Wednesday, July 30, 2008

Part III

Federal Reserve System 12 CFR Part 226 Truth in Lending; Final Rule

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FEDERAL RESERVE SYSTEM FOR FURTHER INFORMATION CONTACT: C. Servicing Abuses—§ 226.36(c) Kathleen C. Ryan or Dan S. Sokolov, D. Coverage—§ 226.36(d) 12 CFR Part 226 Counsels; Paul Mondor, Senior XI. Advertising Attorney; Jamie Z. Goodson, Brent A. Advertising Rules for Open-End Home- [Regulation Z; Docket No. R–1305] Equity Plans—§ 226.16 Lattin, Jelena McWilliams, Dana E. B. Advertising Rules for Closed-End Truth in Lending Miller, or Nikita M. Pastor, Attorneys; Credit)—§ 226.24 Division of Consumer and Community XII. Mortgage Loan Disclosures AGENCY: Board of Governors of the Affairs, Board of Governors of the A. Early Mortgage Loan Disclosures— Federal Reserve System. Federal Reserve System, Washington, § 226.19 ACTION: Final rule; official staff DC 20551, at (202) 452–2412 or (202) B. Plans To Improve Disclosure commentary. 452–3667. For users of XIII. Mandatory Compliance Dates Telecommunications Device for the Deaf XIV. Paperwork Reduction Act SUMMARY: The Board is publishing final (TDD) only, contact (202) 263–4869. XV. Regulatory Flexibility Analysis rules amending Regulation Z, which SUPPLEMENTARY INFORMATION: I. Summary of Final Rules implements the Truth in Lending Act I. Summary of Final Rules and Home Ownership and Equity On January 9, 2008, the Board A. Rules To Prevent Unfairness, Deception, published proposed rules that would Protection Act. The goals of the and Abuse amendments are to protect consumers in B. Revisions To Improve Mortgage amend Regulation Z, which implements the mortgage market from unfair, Advertising the Truth in Lending Act (TILA) and the abusive, or deceptive lending and C. Requirement To Give Consumers Home Ownership and Equity Protection servicing practices while preserving Disclosures Early Act (HOEPA). 73 FR 1672. The Board is responsible lending and sustainable II. Consumer Protection Concerns in the publishing final amendments to Subprime Market homeownership; ensure that Regulation Z to establish new regulatory A. Recent Problems in the Mortgage Market protections for consumers in the advertisements for mortgage loans B. Market Imperfections That Can provide accurate and balanced residential mortgage market. The goals Facilitate Abusive and Unaffordable of the amendments are to protect information and do not contain Loans misleading or deceptive representations; III. The Board’s HOEPA Hearings consumers in the mortgage market from and provide consumers transaction- A. Home Ownership and Equity Protection unfair, abusive, or deceptive lending specific disclosures early enough to use Act (HOEPA) and servicing practices while preserving while shopping for a mortgage. The final B. Summary of 2006 Hearings responsible lending and sustainable rule applies four protections to a newly- C. Summary of June 2007 Hearing homeownership; ensure that D. Congressional Hearings defined category of higher-priced advertisements for mortgage loans IV. Interagency Supervisory Guidance provide accurate and balanced mortgage loans secured by a consumer’s V. Legal Authority principal dwelling, including a information and do not contain A. The Board’s Authority Under TILA misleading or deceptive representations; prohibition on lending based on the Section 129(l)(2) collateral without regard to consumers’ B. The Board’s Authority Under TILA and provide consumers transaction- ability to repay their obligations from Section 105(a) specific disclosures early enough to use income, or from other sources besides VI. The Board’s Proposal while shopping for mortgage loans. the collateral. The revisions apply two A. Proposals To Prevent Unfairness, A. Rules To Prevent Unfairness, new protections to mortgage loans Deception, and Abuse B. Proposals To Improve Mortgage Deception, and Abuse secured by a consumer’s principal Advertising The Board is publishing seven new dwelling regardless of loan price, C. Proposal To Give Consumers restrictions or requirements for including a prohibition on abusive Disclosures Early mortgage lending and servicing servicing practices. The Board is also VII. Overview of Comments Received intended to protect consumers against finalizing rules requiring that VIII. Definition of ‘‘Higher-Priced Mortgage unfairness, deception, and abuse while advertisements provide accurate and Loan’’—§ 226.35(a) preserving responsible lending and balanced information, in a clear and A. Overview sustainable homeownership. The conspicuous manner, about rates, B. Public Comment on the Proposal restrictions are adopted under TILA monthly payments, and other loan C. General Approach D. Index for Higher-Priced Mortgage Loans Section 129(l)(2), which authorizes the features. The advertising rules ban E. Threshold for Higher-Priced Mortgage Board to prohibit unfair or deceptive several deceptive or misleading Loans practices in connection with mortgage advertising practices, including F. The Timing of Setting the Threshold loans, as well as to prohibit abusive representations that a rate or payment is G. Proposal To Conform Regulation C practices or practices not in the interest ‘‘fixed’’ when it can change. Finally, the (HMDA) of the borrower in connection with revisions require creditors to provide H. Types of Loans Covered Under § 226.35 refinancings. 15 U.S.C. 1639(l)(2). Some consumers with transaction-specific IX. Final Rules for Higher-Priced Mortgage of the restrictions apply only to higher- mortgage loan disclosures within three Loans and HOEPA Loans priced mortgage loans, while others business days after application and A. Overview B. Disregard of Consumer’s Ability To apply to all mortgage loans secured by before they pay any fee except a Repay—§§ 226.34(a)(4) and 226.35(b)(1) a consumer’s principal dwelling. reasonable fee for reviewing credit C. Prepayment Penalties—§ 226.32(d)(6) history. and (7); § 226.35(b)(2) Protections Covering Higher-Priced DATES: This final rule is effective on D. Escrows for Taxes and Insurance— Mortgage Loans October 1, 2009, except for § 226.35(b)(3) The Board is finalizing four E. Evasion Through Spurious Open-End § 226.35(b)(3)) which is effective on Credit—§ 226.35(b)(4) protections for consumers receiving April 1, 2010. See part XIII, below, X. Final Rules for Mortgage Loans—§ 226.36 higher-priced mortgage loans. These regarding mandatory compliance with A. Creditor Payments to Mortgage loans are defined as consumer-purpose, § 226.35(b)(3) on mortgages secured by Brokers—§ 226.36(a) closed-end loans secured by a manufactured housing. B. Coercion of Appraisers—§ 226.36(b) consumer’s principal dwelling and

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having an annual percentage rate (APR) are, or are not, unfair or deceptive adopted under the Board’s authorities that exceeds the average prime offer before the effective date of this rule. to: adopt regulations to ensure rates for a comparable transaction Unfair acts or practices can be consumers are informed about and can published by the Board by at least 1.5 addressed through case-by-case shop for credit; require that information, percentage points for first-lien loans, or enforcement actions against specific including the information required for 3.5 percentage points for subordinate- institutions, through regulations advertisements for closed-end credit, be lien loans. For higher-priced mortgage applying to all institutions, or both. A disclosed in a clear and conspicuous loans, the final rules: regulation is prospective and applies to manner; and regulate advertisements of Æ Prohibit creditors from extending the market as a whole, drawing bright open-end home-equity plans secured by credit without regard to a consumer’s lines that distinguish broad categories of the consumer’s principal dwelling. See ability to repay from sources other than conduct. By contrast, an enforcement TILA Section 105(a), 15 U.S.C. 1604(a); the collateral itself; action concerns a specific institution’s TILA Section 122, 15 U.S.C. 1632; TILA Æ Require creditors to verify income conduct and is based on all of the facts Section 144, 15 U.S.C. 1664; TILA and assets they rely upon to determine and circumstances surrounding that Section 147, 15 U.S.C. 1665b. repayment ability; conduct.1 The Board is also adopting, under Æ Prohibit prepayment penalties Because broad regulations, such as the TILA Section 129(l)(2), 15 U.S.C. except under certain conditions; and rules adopted here, can require large 1639(l)(2), rules to prohibit the Æ Require creditors to establish numbers of institutions to make major following seven deceptive or misleading escrow accounts for taxes and adjustments to their practices, there practices in advertisements for closed- insurance, but permit creditors to allow could be more harm to consumers than end mortgage loans: borrowers to cancel escrows 12 months benefit if the rules were effective after loan consummation. immediately. If institutions were not Æ Advertisements that state ‘‘fixed’’ provided a reasonable time to make In addition, the final rules prohibit rates or payments for loans whose rates changes to their operations and systems creditors from structuring closed-end or payments can vary without to comply with this rule, they would mortgage loans as open-end lines of adequately disclosing that the interest either incur excessively large expenses, credit for the purpose of evading these rate or payment amounts are ‘‘fixed’’ which would be passed on to rules, which do not apply to open-end only for a limited period of time, rather consumers, or cease engaging in the lines of credit. than for the full term of the loan; regulated activity altogether, to the Æ Protections Covering Closed-End Loans detriment of consumers. And because Advertisements that compare an Secured by Consumer’s Principal the Board finds an act or practice unfair actual or hypothetical rate or payment Dwelling only when the harm outweighs the obligation to the rates or payments that benefits to consumers or to competition, would apply if the consumer obtains the In addition, in connection with all the implementation period preceding advertised product unless the consumer-purpose, closed-end loans the effective date set forth in the final advertisement states the rates or secured by a consumer’s principal rule is integral to the Board’s decision payments that will apply over the full dwelling, the Board’s rules: to restrict or prohibit certain acts or term of the loan; Æ Prohibit any creditor or mortgage practices. Æ broker from coercing, influencing, or Advertisements that characterize For these reasons, acts or practices the products offered as ‘‘government otherwise encouraging an appraiser to occurring before the effective dates of provide a misstated appraisal in loan programs,’’ ‘‘government-supported these rules will be judged on the totality loans,’’ or otherwise endorsed or connection with a mortgage loan; and of the circumstances under other Æ Prohibit mortgage servicers from sponsored by a federal or state applicable laws or regulations. government entity even though the ‘‘pyramiding’’ late fees, failing to credit Similarly, acts or practices occurring payments as of the date of receipt, or advertised products are not government- after the rule’s effective dates that are supported or -sponsored loans; failing to provide loan payoff statements not governed by these rules will Æ upon request within a reasonable time. continue to be judged on the totality of Advertisements, such as The Board is withdrawing its proposal the circumstances under other solicitation letters, that display the to require servicers to deliver a fee applicable laws or regulations. name of the consumer’s current schedule to consumers upon request; mortgage lender, unless the B. Revisions To Improve Mortgage and its proposal to prohibit creditors advertisement also prominently Advertising from paying a mortgage broker more discloses that the advertisement is from than the consumer had agreed in Another goal of the final rules is to a mortgage lender not affiliated with the advance that the broker would receive. ensure that mortgage loan consumer’s current lender; The reasons for the withdrawal of these advertisements provide accurate and Æ Advertisements that make claims of two proposals are discussed in parts balanced information and do not debt elimination if the product X.A and X.C below. contain misleading or deceptive advertised would merely replace one representations. Thus the Board’s rules debt obligation with another; Prospective Application of Final Rule require that advertisements for both Æ The final rule is effective on October open-end and closed-end mortgage Advertisements that create a false 1, 2009, or later for the requirement to loans provide accurate and balanced impression that the mortgage broker or establish an escrow account for taxes information, in a clear and conspicuous lender is a ‘‘counselor’’ for the and insurance for higher-priced manner, about rates, monthly payments, consumer; and mortgage loans. Compliance with the and other loan features. These rules are Æ Foreign-language advertisements in rules is not required before the effective which certain information, such as a dates. Accordingly, nothing in this rule 1 See Board and FDIC, CA 04–2, Unfair Acts or low introductory ‘‘teaser’’ rate, is Practices by State-Chartered Banks (March 11, provided in a foreign language, while should be construed or interpreted to be 2004), available at http://www.federalreserve.gov/ a determination that acts or practices boarddocs/press/bcreg/2004/20040311/ required disclosures are provided only restricted or prohibited under this rule attachment.pdf. in English.

