranty fees. Under National Housing Act. However, if the $3,000 appraisal conducted by an affiliate of the § 1026.32(b)(1)(i)(B), mortgage insurance private mortgage insurance premium were creditor, the $400 is included in points and premiums or guaranty fees in connection not required to be refunded on a pro rata fees, even if the consumer finances it and with a Federal or State agency program are basis or if the refund were not automatically repays it over the loan term, because the excluded from points and fees, even though issued upon notification of the satisfaction of creditor knows at or before consummation they are included in the finance charge under the underlying mortgage loan, the entire that the charge or fee is imposed in § 1026.4(a) and (b). For example, if a $3,000 premium would be included in points connection with the transaction. By contrast, consumer is required to pay a $2,000 and fees. if a creditor does not know whether a charge mortgage insurance premium for a loan 2. Method of paying private mortgage or fee will be imposed, it is not included in insured by the Federal Housing insurance premiums. The portion of any points and fees. For example, charges or fees Administration, the $2,000 must be included private mortgage insurance premiums that the creditor may impose if the consumer in the finance charge but is not counted in payable at or before consummation that does seeks to modify a loan after consummation points and fees. Similarly, if a consumer pays not qualify for an exclusion from points and are not included in points and fees, because a 2 percent funding fee for a loan guaranteed fees under § 1026.32(b)(1)(i)(C)(2) must be the creditor does not know at or before by the U.S. Department of Veterans Affairs or included in points and fees for purposes of consummation whether the consumer will through the U.S Department of Agriculture’s § 1026.32(b)(1)(i) whether paid in cash or seek to modify the loan and therefore incur Rural Development Single Family Housing financed and whether the insurance is the fees or charges. Guaranteed Loan Program, the fee is included optional or required. ii. Prepayment penalties. Notwithstanding in the finance charge but is not included in Paragraph 32(b)(1)(i)(D). the guidance in comment 32(b)(1)-1.i, under points and fees. 1. Charges not retained by the creditor, § 1026.32(b)(1)(v) the maximum prepayment Paragraph 32(b)(1)(i)(C). loan originator, or an affiliate of either. In penalty that may be charged or collected 1. Private mortgage insurance premiums. i. general, a creditor is not required to count in under the terms of the mortgage loan is Payable after consummation. Under points and fees any bona fide third-party included in points and fees because the § 1026.32(b)(1)(i)(C)(1), private mortgage charge not retained by the creditor, loan

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originator, or an affiliate of either. For 2. Average prime offer rate. The average particular transaction is the dollar value of example, if bona fide charges are imposed by prime offer rate for purposes of paragraph compensation that the loan originator will a third-party settlement agent and are not (b)(1)(i)(E) of this section is the average prime receive if the transaction is consummated. As retained by the creditor, loan originator, or an offer rate that applies to a comparable explained in comment 32(b)(1)(ii)-3, the affiliate of either, those charges are not transaction as of the date the discounted amount of compensation that a loan included in points and fees, even if those interest rate for the transaction is set. For the originator will receive is calculated as of the charges are included in the finance charge meaning of ‘‘comparable transaction,’’ refer date the interest rate is set and includes under § 1026.4(a)(2). The term loan originator to comment 35(a)(2)-2. The table of average compensation that is paid before, at, or after has the same meaning as in § 1026.36(a)(1). prime offer rates published by the Bureau consummation. 2. Private mortgage insurance. The indicates how to identify the comparable ii. Loan originator compensation excludes exclusion for bona fide third-party charges transaction. See comment 35(a)(2)-2. compensation that cannot be attributed to not retained by the creditor, loan originator, 3. Example. Assume a transaction that is a that transaction, including, for example: or an affiliate of either is limited by first-lien, purchase-money home mortgage A. Compensation based on the long term § 1026.32(b)(1)(i)(C) in the general definition with a fixed interest rate and a 30-year term. performance of the loan originator’s loans. of ‘‘points and fees.’’ Section Assume also that the consumer locks in an B. Compensation based on the overall 1026.32(b)(1)(i)(C) requires inclusion in interest rate of 6 percent on May 1, 2014 that quality of a loan originator’s loan files. points and fees of premiums or other charges was discounted from a rate of 6.5 percent C. The base salary of a loan originator. payable at or before consummation for any because the consumer paid two discount However, any compensation in addition to private guaranty or insurance protecting the points. Finally, assume that the average the base salary that can be attributed to the creditor against the consumer’s default or prime offer rate as of May 1, 2014 for home transaction at the time the interest rate is set other credit loss to the extent that the mortgages with a fixed interest rate and a 30- must be included in loan originator premium or charge exceeds the amount year term is 5.5 percent. The creditor may compensation for the purpose of calculating payable under policies in effect at the time exclude two bona fide discount points from points and fees. of origination under section 203(c)(2)(A) of the points and fees calculation because the 3. Loan originator compensation—timing. the National Housing Act (12 U.S.C. rate from which the discounted rate was Compensation paid to a loan originator that 1709(c)(2)(A)). These premiums or charges derived (6.5 percent) exceeded the average can be attributed to a transaction must be must also be included if the premiums or prime offer rate for a comparable transaction included in the points and fees calculation charges are not required to be refundable on as of the date the rate on the transaction was for that loan regardless of whether the a pro-rated basis, or the refund is not set (5.5 percent) by only 1 percentage point. compensation is paid before, at, or after required to be automatically issued upon Paragraph 32(b)(1)(i)(F). consummation. The amount of loan notification of the satisfaction of the 1. Bona fide discount point and average originator compensation that can be underlying mortgage loan. Under these prime offer rate. Comments 32(b)(1)(i)(E)-1 attributed to a transaction is determined as of circumstances, even if the premiums or other and -2 provide guidance concerning the the date the interest rate is set. Thus, loan charges are not retained by the creditor, loan definition of bona fide discount point and originator compensation for a transaction originator, or an affiliate of either, they must average prime offer rate, respectively. includes the portion of a bonus, commission, be included in the points and fees calculation 2. Example. Assume a transaction that is a or award of merchandise, services, trips, or for qualified mortgages. See comments first-lien, purchase-money home mortgage similar prizes that can be attributed to that 32(b)(1)(i)(c)-1 and -2 for further discussion with a fixed interest rate and a 30-year term. transaction at the time the creditor sets the of including private mortgage insurance interest rate for the transaction, even if that premiums payable at or before Assume also that the consumer locks in an consummation in the points and fees interest rate of 6 percent on May 1, 2014, that bonus, commission, or award of calculation. was discounted from a rate of 7 percent merchandise, services, trips, or similar prizes 3. Real estate-related fees. The exclusion because the consumer paid four discount is not paid until after consummation. For for bona fide third-party charges not retained points. Finally, assume that the average example, assume a $100,000 transaction and by the creditor, loan originator, or an affiliate prime offer rate as of May 1, 2014, for home that, as of the date the interest rate is set, the of either is limited by § 1026.32(b)(1)(iii) in mortgages with a fixed interest rate and a 30- loan originator is entitled to receive a the general definition of points and fees. year term is 5 percent. The creditor may commission equal to 1 percent of the loan Section 1026.32(b)(1)(iii) requires inclusion exclude one discount point from the points amount at consummation, i.e., $1,000, in points and fees of items listed in and fees calculation because the rate from payable at the end of the month. In addition, § 1026.4(c)(7) unless the charge is reasonable, which the discounted rate was derived (7 assume that after the date the interest rate is the creditor receives no direct or indirect percent) exceeded the average prime offer set but before consummation of the compensation in connection with the charge, rate for a comparable transaction as of the transaction, the loan originator originates and the charge is not paid to an affiliate of date the rate on the transaction was set (5 other transactions that enable the loan the creditor. If a charge is required to be percent) by only 2 percentage points. originator to meet a loan volume threshold, included in points and fees under Paragraph 32(b)(1)(ii). which increases the loan originator’s § 1026.32(b)(1)(iii), it may not be excluded 1. Loan originator compensation—general. commission to 1.25 percent of the loan under § 1026.32(b)(1)(i)(D), even if the Compensation paid by a consumer or creditor amount, i.e., $1,250. In this case, the creditor criteria for exclusion in § 1026.32(b)(1)(i)(D) to a loan originator is included in the need include only $1,000 as loan originator are satisfied. calculation of points and fees for a compensation in points and fees because, as 4. Credit insurance. The exclusion for bona transaction, provided that such of the date the interest rate was set, the loan fide third-party charges not retained by the compensation can be attributed to that originator would have been entitled to creditor, loan originator, or an affiliate of particular transaction at the time the interest receive $1,000 upon consummation of the either is limited by § 1026.32(b)(1)(iv) in the rate is set. Loan originator compensation transaction. general definition of points and fees. Section includes amounts the loan originator retains 4. Loan originator compensation— 1026.32(b)(1)(iv) requires inclusion in points and is not dependent on the label or name examples. The following examples illustrate and fees of premiums and other charges for of any fee imposed in connection with the the rule: credit insurance and certain other types of transaction. i. Assume that, according to a creditor’s insurance. If a charge is required to be 2. Loan originator compensation— compensation policies, the creditor awards included in points and fees under attributable to a particular transaction. i. its loan officers a bonus every year based on § 1026.32(b)(1)(iv), it may not be excluded Loan originator compensation includes the the number of loan applications taken by the under § 1026.32(b)(1)(i)(D), even if the dollar value of compensation, such as a loan officer that result in consummated criteria for exclusion in § 1026.32(b)(1)(i)(D) bonus, commission, or award of transactions during that year, and that each are satisfied. merchandise, services, trips, or similar consummated transaction increases the year- Paragraph 32(b)(1)(i)(E). prizes, that is paid by a consumer or creditor end bonus by $100. In this case, $100 of the 1. Bona fide discount point. The term bona to a loan originator and can be attributed to bonus is loan originator compensation that fide discount point is defined in that particular transaction. The amount of must be included in points and fees for the § 1026.32(b)(3). compensation that can be attributed to a transaction.

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ii. Assume that, according to a creditor’s the charge is not paid to an affiliate of the discount points. For example, assume that compensation policies, the creditor awards creditor. For example, a reasonable fee paid the Fannie Mae Single-Family Selling Guide its loan officers a year-end bonus equal to a by the consumer to an independent, third- or the Freddie Mac Single Family Seller/ flat dollar amount for each of the party appraiser may be excluded from the Servicer Guide imposes a cap on points and consummated transactions originated by the points and fees calculation (assuming no fees but excludes from the cap discount loan officer during that year. Assume also compensation is paid to the creditor or its points that result in a bona fide reduction in that the per-transaction dollar amount is affiliate and no charge is paid to an affiliate). the interest rate. Assume the guidelines finalized at the end of the year, according to By contrast, a fee paid by the consumer for require that, for a discount point to be bona a predetermined schedule that provides for a an appraisal performed by the creditor must fide so that it would not count against the specific per-transaction dollar amount based be included in the calculation, even though cap, a discount point must result in at least on the total dollar value of consummated the fee may be excluded from the finance a 25 basis point reduction in the interest rate. transactions originated by the loan officer. If charge if it is bona fide and reasonable in Accordingly, if the creditor offers a 25 basis on the date the interest rate for a transaction amount. point interest rate reduction for a discount is set, the loan officer has originated total Paragraph 32(b)(1)(iv). point and the requirements of volume that qualifies the loan officer to 1. Credit insurance and debt cancellation § 1026.32(b)(1)(i)(E) or (F) are satisfied, the receive a $300 bonus per transaction under or suspension coverage. In determining discount point is bona fide and is excluded the predetermined schedule, then $300 of the points and fees for purposes of from the calculation of points and fees. year-end bonus can be attributed to that § 1026.32(b)(1), premiums paid at or before 32(b)(4) Total loan amount. particular transaction and therefore is loan consummation for credit insurance or any 32(b)(4)(i) Closed-end credit. originator compensation that must be debt cancellation or suspension agreement or 1. Total loan amount; examples. Below are included in points and fees for that contract are included in points and fees several examples showing how to calculate transaction. whether they are paid in cash or, if permitted the total loan amount for closed-end iii. Assume that, according to a creditor’s by applicable law, financed and whether the mortgage loans, each using a $10,000 amount compensation policies, the creditor awards insurance or coverage is optional or required. borrowed, a $300 appraisal fee, and $400 in its loan officers a bonus at the end of the year Such charges are also included whether the prepaid finance charges. A $500 single based on the number of consummated amount represents the entire premium or premium for optional credit unemployment transactions originated by the loan officer payment for the coverage or an initial insurance is used in one example. during that year. Assume also that, for the payment. i. If the consumer finances a $300 fee for first 10 transactions originated by the loan 2. Credit property insurance. Credit a creditor-conducted appraisal and pays $400 officer in a given year, no bonus is awarded; property insurance includes insurance in prepaid finance charges at closing, the for the next 10 transactions originated by the against loss of or damage to personal amount financed under § 1026.18(b) is $9,900 loan officer up to 20, a bonus of $100 per property, such as a houseboat or ($10,000 plus the $300 appraisal fee that is transaction is awarded; and for each manufactured home. Credit property paid to and financed by the creditor, less transaction originated after the first 20, a insurance covers the creditor’s security $400 in prepaid finance charges). The $300 bonus of $200 per transaction is awarded. In interest in the property. Credit property appraisal fee paid to the creditor is added to this case, if, on the date the interest rate for insurance does not include homeowners’ other points and fees under the transaction is set, the loan officer has insurance, which, unlike credit property § 1026.32(b)(1)(iii). It is deducted from the originated 10 or fewer transactions that year, insurance, typically covers not only the amount financed ($9,900) to derive a total then none of the year-end bonus is dwelling but its contents and protects the loan amount of $9,600. attributable to the transaction and therefore consumer’s interest in the property. ii. If the consumer pays the $300 fee for the none of the bonus is included in points and 3. Life, accident, health, or loss-of-income creditor-conducted appraisal in cash at fees for that transaction. If, on the date the insurance. Premiums or other charges for closing, the $300 is included in the points interest rate for the transaction is set, the loan these types of insurance are included in and fees calculation because it is paid to the officer has originated at more than 10 but no points and fees only if the creditor is a creditor. However, because the $300 is not more than 20 transactions, $100 of the bonus beneficiary. If the consumer or another financed by the creditor, the fee is not part is attributable to the transaction and is person designated by the consumer is the of the amount financed under § 1026.18(b). In included in points and fees for that sole beneficiary, then the premiums or other this case, the amount financed is the same as transaction. If, on the date the interest rate for charges are not included in points and fees. the total loan amount: $9,600 ($10,000, less the transaction is set, the loan officer has 32(b)(3) Bona fide discount point. $400 in prepaid finance charges). originated more than 20 transactions, $200 of 32(b)(3)(i) Closed-end credit. iii. If the consumer finances a $300 fee for the bonus is attributable to the transaction 1. Definition of bona fide discount point. an appraisal conducted by someone other and is included in points and fees for the Section 1026.32(b)(3) provides that, to be than the creditor or an affiliate, the $300 fee transaction. bona fide, a discount point must reduce the is not included with other points and fees iv. Assume that, according to a creditor’s interest rate based on a calculation that is under § 1026.32(b)(1)(iii). In this case, the compensation policies, the creditor pays its consistent with established industry amount financed is the same as the total loan loan officers a base salary of $500 per week practices for determining the amount of amount: $9,900 ($10,000 plus the $300 fee for and awards its loan officers a bonus of $250 reduction in the interest rate or time-price an independently-conducted appraisal that is for each consummated transaction. For each differential appropriate for the amount of financed by the creditor, less the $400 paid transaction, none of the $500 base salary is discount points paid by the consumer. To in cash and deducted as prepaid finance counted in points and fees as loan originator satisfy this standard, a creditor may show charges). compensation under § 1026.32(b)(1)(ii) that the reduction is reasonably consistent iv. If the consumer finances a $300 fee for because no precise portion of the base salary with established industry norms and a creditor-conducted appraisal and a $500 can be attributed to a particular transaction, practices for secondary mortgage market single premium for optional credit but the $250 bonus is counted as loan transactions. For example, a creditor may unemployment insurance, and pays $400 in originator compensation that is included in rely on pricing in the to-be-announced (TBA) prepaid finance charges at closing, the points and fees. market for mortgage-backed securities (MBS) amount financed under § 1026.18(b) is Paragraph 32(b)(1)(iii). to establish that the interest rate reduction is $10,400 ($10,000, plus the $300 appraisal fee 1. Other charges. Section 1026.32(b)(1)(iii) consistent with the compensation that the that is paid to and financed by the creditor, defines points and fees to include all items creditor could reasonably expect to receive in plus the $500 insurance premium that is listed in § 1026.4(c)(7), other than amounts the secondary market. The creditor may also financed by the creditor, less $400 in prepaid held for the future payment of taxes, unless establish that its interest rate reduction is finance charges). The $300 appraisal fee paid certain exclusions apply. An item listed in consistent with established industry to the creditor is added to other points and § 1026.4(c)(7) may be excluded from the practices by showing that its calculation fees under § 1026.32(b)(1)(ii), and the $500 points and fees calculation if the charge is complies with requirements prescribed in insurance premium is added under reasonable; the creditor receives no direct or Fannie Mae or Freddie Mac guidelines for 1026.32(b)(1)(iv). The $300 and $500 costs indirect compensation from the charge; and interest rate reductions from bona fide are deducted from the amount financed

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($10,400) to derive a total loan amount of U.S.C. 1615(d). For purposes of computing a renewal provision provided that any renewal $9,600. refund of unearned interest, if using the possible under the loan contract is for one 32(b)(6) Prepayment penalty. actuarial method defined by applicable State year or less. For example, if a construction 1. Examples of prepayment penalties; law results in a refund that is greater than the loan has an initial loan term of 12 months but closed-end credit transactions. For purposes refund calculated by using the method is renewable for another 12-month loan term, of § 1026.32(b)(6)(i), the following are described in section 933(d) of the Housing the loan is exempt from § 1026.43(c) through examples of prepayment penalties: and Community Development Act of 1992, (f) because the initial loan term is 12 months. i. A charge determined by treating the loan creditors should use the State law definition 2. Construction phase of a construction-to- balance as outstanding for a period of time in determining if a refund is a prepayment permanent loan. Under § 1026.43(a)(3)(iii), a after prepayment in full and applying the penalty. construction phase of 12 months or less of a interest rate to such ‘‘balance,’’ even if the 2. Fees that are not prepayment penalties; construction-to-permanent loan is exempt charge results from interest accrual closed-end credit transactions. For purposes from § 1026.43(c) through (f). A construction- amortization used for other payments in the of § 1026.32(b)(6)(i), fees that are not to-permanent loan is a potentially multiple- transaction under the terms of the loan prepayment penalties include, for example: advance loan to finance the construction, contract. ‘‘Interest accrual amortization’’ i. Fees imposed for preparing and rehabilitation, or improvement of a dwelling refers to the method by which the amount of providing documents when a loan is paid in that may be permanently financed by the interest due for each period (e.g., month) in full if such fees are imposed whether or not same creditor. For such a loan, the a transaction’s term is determined. For the loan is prepaid. Examples include a loan construction phase and the permanent phase example, ‘‘monthly interest accrual payoff statement, a reconveyance document, may be treated as separate transactions for amortization’’ treats each payment as made or another document releasing the creditor’s the purpose of compliance with § 1026.43(c) on the scheduled, monthly due date even if security interest in the dwelling that secures through (f), and the construction phase of the it is actually paid early or late (until the the loan. loan is exempt from § 1026.43(c) through (f), expiration of any grace period). Thus, under ii. Loan guarantee fees. provided the initial term is 12 months or less. the terms of a loan contract providing for * * * * * See § 1026.17(c)(6)(ii), allowing similar monthly interest accrual amortization, if the treatment for disclosures. Where the amount of interest due on May 1 for the Section 1026.43—Minimum Standards for construction phase of a construction-to- preceding month of April is $3,000, the loan Transactions Secured by a Dwelling permanent loan is renewable for a period of contract will require payment of $3,000 in 1. Record retention. See § 1026.25(c)(3) and one year or less, the term of that construction interest for the month of April whether the comments 25(c)(3)–1 and –2 for guidance on phase does not include any additional period payment is made on April 20, on May 1, or the required retention of records as evidence of time that could result from a renewal on May 10. In this example, if the consumer of compliance with § 1026.43. provision. For example, if the construction prepays the loan in full on April 20 and if 43(a) Scope. phase of a construction-to-permanent loan the accrued interest as of that date is $2,000, 1. Consumer credit. In general, § 1026.43 has an initial term of 12 months but is then assessment of a charge of $3,000 applies to consumer credit transactions renewable for another 12-month term before constitutes a prepayment penalty of $1,000 secured by a dwelling, but certain dwelling- permanent financing begins, the construction because the amount of interest actually secured consumer credit transactions are phase is exempt from § 1026.43(c) through (f) earned through April 20 is only $2,000. exempt or partially exempt from coverage because the initial term is 12 months. Any ii. A fee, such as an origination or other under § 1026.43(a)(1) through (3). (See renewal of one year or less also qualifies for loan closing cost, that is waived by the § 1026.2(a)(12) for the definition of the exemption. The permanent phase of the creditor on the condition that the consumer ‘‘consumer credit.’’) Section 1026.43 does not loan is treated as a separate transaction and does not prepay the loan. However, the term apply to an extension of credit primarily for is not exempt under § 1026.43(a)(3)(iii). It prepayment penalty does not include a a business, commercial, or agricultural may be a qualified mortgage if it satisfies the waived bona fide third-party charge imposed purpose, even if it is secured by a dwelling. appropriate requirements. by the creditor if the consumer pays all of a See § 1026.3 and associated commentary for 43(b) Definitions. covered transaction’s principal before the guidance in determining the primary purpose 43(b)(1) Covered transaction. date on which the principal is due sooner of an extension of credit. In addition, 1. The definition of covered transaction than 36 months after consummation. For § 1026.43 does not apply to any change to an restates the scope of the rule as described at example, assume that at consummation, the existing loan that is not treated as a § 1026.43(a). creditor waives $3,000 in closing costs to refinancing under § 1026.20(a). 43(b)(3) Fully indexed rate. cover bona fide third-party charges but the 2. Real property. ‘‘Dwelling’’ means a 1. Discounted and premium adjustable-rate terms of the loan agreement provide that the residential structure that contains one to four transactions. In some adjustable-rate creditor may recoup the $3,000 in waived units, whether or not the structure is attached transactions, creditors may set an initial charges if the consumer repays the entire to real property. See § 1026.2(a)(19). For interest rate that is not determined by the loan balance sooner than 36 months after purposes of § 1026.43, the term ‘‘dwelling’’ index or formula used to make later interest consummation. The $3,000 charge is not a includes any real property to which the rate adjustments. In some cases, the initial prepayment penalty. In contrast, for example, residential structure is attached that also rate charged to consumers is lower than the assume that at consummation, the creditor secures the covered transaction. For example, rate would be if it were calculated using the waives $3,000 in closing costs to cover bona for purposes of § 1026.43(c)(2)(i), the value of index or formula that will apply after recast, fide third-party charges but the terms of the the dwelling that secures the covered as determined at consummation (i.e., a loan agreement provide that the creditor may transaction includes the value of any real ‘‘discounted rate’’). In other cases, the initial recoup $4,500, in part to recoup waived property to which the residential structure is rate may be higher (i.e., a ‘‘premium rate’’). charges, if the consumer repays the entire attached that also secures the covered For purposes of determining the fully loan balance sooner than 36 months after transaction. indexed rate where the initial interest rate is consummation. The $3,000 that the creditor Paragraph 43(a)(3). not determined using the index or formula may impose to cover the waived bona fide 1. Renewable temporary or ‘‘bridge’’ loan. for subsequent interest rate adjustments, the third-party charges is not a prepayment Under § 1026.43(a)(3)(ii), a temporary or creditor must use the interest rate that would penalty, but the additional $1,500 charge is ‘‘bridge’’ loan with a term of 12 months or have applied had the creditor used such a prepayment penalty and subject to the less is exempt from § 1026.43(c) through (f). index or formula plus margin at the time of restrictions under § 1026.43(g). Examples of such a loan are a loan to finance consummation. That is, in determining the iii. A minimum finance charge in a simple the purchase of a new dwelling where the fully indexed rate, the creditor must not take interest transaction. consumer plans to sell a current dwelling into account any discounted or premium iv. Computing a refund of unearned within 12 months and a loan to finance the rate. To illustrate, assume an adjustable-rate interest by a method that is less favorable to initial construction of a dwelling. Where a transaction where the initial interest rate is the consumer than the actuarial method, as temporary or ‘‘bridge loan’’ is renewable, the not based on an index or formula, or is based defined by section 933(d) of the Housing and loan term does not include any additional on an index or formula that will not apply Community Development Act of 1992, 15 period of time that could result from a after recast, and is set at 5 percent for the first

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five years. The loan agreement provides that choose to use the lifetime maximum interest consummation in a series of advances future interest rate adjustments will be rate of 7 percent as the fully indexed rate, ($25,000 each quarter). For purposes of this calculated based on a specific index plus a rather than 7.5 percent, for purposes of section, the creditor must use the loan 3 percent margin. If the value of the index § 1026.43(b)(3). Furthermore, if the creditor amount of $200,000, even though the loan at consummation is 5 percent, the interest chooses to use the lifetime maximum interest agreement provides that only $100,000 will rate that would have been applied at rate and the loan agreement provides a range be disbursed to the consumer at consummation had the creditor based the for the maximum interest rate, then the consummation. Generally, creditors should initial rate on this index is 8 percent (5 creditor complies by using the highest rate in rely on § 1026.17(c)(6) and associated percent plus 3 percent margin). For purposes that range as the maximum interest rate for commentary regarding treatment of multiple- of § 1026.43(b)(3), the fully indexed rate is 8 purposes of § 1026.43(b)(3). advance and construction-to-permanent percent. For discussion of payment 5. Step-rate and fixed-rate mortgages. loans as single or multiple transactions. See calculations based on the greater of the fully Where the interest rate offered under the also comment 43(a)(3)–2. indexed rate or premium rate for purposes of terms of the legal obligation is not based on, 43(b)(6) Loan term. the repayment ability determination under and does not vary with, an index or formula 1. General. The loan term is the period of § 1026.43(c), see § 1026.43(c)(5)(i) and (i.e., there is no fully indexed rate), the time it takes to repay the loan amount in full. comment 43(c)(5)(i)–2. creditor must use the maximum interest rate For example, a loan with an initial 2. Index or formula value at that may apply at any time during the loan discounted rate that is fixed for the first two consummation. The value at consummation term. To illustrate: years, and that adjusts periodically for the of the index or formula need not be used if i. Assume a step-rate mortgage with an next 28 years has a loan term of 30 years, the contract provides for a delay in the interest rate fixed at 6.5 percent for the first which is the amortization period on which implementation of changes in an index value two years of the loan, 7 percent for the next the periodic amortizing payments are based. or formula. For example, if the contract three years, and 7.5 percent thereafter for the 43(b)(7) Maximum loan amount. specifies that rate changes are based on the remainder of loan term. For purposes of this 1. Calculation of maximum loan amount. index value in effect 45 days before the section, the creditor must use 7.5 percent, For purposes of § 1026.43(c)(2)(iii) and change date, the creditor may use any index which is the maximum rate that may apply (c)(5)(ii)(C), a creditor must determine the value in effect during the 45 days before during the loan term. ‘‘Step-rate mortgage’’ is maximum loan amount for a negative consummation in calculating the fully defined in § 1026.18(s)(7)(ii). amortization loan by using the loan amount indexed rate. ii. Assume a fixed-rate mortgage with an plus any increase in principal balance that 3. Interest rate adjustment caps. If the interest rate at consummation of 7 percent can result from negative amortization based terms of the legal obligation contain a that is fixed for the 30-year loan term. For on the terms of the legal obligation. In periodic interest rate adjustment cap that purposes of this section, the maximum determining the maximum loan amount, a would prevent the initial rate, at the time of interest rate that may apply during the loan creditor must assume that the consumer the first adjustment, from changing to the rate term is 7 percent, which is the interest rate makes the minimum periodic payment determined using the index or formula value that is fixed at consummation. ‘‘Fixed-rate permitted under the loan agreement for as at consummation (i.e., the fully indexed rate), mortgage’’ is defined in § 1026.18(s)(7)(iii). long as possible, until the consumer must the creditor must not give any effect to that 43(b)(4) Higher-priced covered transaction. begin making fully amortizing payments; and rate cap when determining the fully indexed 1. Average prime offer rate. The average that the interest rate rises as quickly as rate. That is, a creditor must determine the prime offer rate is defined in § 1026.35(a)(2). possible after consummation under the terms fully indexed rate without taking into For further explanation of the meaning of of the legal obligation. Thus, creditors must account any periodic interest rate adjustment ‘‘average prime offer rate,’’ and additional assume that the consumer makes the cap that may limit how quickly the fully guidance on determining the average prime minimum periodic payment until any indexed rate may be reached at any time offer rate, see comments 35(a)(2)–1 through negative amortization cap is reached or until during the loan term under the terms of the –4. the period permitting minimum periodic legal obligation. To illustrate, assume an 2. Comparable transaction. A higher- payments expires, whichever occurs first. adjustable-rate mortgage has an initial fixed priced covered transaction is a consumer ‘‘Loan amount’’ is defined in § 1026.43(b)(5); rate of 5 percent for the first three years of credit transaction that is secured by the ‘‘negative amortization loan’’ is defined in the loan, after which the rate will adjust consumer’s dwelling with an annual § 1026.18(s)(7)(v). annually to a specified index plus a margin percentage rate that exceeds by the specified 2. Assumed interest rate. In calculating the of 3 percent. The loan agreement provides for amount the average prime offer rate for a maximum loan amount for an adjustable-rate a 2 percent annual interest rate adjustment comparable transaction as of the date the mortgage that is a negative amortization loan, cap, and a lifetime maximum interest rate of interest rate is set. The published tables of the creditor must assume that the interest 10 percent. The index value in effect at average prime offer rates indicate how to rate will increase as rapidly as possible after consummation is 4.5 percent; the fully identify a comparable transaction. See consummation, taking into account any indexed rate is 7.5 percent (4.5 percent plus comment 35(a)(2)–2. periodic interest rate adjustment caps 3 percent), regardless of the 2 percent annual 3. Rate set. A transaction’s annual provided in the loan agreement. For an interest rate adjustment cap that would limit percentage rate is compared to the average adjustable-rate mortgage with a lifetime when the fully indexed rate would take effect prime offer rate as of the date the maximum interest rate but no periodic under the terms of the legal obligation. transaction’s interest rate is set (or ‘‘locked’’) interest rate adjustment cap, the creditor 4. Lifetime maximum interest rate. A before consummation. Sometimes a creditor must assume that the interest rate increases creditor may choose, in its sole discretion, to sets the interest rate initially and then re-sets to the maximum lifetime interest rate at the take into account the lifetime maximum it at a different level before consummation. first adjustment. interest rate provided under the terms of the The creditor should use the last date the 3. Examples. The following are examples legal obligation when determining the fully interest rate is set before consummation. of how to determine the maximum loan indexed rate. To illustrate, assume an 43(b)(5) Loan amount. amount for a negative amortization loan (all adjustable-rate mortgage has an initial fixed 1. Disbursement of the loan amount. The amounts shown are rounded, and all rate of 5 percent for the first three years of definition of ‘‘loan amount’’ requires the amounts are calculated using non-rounded the loan, after which the rate will adjust creditor to use the entire loan amount as values): annually to a specified index plus a margin reflected in the loan contract or promissory i. Adjustable-rate mortgage with negative of 3 percent. The loan agreement provides for note, even though the loan amount may not amortization. A. Assume an adjustable-rate a 2 percent annual interest rate adjustment be fully disbursed at consummation. For mortgage in the amount of $200,000 with a cap and a lifetime maximum interest rate of example, assume the consumer enters into a 30-year loan term. The loan agreement 7 percent. The index value in effect at loan agreement where the consumer is provides that the consumer can make consummation is 4.5 percent; under the obligated to repay the creditor $200,000 over minimum monthly payments that cover only generally applicable rule, the fully indexed 15 years, but only $100,000 is disbursed at part of the interest accrued each month until rate is 7.5 percent (4.5 percent plus 3 consummation and the remaining $100,000 the principal balance reaches 115 percent of percent). Nevertheless, the creditor may will be disbursed during the year following its original balance (i.e., a negative

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amortization cap of 115 percent) or for the considered in determining a consumer’s mortgage-related obligation for purposes of first five years of the loan (60 monthly ability to repay pursuant to § 1026.43(c). § 1026.43(b)(8). payments), whichever occurs first. The Section 1026.43(b)(8) includes, in the iii. If the consumer purchases insurance or introductory interest rate at consummation is evaluation of mortgage-related obligations, similar coverage not required by the creditor 1.5 percent. One month after the first day of fees and special assessments owed to a at consummation without having requested the first full calendar month following condominium, cooperative, or homeowners the specific non-required insurance or consummation, the interest rate adjusts and association. Section 1026.43(b)(8) includes similar coverage and without having agreed will adjust monthly thereafter based on the ground rent and leasehold payments in the to the premium or charge for the specific specified index plus a margin of 3.5 percent. definition of mortgage-related obligations. non-required insurance or similar coverage The maximum lifetime interest rate is 10.5 See commentary to § 1026.43(c)(2)(v) prior to consummation, the premium or percent; there are no other periodic interest regarding the requirement to take into charge is not voluntary for purposes of rate adjustment caps that limit how quickly account any mortgage-related obligations for § 1026.43(b)(8) and is a mortgage-related the maximum lifetime rate may be reached. purposes of determining a consumer’s ability obligation. The minimum monthly payment for the first to repay. 4. Mortgage insurance, guarantee, or year is based on the initial interest rate of 1.5 2. Property taxes. Section 1026.43(b)(8) similar charges. Section 1026.43(b)(8) percent. After that, the minimum monthly includes property taxes in the evaluation of includes in the evaluation of mortgage- payment adjusts annually, but may increase mortgage-related obligations. Obligations that related obligations premiums or charges by no more than 7.5 percent over the are related to the ownership or use of real protecting the creditor against the consumer’s previous year’s payment. The minimum property and paid to a taxing authority, default or other credit loss. This includes all monthly payment is $690 in the first year, whether on a monthly, quarterly, annual, or premiums or similar charges, whether $742 in the second year, and $797 in the first other basis, are property taxes for purposes denominated as mortgage insurance, part of the third year. of § 1026.43(b)(8). Section 1026.43(b)(8) guarantee insurance, or otherwise, as B. To determine the maximum loan includes obligations that are equivalent to determined according to applicable State or amount, assume that the initial interest rate property taxes, even if such obligations are Federal law. For example, monthly ‘‘private increases to the maximum lifetime interest not denominated as ‘‘taxes.’’ For example, mortgage insurance’’ payments paid to a non- rate of 10.5 percent at the first adjustment governments may establish or allow governmental entity, annual ‘‘guarantee fee’’ (i.e., the due date of the first periodic independent districts with the authority to payments required by a Federal housing monthly payment) and accrues at that rate impose levies on properties within the program, and a quarterly ‘‘mortgage until the loan is recast. Assume the consumer district to fund a special purpose, such as a insurance’’ payment paid to a State agency makes the minimum monthly payments as local development bond district, water administering a housing program are all scheduled, which are capped at 7.5 percent district, or other public purpose. These levies mortgage-related obligations for purposes of from year-to-year. As a result, the consumer’s may be referred to as taxes, assessments, § 1026.43(b)(8). Section 1026.43(b)(8) minimum monthly payments are less than surcharges, or by some other name. For includes these charges in the definition of the interest accrued each month, resulting in purposes of § 1026.43(b)(8), these are mortgage-related obligations if the creditor negative amortization (i.e., the accrued but property taxes and are included in the requires the consumer to pay them, even if unpaid interest is added to the principal determination of mortgage-related the consumer is not legally obligated to pay balance). Thus, assuming that the consumer obligations. the charges under the terms of the insurance makes the minimum monthly payments for 3. Insurance premiums and similar program. For example, if a mortgage as long as possible and that the maximum charges. Section 1026.43(b)(8) includes in the insurance program obligates the creditor to interest rate of 10.5 percent is reached at the evaluation of mortgage-related obligations make recurring mortgage insurance first rate adjustment (i.e., the due date of the premiums and similar charges identified in payments, and the creditor requires the first periodic monthly payment), the negative § 1026.4(b)(5), (7), (8), or (10) that are consumer to reimburse the creditor for such amortization cap of 115 percent is reached on required by the creditor. This includes all recurring payments, the consumer’s the due date of the 27th monthly payment premiums or charges related to coverage payments are mortgage-related obligations for and the loan is recast. The maximum loan protecting the creditor against a consumer’s purposes of § 1026.43(b)(8). However, if a amount as of the due date of the 27th default, credit loss, collateral loss, or similar mortgage insurance program obligates the monthly payment is $229,251. loss, if the consumer is required to pay the creditor to make recurring mortgage ii. Fixed-rate, graduated payment mortgage premium or charge. For example, if Federal insurance payments, and the creditor does with negative amortization. A loan in the law requires flood insurance to be obtained not require the consumer to reimburse the amount of $200,000 has a 30-year loan term. in connection with the mortgage loan, the creditor for the cost of the mortgage The loan agreement provides for a fixed flood insurance premium is a mortgage- insurance payments, the recurring mortgage interest rate of 7.5 percent, and requires the related obligation for purposes of insurance payments are not mortgage-related consumer to make minimum monthly § 1026.43(b)(8). Section 1026.43(b)(8) does obligations for purposes of § 1026.43(b)(8). payments during the first year, with not include premiums or similar charges 5. Relation to the finance charge. Section payments increasing 12.5 percent over the identified in § 1026.4(b)(5), (7), (8), or (10) 1026.43(b)(8) includes in the evaluation of previous year every year for four years. The that are not required by the creditor and that mortgage-related obligations premiums and payment schedule provides for payments of the consumer purchases voluntarily. For similar charges identified in § 1026.4(b)(5), $943 in the first year, $1,061 in the second example: (7), (8), or (10) that are required by the year, $1,193 in the third year, $1,343 in the i. If a creditor does not require earthquake creditor. These premiums and similar fourth year, and $1,511 for the remaining insurance to be obtained in connection with charges are mortgage-related obligations term of the loan. During the first three years the mortgage loan, but the consumer regardless of whether the premium or similar of the loan, the payments are less than the voluntarily chooses to purchase such charge is excluded from the finance charge interest accrued each month, resulting in insurance, the earthquake insurance pursuant to § 1026.4(d). For example, a negative amortization. Assuming that the premium is not a mortgage-related obligation premium for insurance against loss or consumer makes the minimum periodic for purposes of § 1026.43(b)(8). damage to the property written in connection payments for as long as possible, the ii. If a creditor requires a minimum amount with the credit transaction is a premium maximum loan amount is $207,662, which is of coverage for homeowners’ insurance and identified in § 1026.4(b)(8). If this premium reached at the end of the third year of the the consumer voluntarily chooses to is required by the creditor, the premium is loan (on the due date of the 36th monthly purchase a more comprehensive amount of a mortgage-related obligation pursuant to payment). See comment 43(c)(5)(ii)(C)–3 coverage, the portion of the premium § 1026.43(b)(8), regardless of whether the providing examples of how to determine the allocated to the required minimum coverage premium is excluded from the finance charge consumer’s repayment ability for a negative is a mortgage-related obligation for purposes pursuant to § 1026.4(d)(2). amortization loan. of § 1026.43(b)(8), while the portion of the 43(b)(11) Recast. 43(b)(8) Mortgage-related obligations. premium allocated to the more 1. Date of the recast. The term ‘‘recast’’ 1. General. Section 1026.43(b)(8) defines comprehensive coverage voluntarily means, for an adjustable-rate mortgage, the mortgage-related obligations, which must be purchased by the consumer is not a expiration of the period during which