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C. Requirement To Give Consumers mid-2005 level. These mortgages have mortgage market may play in increasing Disclosures Early seen unusually high levels of early the likelihood of injury to consumers A third goal of these rules is to payment default, or default after only who find themselves in that market. provide consumers transaction-specific one or two payments or even no Limitations on price and product disclosures early enough to use while payment at all. transparency in the subprime market— shopping for a mortgage loan. The final The serious delinquency rate has also often compounded by misleading or rule requires creditors to provide risen for loans in alt-A (near prime) inaccurate advertising—may make it transaction-specific mortgage loan securitized pools. According to one harder for consumers to protect disclosures such as the APR and source, originations of these loans were themselves from abusive or unaffordable payment schedule for all home-secured, 13 percent of consumer mortgage loans, even with the best disclosures. closed-end loans no later than three originations in 2006.4 Alt-A loans are The injuries consumers in the subprime business days after application, and made to borrowers who typically have market may suffer as a result are before the consumer pays any fee except higher credit scores than subprime magnified when originators’ incentives a reasonable fee for the review of the borrowers, but the loans pose more risk to carefully assess consumers’ consumer’s credit history. than prime loans because they involve repayment ability grow weaker, as can The Board recognizes that these small down payments or reduced happen when originators sell their loans disclosures need to be updated to reflect income documentation, or the terms of to be securitized.6 The fragmentation of the increased complexity of mortgage the loan are nontraditional and may the originator market can further products. In early 2008, the Board began increase risk. The rate of serious exacerbate the problem by making it testing current TILA mortgage delinquency for these loans has risen to more difficult for investors to monitor disclosures and potential revisions to over 8 percent (as of April 2008) from originators and for regulators to protect these disclosures through one-on-one less than 2 percent only a year earlier. consumers. interviews with consumers. The Board In contrast, 1.5 percent of loans in the Limited Transparency and Limits of expects that this testing will identify prime-mortgage sector were seriously Disclosure potential improvements for the Board to delinquent as of April 2008. propose for public comment in a The consequences of default are Limited transparency in the subprime separate rulemaking. severe for homeowners, who face the market increases the risk that borrowers possibility of foreclosure, the loss of in that market will receive unaffordable II. Consumer Protection Concerns in the accumulated home equity, higher rates or abusive loans. The transparency of Subprime Market for other credit transactions, and the subprime market to consumers is A. Recent Problems in the Mortgage reduced access to credit. When limited in several respects. First, price Market foreclosures are clustered, they can information for the subprime market is injure entire communities by reducing not widely and readily available to Subprime mortgage loans are made to consumers. A consumer reading a borrowers who are perceived to have property values in surrounding areas. Higher delinquencies are in fact newspaper, telephoning brokers or high credit risk. These loans’ share of lenders, or searching the Internet can total consumer originations, according showing through to foreclosures. Lenders initiated over 550,000 easily obtain current prime interest rate to one estimate, reached about nine quotes for free. In contrast, subprime percent in 2001 and doubled to 20 foreclosures in the first quarter of 2008, about half of them on subprime rates, which can vary significantly based percent by 2005, where it stayed in on the individual borrower’s risk 2006.2 The resulting increase in the mortgages. This was significantly higher than the quarterly average of 325,000 in profile, are not broadly advertised and supply of mortgage credit likely are usually obtainable only after contributed to the rise in the the first half of the year, and nearly twice the quarterly average of 225,000 application and paying a fee. Subprime homeownership rate from 64 percent in rate quotes may not even be reliable if 1994 to a high of 69 percent in 2005— for the past six years.5 Rising delinquencies have been the originator engages in a ‘‘bait and though about 68 percent now—and switch’’ strategy. Price opacity is expanded consumers’ access to the caused largely by a combination of a decline in house price appreciation— exacerbated because the subprime equity in their homes. consumer often does not know her own Recently, however, some of these and in some areas slower economic growth—and a loosening of credit score. Even if she knows her benefits have eroded. In the last two score, the prevailing interest rate for years, delinquencies and foreclosure underwriting standards, particularly in someone with that score and other starts among subprime mortgages have the subprime sector. The loosening of credit risk characteristics is not increased dramatically and reached underwriting standards is discussed in more detail in part II.B. The next section generally publicly available. exceptionally high levels as house price Second, products in the subprime discusses underlying market growth has slowed or prices have market tend to be complex, both relative imperfections that facilitated this declined in some areas. The proportion to the prime market and in absolute loosening and made it difficult for of all subprime mortgages past-due terms, as well as less standardized than ninety days or more (‘‘serious consumers to avoid injury. in the prime market.7 As discussed delinquency’’) was about 18 percent in B. Market Imperfections That Can May 2008, more than triple the mid- 6 Benjamin J. Keys, Tanmoy K. Mukherjee, Amit 3 Facilitate Abusive and Unaffordable 2005 level. Adjustable-rate subprime Loans Seru and Vikram Vig, Did Securitization Lead to mortgages have performed the worst, Lax Screening? Evidence from Suprime Loans at 22, reaching a serious delinquency rate of The recent sharp increase in serious available at: http://ssrn.com/abstract=1093137. 27 percent in May 2008, five times the delinquencies has highlighted the roles 7 U.S. Dep’t of Housing & Urban Development and that structural elements of the subprime U.S. Dep’t of Treasury, Recommendations to Curb Predatory Home Mortgage Lending 17 (2000) 2 Inside Mortgage Finance Publications, Inc., The (‘‘While predatory lending can occur in the prime 2007 Mortgage Market Statistical Annual vol. I (IMF 4 IMF 2007 Mortgage Market at 4. market, such practices are for the most part 2007 Mortgage Market), at 4. 5 Estimates are based on data from Mortgage effectively deterred by competition among lenders, 3 Delinquency rates calculated from data from Bankers’ Association’s National Delinquency greater homogeneity in loan terms and the prime First American LoanPerformance. Survey (2007) (MBA Nat’l Delinquency Survey). borrowers’ greater familiarity with complex