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payments based on the introductory fixed 1. Electronic records. Third-party records and in good faith will depend not only on the rate are permitted; for an interest-only loan, include records transmitted electronically. underwriting standards adopted by the the expiration of the period during which the For example, to verify a consumer’s credit creditor, but on the facts and circumstances interest-only payments are permitted; and, history using third-party records as required of an individual extension of credit and how for a negative amortization loan, the by § 1026.43(c)(2)(viii) and 1026.43(c)(3), a a creditor’s underwriting standards were expiration of the period during which creditor may use a credit report prepared by applied to those facts and circumstances. A negatively amortizing payments are a consumer reporting agency that is consumer’s statement or attestation that the permitted. For adjustable-rate mortgages, transmitted electronically. consumer has the ability to repay the loan is interest-only loans, and negative 2. Forms. A record prepared by a third not indicative of whether the creditor’s amortization loans, the date on which the party includes a form a creditor gives to a determination was reasonable and in good recast is considered to occur is the due date third party to provide information, even if faith. of the last monthly payment based on the the creditor completes parts of the form ii. Considerations. A. The following may be introductory fixed rate, the interest-only unrelated to the information sought. For evidence that a creditor’s ability-to-repay payment, or the negatively amortizing example, if a creditor gives a consumer’s determination was reasonable and in good payment, respectively. To illustrate: A loan employer a form for verifying the consumer’s faith: in an amount of $200,000 has a 30-year loan employment status and income, the creditor 1. The consumer demonstrated actual term. The loan agreement provides for a fixed may fill in the creditor’s name and other ability to repay the loan by making timely interest rate and permits interest-only portions of the form unrelated to the payments, without modification or payments for the first five years of the loan consumer’s employment status or income. accommodation, for a significant period of (60 months). The loan is recast on the due Paragraph 43(b)(13)(i). time after consummation or, for an date of the 60th monthly payment. Thus, the 1. Reviewed record. Under adjustable-rate, interest-only, or negative- term of the loan remaining as of the date the § 1026.43(b)(13)(i), a third-party record amortization mortgage, for a significant loan is recast is 25 years (300 months). includes a document or other record period of time after recast; 43(b)(12) Simultaneous loan. prepared by the consumer, the creditor, the 2. The creditor used underwriting 1. General. Section 1026.43(b)(12) defines mortgage broker, or the creditor’s or mortgage standards that have historically resulted in a simultaneous loan as another covered broker’s agent, if the record is reviewed by comparatively low rates of delinquency and transaction or a home equity line of credit an appropriate third party. For example, a default during adverse economic conditions; (HELOC) subject to § 1026.40 that will be profit-and-loss statement prepared by a self- or secured by the same dwelling and made to employed consumer and reviewed by a third- 3. The creditor used underwriting the same consumer at or before party accountant is a third-party record standards based on empirically derived, consummation of the covered transaction, under § 1026.43(b)(13)(i). In contrast, a profit- demonstrably and statistically sound models. whether it is made by the same creditor or and-loss statement prepared by a self- B. In contrast, the following may be a third-party creditor. (As with all of employed consumer and reviewed by the evidence that a creditor’s ability-to-repay § 1026.43, the term ‘‘dwelling’’ includes any consumer’s non-accountant spouse is not a determination was not reasonable or in good real property attached to a dwelling.) For third-party record under § 1026.43(b)(13)(i). faith: example, assume a consumer will enter into Paragraph 43(b)(13)(iii). 1. The consumer defaulted on the loan a a legal obligation that is a covered transaction 1. Creditor’s records. Section short time after consummation or, for an with Creditor A. Immediately prior to 1026.43(b)(13)(iii) provides that a third-party adjustable-rate, interest-only, or negative- consummation of the covered transaction record includes a record the creditor amortization mortgage, a short time after with Creditor A, the consumer opens a maintains for an account of the consumer recast; HELOC that is secured by the same dwelling held by the creditor. Examples of such 2. The creditor used underwriting with Creditor B. For purposes of this section, accounts include checking accounts, savings standards that have historically resulted in the loan extended by Creditor B is a accounts, and retirement accounts. Examples comparatively high levels of delinquency and simultaneous loan. See commentary to of such accounts also include accounts default during adverse economic conditions; § 1026.43(c)(2)(iv) and (c)(6), discussing the related to a consumer’s outstanding 3. The creditor applied underwriting requirement to consider the consumer’s obligations to a creditor. For example, a standards inconsistently or used payment obligation on any simultaneous loan third-party record includes the creditor’s underwriting standards different from those for purposes of determining the consumer’s records for a first-lien mortgage to a used for similar loans without reasonable ability to repay the covered transaction consumer who applies for a subordinate-lien justification; subject to this section. home equity loan. 4. The creditor disregarded evidence that 2. Same consumer. For purposes of the 43(c) Repayment ability. the underwriting standards it used are not definition of ‘‘simultaneous loan,’’ the term 43(c)(1) General requirement. effective at determining consumers’ ‘‘same consumer’’ includes any consumer, as 1. Reasonable and good faith repayment ability; that term is defined in § 1026.2(a)(11), that determination. i. General. Creditors generally 5. The creditor disregarded evidence that enters into a loan that is a covered are required by § 1026.43(c)(1) to make the consumer may have insufficient residual transaction and also enters into another loan reasonable and good faith determinations of income to cover other recurring obligations (e.g., second-lien covered transaction or consumers’ ability to repay. Section and expenses, taking into account the HELOC) secured by the same dwelling. 1026.43(c) and the accompanying consumer’s assets other than the property Where two or more consumers enter into a commentary describe certain requirements securing the loan, after paying his or her legal obligation that is a covered transaction, for making this ability-to-repay monthly payments for the covered but only one of them enters into another loan determination, but do not provide transaction, any simultaneous loans, secured by the same dwelling, the ‘‘same comprehensive underwriting standards to mortgage-related obligations, and any current consumer’’ includes the person that has which creditors must adhere. For example, debt obligations; or entered into both legal obligations. For the rule and commentary do not specify how 6. The creditor disregarded evidence that example, assume Consumer A and Consumer much income is needed to support a the consumer would have the ability to repay B will both enter into a legal obligation that particular level of debt or how credit history only if the consumer subsequently refinanced is a covered transaction with a creditor. should be weighed against other factors. So the loan or sold the property securing the Immediately prior to consummation of the long as creditors consider the factors set forth loan. covered transaction, Consumer B opens a in § 1026.43(c)(2) according to the C. All of the considerations listed in HELOC that is secured by the same dwelling requirements of § 1026.43(c), creditors are paragraphs (A) and (B) above may be relevant with the same creditor; Consumer A is not a permitted to develop their own underwriting to whether a creditor’s ability-to-repay signatory to the HELOC. For purposes of this standards and make changes to those determination was reasonable and in good definition, Consumer B is the same consumer standards over time in response to empirical faith. However, these considerations are not and the creditor must include the HELOC as information and changing economic and requirements or prohibitions with which a simultaneous loan. other conditions. Whether a particular creditors must comply, nor are they elements 43(b)(13) Third-party record. ability-to-repay determination is reasonable of a claim that a consumer must prove to

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establish a violation of the ability-to-repay prohibited by Regulation B, 12 CFR part the dwelling that secures the covered requirements. For example, creditors are not 1002. transaction, including, for example, the required to validate their underwriting 43(c)(2) Basis for determination. following: funds in a savings or checking criteria using mathematical models. These 1. General. Section 1026.43(c)(2) sets forth account, amounts vested in a retirement considerations also are not absolute in their factors creditors must consider when making account, stocks, bonds, certificates of deposit, application; instead they exist on a the ability-to-repay determination required and amounts available to the consumer from continuum and may apply to varying under § 1026.43(c)(1) and the accompanying a trust fund. (As stated in § 1026.43(a), the degrees. For example, the longer a consumer commentary provides guidance regarding value of the dwelling includes the value of successfully makes timely payments after these factors. Creditors must conform to these the real property to which the residential consummation or recast the less likely it is requirements and may rely on guidance structure is attached, if the real property also that the creditor’s determination of ability to provided in the commentary. However, secures the covered transaction.) repay was unreasonable or not in good faith. § 1026.43(c) and the accompanying 2. Income or assets relied on. A creditor Finally, each of these considerations must be commentary do not provide comprehensive need consider only the income or assets viewed in the context of all facts and guidance on definitions and other technical necessary to support a determination that the circumstances relevant to a particular underwriting criteria necessary for evaluating consumer can repay the covered transaction. extension of credit. For example, in some these factors in practice. So long as a creditor For example, if a consumer’s loan application cases inconsistent application of complies with the provisions of § 1026.43(c), states that the consumer earns an annual underwriting standards may indicate that a the creditor is permitted to use its own salary from both a full-time job and a part- creditor is manipulating those standards to definitions and other technical underwriting time job and the creditor reasonably approve a loan despite a consumer’s inability criteria. A creditor may, but is not required determines that the consumer’s income from to repay. The creditor’s ability-to-repay to, look to guidance issued by entities such the full-time job is sufficient to repay the determination therefore may be unreasonable as the Federal Housing Administration, the loan, the creditor need not consider the or in bad faith. However, in other cases U.S. Department of Veterans Affairs, the U.S. consumer’s income from the part-time job. inconsistently applied underwriting Department of Agriculture, or Fannie Mae or Further, a creditor need verify only the standards may be the result of, for example, Freddie Mac while operating under the income (or assets) relied on to determine the inadequate training and may nonetheless conservatorship of the Federal Housing consumer’s repayment ability. See comment yield a reasonable and good faith ability-to- Finance Agency. For example, a creditor may 43(c)(4)–1. repay determination in a particular case. refer to such guidance to classify particular 3. Reasonably expected income. If a Similarly, although an early payment default inflows, obligations, or property as creditor relies on expected income in excess on a mortgage will often be persuasive ‘‘income,’’ ‘‘debt,’’ or ‘‘assets.’’ Similarly, a of the consumer’s income, either in addition evidence that the creditor did not have a creditor may refer to such guidance to to or instead of current income, the reasonable and good faith belief in the determine what information to use when expectation that the income will be available consumer’s ability to repay (and such evaluating the income of a self-employed or for repayment must be reasonable and evidence may even be sufficient to establish seasonally employed consumer or what verified with third-party records that provide a prima facie case of an ability-to-repay information to use when evaluating the credit reasonably reliable evidence of the violation), a particular ability-to-repay history of a consumer who has obtained few consumer’s expected income. For example, if determination may be reasonable and in good or no extensions of traditional ‘‘credit’’ as the creditor relies on an expectation that a faith even though the consumer defaulted defined in § 1026.2(a)(14). These examples consumer will receive an annual bonus, the shortly after consummation if, for example, are illustrative, and creditors are not required creditor may verify the basis for that the consumer experienced a sudden and to conform to guidance issued by these or expectation with records that show the unexpected loss of income. In contrast, an other such entities. However, as required by consumer’s past annual bonuses, and the ability-to-repay determination may be § 1026.43(c)(1), a creditor must ensure that its expected bonus must bear a reasonable unreasonable or not in good faith even underwriting criteria, as applied to the facts relationship to the past bonuses. Similarly, if though the consumer made timely payments and circumstances of a particular extension the creditor relies on a consumer’s expected for a significant period of time if, for of credit, result in a reasonable, good faith salary from a job the consumer has accepted example, the consumer was able to make determination of a consumer’s ability to and will begin after receiving an educational those payments only by foregoing necessities repay. For example, a definition used in degree, the creditor may verify that such as food and heat. underwriting that is reasonable in isolation expectation with a written statement from an 2. Repayment ability at consummation. may lead to ability-to-repay determinations employer indicating that the consumer will Section 1026.43(c)(1) requires the creditor to that are unreasonable or not in good faith be employed upon graduation at a specified determine, at or before the time the loan is when considered in the context of a salary. consummated, that a consumer will have a creditor’s underwriting standards or when 4. Seasonal or irregular income. A creditor reasonable ability to repay the loan. A change adopted or applied in bad faith. Similarly, an reasonably may determine that a consumer in the consumer’s circumstances after ability-to-repay determination is not can make periodic loan payments even if the consummation (for example, a significant unreasonable or in bad faith merely because consumer’s income, such as self-employment reduction in income due to a job loss or a the underwriting criteria used included a income, is seasonal or irregular. For example, significant obligation arising from a major definition that was by itself unreasonable. assume a consumer receives seasonal income medical expense) that cannot be reasonably Paragraph 43(c)(2)(i). from the sale of crops or from agricultural anticipated from the consumer’s application 1. Income or assets generally. A creditor employment. Each year, the consumer’s or the records used to determine repayment may base its determination of repayment income arrives during only a few months. If ability is not relevant to determining a ability on current or reasonably expected the creditor determines that the consumer’s creditor’s compliance with the rule. income from employment or other sources, annual income divided equally across 12 However, if the application or records assets other than the dwelling that secures months is sufficient for the consumer to considered at or before consummation the covered transaction, or both. The creditor make monthly loan payments, the creditor indicate there will be a change in a may consider any type of current or reasonably may determine that the consumer consumer’s repayment ability after reasonably expected income, including, for can repay the loan, even though the consummation (for example, if a consumer’s example, the following: salary; wages; self- consumer may not receive income during application states that the consumer plans to employment income; military or reserve duty certain months. retire within 12 months without obtaining income; bonus pay; tips; commissions; 5. Multiple applicants. When two or more new employment or that the consumer will interest payments; dividends; retirement consumers apply for an extension of credit as transition from full-time to part-time benefits or entitlements; rental income; joint obligors with primary liability on an employment), the creditor must consider that royalty payments; trust income; public obligation, § 1026.43(c)(2)(i) does not require information under the rule. assistance payments; and alimony, child the creditor to consider income or assets that 3. Interaction with Regulation B. Section support, and separate maintenance are not needed to support the creditor’s 1026.43(c)(1) does not require or permit the payments. The creditor may consider any of repayment ability determination. If the creditor to make inquiries or verifications the consumer’s assets, other than the value of income or assets of one applicant are

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sufficient to support the creditor’s repayment requirement where, for example, the creditor related obligations. However, if the consumer ability determination, the creditor is not follows policies and procedures that are will incur a one-time charge to satisfy required to consider the income or assets of designed to determine whether at or before property taxes that are past due, the other applicant. For example, if a consummation the same consumer has § 1026.43(c)(2)(v) does not include this one- husband and wife jointly apply for a loan and applied for another credit transaction secured time charge in the evaluation of the the creditor reasonably determines that the by the same dwelling. To illustrate, assume consumer’s monthly payment for mortgage- wife’s income is sufficient to repay the loan, a creditor receives an application for a home related obligations. the creditor is not required to consider the purchase loan where the requested loan ii. Assume that a consumer will be husband’s income. amount is less than the home purchase price. required to pay mortgage insurance Paragraph 43(c)(2)(ii). The creditor’s policies and procedures must premiums, as described in comment 1. Employment status and income. require the consumer to state the source of 43(b)(8)–2, on a monthly, annual, or other Employment status need not be full-time, and the down payment and provide verification. basis after consummation. Section employment need not occur at regular If the creditor determines the source of the 1026.43(c)(2)(v) includes these recurring intervals. If, in determining the consumer’s down payment is another extension of credit mortgage insurance payments in the repayment ability, the creditor relies on that will be made to the same consumer at evaluation of the consumer’s monthly income from the consumer’s employment, or before consummation and secured by the payment for mortgage-related obligations. then that employment may be, for example, same dwelling, the creditor knows or has However, if the consumer will incur a one- full-time, part-time, seasonal, irregular, reason to know of the simultaneous loan and time fee or charge for mortgage insurance or military, or self-employment, so long as the must consider the simultaneous loan. similar purposes, such as an up-front creditor considers those characteristics of the Alternatively, if the creditor has information mortgage insurance premium imposed at employment. Under § 1026.43(c)(2)(ii), a that suggests the down payment source is the consummation, § 1026.43(c)(2)(v) does not creditor must verify a consumer’s current consumer’s existing assets, the creditor include this up-front mortgage insurance employment status only if the creditor relies would be under no further obligation to premium in the evaluation of the consumer’s on the consumer’s employment income in determine whether a simultaneous loan will monthly payment for mortgage-related determining the consumer’s repayment be extended at or before consummation of the obligations. ability. For example, if a creditor relies covered transaction. The creditor is not 2. Obligations to an association, other than wholly on a consumer’s investment income obligated to investigate beyond reasonable special assessments. Section 1026.43(b)(8) to determine repayment ability, the creditor underwriting policies and procedures to defines mortgage-related obligations to need not verify or document employment determine whether a simultaneous loan will include obligations owed to a condominium, status. See comments 43(c)(2)(i)–5 and be extended at or before consummation of the cooperative, or homeowners association. 43(c)(4)–2 for guidance on which income to covered transaction. However, § 1026.43(c)(2)(v) does not require consider when multiple consumers apply 3. Scope of timing. For purposes of a creditor to include in the evaluation of the jointly for a loan. § 1026.43(c)(2)(iv), a simultaneous loan consumer’s monthly payment for mortgage- Paragraph 43(c)(2)(iii). includes a loan that comes into existence related obligations payments to such 1. General. For purposes of the repayment concurrently with the covered transaction associations imposed in connection with the ability determination required under subject to § 1026.43(c). A simultaneous loan extension of credit, or imposed as an incident § 1026.43(c)(2), a creditor must consider the does not include a credit transaction that to the transfer of ownership, if such consumer’s monthly payment on a covered occurs after consummation of the covered obligations are fully satisfied at or before transaction that is calculated as required transaction that is subject to this section. consummation. For example, if a under § 1026.43(c)(5). However, any simultaneous loan that homeowners association imposes a one-time Paragraph 43(c)(2)(iv). specifically covers closing costs of the transfer fee on the transaction, and the 1. Home equity lines of credit. For covered transaction, but is scheduled to be consumer will pay the fee at or before purposes of § 1026.43(c)(2)(iv), a extended after consummation must be consummation, § 1026.43(c)(2)(v) does not simultaneous loan includes any covered considered for the purposes of require the creditor to include this one-time transaction or home equity line of credit § 1026.43(c)(2)(iv). transfer fee in the evaluation of the (HELOC) subject to § 1026.40 that will be Paragraph 43(c)(2)(v). consumer’s monthly payment for mortgage- made to the same consumer at or before 1. General. A creditor must include in its related obligations. Section 1026.43(c)(2)(v) consummation of the covered transaction and repayment ability assessment the consumer’s also does not require the creditor to include secured by the same dwelling that secures monthly payment for mortgage-related this fee in the evaluation of the consumer’s the covered transaction. A HELOC that is a obligations, such as the expected property monthly payment for mortgage-related simultaneous loan that the creditor knows or taxes and premiums or similar charges obligations if the consumer finances the fee has reason to know about must be considered identified in § 1026.4(b)(5), (7), (8), or (10) in the loan amount. However, if the as a mortgage obligation in determining a that are required by the creditor. See consumer incurs the obligation and will consumer’s ability to repay the covered § 1026.43(b)(8) defining the term ‘‘mortgage- satisfy the obligation with recurring transaction even though the HELOC is not a related obligations.’’ Mortgage-related payments after consummation, regardless of covered transaction subject to § 1026.43. See obligations must be included in the creditor’s whether the obligation is escrowed, § 1026.43(a) discussing the scope of this determination of repayment ability regardless § 1026.43(c)(2)(v) requires the creditor to section. ‘‘Simultaneous loan’’ is defined in of whether the amounts are included in the include the transfer fee in the evaluation of § 1026.43(b)(12). For further explanation of monthly payment or whether there is an the consumer’s monthly payment for ‘‘same consumer,’’ see comment 43(b)(12)–2. escrow account established. Section mortgage-related obligations. 2. Knows or has reason to know. In 1026.43(c)(2)(v) includes only payments that 3. Special assessments imposed by an determining a consumer’s repayment ability occur on an ongoing or recurring basis in the association. Section 1026.43(b)(8) defines for a covered transaction under evaluation of the consumer’s monthly mortgage-related obligations to include § 1026.43(c)(2), a creditor must consider the payment for mortgage-related obligations. special assessments imposed by a consumer’s payment obligation on any One-time charges, or obligations satisfied at condominium, cooperative, or homeowners simultaneous loan that the creditor knows or or before consummation, are not ongoing or association. Section 1026.43(c)(2)(v) does not has reason to know will be or has been made recurring, and are therefore not part of the require a creditor to include special at or before consummation of the covered consumer’s monthly payment for purposes of assessments in the evaluation of the transaction. For example, where a covered § 1026.43(c)(2)(v). For example: consumer’s monthly payment for mortgage- transaction is a home purchase loan, the i. Assume that a consumer will be required related obligations if the special assessments creditor must consider the consumer’s to pay property taxes, as described in are fully satisfied at or before consummation. periodic payment obligation for any comment 43(b)(8)–2, on a quarterly, annual, For example, if a homeowners association ‘‘piggyback’’ second-lien loan that the or other basis after consummation. Section imposes a special assessment that the creditor knows or has reason to know will be 1026.43(c)(2)(v) includes these recurring consumer will have to pay in full at or before used to finance part of the consumer’s down property taxes in the evaluation of the consummation, § 1026.43(c)(2)(v) does not payment. The creditor complies with this consumer’s monthly payment for mortgage- include the special assessment in the