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earlier, subprime originations have both.9 In recent years, nearly 90 percent Limited focus. Consumers considering much more often been ARMs than fixed of subprime ARMs used for refinancings obtaining a typically complex subprime rate mortgages. ARMs require were ‘‘cash out.’’ 10 mortgage loan may simplify their consumers to make judgments about the While shopping costs are likely clear, decision by focusing on a few attributes future direction of interest rates and the benefits may not be obvious or may of the product or service that seem most translate expected rate changes into appear minimal. Without easy access to important.13 A consumer may focus on changes in their payment amounts. subprime product prices, a consumer loan attributes that have the most Subprime loans are also far more likely may have only a limited idea after obvious and immediate consequence to have prepayment penalties. Because working with one originator whether such as loan amount, down payment, the annual percentage rate (APR) does further shopping is likely to produce a initial monthly payment, initial interest not reflect the price of the penalty, the better deal. Moreover, consumers in the rate, and up-front fees (though up-front consumer must both calculate the size subprime market have reported in fees may be more obscure when added of the penalty from a formula and assess studies that they were turned down by to the loan amount, and ‘‘discount the likelihood of moving or refinancing several lenders before being approved.11 points’’ in particular may be difficult for during the penalty period. In these and Once approved, these consumers may consumers to understand). These other ways, subprime products tend to see little advantage to continuing to consumers, therefore, may not focus on be complex for consumers. shop for better terms if they expect to terms that may seem less immediately Third, the roles and incentives of be turned down by other originators. important to them such as future originators are not transparent. One Further, if a consumer uses a broker increases in payment amounts or source estimates that 60 percent or more believing that the broker is shopping for interest rates, prepayment penalties, and of mortgages originated in the last the consumer for the best deal, the negative amortization. They are also not several years were originated through a consumer may believe a better deal is likely to focus on underwriting practices mortgage broker, often an independent not obtainable. An unscrupulous such as income verification, and on entity, who takes loan applications from originator may also seek to discourage a features such as escrows for future tax consumers and shops them to consumer from shopping by and insurance obligations.14 Consumers depository institutions or other intentionally understating the cost of an who do not fully understand such terms lenders.8 Anecdotal evidence indicates offered loan. For all of these reasons, and features, however, are less able to that consumers in both the prime and borrowers in the subprime market may appreciate their risks, which can be subprime markets often believe, in error, not shop beyond the first approval and significant. For example, the payment that a mortgage broker is obligated to may be willing to accept unfavorable may increase sharply and a prepayment find the consumer the best and most terms.12 penalty may hinder the consumer from suitable loan terms available. Consumers who rely on brokers often 9 See Anthony Pennington-Cross & Souphala subprime borrowers are less knowledgeable about Chomsisengphet, Subprime Refinancing: Equity the mortgage process, search less for the best rates, are unaware, however, that a broker’s Extraction and Mortgage Termination, 35 Real and feel they have less choice about mortgage terms interests may diverge from, and conflict Estate Economics 2, 233 (2007) (reporting that 49% and conditions); Subprime Mortgage Investigation with, their own interests. In particular, of subprime refinance loans involve equity at 554 (‘‘Our focus groups suggested that prime and consumers are often unaware that a extraction, compared with 26% of prime refinance subprime borrowers use quite different search loans); Marsha J. Courchane, Brian J. Surette, and criteria in looking for a loan. Subprime borrowers creditor pays a broker more to originate Peter M. Zorn, Subprime Borrowers: Mortgage search primarily for loan approval and low monthly a loan with a rate higher than the rate Transitions and Outcomes (Subprime Outcomes), payments, while prime borrowers focus on getting the consumer qualifies for based on the 29 J. of Real Estate Economics 4, 368–371 (2004) the lowest available interest rate. These distinctions creditor’s underwriting criteria. (discussing survey evidence that borrowers with are quantitatively confirmed by our survey.’’). subprime loans are more likely to have experienced 13 Limited shopping. In this Jinkook Lee and Jeanne M. Hogarth, Consumer major adverse life events (marital disruption; major Information Search for Home Mortgages: Who, environment of limited transparency, medical problem; major spell of unemployment; What, How Much, and What Else?, Financial consumers—particularly those in the major decrease of income) and often use refinancing Services Review 291 (2000) (Consumer Information subprime market—may reasonably for debt consolidation or home equity extraction); Search) (‘‘In all, there are dozens of features and Subprime Lending Investigation, at 551–552 (citing decide not to shop further among costs disclosed per loan, far in excess of the survey evidence that borrowers with subprime combination of terms, lenders, and information originators or among loan options once loans have increased incidence of major medical sources consumers report using when shopping.’’). an originator has told them they will expenses, major unemployment spells, and major 14 Consumer Information Search at 285 (reporting receive a loan, because further shopping drops in income). survey evidence that most consumers compared 10 can be very costly. Shopping may A ‘‘cash out’’ transaction is one in which the interest rate or APR, loan type (fixed-rate or ARM), borrower refinances an existing mortgage, and the and mandatory up-front fees, but only a quarter require additional applications and new mortgage amount is greater than the existing considered the costs of optional products such as application fees, and may delay the mortgage amount, to allow the borrower to extract credit insurance and back-end costs such as late consumer’s receipt of funds. This delay from the home. Figure calculated from First fees). There is evidence that borrowers are not creates a potentially significant cost for American LoanPerformance data. aware of, or do not understand, terms of this nature 11 James M. Lacko and Janis K. Pappalardo, even after they have obtained a loan. See Improving the many subprime borrowers seeking to Federal Trade Commission, Improving Consumer Mortgage Disclosures at 27–30 (discussing refinance their obligations to lower their Mortgage Disclosures: An Empirical Assessment of anecdotal evidence based on consumer interviews debt payments at least temporarily, to Current and Prototype Disclosure Forms at 24–26 that borrowers were not aware of, did not extract equity in the form of cash, or (2007), available at: http://www.ftc.gov/os/2007/06/ understand, or misunderstood an important cost or P025505MortgageDisclosureReport.pdf (Improving feature of their loans that had substantial impact on Mortgage Disclosures) (reporting evidence based on the overall cost, the future payments, or the ability financial transactions.’’); Howard Lax, Michael qualitative consumer interviews); Subprime to refinance with other lenders); Brian Bucks and Manti, Paul Raca and Peter Zorn, Subprime Lending Investigation at 550 (finding based on Karen Pence, Do Homeowners Know Their House Lending: An Investigation of Economic Efficiency, survey data that ‘‘[p]robably the most significant Values and Mortgage Terms? 18–22 (Board Fin. and 15 Housing Policy Debate 533, 570 (2004) hurdle overcome by subprime borrowers * * * is Econ. Discussion Series Working Paper No. 2006– (Subprime Lending Investigation) (stating that the just getting approved for a loan for the first time. 3, 2006) (discussing statistical evidence that subprime market lacks the ‘‘overall standardization This impact might well make subprime borrowers borrowers with ARMs underestimate annual as well of products, underwriting, and delivery systems’’ more willing to accept less favorable terms as they as life-time caps on the interest rate; the rate of that is found in the prime market). become uncertain about the possibility of qualifying underestimation increases for lower-income and 8 Data reported by Wholesale Access Mortgage for a loan at all.’’). less-educated borrowers), available at http:// Research and Consulting, Inc., available at http:// 12 Subprime Outcomes at 371–372 (reporting www.federalreserve.gov/pubs/feds/2006/200603/ www.wholesaleaccess.com/. survey evidence that relative to prime borrowers, 200603pap.pdf.

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refinancing to avoid the payment adequately assessing repayment ability, as noted earlier, one source suggests that increase. Thus, consumers may particularly where mortgages were sold 60 percent or more of mortgages unwittingly accept loans that they will to the secondary market and the originated in the last several years were have difficulty repaying. originator retained little of the risk. The originated through mortgage brokers.19 Limits of disclosure. Disclosures growth of the secondary market gave This same source estimates the number describing the multiplicity of features of lenders—and, thus, mortgage of brokerage companies at over 50,000 a complex loan could help some borrowers—greater access to capital in recent years. consumers in the subprime market, but markets, lowered transaction costs, and Thus, a securitized pool of mortgages may not be sufficient to protect them allowed risk to be shared more widely. may have been sourced by tens of against unfair loan terms or lending This ‘‘originate-to-distribute’’ model, lenders and thousands of brokers. practices. Obtaining widespread however, has also contributed to the Investors have limited ability to directly consumer understanding of the many loosening of underwriting standards, monitor these originators’ activities. potentially significant features of a particularly during periods of rapid Further, government oversight of such a typical subprime product is a major house price appreciation, which may fragmented market faces significant challenge.15 If consumers do not have a mask problems by keeping default and challenges because originators operate certain minimum level understanding of delinquency rates low until price in different states and under different the market and products, disclosures for appreciation slows or reverses.17 regulatory and supervisory regimes and complex and infrequent transactions This potential tendency has several different practices in sharing may not effectively provide that related causes. First, when an originator information among regulators. These minimum understanding. Moreover, sells a mortgage and its servicing rights, circumstances may inhibit the ability of even if all of a loan’s features are depending on the terms of the sale, most regulators to protect consumers from disclosed clearly to consumers, they or all of the risks typically are passed on abusive and unaffordable loans. to the loan purchaser. Thus, originators may continue to focus on a few features A Role for New HOEPA Rules that appear most significant. that sell loans may have less of an Alternatively, disclosing all features incentive to undertake careful As explained above, consumers in the may ‘‘overload’’ consumers and make it underwriting than if they kept the loans. subprime market face serious more difficult for them to discern which Second, warranties by sellers to constraints on their ability to protect themselves from abusive or unaffordable features are most important. purchasers and other ‘‘repurchase’’ Moreover, consumers may rely more contractual provisions have little loans, even with the best disclosures; on their originators to explain the meaningful benefit if originators have originators themselves may at times lack disclosures when the transaction is limited assets. Third, fees for some loan sufficient market incentives to ensure complex; some originators may have originators have been tied to loan loans they originate are affordable; and regulators face limits on their ability to incentives to misrepresent the volume, making loan sales—sometimes oversee a fragmented subprime disclosures so as to obscure the accomplished through aggressive ‘‘push origination market. These circumstances transaction’s risks to the consumer; and marketing’’—a higher priority than loan warrant imposing a new national legal such misrepresentations may be quality for some originators. Fourth, standard on subprime lenders to help particularly effective if the originator is investors may not exercise adequate due ensure that consumers receive mortgage face-to-face with the consumer.16 diligence on mortgages in the pools in loans they can afford to repay, and help Therefore, while the Board anticipates which they are invested, and may prevent the equity-stripping abuses that proposing changes to Regulation Z to instead rely heavily on credit-ratings unaffordable loans facilitate. Adopting improve mortgage loan disclosures, it is firms to determine the quality of the 18 this standard under authority of HOEPA unlikely that better disclosures, alone, investment. ensures that it is applied uniformly to will address adequately the risk of Fragmentation in the originator all originators and provides consumers abusive or unaffordable loans in the market can further exacerbate the an opportunity to redress wrongs subprime market. problem. Data reported under the Home Mortgage Disclosure Act (HMDA) show through civil actions to the extent Misaligned Incentives and Obstacles to that independent mortgage companies— authorized by TILA. As explained in the Monitoring those not related to depository next part, substantial information Not only are consumers in the institutions or their subsidiaries or supplied to the Board through several subprime market often unable to protect affiliates—in 2005 and 2006 made public hearings confirms the need for themselves from abusive or unaffordable nearly one-half of first-lien mortgage new HOEPA rules. loans, originators may at certain times loans reportable as being higher-priced III. The Board’s HOEPA Hearings be more likely to extend unaffordable but only one-fourth of loans that were loans. The recent sharp rise in serious not reportable as higher-priced. Nor was A. Home Ownership and Equity delinquencies on subprime mortgages lending by independent mortgage Protection Act (HOEPA) has made clear that originators were not companies particularly concentrated: In The Board has recently held extensive each of 2005 and 2006 around 150 public hearings on consumer protection 15 Improving Mortgage Disclosures at 74–76 independent mortgage companies made issues in the mortgage market, including (finding that borrowers in the subprime market may 500 or more first-lien mortgage loans on the subprime sector. These hearings have more difficulty understanding their loan terms owner-occupied dwellings that were were held pursuant to the Home because their loans are more complex than loans in the prime market). reportable as higher-priced. In addition, Ownership and Equity Protection Act 16 U.S. Gen. Accounting Office, GAO 04–280, (HOEPA), which directs the Board to Consumer Protection: Federal and State Agencies 17 Atif Mian and Amir Sufi, The Consequences of hold public hearings periodically on the Face Challenges in Combating Predatory Lending Mortgage Credit Expansion: Evidence from the 2007 home equity lending market and the 97–98 (2004) (stating that the inherent complexity Mortgage Default Crisis (May 2008), available at: of mortgage loans, some borrowers’ lack of financial http://ssrn.com/abstract=1072304. adequacy of existing law for protecting sophistication, education, or infirmities, and 18 Benjamin J. Keys, Tanmoy K. Mukherjee, Amit misleading statements and actions by lenders and Seru and Vikram Vig, Did Securitization Lead to 19 Data reported by Wholesale Access Mortgage brokers limit the effectiveness of even clear and Lax Screening? Evidence from Suprime Loans at 22, Research and Consulting, Inc., available at http:// transparent disclosures). available at: http://ssrn.com/abstract=1093137. www.wholesaleaccess.com.

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the interests of consumers, particularly and state and federal government income loans, prepayment penalties, or low income consumers. HOEPA officials. In addition, consumers, other loan terms, asserting that this imposes substantive restrictions, and housing counselors, brokers, and other approach would harm borrowers more special pre-closing disclosures, on individuals made brief statements at the than help them. They urged the Board particularly high-cost refinancings and hearings during an ‘‘open mike’’ period. and other regulators to focus instead on home equity loans (‘‘HOEPA loans’’).20 In all, 67 individuals testified on panels enforcing existing laws to remove ‘‘bad These restrictions include limitations on and 54 comment letters were submitted actors’’ from the market. Some lenders prepayment penalties and ‘‘balloon to the Board. indicated, however, that restrictions on payment’’ loans, and prohibitions of Consumer advocates and some state certain features or practices might be negative amortization and of engaging in officials stated that HOEPA is generally appropriate if the restrictions were clear a pattern or practice of lending based on effective in preventing abusive terms in and narrow. Industry commenters also the collateral without regard to loans subject to the HOEPA price stated that subjective suitability repayment ability. triggers. They noted, however, that very standards would create uncertainties for When it enacted HOEPA, Congress few loans are made with rates or fees at brokers and lenders and subject them to granted the Board authority, codified in or above the HOEPA triggers, and some excessive litigation risk. TILA Section 129(l), to create advocated that Congress lower them. C. Summary of June 2007 Hearing exemptions to HOEPA’s restrictions and Consumer advocates and state officials to expand its protections. 15 U.S.C. also urged regulators and Congress to In light of the information received at 1639(l). Under TILA Section 129(l)(1), curb abusive practices in the origination the 2006 hearings and the rise in the Board may create exemptions to of loans that do not meet HOEPA’s price defaults that began soon after, the Board HOEPA’s restrictions as needed to keep triggers. held an additional hearing in June 2007 responsible credit available; and under Consumer advocates identified to explore how it could use its authority TILA Section 129(l)(2), the Board may several particular areas of concern. They under HOEPA to prevent abusive adopt new or expanded restrictions as urged the Board to prohibit or restrict lending practices in the subprime needed to protect consumers from certain loan features or terms, such as market while still preserving unfairness, deception, or evasion of prepayment penalties, and underwriting responsible subprime lending. The HOEPA. In HOEPA Section 158, practices such as ‘‘stated income’’ or Board focused the hearing on four Congress directed the Board to monitor ‘‘low documentation’’ (‘‘low doc’’) loans specific areas: Lenders’ determination of changes in the home equity market for which the borrower’s income is not borrowers’ repayment ability; ‘‘stated through regular public hearings. documented or verified. They also income’’ and ‘‘low doc’’ lending; the Hearings the Board held in 2000 led expressed concern about aggressive lack of escrows in the subprime market the Board to expand HOEPA’s marketing practices such as steering relative to the prime market; and the protections in December 2001.21 Those borrowers to higher-cost loans by high frequency of prepayment penalties rules, which took effect in 2002, emphasizing initial low monthly in the subprime market. lowered HOEPA’s rate trigger, expanded payments based on an introductory rate At the hearing, the Board heard from its fee trigger to include single-premium without adequately explaining that the 16 panelists representing consumers, credit insurance, added an anti- consumer will owe considerably higher mortgage lenders, mortgage brokers, and ‘‘flipping’’ restriction, and improved the monthly payments after the state government officials, as well as special pre-closing disclosure. introductory rate expires. from academicians. The Board also Some consumer advocates stated that received almost 100 written comments B. Summary of 2006 Hearings brokers and lenders should be held to a after the hearing from an equally diverse In the summer of 2006, the Board held duty of care such as a duty of good faith group. four hearings in four cities on three and fair dealing or a duty to make only Industry representatives broad topics: (1) The impact of the 2002 loans suitable for the borrower. These acknowledged concerns with recent HOEPA rule changes on predatory advocates also urged the Board to ban lending practices but urged the Board to lending practices, as well as the effects ‘‘yield spread premiums,’’ payments address most of these concerns through on consumers of state and local that brokers receive from the lender at supervisory guidance rather than predatory lending laws; (2) closing for delivering a loan with an regulations under HOEPA. They nontraditional mortgage products and interest rate that is higher than the maintained that supervisory guidance, reverse mortgages; and (3) informed lender’s ‘‘buy rate,’’ because they unlike regulation, is flexible enough to consumer choice in the subprime provide brokers an incentive to increase preserve access to responsible credit. market. Hearing panelists included consumers’ interest rates. They argued They also suggested that supervisory mortgage lenders and brokers, credit that such steps would align reality with guidance issued recently regarding ratings agencies, real estate agents, consumers’ perceptions that brokers nontraditional mortgages and subprime consumer advocates, community serve their best interests. Consumer lending, as well as market self- development groups, housing advocates also expressed concerns that correction, have reduced the need for counselors, academicians, researchers, brokers, lenders, and others may coerce new regulations. Industry appraisers to misrepresent the value of representatives support improving 20 HOEPA loans are closed-end, non-purchase a dwelling; and that servicers may mortgage disclosures to help consumers money mortgages secured by a consumer’s principal charge consumers unwarranted fees and avoid abusive loans. They urged that dwelling (other than a reverse mortgage) where in some cases make it difficult for any substantive rules adopted by the either: (a) The APR at consummation will exceed consumers who are in default to avoid Board be clearly drawn to limit the yield on Treasury securities of comparable maturity by more than 8 percentage points for first- foreclosure. uncertainty and narrowly drawn to lien loans, or 10 percentage points for subordinate- Industry panelists and commenters, avoid unduly restricting credit. lien loans; or (b) the total points and fees payable on the other hand, expressed concern In contrast, consumer advocates, state by the consumer at or before closing exceed the that state predatory lending laws may and local officials, and Members of greater of 8 percent of the total loan amount, or $547 for 2007 (adjusted annually). reduce the availability of credit for some Congress urged the Board to adopt 21 Truth in Lending, 66 FR 65604, 65608, Dec. 20, subprime borrowers. Most industry regulations under HOEPA. They 2001. commenters opposed prohibiting stated acknowledged a proper place for

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guidance but contended that recent hybrid adjustable-rate mortgages, addressing the heightened risks to problems indicate the need for prepayment penalties, low or no consumers and institutions of ARMs requirements enforceable by borrowers documentation loans, lack of escrows with two or three-year ‘‘teaser’’ rates through civil actions, which HOEPA for taxes and insurance, and failure to followed by substantial increases in the enables and guidance does not. They consider the consumer’s ability to repay rate and payment. The guidance, also expressed concern that less have contributed to foreclosures. In finalized in June 2007, sets out the responsible, less closely supervised addition, these witnesses testified that standards institutions should follow to lenders are not subject to the guidance consumers often believe that mortgage ensure borrowers in the subprime and that there is limited enforcement of brokers represent their interests and market obtain loans they can afford to existing laws for these entities. shop on their behalf for the best loan repay.24 Among other steps, the Consumer advocates and others terms. As a result, they argue that guidance advises lenders to (1) use the welcomed improved disclosures but consumers do not shop independently fully-indexed rate and fully-amortizing insisted they would not prevent abusive to ensure that they are getting the best payment when qualifying borrowers for lending. More detailed accounts of the terms for which they qualify. They also loans with adjustable rates and testimony and letters are provided testified that, because originators sell potentially non-amortizing payments; below in the context of specific issues most loans into the secondary market (2) limit stated income and reduced the Board is addressing in these final and do not share the risk of default, documentation loans to cases where rules. brokers and lenders have less incentive mitigating factors clearly minimize the D. Congressional Hearings to ensure consumers can afford their need for full documentation of income; loans. (3) provide that prepayment penalty Congress has also held a number of Financial services and mortgage clauses expire a reasonable period hearings in the past year about industry representatives testified that before reset, typically at least 60 days. consumer protection concerns in the consumers need better disclosures of 22 The Conference of State Bank mortgage market. In these hearings, their loan terms, but that substantive Congress has heard testimony from Supervisors (CSBS) and American restrictions on subprime loan terms Association of Residential Mortgage individual consumers, representatives would risk reducing access to credit for of consumer and community groups, Regulators (AARMR) issued parallel some borrowers. In addition, these statements for state supervisors to use representatives of financial and witnesses testified that applying a mortgage industry groups and federal with state-supervised entities, and many fiduciary duty to the subprime market, states have adopted the statements. and state officials. These hearings have such as requiring that a loan be in the focused on rising subprime foreclosure borrower’s best interest, would The guidance issued by the federal rates and the extent to which lending introduce subjective standards that banking agencies has helped to promote practices have contributed to them. would significantly increase compliance safety and soundness and protect Consumer and community group and litigation risk. According to these consumers in the subprime market. representatives testified that certain witnesses, some lenders would be less Guidance, however, is not necessarily lending terms or practices, such as willing to offer loans in the subprime implemented uniformly by all market, making it harder for some originators. Originators who are not 22 E.g., Foreclosure Problems and Solutions: subject to routine examination and Federal, State, and Local Efforts to Address the consumers to get loans. Foreclosure Crisis in Ohio: Hearing before the supervision may not adhere to guidance Subcomm. on Housing and Comm. Oppty. of the H. IV. Interagency Supervisory Guidance as closely as originators who are. Comm. on Fin. Servs., 110th Cong. (2008); Targeting In December 2005, the Board and the Guidance also does not provide Federal Aid to Neighborhoods Distressed by the individual consumers who have Subprime Mortgage Crisis: Hearing before the other federal banking agencies Subcomm. on Housing and Comm. Oppty. of the H. responded to concerns about the rapid suffered harm because of abusive Comm. on Fin. Servs., 110th Cong. (2008); growth of nontraditional mortgages in lending practices an opportunity for Improving Consumer Protections in Subprime the previous two years by proposing redress. The new and expanded Lending: Hearing before the Subcomm. on Int. consumer protections that the Board is Comm., Trade, and Tourism of the S. Comm. on supervisory guidance. Nontraditional Comm., Sci., and Trans., 110th Cong. (2008); H.R. mortgages are mortgages that allow the adopting apply uniformly to all 5679, The Foreclosure Prevention and Sound borrower to defer repayment of creditors and are enforceable by federal Mortgage Servicing Act of 2008: Hearing before the principal and sometimes interest. The and state supervisory and enforcement Subcomm. on Housing and Comm. Oppty. of the H. Comm. on Fin. Servs., 110th Cong. (2008); Restoring guidance advised institutions of the agencies and in many cases by the American Dream: Solutions to Predatory need to reduce ‘‘risk layering’’ practices borrowers. Lending and the Foreclosure Crisis: S. Comm. on with respect to these products, such as V. Legal Authority Banking, Hsg., and Urban Affairs, 110th Cong. failing to document income or lending (2008); Consumer Protection in Financial Services: Subprime Lending and Other Financial Activities: nearly the full appraised value of the A. The Board’s Authority Under TILA Hearing before the Subcomm. on Fin. Svcs. and home. The proposal, and the final Section 129(l)(2) Gen. Gov’t of the H. Approp. Comm., 110th Cong. guidance issued in September 2006, (2008); Progress in Administration and Other Efforts The substantive limitations in new to Coordinate and Enhance Mortgage Foreclosure specifically advised lenders that layering risks in nontraditional §§ 226.35 and 226.36 and corresponding Prevention: Hearing before the H. Comm. on Fin. revisions to §§ 226.32 and 226.34, as Servs., 110th Cong. (2007); Legislative Proposals on mortgage loans to subprime borrowers Reforming Mortgage Practices: Hearing before the may significantly increase risks to well as restrictions on misleading and H. Comm. on Fin. Servs., 110th Cong. (2007); borrowers as well as institutions.23 deceptive advertisements, are based on Legislative and Regulatory Options for Minimizing the Board’s authority under TILA and Mitigating Mortgage Foreclosures: Hearing The Board and the other federal before the H. Comm. on Fin. Servs., 110th Cong. banking agencies addressed concerns Section 129(l)(2), 15 U.S.C. 1639(l)(2). (2007); Ending Mortgage Abuse: Safeguarding about the subprime market more That provision gives the Board authority Homebuyers: Hearing before the S. Subcomm. on broadly in March 2007 with a proposal to prohibit acts or practices in Hous., Transp., and Cmty. Dev. of the S. Comm. on connection with: Banking, Hous., and Urban Affairs, 110th Cong. (2007); Improving Federal Consumer Protection in 23 Interagency Guidance on Nontraditional Financial Services: Hearing before the H. Comm. on Mortgage Product Risks, 71 FR 58609, Oct. 4, 2006 24 Statement on Subprime Mortgage Lending, 72 Fin. Servs., 110th Cong. (2007). (Nontraditional Mortgage Guidance). FR 37569, Jul. 10, 2007 (Subprime Statement).