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evaluation of the consumer’s monthly knowledge of an increase in the property tax time of underwriting the loan. Creditors may payment for mortgage-related obligations. rate at the time of underwriting. See also rely on guidance provided under comment Section 1026.43(c)(2)(v) does not require a comment 43(c)(2)(v)–5 regarding estimates of 17(c)(2)(i)–1 in determining if information is creditor to include special assessments in the mortgage-related obligations. reasonably available. For purposes of this evaluation of the consumer’s monthly ii. Assume that a subject property is section, the creditor need not project payment for mortgage-related obligations if located in a special water district, the potential changes, such as by estimating the special assessments are imposed as a one- assessments for which are billed separately possible increases in taxes and insurance. time charge. For example, if a homeowners from local property taxes. The creditor See comment 43(c)(2)(v)–4 for additional association imposes a special assessment that complies with § 1026.43(c)(2)(v) by dividing examples discussing the projection of the consumer will have to satisfy in one the full amount that will be owed by the potential changes. The following examples payment, § 1026.43(c)(2)(v) does not include number of months in the assessment period, further illustrate the requirements of this one-time special assessment in the and including the resulting amount in the § 1026.43(c)(2)(v): evaluation of the consumer’s monthly calculation of monthly mortgage-related i. Assume that the property is subject to a payment for mortgage-related obligations. obligations. However, § 1026.43(c)(2)(v) does community governance association, such as a However, if the consumer will pay the not require a creditor to adjust the monthly homeowners association. The creditor special assessment on a recurring basis after amount to account for potential deviations complies with § 1026.43(c)(2)(v) by relying consummation, regardless of whether the from the average monthly amount. For on an estimate of mortgage-related consumer’s payments for the special example, assume in this example that the obligations prepared by the homeowners assessment are escrowed, § 1026.43(c)(2)(v) special water assessment is billed every eight association. In accordance with the guidance requires the creditor to include this recurring months, that the consumer will have to pay provided under comment 17(c)(2)(i)–1, the special assessment in the evaluation of the the first water district bill four months after creditor need only exercise due diligence in consumer’s monthly payment for mortgage- consummation, and that the seller will not determining mortgage-related obligations, related obligations. provide the consumer with any funds to pay and complies with § 1026.43(c)(2)(v) by 4. Pro rata amount. For purposes of for the seller’s obligation (i.e., the four relying on the representations of other § 1026.43(c)(2)(v), the creditor may divide the months prior to consummation). Although reliable parties in preparing estimates. recurring payments for mortgage-related the consumer will be required to budget ii. Assume that the homeowners obligations into monthly, pro rata amounts. twice the average monthly amount to pay the association has imposed a special assessment In considering a mortgage-related obligation first water district bill, § 1026.43(c)(2)(v) does on the seller, but the seller does not inform that is not paid monthly, if the mortgage loan not require the creditor to use the increased the creditor of the special assessment, the is originated pursuant to a government amount; the creditor complies with homeowners association does not include the program the creditor may determine the pro § 1026.43(c)(2)(v) by using the average special assessment in the estimate of rata monthly amount of the mortgage-related monthly amount. expenses prepared for the creditor, and the obligation in accordance with the specific iii. Assume that the subject property is creditor is unaware of the special assessment. requirements of that program. If the mortgage located in an area where flood insurance is The creditor complies with § 1026.43(c)(2)(v) loan is originated pursuant to a government required by Federal law, and assume further if it does not include the special assessment program that does not contain specific that the flood insurance policy premium is in the determination of mortgage-related standards for determining the pro rata paid every three years following obligations. The creditor may rely on the monthly amount of the mortgage-related consummation. The creditor complies with representations of other reliable parties, in obligation, or if the mortgage loan is not § 1026.43(c)(2)(v) by dividing the three-year accordance with the guidance provided originated pursuant to a government premium by 36 months and including the under comment 17(c)(2)(i)–1. program, the creditor complies with resulting amount in the determination of the iii. Assume that the homeowners § 1026.43(c)(2)(v) by dividing the total consumer’s monthly payment for mortgage- association imposes a special assessment amount of a particular non-monthly related obligations. The creditor complies after the creditor has completed mortgage-related obligation by no more than even if the consumer will not establish a underwriting, but prior to consummation. the number of months from the month that monthly escrow for flood insurance. The creditor does not violate the non-monthly mortgage-related obligation iv. Assume that the subject property is part § 1026.43(c)(2)(v) if the creditor does not was due prior to consummation until the of a homeowners association that has include the special assessment in the month that the non-monthly mortgage-related imposed upon the seller a special assessment determination of the consumer’s monthly obligation will be due after consummation. of $1,200. Assume further that this special payment for mortgage-related obligations, When determining the pro rata monthly assessment will become the consumer’s provided the homeowners association does payment amount, the creditor may also obligation upon consummation of the not inform the creditor about the special consider comment 43(c)(2)(v)–5, which transaction, that the consumer is permitted to assessment during underwriting. Section explains that the creditor need not project pay the special assessment in twelve $100 1026.43(c)(2)(v) does not require the creditor potential changes. The following examples installments after consummation, and that to re-underwrite the loan. The creditor has further illustrate how a creditor may the mortgage loan will not be originated complied with § 1026.43(c)(2)(v) by determine the pro rata monthly amount of pursuant to a government program that including the obligations known to the mortgage-related obligations, pursuant to contains specific requirements for prorating creditor at the time the loan is underwritten, § 1026.43(c)(2)(v): special assessments. The creditor complies even if the creditor learns of new mortgage- i. Assume that a consumer applies for a with § 1026.43(c)(2)(v) by dividing the $1,200 related obligations before the transaction is mortgage loan on February 1st. Assume special assessment by 12 months and consummated. further that the subject property is located in including the resulting $100 monthly amount Paragraph 43(c)(2)(vi). a jurisdiction where property taxes are paid in the determination of the consumer’s 1. Consideration of current debt in arrears on the first day of October. The monthly payment for mortgage-related obligations. Section 1026.43(c)(2)(vi) requires creditor complies with § 1026.43(c)(2)(v) by obligations. The creditor complies by using creditors to consider a consumer’s current determining the annual property tax amount this calculation even if the consumer intends debt obligations and any alimony or child owed in the prior October, dividing the to pay the special assessment in a manner support the consumer is required to pay. amount by 12, and using the resulting other than that used by the creditor in Examples of current debt obligations include amount as the pro rata monthly property tax determining the monthly pro rata amount, student loans, automobile loans, revolving payment amount for the determination of the such as where the consumer intends to pay debt, and existing mortgages that will not be consumer’s monthly payment for mortgage- six $200 installments. paid off at or before consummation. Creditors related obligations. The creditor complies 5. Estimates. Estimates of mortgage-related have significant flexibility to consider even if the consumer will likely owe more in obligations should be based upon current debt obligations in light of attendant the next year than the amount owed the prior information that is known to the creditor at facts and circumstances, including that an October because the jurisdiction normally the time the creditor underwrites the obligation is likely to be paid off soon after increases the property tax rate annually, mortgage obligation. Information is known if consummation. For example, a creditor may provided that the creditor does not have it is reasonably available to the creditor at the take into account that an existing mortgage is

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likely to be paid off soon after consummation 1026.23(b), 1026.31(e), 1026.39(b)(3), and evidence that the creditor reasonably finds to because there is an existing contract for sale 1026.46(f). be reliable that contradict the credit report or of the property that secures that mortgage. 43(c)(3) Verification using third-party otherwise indicate that the credit report is Similarly, creditors should consider whether records. inaccurate. If a creditor knows or has reason debt obligations in forbearance or deferral at 1. Records specific to the individual to know that a credit report may be the time of underwriting are likely to affect consumer. Records a creditor uses for inaccurate in whole or in part, the creditor the consumer’s ability to repay based on the verification under § 1026.43(c)(3) and (4) complies with § 1026.43(c)(3) by disregarding payment for which the consumer will be must be specific to the individual consumer. an inaccurate or disputed item, items, or liable upon expiration of the forbearance or Records regarding average incomes in the credit report, but does not have to obtain deferral period and other relevant facts and consumer’s geographic location or average additional third-party records. The creditor circumstances, such as when the forbearance wages paid by the consumer’s employer, for may also, but is not required, to obtain other or deferral period will expire. example, are not specific to the individual reasonably reliable third-party records to 2. Multiple applicants. When two or more consumer and are not sufficient for verify information with respect to which the consumers apply for an extension of credit as verification. credit report, or item therein, may be joint obligors with primary liability on an 2. Obtaining records. To conduct inaccurate. For example, the creditor might obligation, § 1026.43(c)(2)(vi) requires a verification under § 1026.43(c)(3) and (4), a obtain statements or bank records regarding creditor to consider the debt obligations of all creditor may obtain records from a third- a particular debt obligation subject to a such joint applicants. For example, if a co- party service provider, such as a party the statement of dispute. See also comment applicant is repaying a student loan at the consumer’s employer uses to respond to 43(c)(3)–6, which describes a situation in time of underwriting, the creditor complies income verification requests, as long as the which a consumer reports a debt obligation with § 1026.43(c)(2)(vi) by considering the records are reasonably reliable and specific to that is not listed on a credit report. co-applicant’s student loan obligation. If one the individual consumer. A creditor also may 4. Verification of simultaneous loans. consumer is merely a surety or guarantor, obtain third-party records directly from the Although a credit report may be used to § 1026.43(c)(2)(vi) does not require a creditor consumer, likewise as long as the records are verify current obligations, it will not reflect to consider the debt obligations of such reasonably reliable and specific to the a simultaneous loan that has not yet been surety or guarantor. The requirements of individual consumer. For example, a creditor consummated and may not reflect a loan that § 1026.43(c)(2)(vi) do not affect the disclosure using payroll statements to verify the has just recently been consummated. If the requirements of this part, such as, for consumer’s income, as allowed under creditor knows or has reason to know that example, §§ 1026.17(d), 1026.23(b), § 1026.43(c)(4)(iii), may obtain the payroll there will be a simultaneous loan extended 1026.31(e), 1026.39(b)(3), and 1026.46(f). statements from the consumer. at or before consummation, the creditor may verify the simultaneous loan by obtaining Paragraph 43(c)(2)(vii). 3. Credit report as a reasonably reliable third-party verification from the third-party 1. Monthly debt-to-income ratio and third-party record. A credit report generally creditor of the simultaneous loan. For residual income. See § 1026.43(c)(7) and its is considered a reasonably reliable third- example, the creditor may obtain a copy of associated commentary regarding the party record under § 1026.43(c)(3) for the promissory note or other written definitions and calculations for the monthly purposes of verifying items customarily verification from the third-party creditor. For debt-to-income ratio and residual income. found on a credit report, such as the further guidance, see comments 43(c)(3)–1 Paragraph 43(c)(2)(viii). consumer’s current debt obligations, monthly and –2 discussing verification using third- 1. Consideration of credit history. ‘‘Credit debts, and credit history. Section party records. history’’ may include factors such as the 1026.43(c)(3) generally does not require 5. Verification of mortgage-related number and age of credit lines, payment creditors to obtain additional reasonably obligations. Creditors must make the history, and any judgments, collections, or reliable third-party records to verify repayment ability determination required bankruptcies. Section 1026.43(c)(2)(viii) does information contained in a credit report. For under § 1026.43(c)(2) based on information not require creditors to obtain or consider a example, if a credit report states the existence verified from reasonably reliable records. For consolidated credit score or prescribe a and amount of a consumer’s debt obligation, general guidance regarding verification see minimum credit score that creditors must the creditor is not required to obtain comments 43(c)(3)–1 and –2, which discuss apply. The rule also does not specify which additional verification of the existence or verification using third-party records. With aspects of credit history a creditor must amount of that obligation. In contrast, a respect to the verification of mortgage-related consider or how various aspects of credit credit report does not serve as a reasonably obligations that are property taxes required to history should be weighed against each other reliably third-party record for purposes of be considered under § 1026.43(c)(2)(v), a or against other underwriting factors. Some verifying items that do not appear on the record is reasonably reliable if the aspects of a consumer’s credit history, credit report. For example, certain monthly information in the record was provided by a whether positive or negative, may not be debt obligations, such as legal obligations governmental organization, such as a taxing directly indicative of the consumer’s ability like alimony or child support, may not be authority or local government. The creditor to repay. A creditor therefore may give reflected on a credit report. Thus, a credit complies with § 1026.43(c)(2)(v) by relying various aspects of a consumer’s credit history report that does not list a consumer’s on property taxes referenced in the title as much or as little weight as is appropriate monthly alimony obligation does not serve as report if the source of the property tax to reach a reasonable, good faith a reasonably reliable third-party record for information was a local taxing authority. determination of ability to repay. Where a purposes of verifying that obligation. If a With respect to other information in a record consumer has obtained few or no extensions credit report reflects a current debt obligation provided by an entity assessing charges, such of traditional ‘‘credit,’’ as defined in that a consumer has not listed on the as a homeowners association, the creditor § 1026.2(a)(14), a creditor may, but is not application, the creditor complies with complies with § 1026.43(c)(2)(v) if it relies on required to, look to nontraditional credit § 1026.43(c)(3) if the creditor considers the homeowners association billing statements references, such as rental payment history or existence and amount of the debt obligation provided by the seller. Records are also utility payments. as it is reflected in the credit report. reasonably reliable if the information in the 2. Multiple applicants. When two or more However, in some cases a creditor may know record was obtained from a valid and legally consumers apply for an extension of credit as or have reason to know that a credit report executed contract. For example, the creditor joint obligors with primary liability on an may be inaccurate in whole or in part. For complies with § 1026.43(c)(2)(v) by relying obligation, § 1026.43(c)(2)(viii) requires a example, a creditor may have information on the amount of monthly ground rent creditor to consider the credit history of all indicating that a credit report is subject to a referenced in the ground rent agreement such joint applicants. If a consumer is merely fraud alert, extended alert, active duty alert, currently in effect and applicable to the a surety or guarantor, § 1026.43(c)(2)(viii) or similar alert identified in 15 U.S.C. 1681c– subject property. Records, other than those does not require a creditor to consider the 1 or that a debt obligation listed on a credit discussed above, may be reasonably reliable credit history of such surety or guarantor. report is subject to a statement of dispute for purposes of § 1026.43(c)(2)(v) if the The requirements of § 1026.43(c)(2)(viii) do pursuant to 15 U.S.C. 1681i(b). A creditor source provided the information objectively. not affect the disclosure requirements of this may also have other reasonably reliable third- 6. Verification of current debt obligations. part, such as, for example, §§ 1026.17(d), party records or other information or Section 1026.43(c)(3) does not require

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creditors to obtain additional records to 43(c)(5) Payment calculation. 4. Substantially equal. In determining verify the existence or amount of obligations 43(c)(5)(i) General rule. whether monthly, fully amortizing payments shown on a consumer’s credit report or listed 1. General. For purposes of are substantially equal, creditors should on the consumer’s application, absent § 1026.43(c)(2)(iii), a creditor must determine disregard minor variations due to payment- circumstances described in comment the consumer’s ability to repay the covered schedule irregularities and odd periods, such 43(c)(3)–3. Under § 1026.43(c)(3)(iii), if a transaction using the payment calculation as a long or short first or last payment period. creditor relies on a consumer’s credit report methods set forth in § 1026.43(c)(5). The That is, monthly payments of principal and to verify a consumer’s current debt payment calculation methods differ interest that repay the loan amount over the obligations and the consumer’s application depending on the type of credit extended. loan term need not be equal, but the monthly lists a debt obligation not shown on the The payment calculation method set forth in payments should be substantially the same credit report, the creditor may consider the § 1026.43(c)(5)(i) applies to any covered without significant variation in the monthly existence and amount of the obligation as it transaction that does not have a balloon combined payments of both principal and is stated on the consumer’s application. The payment, or that is not an interest-only or interest. For example, where no two monthly creditor is not required to further verify of negative amortization loan, whether such payments vary from each other by more than the existence or amount of the obligation, covered transaction is a fixed-rate, 1 percent (excluding odd periods, such as a absent circumstances described in comment adjustable-rate or step-rate mortgage. The long or short first or last payment period), 43(c)(3)–3. terms ‘‘fixed-rate mortgage,’’ ‘‘adjustable-rate such monthly payments would be considered 7. Verification of credit history. To verify mortgage,’’ ‘‘step-rate mortgage,’’ ‘‘interest- substantially equal for purposes of this credit history, a creditor may, for example, only loan’’ and ‘‘negative amortization loan’’ section. In general, creditors should look to credit reports from credit bureaus or are defined in § 1026.18(s)(7)(iii), (i), (ii), (iv) determine whether the monthly, fully to reasonably reliable third-party records that and (v), respectively. For the meaning of the amortizing payments are substantially equal evidence nontraditional credit references, term ‘‘balloon payment,’’ see based on guidance provided in such as evidence of rental payment history or § 1026.18(s)(5)(i). The payment calculation § 1026.17(c)(3) (discussing minor variations), public utility payments. methods set forth in § 1026.43(c)(5)(ii) apply and § 1026.17(c)(4)(i) through (iii) (discussing 8. Verification of military employment. A to any covered transaction that is a loan with payment-schedule irregularities and creditor may verify the employment status of a balloon payment, interest-only loan, or measuring odd periods due to a long or short military personnel by using a military Leave negative amortization loan. See comment first period) and associated commentary. and Earnings Statement or by using the 43(c)(5)(i)–5 and the commentary to 5. Examples. The following are examples electronic database maintained by the § 1026.43(c)(5)(ii), which provide examples of how to determine the consumer’s Department of Defense to facilitate for calculating the monthly payment for repayment ability based on substantially identification of consumers covered by credit purposes of the repayment ability equal, monthly, fully amortizing payments as protections provided pursuant to 10 U.S.C. determination required under required under § 1026.43(c)(5)(i) (all amounts 987. § 1026.43(c)(2)(iii). shown are rounded, and all amounts are 43(c)(4) Verification of income or assets. 2. Greater of the fully indexed rate or calculated using non-rounded values): 1. Income or assets relied on. A creditor introductory rate; premium adjustable-rate i. Fixed-rate mortgage. A loan in an need consider, and therefore need verify, transactions. A creditor must determine a amount of $200,000 has a 30-year loan term only the income or assets the creditor relies consumer’s repayment ability for the covered and a fixed interest rate of 7 percent. For on to evaluate the consumer’s repayment transaction using substantially equal, purposes of § 1026.43(c)(2)(iii), the creditor ability. See comment 43(c)(2)(i)–2. For must determine the consumer’s ability to example, if a consumer’s application states monthly, fully amortizing payments that are that the consumer earns a salary and is paid based on the greater of the fully indexed rate repay the loan based on a payment of $1,331, an annual bonus and the creditor relies on or any introductory interest rate. In some which is the substantially equal, monthly, only the consumer’s salary to evaluate the adjustable-rate transactions, creditors may set fully amortizing payment that will repay consumer’s repayment ability, the creditor an initial interest rate that is not determined $200,000 over 30 years using the fixed need verify only the salary. See also by the index or formula used to make later interest rate of 7 percent. comments 43(c)(3)–1 and –2. interest rate adjustments. Sometimes, this ii. Adjustable-rate mortgage with discount 2. Multiple applicants. If multiple initial rate charged to consumers is lower for five years. A loan in an amount of consumers jointly apply for a loan and each than the rate would be if it were determined $200,000 has a 30-year loan term. The loan lists income or assets on the application, the by using the index plus margin, or formula agreement provides for a discounted interest creditor need verify only the income or assets (i.e., fully indexed rate). However, an initial rate of 6 percent that is fixed for an initial the creditor relies on in determining rate that is a premium rate is higher than the period of five years, after which the interest repayment ability. See comment 43(c)(2)(i)– rate based on the index or formula. In such rate will adjust annually based on a specified 5. cases, creditors must calculate the fully index plus a margin of 3 percent, subject to 3. Tax-return transcript. Under amortizing payment based on the initial a 2 percent annual periodic interest rate § 1026.43(c)(4), a creditor may verify a ‘‘premium’’ rate. ‘‘Fully indexed rate’’ is adjustment cap. The index value in effect at consumer’s income using an Internal defined in § 1026.43(b)(3). consummation is 4.5 percent; the fully Revenue Service (IRS) tax-return transcript, 3. Monthly, fully amortizing payments. indexed rate is 7.5 percent (4.5 percent plus which summarizes the information in a Section 1026.43(c)(5)(i) does not prescribe 3 percent). Even though the scheduled consumer’s filed tax return, another record the terms or loan features that a creditor may monthly payment required for the first five that provides reasonably reliable evidence of choose to offer or extend to a consumer, but years is $1199, for purposes of the consumer’s income, or both. A creditor establishes the calculation method a creditor § 1026.43(c)(2)(iii) the creditor must may obtain a copy of a tax-return transcript must use to determine the consumer’s determine the consumer’s ability to repay the or a filed tax return directly from the repayment ability for a covered transaction. loan based on a payment of $1,398, which is consumer or from a service provider. A For example, the terms of the loan agreement the substantially equal, monthly, fully creditor need not obtain the copy directly may require that the consumer repay the loan amortizing payment that will repay $200,000 from the IRS or other taxing authority. See in quarterly or bi-weekly scheduled over 30 years using the fully indexed rate of comment 43(c)(3)–2. payments, but for purposes of the repayment 7.5 percent. Paragraph 43(c)(4)(vi). ability determination, the creditor must iii. Step-rate mortgage. A loan in an 1. Government benefits. In verifying a convert these scheduled payments to amount of $200,000 has a 30-year loan term. consumer’s income, a creditor may use a monthly payments in accordance with The loan agreement provides that the interest written or electronic record from a § 1026.43(c)(5)(i)(B). Similarly, the loan rate will be 6.5 percent for the first two years government agency of the amount of any agreement may not require the consumer to of the loan, 7 percent for the next three years benefit payments or awards, such as a ‘‘proof make fully amortizing payments, but for of the loan, and 7.5 percent thereafter. of income letter’’ issued by the Social purposes of the repayment ability Accordingly, the scheduled payment Security Administration (also known as a determination under § 1026.43(c)(5)(i), the amounts are $1,264 for the first two years, ‘‘budget letter,’’ ‘‘benefits letter,’’ or ‘‘proof of creditor must convert any non-amortizing $1,328 for the next three years, and $1,388 award letter’’). payments to fully amortizing payments. thereafter for the remainder of the term. For