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• Mortgage loans that the Board finds under Section 5(a), 15 U.S.C. 45(a).26 Many states also have adopted to be unfair, deceptive, or designed to Under the FTC Act, an act or practice statutes prohibiting unfair or deceptive evade the provisions of HOEPA; and is unfair when it causes or is likely to acts or practices, and these statutes • Refinancing of mortgage loans that cause substantial injury to consumers employ a variety of standards, many of the Board finds to be associated with which is not reasonably avoidable by them different from the standards abusive lending practices or that are consumers themselves and not currently applied to the FTC Act. A outweighed by countervailing benefits otherwise not in the interest of the number of states follow an unfairness to consumers or to competition. In borrower. standard formerly used by the FTC. addition, in determining whether an act Under this standard, an act or practice The authority granted to the Board or practice is unfair, the FTC is is unfair where it offends public policy; under TILA Section 129(l)(2), 15 U.S.C. permitted to consider established public or is immoral, unethical, oppressive, or 1639(l)(2), is broad. It reaches mortgage policies, but public policy unscrupulous; and causes substantial loans with rates and fees that do not considerations may not serve as the injury to consumers.35 meet HOEPA’s rate or fee trigger in primary basis for an unfairness In adopting final rules under TILA TILA Section 103(aa), 15 U.S.C. determination.27 Section 129(l)(2)(A), 15 U.S.C. 1602(aa), as well as types of mortgage The FTC has interpreted these 1639(l)(2)(A), the Board has considered loans not covered under that section, standards to mean that consumer injury the standards currently applied to the such as home purchase loans. Section is the central focus of any inquiry FTC Act’s prohibition against unfair or 129(l)(2) also authorizes the Board to regarding unfairness.28 Consumer injury deceptive acts or practices, as well as strengthen the protections in Section may be substantial if it imposes a small the standards applied to similar state 129(c)–(i) for the loans to which Section harm on a large number of consumers, statutes. 103(aa) applies these protections or if it raises a significant risk of 29 B. The Board’s Authority Under TILA (HOEPA loans). In TILA Section 129 concrete harm. The FTC looks to Section 105(a) (c)–(i), Congress set minimum standards whether an act or practice is injurious 30 for HOEPA loans. The Board is in its net effects. The agency has also Other aspects of these rules are based authorized to strengthen those standards observed that an unfair act or practice on the Board’s general authority under for HOEPA loans when the Board finds will almost always reflect a market TILA Section 105(a) to prescribe practices unfair, deceptive, or abusive. failure or market imperfection that regulations necessary or proper to carry prevents the forces of supply and The Board is also authorized by Section out TILA’s purposes 15 U.S.C. 1604(a). demand from maximizing benefits and 129(l)(2) to apply those strengthened This section is the basis for the minimizing costs.31 In evaluating standards to loans that are not HOEPA requirement to provide early disclosures unfairness, the FTC looks to whether loans. Moreover, while HOEPA’s for residential mortgage transactions as consumers’ free market decisions are well as many of the revisions to improve statutory restrictions apply only to 32 unjustifiably hindered. advertising disclosures. These rules are creditors and only to loan terms or The FTC has also adopted standards lending practices, Section 129(l)(2) is intended to carry out TILA’s purposes of for determining whether an act or informing consumers about their credit not limited to acts or practices by practice is deceptive (though these creditors, nor is it limited to loan terms terms and helping them shop for credit. standards, unlike unfairness standards, See TILA Section 102, 15 U.S.C. 1603. or lending practices. See 15 U.S.C. have not been incorporated into the FTC 1639(l)(2). It authorizes protections Act).33 First, there must be a VI. The Board’s Proposal against unfair or deceptive practices representation, omission or practice that On January 9, 2008, the Board when such practices are ‘‘in connection is likely to mislead the consumer. with mortgage loans,’’ and it authorizes published a notice of proposed Second, the act or practice is examined rulemaking in the Federal Register (73 protections against abusive practices ‘‘in from the perspective of a consumer FR 1672) proposing to amend connection with refinancing of mortgage acting reasonably in the circumstances. Regulation Z. loans.’’ Thus, the Board’s authority is Third, the representation, omission, or not limited to regulating specific practice must be material. That is, it A. Proposals To Prevent Unfairness, contractual terms of mortgage loan must be likely to affect the consumer’s Deception, and Abuse agreements; it extends to regulating conduct or decision with regard to a The Board proposed new restrictions loan-related practices generally, within product or service.34 and requirements for mortgage lending the standards set forth in the statute. and servicing intended to protect HOEPA does not set forth a standard 26 See 15 U.S.C. 45(n); Letter from FTC to the consumers against unfairness, Hon. Wendell H. Ford and the Hon. John C. for what is unfair or deceptive, but the Danforth (Dec. 17, 1980). deception, and abuse while preserving Conference Report for HOEPA indicates 27 15 U.S.C. 45(n). responsible lending and sustainable that, in determining whether a practice 28 Statement of Basis and Purpose and Regulatory homeownership. Some of the proposed in connection with mortgage loans is Analysis, Credit Practices Rule, 42 FR 7740, 7743, restrictions would apply only to higher- unfair or deceptive, the Board should March 1, 1984 (Credit Practices Rule). priced mortgage loans, while others 29 Letter from Commissioners of the FTC to the look to the standards employed for Hon. Wendell H. Ford, Chairman, and the Hon. 35 interpreting state unfair and deceptive John C. Danforth, Ranking Minority Member, See, e.g., Kenai Chrysler Ctr., Inc. v. Denison, trade practices statutes and the Federal Consumer Subcomm. of the H. Comm. on 167 P.3d 1240, 1255 (Alaska 2007) (quoting FTC v. Sperry & Hutchinson Co., 405 U.S. 233, 244–45 n.5 Trade Commission Act (FTC Act), Commerce, Science, and Transp., n.12 (Dec. 17, 1980). (1972)); State v. Moran, 151 N.H. 450, 452, 861 A.2d Section 5(a), 15 U.S.C. 45(a).25 763, 755–56 (N.H. 2004) (concurrently applying the 30 Credit Practices Rule, 42 FR at 7744. FTC’s former test and a test under which an act or 31 Congress has codified standards Id. practice is unfair or deceptive if ‘‘the objectionable developed by the Federal Trade 32 Id. conduct * * * attain[s] a level of rascality that Commission (FTC) for determining 33 Letter from James C. Miller III, Chairman, FTC would raise an eyebrow of someone inured to the whether acts or practices are unfair to the Hon. John D. Dingell, Chairman, H. Comm. rough and tumble of the world of commerce.’’) on Energy and Commerce (Oct. 14, 1983) (Dingell (citation omitted); Robinson v. Toyota Motor Credit Letter). Corp., 201 Ill. 2d 403, 417–418, 775 N.E.2d 951, 25 H.R. Rep. 103–652, at 162 (1994) (Conf. Rep.). 34 Dingell Letter at 1–2. 961–62 (2002) (quoting 405 U.S. at 244–45 n.5).

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would apply to all mortgage loans contain misleading or deceptive low introductory ‘‘teaser’’ rate, is secured by a consumer’s principal representations. The Board proposed to provided in a foreign language, while dwelling. require that advertisements for both required disclosures are provided only open-end and closed-end mortgage in English. Protections Covering Higher-Priced loans provide accurate and balanced C. Proposal To Give Consumers Mortgage Loans information, in a clear and conspicuous Disclosures Early The Board proposed certain manner, about rates, monthly payments, protections for consumers receiving and other loan features. The proposal A third goal of the proposal was to higher-priced mortgage loans. Higher- was issued under the Board’s authorities provide consumers transaction-specific priced mortgage loans would have been to: Adopt regulations to ensure disclosures early enough to use while loans with an annual percentage rate consumers are informed about and can shopping for a mortgage loan. The Board (APR) that exceeds the comparable shop for credit; require that information, proposed to require creditors to provide Treasury security by three or more including the information required for transaction-specific mortgage loan percentage points for first-lien loans, or advertisements for closed-end credit, be disclosures such as the APR and five or more percentage points for disclosed in a clear and conspicuous payment schedule for all home-secured, subordinate-lien loans. For such loans, manner; and regulate advertisements of closed-end loans no later than three the Board proposed to: open-end home-equity plans secured by business days after application, and Æ Prohibit creditors from engaging in the consumer’s principal dwelling. See before the consumer pays any fee except a pattern or practice of extending credit TILA Section 105(a), 15 U.S.C. 1604(a); a reasonable fee for the originator’s without regard to borrowers’ ability to Section 122, 15 U.S.C. 1632; Section review of the consumer’s credit history. repay from sources other than the 144, 15 U.S.C. 1664; Section 147, 15 VII. Overview of Comments Received collateral itself; U.S.C. 1665b. Æ Require creditors to verify income The Board also proposed, under TILA The Board received approximately and assets they rely upon in making Section 129(l)(2), 15 U.S.C. 1639(l)(2), to 4700 comments on the proposal. The loans; prohibit the following seven deceptive comments came from community banks, Æ Prohibit prepayment penalties or misleading practices in independent mortgage companies, large unless certain conditions are met; and advertisements for closed-end mortgage bank holding companies, secondary Æ Require creditors to establish loans: market participants, credit unions, state escrow accounts for taxes and Æ Advertising ‘‘fixed’’ rates or and national trade associations for insurance, but permit creditors to allow payments for loans whose rates or financial institutions in the mortgage borrowers to opt out of escrows 12 payments can vary without adequately business, mortgage brokers and months after loan consummation. disclosing that the interest rate or mortgage broker trade associations, In addition, the proposal would have payment amounts are ‘‘fixed’’ only for a realtors and realtor trade associations, prohibited creditors from structuring limited period of time, rather than for individual consumers, local and closed-end mortgage loans as open-end the full term of the loan; national community groups, federal and lines of credit for the purpose of evading Æ Comparing an actual or state regulators and elected officials, these rules, which do not apply to lines hypothetical consumer’s rate or appraisers, academics, and other of credit. payment obligations and the rates or interested parties. payments that would apply if the Commenters generally supported the Proposed Protections Covering Closed- consumer obtains the advertised Board’s effort to protect consumers from End Loans Secured by Consumer’s product unless the advertisement states unfair practices, particularly in the Principal Dwelling the rates or payments that will apply subprime market, while preserving In addition, in connection with all over the full term of the loan; responsible lending and sustainable consumer-purpose, closed-end loans Æ Advertisements that characterize homeownership. However, industry secured by a consumer’s principal the products offered as ‘‘government commenters generally opposed the dwelling, the Board proposed to: loan programs,’’ ‘‘government-supported breadth of the proposal; favoring Æ Prohibit creditors from paying a loans,’’ or otherwise endorsed or narrower and more flexible rules. They mortgage broker more than the sponsored by a federal or state also expressed concerns about the costs consumer had agreed in advance that government entity even though the of certain proposals, such as the the broker would receive; advertised products are not government- requirement to establish escrows for all Æ Prohibit any creditor or mortgage supported or -sponsored loans; first-lien higher-priced mortgage loans. broker from coercing, influencing, or Æ Advertisements, such as Consumer advocates, federal and state otherwise encouraging an appraiser to solicitation letters, that display the regulators (including the Federal provide a misstated appraisal in name of the consumer’s current Deposit Insurance Corporation (FDIC)), connection with a mortgage loan; and mortgage lender, unless the and elected officials (including Æ Prohibit mortgage servicers from advertisement also prominently members of Congress and some state ‘‘pyramiding’’ late fees, failing to credit discloses that the advertisement is from attorneys general) supported the payments as of the date of receipt, a mortgage lender not affiliated with the proposal as addressing some of the failing to provide loan payoff statements consumer’s current lender; abuses in the subprime market, but upon request within a reasonable time, Æ Advertising claims of debt argued that additional consumer or failing to deliver a fee schedule to a elimination if the product advertised protections are needed. consumer upon request. would merely replace one debt Many commenters supported the obligation with another; approach of using loan price to identify B. Proposals To Improve Mortgage Æ Advertisements that create a false ‘‘higher-priced’’ loans. Financial Advertising impression that the mortgage broker or institution commenters and their trade Another goal of the Board’s proposal lender has a fiduciary relationship with associations were concerned, however, was to ensure that mortgage loan the consumer; and that the proposed price thresholds were advertisements provide accurate and Æ Foreign-language advertisements in too low, and could capture many prime balanced information and do not which certain information, such as a loans. They contended that broad

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coverage would reduce credit would fail to properly pay tax and are described and discussed in more availability because creditors would insurance obligations. Several industry detail below. refrain from making covered loans or trade associations, several large VIII. Definition of ‘‘Higher-Priced would pass on compliance costs. Many creditors and some mortgage brokers, Mortgage Loan’’—§ 226.35(a) industry commenters urged the Board to consumer and community development use a different index to define higher- groups, and state and federal officials, A. Overview priced mortgage loans than the however, supported the proposed proposed index of Treasury security escrow requirement as protecting The Board proposed to extend certain yields, because the spread between consumers from expensive force-placed consumer protections to a subset of Treasury yields and mortgage rates can insurance or default, and possibly consumer residential mortgage loans change. Consumer advocate commenters foreclosure. referred to as ‘‘higher-priced mortgage generally, but not uniformly, favored For their part, mortgage brokers and loans.’’ This part VIII discusses the applying the Board’s proposed their trade associations principally definition of ‘‘higher-priced mortgage protections to all loans secured by a addressed the yield spread premium loan’’ the Board is adopting. A principal dwelling regardless of loan proposal, which they strongly opposed. discussion of the specific protections price. In the alternative, they favored They, as well as FTC staff, argued that that apply to these loans follows in part the proposed price thresholds but urged prohibiting creditors from paying IX. The Board is also finalizing the the Board also to apply the protections brokers more than the consumer agreed proposal to apply certain other to nontraditional mortgage loans. to in writing would put brokers at a restrictions to closed-end consumer Industry commenters generally, but competitive disadvantage relative to mortgage loans secured by the not uniformly, supported or did not retail lenders. They also argued that consumer’s principal dwelling without oppose a rule prohibiting lenders from consumers would be confused and regard to loan price. These restrictions engaging in a pattern or practice of misled by a broker compensation are discussed separately in part X. unaffordable lending. They urged the disclosure. Consumer advocates, several Under the proposal, higher-priced Board, however, to provide a clear and members of Congress, several state mortgage loans would be defined as specific ‘‘safe harbor’’ and remove the attorneys general, and the FDIC consumer credit transactions secured by presumptions of violations in order to contended that the proposal would do the consumer’s principal dwelling for avoid unduly constraining credit. In little to protect consumers and urged the which the APR on the loan exceeds the contrast, consumer advocate Board to ban yield spread premiums yield on comparable Treasury securities commenters and others urged the Board outright. by at least three percentage points for to revise the ability to repay rule so that Most commenters generally supported first-lien loans, or five percentage points it applies on a loan-by-loan basis and the Board’s proposed advertising rules, for subordinate-lien loans. The not only to a pattern or practice of although some commenters requested proposed definition would include disregarding borrowers’ ability to repay. clarifications and modifications. home purchase loans, refinancings, and These commenters argued that a Commenters were divided about the home equity loans. The definition requirement to prove a ‘‘pattern or proposal to require early mortgage loan would exclude home equity lines of practice’’ would prevent consumers disclosures. Many creditors and their credit (‘‘HELOCs’’). There would also be from bringing claims and would weaken trade associations opposed the proposal exclusions for reverse mortgages, because of perceived operational cost the rule’s power to deter abuse. construction-only loans, and bridge Consumer advocate commenters and and compliance difficulties, and loans. some federal and state regulators and concerns about the scope of the fee elected officials also maintained that a restriction and its application to third The Board is adopting a definition of complete ban on prepayment penalties party originators. Consumer groups, ‘‘higher-priced mortgage loan’’ that is is necessary to protect consumers. In state regulators and enforcement substantially similar to that proposed particular, many of these commenters generally supported the proposed rule, but different in the particulars. The argued that prepayment penalties’ however, because it would make more changes to the final rule are being made harms to subprime consumers outweigh information available to consumers in response to commenters’ concerns. the benefits of any reductions in interest when they are shopping for loans. Some The final definition, like the proposed rate consumers receive, and that the of the commenters requested that the definition, sets a threshold above a Board’s proposed restrictions on Board require lenders to redisclose measure of market rates to distinguish prepayment penalties would not before loan consummation to enhance higher-priced mortgage loans from the adequately address the harms. However, the accuracy of information. rest of the mortgage market. But the most banks and their trade associations Industry commenters urged the Board measure the Board is adopting is stated that the interest rate benefit to adopt all of the proposed restrictions different, and therefore so is the afforded to consumers with loans in §§ 226.35 and 226.36 under its TILA threshold. Instead of yields on Treasury having prepayment penalty provisions Section 105(a) authority rather than its securities, the definition uses average lowers credit costs and increases credit Section 129(l)(2) authority. They argued offer rates for the lowest-risk prime availability. that using Section 129(l)(2) authority mortgages, termed ‘‘average prime offer Many community banks and mortgage would impose disproportionately heavy rates.’’ For the foreseeable future, the brokers as well as several industry trade penalties on lenders for violations and Board will obtain or, as applicable, associations opposed the proposed unnecessary costs on consumers. derive average prime offer rates from the escrow requirement, contending that Consumer advocates, on the other hand, Freddie Mac Primary Mortgage Market escrow infrastructures would be costly supported using Section 129(l)(2) Survey. The threshold is set at 1.5 and that creditors would either refrain authority and urged the Board use it percentage points above the average from making higher-priced loans or more broadly to adopt the other prime offer rate on a comparable would pass costs on to consumers. proposed rules concerning early transaction for first-lien loans, and 3.5 Consumers also expressed concern that disclosures and advertising. percentage points for subordinate-lien they would lose interest on their Public comments with respect to loans. The exclusions from ‘‘higher- escrowed funds and that servicers these and other provisions of the rule priced mortgage loans’’ for HELOCs and