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purposes of § 1026.43(c)(2)(iii), the creditor is not a higher-priced covered transaction which is below the APOR threshold for a must determine the consumer’s ability to could provide that a creditor is comparable transaction, and thus, the loan is repay the loan based on a payment of $1,398, unconditionally obligated to renew a balloon- not a higher-priced covered transaction. The which is the substantially equal, monthly, payment mortgage at the consumer’s option loan amount is $200,000, and the loan has a fully amortizing payment that would repay (or is obligated to renew subject to conditions six-year loan term but is amortized over 30 $200,000 over 30 years using the fully within the consumer’s control). See comment years. The loan is consummated on March indexed rate of 7.5 percent. 17(c)(1)–11 discussing renewable balloon- 15, 2014, and the monthly payment 43(c)(5)(ii) Special rules for loans with a payment mortgages. For purposes of this scheduled for the first six years following balloon payment, interest-only loans, and section, the loan term does not include any consummation is $1,199, with the first negative amortization loans. period of time that could result from a monthly payment due on May 1, 2014. The Paragraph 43(c)(5)(ii)(A). renewal provision. To illustrate, assume a first five years after the date on which the 1. General. For loans with a balloon three-year balloon-payment mortgage that is first regular periodic payment will be due payment, the rules differ depending on not a higher-priced covered transaction end on May 1, 2019. The balloon payment of whether the loan is a higher-priced covered contains an unconditional obligation to $183,995 is required on the due date of the transaction, as defined under § 1026.43(b)(4), renew for another three years at the 72nd monthly payment, which is April 1, or is not a higher-priced covered transaction consumer’s option. In this example, the loan 2020 (more than five years after the date on because the annual percentage rate does not term for the balloon-payment mortgage is which the first regular periodic payment will exceed the applicable threshold calculated three years, and not the potential six years be due). For purposes of § 1026.43(c)(2)(iii), using the applicable average prime offer rate that could result if the consumer chooses to the creditor may determine the consumer’s (APOR) for a comparable transaction. renew the loan. Accordingly, the creditor ability to repay the loan based on the ‘‘Average prime offer rate’’ is defined in must underwrite the loan using the monthly payment of $1,199, and need not § 1026.35(a)(2); ‘‘higher-priced covered maximum payment scheduled in the first five consider the balloon payment of $183,995 transaction’’ is defined in § 1026.43(b)(4). For years after consummation, which includes due on April 1, 2020. higher-priced covered transactions with a the balloon payment due at the end of the 5. Higher-priced covered transaction with a balloon payment, the creditor must consider three-year loan term. See comment balloon payment. Where a loan with a the consumer’s ability to repay the loan 43(c)(5)(ii)(A)–4.ii, which provides an balloon payment is a higher-priced covered based on the payment schedule under the example of how to determine the consumer’s transaction, the creditor must determine the terms of the legal obligation, including any repayment ability for a three-year renewable consumer’s repayment ability based on the required balloon payment. For loans with a balloon-payment mortgage that is not a loan’s payment schedule, including any balloon payment that are not higher-priced higher-priced covered transaction. balloon payment. For example (all amounts covered transactions, the creditor should use 4. Examples of loans with a balloon are rounded): Assume a higher-priced the maximum payment scheduled during the payment that are not higher-priced covered covered transaction with a fixed interest rate first five years of the loan following the date transactions. The following are examples of of 7 percent. The loan amount is $200,000 on which the first regular periodic payment how to determine the maximum payment and the loan has a ten year loan term, but is will be due. ‘‘Balloon payment’’ is defined in scheduled during the first five years after the amortized over 30 years. The monthly § 1026.18(s)(5)(i). date on which the first regular periodic payment scheduled for the first ten years is 2. First five years after the date on which payment will be due (all amounts shown are $1,331, with a balloon payment of $172,955. the first regular periodic payment will be rounded, and all amounts are calculated For purposes of § 1026.43(c)(2)(iii), the due. Under § 1026.43(c)(5)(ii)(A)(1), the using non-rounded values): creditor must consider the consumer’s ability creditor must determine a consumer’s ability i. Balloon-payment mortgage with a three- to repay the loan based on the payment to repay a loan with a balloon payment that year loan term; fixed interest rate. A loan schedule that fully repays the loan amount, is not a higher-priced covered transaction agreement provides for a fixed interest rate of including the balloon payment of $172,955. using the maximum payment scheduled 6 percent, which is below the APOR- Paragraph 43(c)(5)(ii)(B). during the first five years (60 months) after calculated threshold for a comparable 1. General. For loans that permit interest- the date on which the first regular periodic transaction; thus the loan is not a higher- only payments, the creditor must use the payment will be due. To illustrate: priced covered transaction. The loan amount fully indexed rate or introductory rate, i. Assume a loan that provides for regular is $200,000, and the loan has a three-year whichever is greater, to calculate the monthly payments and a balloon payment loan term but is amortized over 30 years. The substantially equal, monthly payment of due at the end of a six-year loan term. The monthly payment scheduled for the first principal and interest that will repay the loan loan is consummated on August 15, 2014, three years following consummation is amount over the term of the loan remaining and the first monthly payment is due on $1,199, with a balloon payment of $193,367 as of the date the loan is recast. For October 1, 2014. The first five years after the due at the end of the third year. For purposes discussion regarding the fully indexed rate, first monthly payment end on October 1, of § 1026.43(c)(2)(iii), the creditor must and the meaning of ‘‘substantially equal,’’ see 2019. The balloon payment must be made on determine the consumer’s ability to repay the comments 43(b)(3)–1 through –5 and the due date of the 72nd monthly payment, loan based on the balloon payment of 43(c)(5)(i)–4, respectively. Under which is September 1, 2020. For purposes of $193,367. § 1026.43(c)(5)(ii)(B), the relevant term of the determining the consumer’s ability to repay ii. Renewable balloon-payment mortgage loan is the period of time that remains as of the loan under § 1026.43(c)(2)(iii), the with a three-year loan term. Assume the same the date the loan is recast to require fully creditor need not consider the balloon facts above in comment 43(c)(5)(ii)(A)–4.i, amortizing payments. For a loan on which payment that is due on September 1, 2020. except that the loan agreement also provides only interest and no principal has been paid, ii. Assume a loan that provides for regular that the creditor is unconditionally obligated the loan amount will be the outstanding monthly payments and a balloon payment to renew the balloon-payment mortgage at principal balance at the time of the recast. due at the end of a five-year loan term. The the consumer’s option at the end of the three- ‘‘Loan amount’’ and ‘‘recast’’ are defined in loan is consummated on August 15, 2014, year term for another three years. In § 1026.43(b)(5) and (b)(11), respectively. and the first monthly payment is due on determining the maximum payment ‘‘Interest-only’’ and ‘‘Interest-only loan’’ are October 1, 2014. The first five years after the scheduled during the first five years after the defined in § 1026.18(s)(7)(iv). first monthly payment end on October 1, date on which the first regular periodic 2. Examples. The following are examples 2019. The balloon payment must be made on payment will be due, the creditor must use of how to determine the consumer’s the due date of the 60th monthly payment, a loan term of three years. Accordingly, for repayment ability based on substantially which is September 1, 2019. For purposes of purposes of § 1026.43(c)(2)(iii), the creditor equal, monthly payments of principal and determining the consumer’s ability to repay must determine the consumer’s ability to interest under § 1026.43(c)(5)(ii)(B) (all the loan under § 1026.43(c)(2)(iii), the repay the loan based on the balloon payment amounts shown are rounded, and all creditor must consider the balloon payment of $193,367. amounts are calculated using non-rounded that is due on September 1, 2019. iii. Balloon-payment mortgage with a six- values): 3. Renewable balloon-payment mortgage; year loan term; fixed interest rate. A loan i. Fixed-rate mortgage with interest-only loan term. A balloon-payment mortgage that provides for a fixed interest rate of 6 percent, payments for five years. A loan in an amount

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of $200,000 has a 30-year loan term. The loan use the fully indexed rate or introductory that rate until the loan is recast. Assume that agreement provides for a fixed interest rate of rate, whichever is greater, to calculate the the consumer makes the minimum monthly 7 percent, and permits interest-only substantially equal, monthly payment payments scheduled, which are capped at 7.5 payments for the first five years. The monthly amount that will repay the maximum loan percent from year-to-year, for the maximum payment of $1,167 scheduled for the first five amount over the term of the loan remaining possible time. Because the consumer’s years would cover only the interest due. The as of the date the loan is recast. For minimum monthly payments are less than loan is recast on the due date of the 60th discussion regarding the fully indexed rate the interest accrued each month, negative monthly payment, after which the scheduled and the meaning of ‘‘substantially equal,’’ see amortization occurs (i.e., the accrued but monthly payments increase to $1,414, a comments 43(b)(3)–1 through –5 and unpaid interest is added to the principal monthly payment that repays the loan 43(c)(5)(i)–4, respectively. For the meaning of balance). Thus, assuming that the consumer amount of $200,000 over the 25 years the term ‘‘maximum loan amount’’ and a makes the minimum monthly payments for remaining as of the date the loan is recast discussion of how to determine the as long as possible and that the maximum (300 months). For purposes of maximum loan amount for purposes of interest rate of 10.5 percent is reached at the § 1026.43(c)(2)(iii), the creditor must § 1026.43(c)(5)(ii)(C), see § 1026.43(b)(7) and first rate adjustment (i.e., the due date of the determine the consumer’s ability to repay the associated commentary. ‘‘Negative first periodic monthly payment), the negative loan based on a payment of $1,414, which is amortization loan’’ is defined in amortization cap of 115 percent is reached on the substantially equal, monthly, fully § 1026.18(s)(7)(v). the due date of the 27th monthly payment amortizing payment that would repay 2. Term of loan. Under and the loan is recast as of that date. The $200,000 over the 25 years remaining as of § 1026.43(c)(5)(ii)(C), the relevant term of the maximum loan amount as of the due date of the date the loan is recast using the fixed loan is the period of time that remains as of the 27th monthly payment is $229,251, and interest rate of 7 percent. the date the terms of the legal obligation the remaining term of the loan is 27 years ii. Adjustable-rate mortgage with discount recast. That is, the creditor must determine and nine months (333 months). for three years and interest-only payments for substantially equal, monthly payments of C. For purposes of § 1026.43(c)(2)(iii), the five years. A loan in an amount of $200,000 principal and interest that will repay the creditor must determine the consumer’s has a 30-year loan term, but provides for maximum loan amount based on the period ability to repay the loan based on a monthly interest-only payments for the first five years. of time that remains after any negative payment of $1,716, which is the substantially The loan agreement provides for a amortization cap is triggered or any period equal, monthly payment of principal and discounted interest rate of 5 percent that is permitting minimum periodic payments interest that will repay the maximum loan fixed for an initial period of three years, after expires, whichever occurs first. amount of $229,251 over the remaining loan which the interest rate will adjust each year 3. Examples. The following are examples term of 333 months using the fully indexed based on a specified index plus a margin of of how to determine the consumer’s rate of 8 percent. See comments 43(b)(7)–1 3 percent, subject to an annual interest rate repayment ability based on substantially and –2 discussing the calculation of the adjustment cap of 2 percent. The index value equal, monthly payments of principal and maximum loan amount, and § 1026.43(b)(11) in effect at consummation is 4.5 percent; the interest as required under for the meaning of the term ‘‘recast.’’ fully indexed rate is 7.5 percent (4.5 percent § 1026.43(c)(5)(ii)(C) (all amounts shown are ii. Fixed-rate, graduated payment plus 3 percent). The monthly payments for rounded, and all amounts are calculated mortgage. A loan in the amount of $200,000 the first three years are $833. For the fourth using non-rounded values): has a 30-year loan term. The loan agreement year, the payments are $1,167, based on an i. Adjustable-rate mortgage with negative provides for a fixed interest rate of 7.5 interest rate of 7 percent, calculated by amortization. A. Assume an adjustable-rate percent, and requires the consumer to make adding the 2 percent annual adjustment cap mortgage in the amount of $200,000 with a minimum monthly payments during the first to the initial rate of 5 percent. For the fifth 30-year loan term. The loan agreement year, with payments increasing 12.5 percent year, the payments are $1,250, applying the provides that the consumer can make over the previous year every year for four fully indexed rate of 7.5 percent. These first minimum monthly payments that cover only years (the annual payment cap). The payment five years of payments will cover only the part of the interest accrued each month until schedule provides for payments of $943 in interest due. The loan is recast on the due the date on which the principal balance the first year, $1,061 in the second year, date of the 60th monthly payment, after reaches 115 percent of its original balance $1,193 in the third year, $1,343 in the fourth which the scheduled monthly payments (i.e., a negative amortization cap of 115 year, and then requires $1,511 for the increase to $1,478, a monthly payment that percent) or for the first five years of the loan remaining term of the loan. During the first will repay the loan amount of $200,000 over (60 monthly payments), whichever occurs three years of the loan, the payments are less the remaining 25 years of the loan (300 first. The introductory interest rate at than the interest accrued each month, months). For purposes of § 1026.43(c)(2)(iii), consummation is 1.5 percent. One month resulting in negative amortization. Assuming the creditor must determine the consumer’s after consummation, the interest rate adjusts the minimum payments increase year-to-year ability to repay the loan based on a monthly and will adjust monthly thereafter based on up to the 12.5 percent payment cap, the payment of $1,478, which is the substantially the specified index plus a margin of 3.5 consumer will begin making payments that equal, monthly payment of principal and percent. The index value in effect at cover at least all of the interest accrued at the interest that would repay $200,000 over the consummation is 4.5 percent; the fully end of the third year. Thus, the loan is recast 25 years remaining as of the date the loan is indexed rate is 8 percent (4.5 percent plus 3.5 on the due date of the 36th monthly recast using the fully indexed rate of 7.5 percent). The maximum lifetime interest rate payment. The maximum loan amount on that percent. is 10.5 percent; there are no other periodic date is $207,662, and the remaining loan Paragraph 43(c)(5)(ii)(C). interest rate adjustment caps that limit how term is 27 years (324 months). For purposes 1. General. For purposes of determining quickly the maximum lifetime rate may be of § 1026.43(c)(2)(iii), the creditor must the consumer’s ability to repay a negative reached. The minimum monthly payment for determine the consumer’s ability to repay the amortization loan, the creditor must use the first year is based on the initial interest loan based on a monthly payment of $1,497, substantially equal, monthly payments of rate of 1.5 percent. After that, the minimum which is the substantially equal, monthly principal and interest based on the fully monthly payment adjusts annually, but may payment of principal and interest that will indexed rate or the introductory rate, increase by no more than 7.5 percent over the repay the maximum loan amount of $207,662 whichever is greater, that will repay the previous year’s payment. The minimum over the remaining loan term of 27 years maximum loan amount over the term of the monthly payment is $690 in the first year, using the fixed interest rate of 7.5 percent. loan that remains as of the date the loan is $742 in the second year, and $797 in the first 43(c)(6) Payment calculation for recast. Accordingly, before determining the part of the third year. simultaneous loans. substantially equal, monthly payments the B. To determine the maximum loan 1. Scope. In determining the consumer’s creditor must first determine the maximum amount, assume that the interest rate repayment ability for a covered transaction loan amount and the period of time that increases to the maximum lifetime interest under § 1026.43(c)(2)(iii), a creditor must remains in the loan term after the loan is rate of 10.5 percent at the first adjustment include consideration of any simultaneous recast. ‘‘Recast’’ is defined in (i.e., the due date of the first periodic loan which it knows, or has reason to know, § 1026.43(b)(11). Second, the creditor must monthly payment), and interest accrues at will be made at or before consummation of

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the covered transaction. For a discussion of consider the consumer’s residual income as that is five years after consummation is the standard ‘‘knows or has reason to know,’’ further validation of the assessment made August 15, 2018. The first interest rate see comment 43(c)(2)(iv)–2. For the meaning using the consumer’s monthly debt-to- adjustment occurs on September 1, 2018. of the term ‘‘simultaneous loan,’’ see income ratio. This loan meets the criterion for a ‘‘standard § 1026.43(b)(12). 3. Compensating factors. The creditor may mortgage’’ under § 1026.43(d)(1)(ii)(D) 2. Payment calculation—covered consider factors in addition to the monthly because the interest rate is fixed until transaction. For a simultaneous loan that is debt-to-income ratio or residual income in September 1, 2018, which is more than five a covered transaction, as that term is defined assessing a consumer’s repayment ability. For years after consummation. For guidance under § 1026.43(b)(1), a creditor must example, the creditor may reasonably and in regarding step-rate mortgages, see comment determine a consumer’s ability to repay the good faith determine that a consumer has the 43(e)(2)(iv)–3.iii. monthly payment obligation for a ability to repay despite a higher debt-to- Paragraph 43(d)(1)(ii)(E). simultaneous loan as set forth in income ratio or lower residual income in 1. Permissible use of proceeds. To qualify § 1026.43(c)(5), taking into account any light of the consumer’s assets other than the as a ‘‘standard mortgage,’’ the loan’s proceeds mortgage-related obligations required to be dwelling, including any real property may be used for only two purposes: paying considered under § 1026.43(c)(2)(v). For the attached to the dwelling, securing the off the non-standard mortgage and paying for meaning of the term ‘‘mortgage-related covered transaction, such as a savings closing costs, including paying escrow obligations,’’ see § 1026.43(b)(8). account. The creditor may also reasonably amounts required at or before closing. If the 3. Payment calculation—home equity line and in good faith determine that a consumer proceeds of a covered transaction are used for of credit. For a simultaneous loan that is a has the ability to repay despite a higher debt- other purposes, such as to pay off other liens home equity line of credit subject to to-income ratio in light of the consumer’s or to provide additional cash to the consumer § 1026.40, the creditor must consider the residual income. for discretionary spending, the transaction periodic payment required under the terms of 43(d) Refinancing of non-standard does not meet the definition of a ‘‘standard the plan when assessing the consumer’s mortgages. mortgage.’’ ability to repay the covered transaction 43(d)(1) Definitions. 43(d)(2) Scope. secured by the same dwelling as the 43(d)(1)(i) Non-standard mortgage. 1. Written application. For an explanation simultaneous loan. Under § 1026.43(c)(6)(ii), Paragraph 43(d)(1)(i)(A). of the requirements for a ‘‘written a creditor must determine the periodic 1. Adjustable-rate mortgage with an application’’ in § 1026.43(d)(2)(iii), (d)(2)(iv), payment required under the terms of the plan introductory fixed rate. Under and (d)(2)(v), see comment 19(a)(1)(i)–3. by considering the actual amount of credit to § 1026.43(d)(1)(i)(A), an adjustable-rate Paragraph 43(d)(2)(ii). be drawn by the consumer at consummation mortgage with an introductory fixed interest 1. Materially lower. The exemptions of the covered transaction. The amount to be rate for one year or longer is considered a afforded under § 1026.43(d)(3) apply to a drawn is the amount requested by the ‘‘non-standard mortgage.’’ For example, a refinancing only if the monthly payment for consumer; when the amount requested will covered transaction that has a fixed the new loan is ‘‘materially lower’’ than the be disbursed, or actual receipt of funds, is not introductory rate for the first two, three, or monthly payment for an existing non- determinative. Any additional draw against five years and then converts to a variable rate standard mortgage. The payments to be the line of credit that the creditor of the for the remaining 28, 27, or 25 years, compared must be calculated based on the covered transaction does not know or have respectively, is a ‘‘non-standard mortgage.’’ A requirements under § 1026.43(d)(5). Whether reason to know about before or during covered transaction with an introductory rate the new loan payment is ‘‘materially lower’’ underwriting need not be considered in for six months that then converts to a than the non-standard mortgage payment relation to ability to repay. For example, variable rate for the remaining 29 and one- depends on the facts and circumstances. In where the creditor’s policies and procedures half years is not a ‘‘non-standard mortgage.’’ all cases, a payment reduction of 10 percent require the source of down payment to be 43(d)(1)(ii) Standard mortgage. or more meets the ‘‘materially lower’’ verified, and the creditor verifies that a Paragraph 43(d)(1)(ii)(A). standard. simultaneous loan that is a HELOC will 1. Regular periodic payments. Under Paragraph 43(d)(2)(iv). provide the source of down payment for the § 1026.43(d)(1)(ii)(A), a ‘‘standard mortgage’’ 1. Late payment—12 months prior to first-lien covered transaction, the creditor must provide for regular periodic payments application. Under § 1026.43(d)(2)(iv), the must consider the periodic payment on the that do not result in an increase of the exemptions in § 1026.43(d)(3) apply to a HELOC by assuming the amount drawn is at principal balance (negative amortization), covered transaction only if, during the 12 least the down payment amount. In general, allow the consumer to defer repayment of months immediately preceding the creditor’s a creditor should determine the periodic principal (see comment 43(e)(2)(i)–2), or receipt of the consumer’s written application payment based on guidance in the result in a balloon payment. Thus, the terms for a refinancing, the consumer has made no commentary to § 1026.40(d)(5) (discussing of the legal obligation must require the more than one payment on the non-standard payment terms). consumer to make payments of principal and mortgage more than 30 days late. (For an 43(c)(7) Monthly debt-to-income ratio or interest on a monthly or other periodic basis explanation of ‘‘written application,’’ see residual income. that will repay the loan amount over the loan comment 43(d)(2)–1.) For example, assume a 1. Monthly debt-to-income ratio or monthly term. Except for payments resulting from any consumer applies for a refinancing on May 1, residual income. Under § 1026.43(c)(2)(vii), interest rate changes after consummation in 2014. Assume also that the consumer made the creditor must consider the consumer’s an adjustable-rate or step-rate mortgage, the a non-standard mortgage payment on August monthly debt-to-income ratio, or the periodic payments must be substantially 15, 2013, that was 45 days late. The consumer’s monthly residual income, in equal. For an explanation of the term consumer made no other late payments on accordance with the requirements in ‘‘substantially equal,’’ see comment the non-standard mortgage between May 1, § 1026.43(c)(7). In contrast to the qualified 43(c)(5)(i)–4. In addition, a single-payment 2013, and May 1, 2014. In this example, the mortgage provisions in § 1026.43(e), transaction is not a ‘‘standard mortgage’’ requirement under § 1026.43(d)(2)(iv) is met § 1026.43(c) does not prescribe a specific because it does not require ‘‘regular periodic because the consumer made only one monthly debt-to-income ratio with which payments.’’ See also comment 43(e)(2)(i)–1. payment that was over 30 days late within creditors must comply. Instead, an Paragraph 43(d)(1)(ii)(D). the 12 months prior to applying for the appropriate threshold for a consumer’s 1. First five years after consummation. A refinancing (i.e., eight and one-half months monthly debt-to-income ratio or monthly ‘‘standard mortgage’’ must have an interest prior to application). residual income is for the creditor to rate that is fixed for at least the first five years 2. Payment due date. Whether a payment determine in making a reasonable and good (60 months) after consummation. For is more than 30 days late is measured in faith determination of a consumer’s ability to example, assume an adjustable-rate mortgage relation to the contractual due date not repay. that applies the same fixed interest rate to accounting for any grace period. For 2. Use of both monthly debt-to-income determine the first 60 payments of principal example, if the contractual due date for a ratio and monthly residual income. If a and interest due. The loan is consummated non-standard mortgage payment is the first creditor considers the consumer’s monthly on August 15, 2013, and the first monthly day of every month, but no late fee will be debt-to-income ratio, the creditor may also payment is due on October 1, 2013. The date charged as long as the payment is received