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certain other types of transactions are C. General Approach ability of many borrowers in the adopted as proposed. subprime market to protect themselves Cover Subprime, Exclude Prime The definition of ‘‘higher-priced against unfair, abusive, or deceptive mortgage loans’’ appears in § 226.35(a). The Board stated in connection with practices. The final rule applies Such loans are subject to the restrictions the proposal a general principle that protections against coercion of and requirements in § 226.35(b) new regulations should be applied as appraisers and unfair servicing practices concerning repayment ability, income broadly as needed to protect consumers to the prime market because, with verification, prepayment penalties, from actual or potential injury, but not respect to these particular practices, the escrows, and evasion, except that only so broadly that the costs, including the prime market, too, suffers a lack of first-lien higher-priced mortgage loans always-present risk of unintended transparency and these practices do not are subject to the escrow requirement. consequences, would clearly outweigh appear to be limited to the subprime the benefits. Consistent with this B. Public Comment on the Proposal market. principle, the Board believes, as it stated With these limited exceptions, at Most industry commenters, a national in connection with the proposal, that present the Board believes that any consumer advocacy and research the stricter regulations of § 226.35 undue risks to consumers in the prime organization, and others supported the should cover the subprime market and market from particular loan terms or approach of using loan price to identify generally exclude the prime market. lending practices are better addressed loans subject to stricter regulations. A The Board believes that the practices through means other than new large number and wide variety of these that § 226.35 would prohibit—lending regulations under HOEPA. Supervisory commenters, however, urged the Board without regard to ability to pay from guidance from the federal agencies to use a prime mortgage market rate verified income and non-collateral influences a large majority of the prime instead of, or in addition to, Treasury assets, failure to establish an escrow for market which, unlike the subprime yields to avoid arbitrary changes in taxes and insurance, and prepayment market, has been dominated by federally coverage due to changes in the premium penalties outside of prescribed limits— supervised institutions.36 Such for mortgages over Treasuries or in the are so clearly injurious on balance to guidance affords regulators and relationship between short-term and consumers within the subprime market institutions alike more flexibility than a long-term Treasury yields. The precise that they should be categorically barred regulation, with potentially fewer recommendations are discussed in more in that market. The reasons for this unintended consequences. In addition, detail in subpart D below. Industry conclusion are detailed below in part IX the standards the Government commenters were particularly with respect to each practice. Moreover, Sponsored Enterprises set for the loans concerned that the threshold over the the Board has concluded that, to be they will purchase continue to have chosen index be set high enough to effective, these prohibitions must cover significant influence within the prime exclude the prime market. They the entire subprime market and not just market, and these entities are maintained that the proposed thresholds subprime products with particular terms accountable for those standards to of 300 and 500 basis points over or features. Market imperfections regulators and Congress.37 Treasury yields would cover a discussed in part II—the subprime significant part of the prime market and market’s lack of transparency and Use the APR reduce credit availability. potentially inadequate incentives for The Board also continues to believe— Consumer and civil rights group creditors to make only loans that and few, if any, commenters disagreed— commenters generally, but not consumers can repay—affect consumers that the best way to identify the uniformly, opposed limiting protections throughout the subprime market. To be subprime market is by loan price rather to higher-priced mortgage loans and sure, risk within the subprime market than by borrower characteristics. recommended applying these has varied by loan type. For example, Identifying a class of protected protections to all loans secured by a delinquencies on fixed-rate subprime borrowers would present operational principal dwelling. They recommended mortgages have been lower in recent difficulties and other problems. For in the alternative that the thresholds be years than on adjustable-rate subprime example, it is common to distinguish adopted at the levels proposed, or even mortgages. It is not likely to be practical borrowers by credit score, with lower- lower, and that nontraditional mortgage or effective, however, to target certain scoring borrowers generally considered loans, which permit non-amortizing types of loans in the subprime market to be at higher risk of injury in the payments or negatively amortizing for coverage while excluding others. mortgage market. Defining the protected payments, be covered regardless of loan Such a rule would be unduly complex, field as lower-scoring consumers would price. They believe the Nontraditional likely fail to adapt quickly enough to fail to protect higher-scoring consumers Mortgage Guidance is not adequate to ever-changing products, and encourage ‘‘steered’’ to loans meant for lower- protect consumers. creditors to steer borrowers to scoring consumers. Moreover, the The proposed exclusion of HELOCs uncovered products. market uses different commercial drew criticism from several consumer In the prime market, however, the scores, and choosing a particular score and civil rights groups but strong Board believes that a case-by-case support from industry commenters. The approach to determining whether the 36 According to HMDA data from 2005 and 2006, other proposed exclusions drew limited § 226.35 practices are unfair or more than three-quarters of prime, conventional first-lien mortgage loans on owner-occupied comment. Some industry commenters deceptive is more appropriate. By properties were made by depository institutions or proposed additional exclusions for nature, loans in the prime market have their affiliates. For this purpose, a loan for which loans with federal guaranties such as a lower credit risk. Moreover, the prime price information was not reported is treated as a FHA, VA, and Rural Housing Service. A market is more transparent and prime loan. 37 According to HMDA data from 2005 and 2006, few commenters also proposed competitive, characteristics that make it nearly 30 percent of prime, conventional first-lien excluding ‘‘jumbo’’ loans, that is, loans less likely a creditor can sustain an mortgage loans on owner-occupied properties were in an amount that exceeds the threshold unfair, abusive, or deceptive practice. In purchased by Fannie Mae or Freddie Mac. This of eligibility for purchase by Fannie Mae addition, borrowers in the prime market figure understates the GSEs’ influence on the prime market because it excludes the many loans that or Freddie Mac. Other proposed are less likely to be under the degree of were underwritten using the GSEs’ standards but exclusions are discussed below. financial stress that tends to weaken the were not sold to the GSEs.

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as the benchmark for a regulation could Second, available data sets provide prime market. In the face of this give unfair advantage to the company only a rough measure of the empirical uncertainty, deciding on an APR that provides that score. relationship between APR and credit threshold calls for judgment. As the The most appropriate measure of loan risk. A proprietary dataset such as the Board stated with the proposal, the price for this regulation is the APR; few, loan-level data on subprime securitized Board believes it is appropriate to err on if any, commenters disagreed with this mortgages published by First American the side of covering somewhat more point either. The APR corresponds LoanPerformance may contain detailed than the subprime market. information on loan characteristics, closely to credit risk, that is, the risk of The Alt-A Market default as well as the closely related including the contract rate, but lack the risks of serious delinquency and APR or sufficient data to derive the If the selected thresholds cover more foreclosure. Loans with higher APRs APR. Other data must be consulted to than the subprime market, then they generally have higher credit risks, estimate APRs based on contract rates. likely extend into what has been known whatever the source of the risk might HMDA data contain the APR for as the alt-A market. The alt-A market is be—weaker borrower credit histories, mortgage loans reportable as being generally understood to be for borrowers higher borrower debt-to-income ratios, higher-priced (as adjusted by who typically have higher credit scores higher loan-to-value ratios, less comparable Treasury securities), but than subprime borrowers but still pose complete income or asset they have little information about credit more risk than prime borrowers because documentation, less traditional loan risk. they make small down payments or do not document their incomes, or for other terms or payment schedules, or Third, data sets can of course show reasons. The definition of this market is combinations of these or other risk only the existing or past distribution of loans across market segments, which not precise, however. factors. Because disclosing an APR has The Board judges that the benefits of long been required by TILA, the figure may change in ways that are difficult to predict. In particular, the distribution extending § 226.35’s restrictions into is also very familiar and readily some part of the alt-A market to ensure available to creditors and consumers. could change in response to the Board’s imposition of the restrictions in coverage of the entire subprime market Therefore, the Board believes it outweigh the costs. This market segment appropriate to use a loan’s APR to § 226.35, but the likely direction of the change is not clear. ‘‘Over compliance’’ also saw undue relaxation of identify loans having a high enough underwriting standards, one reason that credit risk to warrant the protections of could effectively lower the threshold. While a loan’s APR can be estimated its share of residential mortgage § 226.35. early in the application process, it is originations grew sixfold from 2003 to Two loans with identical risk typically not known to a certainty until 2006 (from two percent of originations characteristics will likely have different after the underwriting has been to 13 percent). 38 See part VIII.C for APRs if they were originated when completed and the interest rate has been further discussion of the relaxation of market rates were different. It is locked. Creditors might build in a underwriting standards in the alt-A important to normalize the APR by an ‘‘cushion’’ against this uncertainty by market. index that moves with mortgage market voluntarily setting their internal To the extent § 226.35 covers the rates so that loans with the same risk thresholds lower than the threshold in higher-priced end of the alt-A market, characteristics will be treated the same the regulation. where risks in that segment are highest, regardless of when the loans were Creditors would have a competing the regulation will likely benefit originated. The Board proposed to use incentive to avoid the restrictions, consumers more than it would cost as this index the yields on comparable however, by restructuring the prices of them. Prohibiting lending without Treasury securities, which HOEPA uses potential loans that would have APRs regard to repayment ability in this currently to identify HOEPA-covered just above the threshold to cause the market slice would likely reduce the loans, see TILA Section 103(aa), 15 loans’ APRs to come under the risk to consumers from ‘‘payment U.S.C. 1602(aa), and § 226.32(a), and threshold. Different combinations of shock’’ on nontraditional loans. Regulation C uses to identify mortgage contract rates and points that are Applying the income verification loans reportable under HMDA as being economically identical for an originator requirement of §§ 226.32(a)(4)(ii) and higher-priced, see 12 CFR 203.4(a)(12). produce different APRs. With the 226.35(b)(1) to the riskier part of the alt- For reasons discussed in more detail adoption of § 226.35, an originator may A market could ameliorate injuries to below, the final rule uses instead an have an incentive to achieve a rate-point consumers from lending based on index that more closely tracks combination that would bring a loan’s inflated incomes without necessarily movements in mortgage rates than do APR below the threshold (if the depriving consumers of access to credit. Treasury yields. borrower had the resources or equity to D. Index for Higher-Priced Mortgage Uncertainty pay the points). Moreover, some fees, such as late fees and prepayment Loans As the Board stated in connection penalties, are not included in the APR. Under the proposal, higher-priced with the proposal, there are three major Creditors could increase the number or mortgage loans would be defined as reasons why it is inherently uncertain amounts of such fees to maintain a consumer credit transactions secured by which APR threshold would achieve the loan’s effective price while lowering its the consumer’s principal dwelling for twin objectives of covering the subprime APR below the threshold. It is not clear which the APR on the loan exceeds the market and generally excluding the whether the net effect of these yield on comparable Treasury securities prime market. First, there is not a competing forces of over-compliance by at least three percentage points for uniform definition of the prime or and circumvention would be to capture first-lien loans, or five percentage points subprime market, or of a prime or more, or fewer, loans. for subordinate-lien loans. The subprime loan. Moreover, the markets For all of the above reasons, there is proposed definition would include are separated by a somewhat loosely inherent uncertainty as to what APR home purchase loans, refinancings of defined segment known as the alt-A threshold would perfectly achieve the home purchase loans, and home equity market, the precise boundaries of which objectives of covering the subprime are not clear. market and generally excluding the 38 IMF 2007 Mortgage Market at 4.