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by the 16th of the month, the payment due consumers to make such an offer consistent i. First, the payment must be based on the date for purposes of § 1026.43(d)(2)(iv) and with the creditor’s documented underwriting outstanding principal balance as of the date (v) is the first day of the month, not the 16th practices. Section 1026.43(d)(4) does not on which the mortgage is recast, assuming all day of the month. Thus, a payment due require a creditor making a refinancing scheduled payments have been made up to under the contract on October 1st that is paid pursuant to § 1026.43(d) to comply with the that date and the last payment due under on November 1st is made more than 30 days underwriting requirements of § 1026.43(c). those terms is made and credited on that after the payment due date. Rather, § 1026.43(d)(4) requires creditors date. For example, assume an adjustable-rate Paragraph 43(d)(2)(v). providing such discounts to do so consistent mortgage with a 30-year loan term. The loan 1. Late payment—six months prior to with documented policies related to loan agreement provides that the payments for the application. Under § 1026.43(d)(2)(v), the pricing, loan term qualifications, or other first 24 months are based on a fixed rate, after exemptions in § 1026.43(d)(3) apply to a similar underwriting practices. For example, which the interest rate will adjust annually covered transaction only if, during the six assume that a creditor is providing a based on a specified index and margin. The months immediately preceding the creditor’s consumer with a refinancing made pursuant loan is recast on the due date of the 24th receipt of the consumer’s written application to § 1026.43(d) and that this creditor has a payment. If the 24th payment is due on for a refinancing, the consumer has made no documented practice of offering rate September 1, 2014, the creditor must payments on the non-standard mortgage discounts to consumers with credit scores calculate the outstanding principal balance more than 30 days late. (For an explanation above a certain threshold. Assume further as of September 1, 2014, assuming that all 24 of ‘‘written application’’ and how to that the consumer receiving the refinancing payments under the fixed rate terms have determine the payment due date, see has a credit score below this threshold, and been made and credited timely. comments 43(d)(2)–1 and 43(d)(2)(iv)–2.) For therefore would not normally qualify for the ii. Second, the payment calculation must example, assume a consumer with a non- rate discount available to consumers with be based on substantially equal monthly standard mortgage applies for a refinancing high credit scores. This creditor complies payments of principal and interest that will on May 1, 2014. If the consumer made a with § 1026.43(d)(4) by offering the consumer fully repay the outstanding principal balance payment on March 15, 2014, that was 45 days the discounted rate in connection with the over the term of the loan remaining as of the late, the requirement under § 1026.43(d)(2)(v) refinancing made pursuant to § 1026.43(d), date the loan is recast. Thus, in the example is not met because the consumer made a even if the consumer would not normally above, the creditor must assume a loan term payment more than 30 days late one and one- qualify for that discounted rate, provided that of 28 years (336 monthly payments). half months prior to application. If the the offer of the discounted rate is not iii. Third, the payment must be based on number of months between consummation of prohibited by applicable State or Federal law. the fully indexed rate, as described in the non-standard mortgage and the However, § 1026.43(d)(4) does not require a § 1026.43(d)(5)(i)(A). consumer’s application for the standard creditor to offer a consumer such a 5. Example of payment calculation for an mortgage is six or fewer, the consumer may discounted rate. adjustable-rate mortgage with an not have made any payment more than 30 43(d)(5) Payment calculations. introductory fixed rate. The following days late on the non-standard mortgage. 43(d)(5)(i) Non-Standard mortgage. example illustrates the rule described in Paragraph 43(d)(2)(vi). 1. Payment calculation for a non-standard comment 43(d)(5)(i)–4: 1. Non-standard mortgage loan made in mortgage. In determining whether the i. A loan in an amount of $200,000 has a accordance with ability-to-repay or qualified monthly periodic payment for a standard 30-year loan term. The loan agreement mortgage requirements. For non-standard mortgage is materially lower than the provides for a discounted introductory mortgages that are consummated on or after monthly periodic payment for the non- interest rate of 5 percent that is fixed for an January 10, 2014, § 1026.43(d)(2)(vi) provides standard mortgage under § 1026.43(d)(2)(ii), initial period of two years, after which the that the refinancing provisions set forth in the creditor must consider the monthly interest rate will adjust annually based on a § 1026.43(d) apply only if the non-standard payment for the non-standard mortgage that specified index plus a margin of 3 percentage mortgage was made in accordance with the will result after the loan is ‘‘recast,’’ points. requirements of § 1026.43(c) or (e), as assuming substantially equal payments of ii. The non-standard mortgage is applicable. For example, if a creditor principal and interest that amortize the consummated on February 15, 2014, and the originated a non-standard mortgage on or remaining loan amount over the remaining first monthly payment is due on April 1, after January 10, 2014 that did not comply term as of the date the mortgage is recast. For 2014. The loan is recast on the due date of with the requirements of § 1026.43(c) and guidance regarding the meaning of the 24th monthly payment, which is March was not a qualified mortgage pursuant to ‘‘substantially equal,’’ see comment 1, 2016. § 1026.43(e), § 1026.43(d) would not apply to 43(c)(5)(i)–4. For the meaning of ‘‘recast,’’ see iii. On March 15, 2015, the creditor the refinancing of the non-standard mortgage § 1026.43(b)(11) and associated commentary. receives the consumer’s written application loan into a standard mortgage loan. However, 2. Fully indexed rate. The term ‘‘fully for a refinancing after the consumer has made § 1026.43(d) applies to the refinancing of a indexed rate’’ in § 1026.43(d)(5)(i)(A) for 12 monthly on-time payments. On this date, non-standard mortgage loan into a standard calculating the payment for a non-standard the index value is 4.5 percent. mortgage loan, regardless of whether the non- mortgage is generally defined in iv. To calculate the non-standard mortgage standard mortgage loan was made in § 1026.43(b)(3) and associated commentary. payment that must be compared to the compliance with § 1026.43(c) or (e), if the Under § 1026.43(b)(3) the fully indexed rate standard mortgage payment under non-standard mortgage loan was is calculated at the time of consummation. § 1026.43(d)(2)(ii), the creditor must use: consummated prior to January 10, 2014. For purposes of § 1026.43(d)(5)(i), however, A. The outstanding principal balance as of 43(d)(3) Exemption from repayment ability the fully indexed rate is calculated within a March 1, 2016, assuming all scheduled requirements. reasonable period of time before or after the payments have been made up to March 1, 1. Two-part determination. To qualify for date the creditor receives the consumer’s 2016, and the last payment due under the the exemptions in § 1026.43(d)(3), a creditor written application for the standard fixed rate terms is made and credited on must have considered, first, whether the mortgage. Thirty days is generally considered March 1, 2016. In this example, the consumer is likely to default on the existing ‘‘a reasonable period of time.’’ outstanding principal balance is $193,948. mortgage once that loan is recast and, second, 3. Written application. For an explanation B. The fully indexed rate of 7.5 percent, whether the new mortgage likely would of the requirements for a ‘‘written which is the index value of 4.5 percent as of prevent the consumer’s default. application’’ in § 1026.43(d)(5)(i), see March 15, 2015 (the date on which the 43(d)(4) Offer of rate discounts and other comment 19(a)(1)(i)–3. application for a refinancing is received) plus favorable terms. 4. Payment calculation for an adjustable- the margin of 3 percent. 1. Documented underwriting practices. In rate mortgage with an introductory fixed rate. C. The remaining loan term as of March 1, connection with a refinancing made pursuant Under § 1026.43(d)(5)(i), the monthly 2016, the date of the recast, which is 28 years to § 1026.43(d), § 1026.43(d)(4) requires a periodic payment for an adjustable-rate (336 monthly payments). creditor offering a consumer rate discounts mortgage with an introductory fixed interest v. Based on these assumptions, the and terms that are the same as, or better than, rate for a period of one or more years must monthly payment for the non-standard the rate discounts and terms offered to new be calculated based on several assumptions. mortgage for purposes of determining

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whether the standard mortgage monthly 2016, assuming all scheduled interest-only 115 percent of the loan amount, or for the payment is lower than the non-standard payments have been made and credited up to first five years of monthly payments (60 mortgage monthly payment (see that date. In this example, the loan amount payments), whichever occurs first. The loan § 1026.43(d)(2)(ii)) is $1,383. This is the is $200,000. is an adjustable-rate mortgage that adjusts substantially equal, monthly payment of B. An interest rate of 7 percent, which is monthly according to a specified index plus principal and interest required to repay the the interest rate in effect at the time of a margin of 3.5 percent. outstanding principal balance at the fully consummation of this fixed-rate non- ii. The non-standard mortgage is indexed rate over the remaining term. standard mortgage. consummated on February 15, 2014, and the 6. Payment calculation for an interest-only C. The remaining loan term as of March 1, first monthly payment is due on April 1, loan. Under § 1026.43(d)(5)(i), the monthly 2016, the date of the recast, which is 28 years 2014. Assume that the consumer has made periodic payment for an interest-only loan (336 monthly payments). only the minimum periodic payments. must be calculated based on several v. Based on these assumptions, the Assume further that, based on the calculation assumptions: monthly payment for the non-standard of the maximum loan amount required under i. First, the payment must be based on the mortgage for purposes of determining § 1026.43(b)(7) and associated commentary, outstanding principal balance as of the date whether the standard mortgage monthly the negative amortization cap of 115 percent of the recast, assuming all scheduled payment is lower than the non-standard would be reached on June 1, 2016, the due payments are made under the terms of the mortgage monthly payment (see date of the 27th monthly payment. legal obligation in effect before the mortgage § 1026.43(d)(2)(ii)) is $1,359. This is the iii. On March 15, 2015, the creditor is recast. For a loan on which only interest substantially equal, monthly payment of receives the consumer’s written application and no principal has been paid, the principal and interest required to repay the for a refinancing, after the consumer has outstanding principal balance at the time of loan amount at the fully indexed rate over made 12 monthly on-time payments. On this recast will be the loan amount, as defined in the remaining term. date, the index value is 4.5 percent. § 1026.43(b)(5), assuming all scheduled 8. Payment calculation for a negative iv. To calculate the non-standard mortgage payments are made under the terms of the amortization loan. Under § 1026.43(d)(5)(i), payment that must be compared to the legal obligation in effect before the mortgage the monthly periodic payment for a negative standard mortgage payment under is recast. For example, assume that a amortization loan must be calculated based § 1026.43(d)(2)(ii), the creditor must use: mortgage has a 30-year loan term, and on several assumptions: A. The maximum loan amount of $229,251 provides that the first 24 months of payments i. First, the calculation must be based on as of June 1, 2016; are interest-only. If the 24th payment is due the maximum loan amount, determined after B. The fully indexed rate of 8 percent, on September 1, 2015, the creditor must adjusting for the outstanding principal which is the index value of 4.5 percent as of calculate the outstanding principal balance balance. If the consumer makes only the March 15, 2015 (the date on which the as of September 1, 2015, assuming that all 24 minimum periodic payments for the creditor receives the application for a payments under the interest-only payment maximum possible time, until the consumer refinancing) plus the margin of 3.5 percent; terms have been made and credited timely must begin making fully amortizing and and that no payments of principal have been payments, the outstanding principal balance C. The remaining loan term as of June 1, made. will be the maximum loan amount, as 2016, the date of the recast, which is 27 years ii. Second, the payment calculation must defined in § 1026.43(b)(7). In this event, the and nine months (333 monthly payments). be based on substantially equal monthly creditor complies with v. Based on these assumptions, the payments of principal and interest that will § 1026.43(d)(5)(i)(C)(3) by relying on the monthly payment for the non-standard fully repay the loan amount over the term of examples of how to calculate the maximum mortgage for purposes of determining the loan remaining as of the date the loan is loan amount, see comment 43(b)(7)–3. If the whether the standard mortgage monthly recast. Thus, in the example above, the consumer makes payments above the payment is lower than the non-standard creditor must assume a loan term of 28 years minimum periodic payments for the mortgage monthly payment (see (336 monthly payments). maximum possible time, the creditor must § 1026.43(d)(2)(ii)) is $1,716. This is the iii. Third, the payment must be based on calculate the maximum loan amount based substantially equal, monthly payment of the fully indexed rate, as described in on the outstanding principal balance. In this principal and interest required to repay the § 1026.43(d)(5)(i)(A). event, the creditor complies with maximum loan amount at the fully indexed 7. Example of payment calculation for an § 1026.43(d)(5)(i)(C)(3) by relying on the rate over the remaining term. interest-only loan. The following example examples of how to calculate the maximum 10. Example of payment calculation for a illustrates the rule described in comment loan amount in comment 43(d)(5)(i)–10. negative amortization loan if payments above 43(d)(5)(i)–6: ii. Second, the calculation must be based minimum amount made. The following i. A loan in an amount of $200,000 has a on substantially equal monthly payments of example illustrates the rule described in 30-year loan term. The loan agreement principal and interest that will fully repay comment 43(d)(5)(i)–8: provides for a fixed interest rate of 7 percent, the maximum loan amount over the term of i. A loan in an amount of $200,000 has a and permits interest-only payments for the the loan remaining as of the date the loan is 30-year loan term. The loan agreement first two years (the first 24 payments), after recast. For example, if the loan term is 30 provides that the consumer can make which time amortizing payments of principal years and the loan is recast on the due date minimum monthly payments that cover only and interest are required. of the 60th monthly payment, the creditor part of the interest accrued each month until ii. The non-standard mortgage is must assume a remaining loan term of 25 the date on which the principal balance consummated on February 15, 2014, and the years (300 monthly payments). increases to the negative amortization cap of first monthly payment is due on April 1, iii. Third, the payment must be based on 115 percent of the loan amount, or for the 2014. The loan is recast on the due date of the fully indexed rate as of the date of the first five years of monthly payments (60 the 24th monthly payment, which is March written application for the standard payments), whichever occurs first. The loan 1, 2016. mortgage. is an adjustable-rate mortgage that adjusts iii. On March 15, 2015, the creditor 9. Example of payment calculation for a monthly according to a specified index plus receives the consumer’s written application negative amortization loan if only minimum a margin of 3.5 percent. The introductory for a refinancing, after the consumer has payments made. The following example interest rate at consummation is 1.5 percent. made 12 monthly on-time payments. The illustrates the rule described in comment One month after consummation, the interest consumer has made no additional payments 43(d)(5)(i)–8: rate adjusts and will adjust monthly of principal. i. A loan in an amount of $200,000 has a thereafter based on the specified index plus iv. To calculate the non-standard mortgage 30-year loan term. The loan agreement a margin of 3.5 percent. The maximum payment that must be compared to the provides that the consumer can make lifetime interest rate is 10.5 percent; there are standard mortgage payment under minimum monthly payments that cover only no other periodic interest rate adjustment § 1026.43(d)(2)(ii), the creditor must use: part of the interest accrued each month until caps that limit how quickly the maximum A. The loan amount, which is the the date on which the principal balance lifetime rate may be reached. The minimum outstanding principal balance as of March 1, increases to the negative amortization cap of monthly payment for the first year is based

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on the initial interest rate of 1.5 percent. following two years is 5 percent, and the rate creditor was aware at consummation would After that, the minimum monthly payment for the next two years is 6 percent, the rate leave the consumer with insufficient residual adjusts annually, but may increase by no that must be used is 6 percent. income or assets other than the value of the more than 7.5 percent over the previous 2. Example of payment calculation for a dwelling (including any real property year’s payment. The minimum monthly standard mortgage. The following example attached to the dwelling) that secures the payment is $690 in the first year, $742 in the illustrates the rule described in comment loan with which to meet living expenses, second year, $798 in the third year, $857 in 43(d)(5)(ii)–1: A loan in an amount of including any recurring and material non- the fourth year, and $922 in the fifth year. $200,000 has a 30-year loan term. The loan debt obligations of which the creditor was ii. The non-standard mortgage is agreement provides for an interest rate of 6 aware at the time of consummation, and that consummated on February 15, 2014, and the percent that is fixed for an initial period of the creditor thereby did not make a first monthly payment is due on April 1, five years, after which time the interest rate reasonable and good faith determination of 2014. Assume that the consumer has made will adjust annually based on a specified the consumer’s repayment ability. For more than the minimum periodic payments, index plus a margin of 3 percent, subject to example, a consumer may rebut the and that after the consumer’s 12th monthly a 2 percent annual interest rate adjustment presumption with evidence demonstrating on-time payment the outstanding principal cap. The creditor must determine whether that the consumer’s residual income was balance is $195,000. Based on the calculation the standard mortgage monthly payment is insufficient to meet living expenses, such as of the maximum loan amount after adjusting materially lower than the non-standard food, clothing, gasoline, and health care, for this outstanding principal balance, the mortgage monthly payment (see including the payment of recurring medical negative amortization cap of 115 percent § 1026.43(d)(2)(ii)) based on a standard expenses of which the creditor was aware at would be reached on March 1, 2019, the due mortgage payment of $1,199. This is the the time of consummation, and after taking date of the 60th monthly payment. substantially equal, monthly payment of into account the consumer’s assets other than iii. On March 15, 2015, the creditor principal and interest required to repay the value of the dwelling securing the loan, receives the consumer’s written application $200,000 over 30 years at an interest rate of such as a savings account. In addition, the for a refinancing, after the consumer has 6 percent. longer the period of time that the consumer made 12 monthly on-time payments. On this 43(e) Qualified mortgages. has demonstrated actual ability to repay the date, the index value is 4.5 percent. 43(e)(1) Safe harbor and presumption of loan by making timely payments, without iv. To calculate the non-standard mortgage compliance. modification or accommodation, after payment that must be compared to the 1. General. Section 1026.43(c) requires a consummation or, for an adjustable-rate standard mortgage payment under creditor to make a reasonable and good faith mortgage, after recast, the less likely the § 1026.43(d)(2)(ii), the creditor must use: determination at or before consummation consumer will be able to rebut the A. The maximum loan amount of $229,219 that a consumer will be able to repay a presumption based on insufficient residual as of March 1, 2019. covered transaction. Section 1026.43(e)(1)(i) income and prove that, at the time the loan B. The fully indexed rate of 8 percent, and (ii) provide a safe harbor and was made, the creditor failed to make a which is the index value of 4.5 percent as of presumption of compliance, respectively, reasonable and good faith determination that March 15, 2015 (the date on which the with the repayment ability requirements of the consumer had the reasonable ability to creditor receives the application for a § 1026.43(c) for creditors and assignees of repay the loan. refinancing) plus the margin of 3.5 percent. covered transactions that satisfy the 43(e)(2) Qualified mortgage defined— C. The remaining loan term as of March 1, requirements of a qualified mortgage under general. 2019, the date of the recast, which is exactly § 1026.43(e)(2), (e)(4), or (f). See Paragraph 43(e)(2)(i). 25 years (300 monthly payments). § 1026.43(e)(1)(i) and (ii) and associated 1. Regular periodic payments. Under v. Based on these assumptions, the commentary. § 1026.43(e)(2)(i), a qualified mortgage must monthly payment for the non-standard 43(e)(1)(i) Safe harbor for transactions that provide for regular periodic payments that mortgage for purposes of determining are not higher-priced covered transactions. may not result in an increase of the principal whether the standard mortgage monthly 1. Safe harbor. To qualify for the safe balance (negative amortization), deferral of payment is lower than the non-standard harbor in § 1026.43(e)(1)(i), a covered principal repayment, or a balloon payment. mortgage monthly payment (see transaction must meet the requirements of a Thus, the terms of the legal obligation must § 1026.43(d)(2)(ii)) is $1,769. This is the qualified mortgage under § 1026.43(e)(2), require the consumer to make payments of substantially equal, monthly payment of (e)(4), or (f) and must not be a higher-priced principal and interest, on a monthly or other principal and interest required to repay the covered transaction, as defined in periodic basis, that will fully repay the loan maximum loan amount at the fully indexed § 1026.43(b)(4). For guidance on determining amount over the loan term. The periodic rate over the remaining term. whether a loan is a higher-priced covered payments must be substantially equal except 43(d)(5)(ii) Standard mortgage. transaction, see comment 43(b)(4)–1. for the effect that any interest rate change 1. Payment calculation for a standard 43(e)(1)(ii) Presumption of compliance for after consummation has on the payment in mortgage. In determining whether the higher-priced covered transactions. the case of an adjustable-rate or step-rate monthly periodic payment for a standard 1. General. Under § 1026.43(e)(1)(ii), a mortgage. In addition, because mortgage is materially lower than the creditor or assignee of a qualified mortgage § 1026.43(e)(2)(i) requires that a qualified monthly periodic payment for a non-standard under § 1026.43(e)(2), (e)(4), or (f) that is a mortgage provide for regular periodic mortgage, the creditor must consider the higher-priced covered transaction is payments, a single-payment transaction may monthly payment for the standard mortgage presumed to comply with the repayment not be a qualified mortgage. that will result in substantially equal, ability requirements of § 1026.43(c). To rebut 2. Deferral of principal repayment. Under monthly, fully amortizing payments (as the presumption, it must be proven that, § 1026.43(e)(2)(i)(B), a qualified mortgage’s defined in § 1026.43(b)(2)) using the rate as despite meeting the standards for a qualified regular periodic payments may not allow the of consummation. For guidance regarding the mortgage (including either the debt-to- consumer to defer repayment of principal, meaning of ‘‘substantially equal’’ see income standard in § 1026.43(e)(2)(vi) or the except as provided in § 1026.43(f). A loan comment 43(c)(5)(i)–4. For a mortgage with a standards of one of the entities specified in allows the deferral of principal repayment if single, fixed rate for the first five years after § 1026.43(e)(4)(ii)), the creditor did not have one or more of the periodic payments may be consummation, the maximum rate that will a reasonable and good faith belief in the applied solely to accrued interest and not to apply during the first five years after consumer’s repayment ability. Specifically, it loan principal. Deferred principal repayment consummation will be the rate at must be proven that, at the time of also occurs if the payment is applied to both consummation. For a step-rate mortgage, consummation, based on the information accrued interest and principal but the however, the rate that must be used is the available to the creditor, the consumer’s consumer is permitted to make periodic highest rate that will apply during the first income, debt obligations, alimony, child payments that are less than the amount that five years after consummation. For example, support, and the consumer’s monthly would be required under a payment schedule if the rate for the first two years after the date payment (including mortgage-related that has substantially equal payments that on which the first regular periodic payment obligations) on the covered transaction and fully repay the loan amount over the loan will be due is 4 percent, the rate for the on any simultaneous loans of which the term. Graduated payment mortgages, for

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example, allow deferral of principal date of the 48th monthly payment; the rate maximum interest rate permitted during the repayment in this manner and therefore may can adjust to no more than 9 percent (7 first five years after the date on which the not be qualified mortgages. percent rate plus 2 percent annual interest first regular periodic payment will be due Paragraph 43(e)(2)(ii). rate adjustment cap). The third rate that repays either: 1. General. The 30-year term limitation in adjustment occurs on the due date of the 60th i. The outstanding principal balance as of § 1026.43(e)(2)(ii) is applied without regard monthly payment; the rate can adjust to no the earliest date the maximum interest rate to any interim period between consummation more than 11 percent (9 percent rate plus 2 during the first five years after the date on and the beginning of the first full unit period percent annual interest rate cap adjustment). which the first regular periodic payment will of the repayment schedule. For example, The maximum interest rate during the first be due can take effect under the terms of the assume a covered transaction is five years after the date on which the first legal obligation, over the remaining term of consummated on March 20, 2014 and the due regular periodic payment will be due is 11 the loan. To illustrate, assume a loan in an date of the first regular periodic payment is percent (the rate on the due date of the 60th amount of $200,000 has a 30-year loan term. April 30, 2014. The beginning of the first full monthly payment). For further discussion of The loan agreement provides for a unit period of the repayment schedule is how to determine whether a rate adjustment discounted interest rate of 5 percent that is April 1, 2014 and the loan term therefore occurs during the first five years after the fixed for an initial period of three years, ends on April 1, 2044. The transaction would date on which the first regular periodic measured from the first day of the first full comply with the 30-year term limitation in payment will be due, see comment calendar month following consummation, § 1026.43(e)(2)(ii). 43(e)(2)(iv)–7. after which the interest rate will adjust Paragraph 43(e)(2)(iv). ii. Adjustable-rate mortgage with discount annually based on a specified index plus a 1. Maximum interest rate during the first for three years. Assume the same facts as in margin of 3 percent, subject to a 2 percent five years. For a qualified mortgage, the paragraph 3.i except that the lifetime annual interest rate adjustment cap and a creditor must underwrite the loan using a maximum interest rate is 10 percent, which lifetime maximum interest rate of 9 percent. periodic payment of principal and interest is less than the maximum interest rate in the The index value in effect at consummation based on the maximum interest rate that may first five years after the date on which the equals 4.5 percent. Assuming the interest rate apply during the first five years after the date first regular periodic payment will be due of increases after consummation as quickly as on which the first regular periodic payment 11 percent that would apply but for the possible, the rate adjustment to the lifetime will be due. Creditors must use the maximum lifetime maximum interest rate. The maximum interest rate of 9 percent occurs on rate that could apply at any time during the maximum interest rate during the first five the due date of the 48th monthly payment. first five years after the date on which the years after the date on which the first regular The outstanding principal balance on the first regular periodic payment will be due, periodic payment will be due is 10 percent. loan at the end of the fourth year (after the regardless of whether the maximum rate is iii. Step-rate mortgage. Assume a step-rate 48th monthly payment is credited) is reached at the first or subsequent adjustment mortgage with an interest rate fixed at 6.5 $188,218. The creditor will meet the during the five year period. percent for the first two years, measured from definition of qualified mortgage if it 2. Fixed-rate mortgage. For a fixed-rate the first day of the first full calendar month underwrites the covered transaction using mortgage, creditors should use the interest following consummation, 7 percent for the the monthly payment of principal and rate in effect at consummation. ‘‘Fixed-rate next three years, and then 7.5 percent for the interest of $1,564 to repay the outstanding mortgage’’ is defined in § 1026.18(s)(7)(iii). remainder of the loan term. The maximum principal balance of $188,218 over the 3. Interest rate adjustment caps. For an interest rate during the first five years after remaining 26 years of the loan term (312 adjustable-rate mortgage, creditors should the date on which the first regular periodic months) using the maximum interest rate assume the interest rate increases after payment will be due is 7.5 percent. during the first five years of 9 percent; or consummation as rapidly as possible, taking 4. First five years after the date on which ii. The loan amount, as that term is defined into account the terms of the legal obligation. the first regular periodic payment will be in § 1026.43(b)(5), over the entire loan term, That is, creditors should account for any due. Under § 1026.43(e)(2)(iv)(A), the as that term is defined in § 1026.43(b)(6). periodic interest rate adjustment cap that creditor must underwrite the loan using the Using the same example above, the creditor may limit how quickly the interest rate can maximum interest rate that may apply during will meet the definition of qualified mortgage increase under the terms of the legal the first five years after the date on which the if it underwrites the covered transaction obligation. Where a range for the maximum first regular periodic payment will be due. To using the monthly payment of principal and interest rate during the first five years is illustrate, assume an adjustable-rate mortgage interest of $1,609 to repay the loan amount provided, the highest rate in that range is the with an initial fixed interest rate of 5 percent of $200,000 over the 30-year loan term using maximum interest rate for purposes of for the first five years, measured from the the maximum interest rate during the first § 1026.43(e)(2)(iv). Where the terms of the first day of the first full calendar month five years of 9 percent. legal obligation are not based on an index following consummation, after which the 6. Mortgage-related obligations. Section plus margin or formula, the creditor must use interest rate will adjust annually to the 1026.43(e)(2)(iv) requires creditors to take the the maximum interest rate that occurs during specified index plus a margin of 6 percent, consumer’s monthly payment for mortgage- the first five years after the date on which the subject to a 2 percent annual interest rate related obligations into account when first regular periodic payment will be due. To adjustment cap. The index value in effect at underwriting the loan. For the meaning of the illustrate: consummation is 5.5 percent. The loan term ‘‘mortgage-related obligations,’’ see i. Adjustable-rate mortgage with discount consummates on September 15, 2014, and § 1026.43(b)(8) and associated commentary. for three years. Assume an adjustable-rate the first monthly payment is due on 7. Examples. The following are examples mortgage has an initial discounted rate of 5 November 1, 2014. The first rate adjustment of how to determine the periodic payment of percent that is fixed for the first three years, to no more than 7 percent (5 percent plus 2 principal and interest based on the maximum measured from the first day of the first full percent annual interest rate adjustment cap) interest rate during the first five years after calendar month following consummation, occurs on the due date of the 60th monthly the date on which the first regular periodic after which the rate will adjust annually payment, which is October 1, 2019, and payment will be due for purposes of meeting based on a specified index plus a margin of therefore, the rate adjustment occurs during the definition of qualified mortgage under 3 percent. The index value in effect at the first five years after the date on which the § 1026.43(e) (all payment amounts shown are consummation is 4.5 percent. The loan first regular periodic payment will be due. To rounded, and all amounts are calculated agreement provides for an annual interest meet the definition of qualified mortgage using non-rounded values; all initial fixed rate adjustment cap of 2 percent, and a under § 1026.43(e)(2), the creditor must interest rate periods are measured from the lifetime maximum interest rate of 12 percent. underwrite the loan using a monthly first day of the first full calendar month The first rate adjustment occurs on the due payment of principal and interest based on following consummation): date of the 36th monthly payment; the rate an interest rate of 7 percent. i. Fixed-rate mortgage. A loan in an can adjust to no more than 7 percent (5 5. Loan amount. To meet the definition of amount of $200,000 has a 30-year loan term percent initial discounted rate plus 2 percent qualified mortgage under § 1026.43(e)(2), a and a fixed interest rate of 7 percent. The annual interest rate adjustment cap). The creditor must determine the periodic maximum interest rate during the first five second rate adjustment occurs on the due payment of principal and interest using the years after the date on which the first regular

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periodic payment will be due for a fixed-rate interest rate adjustment cap) is on April 1, underwrites the loan using a monthly mortgage is the interest rate in effect at 2019 (the due date of the 60th monthly payment of principal and interest of $1,388 consummation, which is 7 percent under this payment), which occurs less than five years to repay the outstanding principal balance of example. The monthly fully amortizing after the date on which the first regular $187,868 over the remaining 25 years of the payment scheduled over the 30 years is periodic payment will be due. Thus, the loan term (300 months), using the maximum $1,331. The creditor will meet the definition maximum interest rate under the terms of the interest rate during the first five years after of qualified mortgage if it underwrites the loan during the first five years after the date the date on which the first regular periodic loan using the fully amortizing payment of on which the first regular periodic payment payment will be due of 7.5 percent. $1,331. will be due is 8 percent. Alternatively, the transaction will meet the ii. Adjustable-rate mortgage with discount B. The transaction will meet the definition definition of a qualified mortgage if the for three years. A. A loan in an amount of of a qualified mortgage if the creditor creditor underwrites the loan using a $200,000 has a 30-year loan term. The loan underwrites the loan using the monthly monthly payment of principal and interest of agreement provides for a discounted interest payment of principal and interest of $1,436 $1,398 to repay $200,000 over the 30-year rate of 5 percent that is fixed for an initial to repay the outstanding principal balance at loan term using the maximum interest rate period of three years, after which the interest the end of the fifth year of $186,109 over the during the first five years after the date on rate will adjust annually based on a specified remaining 25 years of the loan term (300 which the first regular periodic payment will index plus a margin of 3 percent, subject to months), using the maximum interest rate be due of 7.5 percent. a 2 percent annual interest rate adjustment during the first five years after the date on Paragraph 43(e)(2)(v). cap and a lifetime maximum interest rate of which the first regular periodic payment will 1. General. For guidance on satisfying 9 percent. The index value in effect at be due of 8 percent. Alternatively, the § 1026.43(e)(2)(v), a creditor may rely on consummation is 4.5 percent. The loan is transaction will meet the definition of a commentary to § 1026.43(c)(2)(i) and (vi), consummated on March 15, 2014, and the qualified mortgage if the creditor underwrites (c)(3), and (c)(4). first regular periodic payment is due May 1, the loan using the monthly payment of 2. Income or assets. Section 2014. The loan agreement provides that the principal and interest of $1,468 to repay the 1026.43(e)(2)(v)(A) requires creditors to first rate adjustment occurs on April 1, 2017 loan amount of $200,000 over the 30-year consider and verify the consumer’s current or (the due date of the 36th monthly payment); loan term, using the maximum interest rate reasonably expected income or assets. For the second rate adjustment occurs on April during the first five years after the date on purposes of this requirement, the creditor 1, 2018 (the due date of the 48th monthly which the first regular periodic payment will must consider and verify, at a minimum, any payment); and the third rate adjustment be due of 8 percent. income specified in appendix Q. A creditor occurs on April 1, 2019 (the due date of the iv. Adjustable-rate mortgage with discount may also consider and verify any other 60th monthly payment). Under this example, for seven years. A. A loan in an amount of income in accordance with § 1026.43(c)(2)(i) $200,000 has a 30-year loan term. The loan the maximum interest rate during the first and (c)(4); however, such income would not agreement provides for a discounted interest five years after the date on which the first be included in the total monthly debt-to- rate of 6 percent that is fixed for an initial regular periodic payment due is 9 percent income ratio determination required by period of seven years, after which the interest (the lifetime interest rate cap), which applies § 1026.43(e)(2)(vi). rate will adjust annually based on a specified 3. Debts. Section 1026.43(e)(2)(v)(B) beginning on April 1, 2018 (the due date of index plus a margin of 3 percent, subject to requires creditors to consider and verify the the 48th monthly payment). The outstanding a 2 percent annual interest rate adjustment consumer’s current debt obligations, principal balance at the end of the fourth cap. The index value in effect at year (after the 48th payment is credited) is consummation is 4.5 percent. The loan is alimony, and child support. For purposes of $188,218. consummated on March 15, 2014, and the this requirement, the creditor must consider B. The transaction will meet the definition first regular periodic payment is due May 1, and verify, at a minimum, any debt or of a qualified mortgage if the creditor 2014. Under the terms of the loan agreement, liability specified in appendix Q. A creditor underwrites the loan using the monthly the first rate adjustment is on April 1, 2021 may also consider and verify other debt in payment of principal and interest of $1,564 (the due date of the 84th monthly payment), accordance with § 1026.43(c)(2)(vi) and to repay the outstanding principal balance at which occurs more than five years after the (c)(3); however, such debt would not be the end of the fourth year of $188,218 over date on which the first regular periodic included in the total monthly debt-to-income the remaining 26 years of the loan term (312 payment will be due. Thus, the maximum ratio determination required by months), using the maximum interest rate interest rate under the terms of the loan § 1026.43(e)(2)(vi). during the first five years after the date on during the first five years after the date on Paragraph 43(e)(2)(vi). which the first regular periodic payment will which the first regular periodic payment will 1. Calculation of monthly payment on the be due of 9 percent. Alternatively, the be due is 6 percent. covered transaction and simultaneous loans. transaction will meet the definition of a B. The transaction will meet the definition As provided in appendix Q, for purposes of qualified mortgage if the creditor underwrites of a qualified mortgage if the creditor § 1026.43(e)(2)(vi), creditors must include in the loan using the monthly payment of underwrites the loan using the monthly the definition of ‘‘debt’’ a consumer’s principal and interest of $1,609 to repay the payment of principal and interest of $1,199 monthly housing expense. This includes, for loan amount of $200,000 over the 30-year to repay the loan amount of $200,000 over example, the consumer’s monthly payment loan term, using the maximum interest rate the 30-year loan term using the maximum on the covered transaction (including during the first five years after the date on interest rate during the first five years after mortgage-related obligations) and on which the first regular periodic payment will the date on which the first regular periodic simultaneous loans. Accordingly, be due of 9 percent. payment will be due of 6 percent. § 1026.43(e)(2)(vi)(B) provides the method by iii. Adjustable-rate mortgage with discount iv. Step-rate mortgage. A. A loan in an which a creditor calculates the consumer’s for five years. A. A loan in an amount of amount of $200,000 has a 30-year loan term. monthly payment on the covered transaction $200,000 has a 30-year loan term. The loan The loan agreement provides that the interest and on any simultaneous loan that the agreement provides for a discounted interest rate is 6.5 percent for the first two years of creditor knows or has reason to know will be rate of 6 percent that is fixed for an initial the loan, 7 percent for the next three years, made. period of five years, after which the interest and then 7.5 percent for remainder of the 43(e)(3) Limits on points and fees for rate will adjust annually based on a specified loan term. The maximum interest rate during qualified mortgages. index plus a margin of 3 percent, subject to the first five years after the date on which the Paragraph 43(e)(3)(i). a 2 percent annual interest rate adjustment first regular periodic payment will be due is 1. Total loan amount. The term ‘‘total loan cap. The index value in effect at 7.5 percent, which occurs on the due date of amount’’ is defined in § 1026.32(b)(4)(i). For consummation is 4.5 percent. The loan the 60th monthly payment. The outstanding an explanation of how to calculate the ‘‘total consummates on March 15, 2014 and the first principal balance at the end of the fifth year loan amount’’ under § 1026.43(e)(3)(i), see regular periodic payment is due May 1, 2014. (after the 60th payment is credited) is comment 32(b)(4)(i)–1. Under the terms of the loan agreement, the $187,868. 2. Calculation of allowable points and fees. first rate adjustment to no more than 8 B. The transaction will meet the definition A creditor must determine which category percent (6 percent plus 2 percent annual of a qualified mortgage if the creditor the loan falls into based on the face amount

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of the note (the ‘‘loan amount’’ as defined in the allowable total points and fees for this 4. Eligible for purchase, guarantee, or § 1026.43(b)(5)). For categories with a loan are 8 percent of $7,000, or $560. insurance. To satisfy § 1026.43(e)(4)(ii), a percentage limit, the creditor must apply the Paragraph 43(e)(3)(ii). loan need not be actually purchased or allowable points and fees percentage to the 1. Annual adjustment for inflation. The guaranteed by Fannie Mae or Freddie Mac or ‘‘total loan amount,’’ which may be different dollar amounts, including the loan amounts, insured or guaranteed by the U.S. than the loan amount. A creditor must in § 1026.43(e)(3)(i) will be adjusted annually Department of Housing and Urban calculate the allowable amount of points and on January 1 by the annual percentage Development, U.S. Department of Veterans fees for a qualified mortgage as follows: change in the CPI–U that was in effect on the Affairs, U.S. Department of Agriculture, or i. First, the creditor must determine the preceding June 1. The Bureau will publish Rural Housing Service. Rather, ‘‘tier’’ into which the loan falls based on the adjustments after the June figures become § 1026.43(e)(4)(ii) requires only that the loan loan amount. The loan amount is the available each year. be eligible (i.e., meet the criteria) for such principal amount the consumer will borrow, 43(e)(4) Qualified mortgage defined— purchase, guarantee, or insurance. For as reflected in the promissory note or loan special rules. example, for purposes of § 1026.43(e)(4), a contract. See § 1026.43(b)(5). For example, if 1. Alternative definition. Subject to the creditor is not required to sell a loan to the loan amount is $55,000, the loan falls sunset provided under § 1026.43(e)(4)(iii), Fannie Mae or Freddie Mac (or any limited- into the tier for loans greater than or equal § 1026.43(e)(4) provides an alternative life regulatory entity succeeding the charter to $20,000 but less than $60,000, to which a definition of qualified mortgage to the of either) to be a qualified mortgage; 5 percent cap on points and fees applies. For definition provided in § 1026.43(e)(2). To be however, the loan must be eligible for tiers with a prescribed dollar limit on points a qualified mortgage under § 1026.43(e)(4), purchase or guarantee by Fannie Mae or and fees (e.g., for loans from $60,000 up to the creditor must satisfy the requirements Freddie Mac (or any limited-life regulatory $100,000, the limit is $3,000), the creditor under § 1026.43(e)(2)(i) through (iii), in entity succeeding the charter of either), does not need to do any further calculations. addition to being one of the types of loans including satisfying any requirements ii. Second, for tiers with a percentage limit, specified in § 1026.43(e)(4)(ii)(A) through (E). regarding consideration and verification of a the creditor must determine the total loan 2. Termination of conservatorship. Section consumer’s income or assets, credit history, amount based on the calculation for the total 1026.43(e)(4)(ii)(A) requires that a covered and debt-to-income ratio or residual income. loan amount under comment 32(b)(4)(i)–1. If transaction be eligible for purchase or To determine eligibility, a creditor may rely the loan amount is $55,000, for example, the guarantee by the Federal National Mortgage on an underwriting recommendation total loan amount may be a different amount, Association (‘‘Fannie Mae’’) or the Federal provided by Fannie Mae or Freddie Mac’s such as $52,000. Home Loan Mortgage Corporation (‘‘Freddie Automated Underwriting Systems (AUSs) or iii. Third, the creditor must apply the Mac’’) (or any limited-life regulatory entity written guide in effect at the time. percentage cap on points and fees to the total succeeding the charter of either) operating Accordingly, a covered transaction is eligible under the conservatorship or receivership of loan amount. For example, for a loan of for purchase or guarantee by Fannie Mae or the Federal Housing Finance Agency $55,000 where the total loan amount is Freddie Mac if: pursuant to section 1367 of the Federal $52,000, the allowable points and fees are 5 i. The loan conforms to the standards set Housing Enterprises Financial Safety and percent of $52,000, or $2,600. forth in the Fannie Mae Single-Family Soundness Act of 1992 (12 U.S.C. 4617). The Selling Guide or the Freddie Mac Single- 3. Sample determination of allowable special rule under § 1026.43(e)(4)(ii)(A) does Family Seller/Servicer Guide; or points and fees. not apply if Fannie Mae or Freddie Mac (or ii. The loan receives one of the following i. A covered transaction with a loan any limited-life regulatory entity succeeding amount of $105,000 falls into the first points the charter of either) has ceased operating recommendations from the corresponding and fees tier, to which a points and fees cap under the conservatorship or receivership of automated underwriting system: of 3 percent of the total loan amount applies. the Federal Housing Finance Agency. For A. An ‘‘Approve/Eligible’’ See § 1026.43(e)(3)(i)(A). Therefore, if the example, if either Fannie Mae or Freddie Mac recommendation from Desktop Underwriter calculation under comment 32(b)(4)(i)–1 (or succeeding limited-life regulatory entity) (DU); or results in a total loan amount of $102,000, ceases to operate under the conservatorship B. An ‘‘Accept and Eligible to Purchase’’ then the allowable total points and fees for or receivership of the Federal Housing recommendation from Loan Prospector (LP). this loan are 3 percent of $102,000, or $3,060. Finance Agency, § 1026.43(e)(4)(ii)(A) would 43(f) Balloon-Payment qualified mortgages ii. A covered transaction with a loan no longer apply to loans eligible for purchase made by certain creditors. amount of $75,000 falls into the second or guarantee by that entity; however, the 43(f)(1) Exemption. points and fees tier, to which a points and special rule would be available for a loan that Paragraph 43(f)(1)(i). fees cap of $3,000 applies. See is eligible for purchase or guarantee by the 1. Satisfaction of qualified mortgage § 1026.43(e)(3)(i)(B). The allowable total other entity still operating under requirements. Under § 1026.43(f)(1)(i), for a points and fees for this loan are $3,000, conservatorship or receivership. mortgage that provides for a balloon payment regardless of the total loan amount. 3. Timing. Under § 1026.43(e)(4)(iii), the to be a qualified mortgage, the mortgage must iii. A covered transaction with a loan definition of qualified mortgage under satisfy the requirements for a qualified amount of $50,000 falls into the third points paragraph (e)(4) applies only to loans mortgage in paragraphs (e)(2)(i)(A), (e)(2)(ii), and fees tier, to which a points and fees cap consummated on or before January 10, 2021, (iii), and (v). Therefore, a covered transaction of 5 percent of the total loan amount applies. regardless of whether Fannie Mae or Freddie with balloon payment terms must provide for See § 1026.43(e)(3)(i)(C). Therefore, if the Mac (or any limited-life regulatory entity regular periodic payments that do not result calculation under comment 32(b)(4)(i)–1 succeeding the charter of either) continues to in an increase of the principal balance, results in a total loan amount of $48,000, operate under the conservatorship or pursuant to § 1026.43(e)(2)(i)(A); must have a then the allowable total points and fees for receivership of the Federal Housing Finance loan term that does not exceed 30 years, this loan are 5 percent of $48,000, or $2,400. Agency. Accordingly, § 1026.43(e)(4) is pursuant to § 1026.43(e)(2)(ii); must have iv. A covered transaction with a loan available only for covered transactions total points and fees that do not exceed amount of $15,000 falls into the fourth points consummated on or before the earlier of specified thresholds pursuant to and fees tier, to which a points and fees cap either: § 1026.43(e)(2)(iii); and must satisfy the of $1,000 applies. See § 1026.43(e)(3)(i)(D). i. The date Fannie Mae or Freddie Mac (or consideration and verification requirements The allowable total points and fees for this any limited-life regulatory entity succeeding in § 1026.43(e)(2)(v). loan are $1,000, regardless of the total loan the charter of either), respectively, cease to Paragraph 43(f)(1)(ii). amount. operate under the conservatorship or 1. Example. Under § 1026.43(f)(1)(ii), if a v. A covered transaction with a loan receivership of the Federal Housing Finance qualified mortgage provides for a balloon amount of $10,000 falls into the fifth points Agency pursuant to section 1367 of the payment, the creditor must determine that and fees tier, to which a points and fees cap Federal Housing Enterprises Financial Safety the consumer is able to make all scheduled of 8 percent of the total loan amount applies. and Soundness Act of 1992 (12 U.S.C. 4617); payments under the legal obligation other See § 1026.43(e)(3)(i)(E). Therefore, if the or than the balloon payment. For example, calculation under comment 32(b)(4)(i)–1 ii. January 10, 2021, as provided by assume a loan in an amount of $200,000 that results in a total loan amount of $7,000, then § 1026.43(e)(4)(iii). has a five-year loan term, but is amortized

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over 30 years. The loan agreement provides means that the scheduled payments need to during 2013, the creditor meets this element for a fixed interest rate of 6 percent. The loan be similar, but need not be equal. For further of the exception in 2014 if at least 46 of those consummates on March 3, 2014, and the guidance on substantially equal payments, transactions are secured by first liens on monthly payment of principal and interest see comment 43(c)(5)(i)–4. properties located in one or more counties scheduled for the first five years is $1,199, 3. Interest-only payments. A mortgage that that are on the Bureau’s lists for 2013. with the first monthly payment due on April only requires the payment of accrued interest ii. During the preceding calendar year, the 1, 2014. The balloon payment of $187,308 is each month does not meet the requirements creditor together with its affiliates originated required on the due date of the 60th monthly of § 1026.43(f)(1)(iv)(A). 500 or fewer first-lien covered transactions, payment, which is April 1, 2019. The loan Paragraph 43(f)(1)(v). as defined by § 1026.43(b)(1), to satisfy the can be a qualified mortgage if the creditor 1. Forward commitments. A creditor may requirement of § 1026.35(b)(2)(iii)(B). underwrites the loan using the scheduled make a mortgage loan that will be transferred iii. As of the end of the preceding calendar principal and interest payment of $1,199, or sold to a purchaser pursuant to an year, the creditor had total assets that do not plus the consumer’s monthly payment for all agreement that has been entered into at or exceed the current asset threshold mortgage-related obligations, and satisfies the before the time the transaction is established by the Bureau, to satisfy the other criteria set forth in § 1026.43(f). consummated. Such an agreement is requirement of § 1026.35(b)(2)(iii)(C). For 2. Creditor’s determination. A creditor sometimes known as a ‘‘forward calendar year 2013, the asset threshold was must determine that the consumer is able to commitment.’’ A balloon-payment mortgage $2,000,000,000. make all scheduled payments other than the that will be acquired by a purchaser pursuant 43(f)(2) Post-consummation transfer of balloon payment to satisfy § 1026.43(f)(1)(ii), to a forward commitment does not satisfy the balloon-payment qualified mortgage. in accordance with the legal obligation, requirements of § 1026.43(f)(1)(v), whether 1. Requirement to hold in portfolio. together with the consumer’s monthly the forward commitment provides for the Creditors generally must hold a balloon- payments for all mortgage-related obligations purchase and sale of the specific transaction payment qualified mortgage in portfolio to and excluding the balloon payment, to meet or for the purchase and sale of transactions maintain the transaction’s status as a the repayment ability requirements of with certain prescribed criteria that the qualified mortgage under § 1026.43(f)(1), § 1026.43(f)(1)(ii). A creditor satisfies transaction meets. However, a purchase and subject to four exceptions. Unless one of § 1026.43(f)(1)(ii) if it uses the maximum sale of a balloon-payment qualified mortgage these exceptions applies, a balloon-payment payment in the payment schedule, excluding to another person that separately meets the qualified mortgage is no longer a qualified any balloon payment, to determine if the requirements of § 1026.43(f)(1)(vi) is mortgage under § 1026.43(f)(1) once legal title consumer has the ability to make the permitted. For example: assume a creditor to the debt obligation is sold, assigned, or scheduled payments. that meets the requirements of otherwise transferred to another person. Accordingly, unless one of the exceptions Paragraph 43(f)(1)(iii). § 1026.43(f)(1)(vi) makes a balloon-payment applies, the transferee could not benefit from 1. Debt-to-income or residual income. A mortgage that meets the requirements of the presumption of compliance for qualified creditor must consider and verify the § 1026.43(f)(1)(i) through (iv); if the balloon- mortgages under § 1026.43(f)(1) unless the consumer’s monthly debt-to-income ratio or payment mortgage meets the purchase loan also met the requirements of another residual income to meet the requirements of criteria of an investor with which the creditor qualified mortgage definition. § 1026.43(f)(1)(iii). To calculate the has an agreement to sell such loans after 2. Application to subsequent transferees. consumer’s monthly debt-to-income or consummation, then the balloon-payment The exceptions contained in § 1026.43(f)(2) residual income for purposes of mortgage does not meet the definition of a apply not only to an initial sale, assignment, § 1026.43(f)(1)(iii), the creditor may rely on qualified mortgage in accordance with or other transfer by the originating creditor the definitions and calculation rules in § 1026.43(f)(1)(v). However, if the investor but to subsequent sales, assignments, and § 1026.43(c)(7) and its accompanying meets the requirement of § 1026.43(f)(1)(vi), other transfers as well. For example, assume commentary, except for the calculation rules the balloon-payment qualified mortgage Creditor A originates a qualified mortgage for a consumer’s total monthly debt retains its qualified mortgage status. under § 1026.43(f)(1). Six months after obligations (which is a component of debt-to- Paragraph 43(f)(1)(vi). consummation, Creditor A sells the qualified income and residual income under 1. Creditor qualifications. Under mortgage to Creditor B pursuant to § 1026.43(c)(7)). For purposes of calculating § 1026.43(f)(1)(vi), to make a qualified § 1026.43(f)(2)(ii) and the loan retains its the consumer’s total monthly debt mortgage that provides for a balloon qualified mortgage status because Creditor B obligations under § 1026.43(f)(1)(iii), the payment, the creditor must satisfy three complies with the limits on operating creditor must calculate the monthly payment criteria that are also required under predominantly in rural or underserved areas, on the covered transaction using the payment § 1026.35(b)(2)(iii)(A), (B) and (C), which asset size, and number of transactions. If calculation rules in § 1026.43(f)(1)(iv)(A), require: Creditor B sells the qualified mortgage, it will together with all mortgage-related obligations i. During the preceding calendar year, the lose its qualified mortgage status under and excluding the balloon payment. creditor extended over 50 percent of its total § 1026.43(f)(1) unless the sale qualifies for Paragraph 43(f)(1)(iv). first-lien covered transactions, as defined in one of the § 1026.43(f)(2) exceptions for sales 1. Scheduled payments. Under § 1026.43(b)(1), on properties that are located three or more years after consummation, to § 1026.43(f)(1)(iv)(A), the legal obligation in counties that are designated either ‘‘rural’’ another qualifying institution, as required by must provide that scheduled payments must or ‘‘underserved,’’ as defined in supervisory action, or pursuant to a merger be substantially equal and determined using § 1026.35(b)(2)(iv), to satisfy the requirement or acquisition. an amortization period that does not exceed of § 1026.35(b)(2)(iii)(A). Pursuant to Paragraph 43(f)(2)(i). 30 years. Balloon payments often result when § 1026.35(b)(2)(iv), a county is considered to 1. Transfer three years after the periodic payment would fully repay the be rural if it is neither in a metropolitan consummation. Under § 1026.43(f)(2)(i), if a loan amount only if made over some period statistical area, nor a micropolitan statistical balloon-payment qualified mortgage under that is longer than the loan term. For area adjacent to a metropolitan statistical § 1026.43(f)(1) is sold, assigned, or otherwise example, a loan term of 10 years with area, as those terms are defined by the U.S. transferred three years or more after periodic payments based on an amortization Office of Management and Budget. A county consummation, the balloon-payment period of 20 years would result in a balloon is considered to be underserved if no more qualified mortgage retains its status as a payment being due at the end of the loan than two creditors extend covered qualified mortgage under § 1026.43(f)(1) term. Whatever the loan term, the transactions secured by a first lien five or following the sale. The transferee need not be amortization period used to determine the more times in that county during a calendar eligible to originate qualified mortgages scheduled periodic payments that the year. The Bureau determines annually which under § 1026.43(f)(1)(vi). The balloon- consumer must pay under the terms of the counties in the United States are rural or payment qualified mortgage will continue to legal obligation may not exceed 30 years. underserved and publishes on its public Web be a qualified mortgage throughout its life, 2. Substantially equal. The calculation of site lists of those counties to enable creditors and the transferee, and any subsequent payments scheduled by the legal obligation to determine whether they meet this transferees, may invoke the presumption of under § 1026.43(f)(1)(iv)(A) are required to criterion. Thus, for example, if a creditor compliance for qualified mortgages under result in substantially equal amounts. This originated 90 first-lien covered transactions § 1026.43(f)(1).

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Paragraph 43(f)(2)(ii). acquires another person regardless of not know that a consumer intends to buy 1. Transfer to another qualifying creditor. whether the creditor or its successor is single-premium credit unemployment Under § 1026.43(f)(2)(ii), a balloon-payment eligible to originate new balloon-payment insurance, which would be included in the qualified mortgage under § 1026.43(f)(1) may qualified mortgages under § 1026.43(f)(1) points and fees for the covered transaction. be sold, assigned, or otherwise transferred at after the merger or acquisition. However, the The points and fees condition under any time to another creditor that meets the creditor or its successor can originate new § 1026.43(g)(3)(iv) is satisfied if a creditor requirements of § 1026.43(f)(1)(vi). That balloon-payment qualified mortgages under reasonably believes, based on information section requires that a creditor: (1) Operate § 1026.43(f)(1) only if it complies with all of known to the creditor at the time the offer is predominantly in a rural or underserved area the requirements of § 1026.43(f)(1) after the made, that the amount of points and fees to during the preceding calendar year; (2) merger or acquisition. For example, assume be charged for an alternative covered during the preceding calendar year, together a small creditor that originates 250 first-lien transaction without a prepayment penalty with all affiliates, originated 500 or fewer covered transactions each year and originates will be less than or equal to the amount of first-lien covered transactions; and (3) had balloon-payment qualified mortgages under points and fees allowed for a qualified total assets less than $2 billion (as adjusted § 1026.43(f)(1) is acquired by a larger creditor mortgage under § 1026.43(e)(2)(iii). for inflation) at the end of the preceding that originates 10,000 first-lien covered Paragraph 43(g)(3)(v). calendar year. A balloon-payment qualified transactions each year. Following the 1. Transactions for which the consumer mortgage under § 1026.43(f)(1) transferred to acquisition, the small creditor would no likely qualifies. Under § 1026.43(g)(3)(v), the a creditor that meets these criteria would longer be able to originate balloon-payment alternative covered transaction without a retain its qualified mortgage status even if it qualified mortgages because, together with its prepayment penalty the creditor must offer is transferred less than three years after affiliates, it would originate more than 500 under § 1026.43(g)(3) must be a transaction consummation. first-lien covered transactions each year. for which the creditor has a good faith belief Paragraph 43(f)(2)(iii). However, the balloon-payment qualified the consumer likely qualifies. For example, 1. Supervisory sales. Section mortgages originated by the small creditor assume the creditor has a good faith belief 1026.43(f)(2)(iii) facilitates sales that are before the acquisition would retain their the consumer can afford monthly payments deemed necessary by supervisory agencies to qualified mortgage status. of up to $800. If the creditor offers the revive troubled creditors and resolve failed 43(g) Prepayment penalties. consumer a fixed-rate mortgage with a creditors. A balloon-payment qualified 43(g)(2) Limits on prepayment penalties. prepayment penalty for which monthly mortgage under § 1026.43(f)(1) retains its 1. Maximum period and amount. Section payments are $700 and an alternative qualified mortgage status if it is sold, 1026.43(g)(2) establishes the maximum covered transaction without a prepayment assigned, or otherwise transferred to another period during which a prepayment penalty penalty for which monthly payments are person pursuant to: (1) A capital restoration may be imposed and the maximum amount $900, the requirements of § 1026.43(g)(3)(v) plan or other action under 12 U.S.C. 1831o; of the prepayment penalty. A covered are not met. The creditor’s belief that the (2) the actions or instructions of any person transaction may include a prepayment consumer likely qualifies for the covered acting as conservator, receiver, or bankruptcy penalty that may be imposed during a shorter transaction without a prepayment penalty trustee; (3) an order of a State or Federal period or in a lower amount than provided should be based on the information known government agency with jurisdiction to under § 1026.43(g)(2). For example, a covered to the creditor at the time the creditor offers examine the creditor pursuant to State or transaction may include a prepayment the transaction. In making this Federal law; or (4) an agreement between the penalty that may be imposed for two years determination, the creditor may rely on creditor and such an agency. A balloon- after consummation and that equals 1 percent information provided by the consumer, even payment qualified mortgage under of the amount prepaid in each of those two if the information subsequently is § 1026.43(f)(1) that is sold, assigned, or years. determined to be inaccurate. otherwise transferred under these 43(g)(3) Alternative offer required. 43(g)(4) Offer through a mortgage broker. circumstances retains its qualified mortgage Paragraph 43(g)(3)(i). 1. Rate sheet. Under § 1026.43(g)(4), where status regardless of how long after 1. Same type of interest rate. Under the creditor offers covered transactions with consummation it is sold and regardless of the § 1026.43(g)(3)(i), if a creditor offers a a prepayment penalty to consumers through size or other characteristics of the transferee. consumer a covered transaction with a a mortgage broker, as defined in Section 1026.43(f)(2)(iii) does not apply to prepayment penalty, the creditor must offer § 1026.36(a)(2), the creditor must present the transfers done to comply with a generally the consumer an alternative covered mortgage broker an alternative covered applicable regulation with future effect transaction without a prepayment penalty transaction that satisfies the requirements of designed to implement, interpret, or and with an annual percentage rate that § 1026.43(g)(3). Creditors may comply with prescribe law or policy in the absence of a cannot increase after consummation. Under this requirement by providing a rate sheet to specific order by or a specific agreement with § 1026.43(g)(3)(i), if the covered transaction the mortgage broker that states the terms of a governmental agency described in with a prepayment penalty is a fixed-rate such an alternative covered transaction § 1026.43(f)(2)(iii) directing the sale of one or mortgage, as defined in § 1026.18(s)(7)(iii), without a prepayment penalty. more qualified mortgages under then the alternative covered transaction 2. Alternative to creditor’s offer. Section § 1026.43(f)(1) held by the creditor or one of without a prepayment penalty must also be 1026.43(g)(4)(ii) requires that the creditor the other circumstances listed in a fixed-rate mortgage. Likewise, if the provide, by agreement, for the mortgage § 1026.43(f)(2)(iii). For example, a balloon- covered transaction with a prepayment broker to present the consumer an alternative payment qualified mortgage under penalty is a step-rate mortgage, as defined in covered transaction that satisfies the § 1026.43(f)(1) that is sold pursuant to a § 1026.18(s)(7)(ii), then the alternative requirements of § 1026.43(g)(3) offered by capital restoration plan under 12 U.S.C. covered transaction without a prepayment either the creditor or by another creditor, if 1831o would retain its status as a qualified penalty must also be a step-rate mortgage. the other creditor offers a covered transaction mortgage following the sale. However, if the Paragraph 43(g)(3)(iv). with a lower interest rate or a lower total creditor simply chose to sell the same 1. Points and fees. Whether or not an dollar amount of discount points and qualified mortgage as one way to comply alternative covered transaction without a origination points or fees. The agreement with general regulatory capital requirements prepayment penalty satisfies the points and may provide for the mortgage broker to in the absence of supervisory action or fees conditions for a qualified mortgage is present both the creditor’s covered agreement it would lose its status as a determined based on the information known transaction and an alternative covered qualified mortgage following the sale unless to the creditor at the time the creditor offers transaction offered by another creditor with it qualifies under another definition of the consumer the transaction. At the time a a lower interest rate or a lower total dollar qualified mortgage. creditor offers a consumer an alternative amount of origination discount points and Paragraph 43(f)(2)(iv). covered transaction without a prepayment points or fees. See comment 36(e)(3)–3 for 1. Mergers and acquisitions. A qualified penalty under § 1026.43(g)(3), the creditor guidance in determining which step-rate mortgage under § 1026.43(f)(1) retains its may know the amount of some, but not all, mortgage has a lower interest rate. qualified mortgage status if a creditor merges of the points and fees that will be charged for 3. Agreement. The creditor’s agreement with, is acquired by another person, or the transaction. For example, a creditor may with a mortgage broker for purposes of

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§ 1026.43(g)(4) may be part of another 2. Lower interest rate. Under 1. Subject to closed-end credit rules. Where agreement with the mortgage broker, for § 1026.43(g)(5), a creditor that is a loan a creditor documents a loan as open-end example, a compensation agreement. Thus, originator must present an alternative credit but the features and terms, or other the creditor need not enter into a separate covered transaction without a prepayment circumstances, demonstrate that the loan agreement with the mortgage broker with penalty that satisfies the requirements of does not meet the definition of open-end respect to each covered transaction with a § 1026.43(g)(3) offered by either the assignee credit in § 1026.2(a)(20), the loan is subject to the rules for closed-end credit, including prepayment penalty. for the covered transaction or another person, § 1026.43. 43(g)(5) Creditor that is a loan originator. if that other person offers a transaction with 1. Loan originator. The definition of ‘‘loan a lower interest rate or a lower total dollar Dated: January 10, 2013. originator’’ in § 1026.36(a)(1) applies for amount of origination points or fees or Richard Cordray, purposes of § 1026.43(g)(5). Thus, a loan originator includes any creditor that satisfies discount points. See comment 36(e)(3)–3 for Director, Bureau of Consumer Financial the definition of loan originator but makes guidance in determining which step-rate Protection. use of ‘‘table-funding’’ by a third party. See mortgage has a lower interest rate. [FR Doc. 2013–00736 Filed 1–16–13; 11:15 am] comment 36(a)–1.i and ii. 43(h) Evasion; open-end credit. BILLING CODE 4810–AM–P

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