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loans. The definition would exclude varied. Several commenters specifically for other maturities; and the integrity of home equity lines of credit (‘‘HELOCs’’), recommended using the PMMS. They published yields is not subject to reverse mortgages, construction-only recommended that a threshold be added question. For these reasons, Treasuries loans, and bridge loans. to the PMMS figure because it is, by are also commonly used in federal The Board is adopting a definition of design, at the low end of the range of statutes, such as HOEPA, for ‘‘higher-priced mortgage loan’’ that is rates that can be found in the prime benchmarking purposes. substantially similar to that proposed market. Recommendations for As recent events have highlighted, but different in the particulars. The final thresholds for first-lien loans ranged however, using Treasury yields to set definition, like the proposed definition, from 150 to 300 basis points over the the APR threshold in a law regulating sets a threshold above a measure of PMMS. Some commenters mortgage loans has two major market rates to distinguish higher- recommended approaches that would disadvantages. The most significant priced mortgage loans from the rest of rely on both Treasuries and the PMMS. disadvantage is that the spread between the mortgage market. But the measure A few recommended the approach of a Treasuries and mortgage rates, even the Board is adopting is different, and recent North Carolina law, which covers prime mortgage rates, changes in the therefore so is the threshold. Instead of a first-lien loan only if its APR exceeds short term and in the long term. yields on Treasury securities, the final two thresholds: 300 basis points over Moreover, the comparable Treasury definition uses average offer rates for the the comparable Treasury yield and 175 security for a given mortgage loan is lowest-risk prime mortgages, termed basis points over the PMMS rate for the quite difficult to determine accurately. ‘‘average prime offer rates.’’ For the 30-year fixed-rate loan. A few The Treasury-mortgage spread can foreseeable future, the Board will obtain recommended a different way to change for at least three different or, as applicable, derive average prime integrate Treasuries and the PMMS. reasons. First, credit risk may change on offer rates for a wide variety of types of Under this approach, the threshold mortgages, even for the highest-quality transactions from the Primary Mortgage would be set at the comparable Treasury borrowers. For example, credit risk Market Survey (PMMS) conducted by yield (determined as proposed) plus 200 increases when house prices fall. Freddie Mac, and publish these rates on basis points (400 for subordinate-lien Second, competition for prime at least a weekly basis. The Board will loans), plus the spread between the borrowers can increase, tightening conduct its own survey if it becomes PMMS 30-year FRM rate and the seven- spreads, or decrease, allowing lenders to appropriate or necessary to do so. The year Treasury. charge wider spreads. Third, threshold is set at 1.5 percentage points Some commenters offered alternatives movements in financial markets can above the average prime offer rate on a to the PMMS. A consumer research and affect Treasury yields but have no effect comparable transaction for first-lien advocacy group and Freddie Mac on lenders’ cost of funds or, therefore, loans, and 3.5 percentage points for suggested that the Board could use the on mortgage rates. For example, subordinate-lien loans. The exclusions higher of the Freddie Mac Required Net Treasury yields fall disproportionately from ‘‘higher-priced mortgage loans’’ for Yield (the yield Freddie Mac expects more than mortgage rates during a HELOCs and certain other types of from purchasing a conforming mortgage) ‘‘flight to quality.’’ transactions are adopted as proposed. and the equivalent Fannie Mae yield. Recent events illustrate how much the Fannie Mae offered a similar, but not Treasury-mortgage spread can swing. Public Comment identical, recommendation to use the The spread averaged about 170 basis A large number and wide variety of higher of the current coupon yield for points in 2007, but increased to an industry commenters, as well as a Fannie Mae Mortgage Backed Securities average of about 220 basis points in the consumer research and advocacy group, and Freddie Mac participation first half of 2008. In addition, the spread urged the Board to use a prime mortgage certifications (PC). These yields reflect was highly volatile in this period, market rate instead of, or in addition to, the price at which a government- shifting as much as 25 basis points in a Treasury yields. First, they argued the sponsored entity (GSE) security can be week. The spread may decrease, but tendency of prime mortgage rates at sold in the market. At least one predictions of long-term spreads are certain times to deviate significantly commenter suggested that the Board highly uncertain. from Treasury yields—such as during could conduct its own survey of Changes in the Treasury-mortgage the ‘‘flight to quality’’ seen in recent mortgage market rates. spread can undermine key objectives of months—would lead to unwarranted the regulation. These changes mean that coverage of the prime market and Discussion loans with identical credit risk are arbitrary swings in coverage. Many of Based on these comments and the covered in some periods but not in these commenters also pointed out that analysis below, the final rule does not others, contrary to the objective of changes in the Treasury yield curve (the use Treasury yields as the index for consistent and predictable coverage over relationship of short-term to long-term higher-priced mortgage loans. Instead, time. Moreover, lenders’ uncertainty as Treasury yields) can increase or the rule uses average offer rates on the to when such changes will occur can decrease coverage even though neither lowest-risk prime mortgage loans, cause them to set an internal threshold borrower risk profiles nor creditor termed ‘‘average prime offer rates.’’ For below the regulatory threshold. This practices or products have changed. The the foreseeable future, the Board will may reduce credit availability directly Board’s proposal to address this second obtain or, as applicable, derive these (if a lender’s policy is not to make problem by matching Treasuries to rates for a wide variety of types of higher-priced mortgage loans) or mortgages on the basis of the loan’s transactions from the PMMS and indirectly, by increasing regulatory expected life span drew limited, but publish them on a weekly basis. burden. The recent volatility might lead mostly negative, comment. Although Drawbacks of using Treasury security lenders to set relatively conservative one large lender specifically agreed with yields. There are significant advantages cushions. the proposed matching rules, a few to using Treasury yields to set the APR Adverse consequences of volatility in others stated the rules were too thresholds. Treasuries are traded in a the spread between mortgages rates and complicated. highly liquid market; Treasury yield Treasuries could be reduced simply by The precise recommendations for a data are published for many different setting the regulatory threshold at a high measure of mortgage market rates maturities and can easily be calculated enough level to ensure it excludes all

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prime loans. But a threshold high unemployment rates change. Loan life fixed,’’ and ‘‘15-year fixed.’’ For the two enough to accomplish this objective spans also change as specific loan types of ARMs, PMMS pricing data are would likely fail to meet another, features that influence default or based on ARMs that adjust according to equally important objective of covering prepayment rates change, such as the yield on one-year Treasury essentially all of the subprime market. prepayment penalties. The challenge of securities; the pricing data include the Instead, the Board is adopting a rate that adjusting the regulation’s matching margin and the initial rate (if it differs closely follows mortgage market rates, rules on a timely basis would be from the sum of the index and margin). which should mute the effects on substantial, and too-frequent These data are updated every week and coverage of changes in the spread adjustments would complicate are published on Freddie Mac’s Web between mortgage rates and Treasury creditors’ compliance. Indeed, many site.40 yields. commenters judged the proposed The Freddie Mac PMMS is the most The second major disadvantage of matching rules to be too complicated. viable option for obtaining average using Treasury yields to set the This matching problem can be reduced, prime offer rates. This is the only threshold is that the comparable if not necessarily eliminated, by using publicly available data source that has Treasury security for a given mortgage mortgage market rates instead of rates for more than one kind of fixed- loan is quite difficult to determine Treasury security yields to set the rate mortgage (the 15-year and the 30- accurately. Regulation C determines the threshold. year) and more than one kind of comparable Treasury security on the A rate from the prime mortgage variable-rate mortgage (the 1-year ARM basis of contractual maturity: A loan is market. To address the principal and the 5/1 ARM). Having rates on at matched to a Treasury with the same drawbacks of Treasury security yields, least two fixed-rate products and at least contract term. For example, the the Board is adopting a final rule that two variable-rate products supplies a regulation matches a 30-year mortgage relies instead on a rate that more closely firmer basis for estimating rates for other loan to a 30-year Treasury security. This tracks rates in the prime mortgage fixed-rate and variable-rate products method does not, however, account for market. Section 226.35(a)(2) defines an (such as a 20-year fixed or a 3/1 ARM). the fact that very few loans reach their ‘‘average prime offer rate’’ as an annual Other publicly available surveys the full maturity, and it causes significant percentage rate derived from average Board considered are less suitable for distortions when the yield curve interest rates, points, and other pricing the purposes of this rule. Only one ARM changes shape.39 These distortions can terms offered by a representative sample rate is collected by the Mortgage bias coverage, sometimes in of creditors for mortgage transactions Bankers Association’s Weekly Mortgage unpredictable ways, and consequently that have low-risk pricing Applications Survey and the Federal might influence the preferences of characteristics. Comparing a Housing Finance Board’s Monthly lenders to offer certain loan products in transaction’s annual percentage rate to Survey of Interest Rates and Terms on certain environments. For example, a this average offered annual percentage Conventional Single-Family Non-Farm steep yield curve will create two rate, rather than to an average offered Mortgage Loans. Moreover, the FHFB regulatory forces pushing the subprime contract interest rate, should make the Survey has a substantial lag because it market toward ARMs: A lender could rule’s coverage more accurate and is monthly and reports rates on closed avoid coverage on the margins by selling consistent. A transaction is a higher- loans. The Board also evaluated two ARMs rather than fixed-rate mortgages, priced mortgage loan if its APR exceeds non-survey options involving Fannie and the consumer would receive an the average prime offer rate for a Mae and Freddie Mac. One is the APR that understates the interest rate comparable transaction by 1.5 Required Net Yield, the prices these risk from an ARM relative to that from percentage points, or 3.5 percentage institutions will pay to purchase loans a fixed-rate mortgage. (Regulation Z points in the case of a subordinate-lien directly. The other is the yield on requires the APR be calculated as if the transaction. (The basis for selecting mortgage-backed securities issued by index does not change; a steep yield these thresholds is explained further in Fannie Mae and Freddie Mac. With curve indicates that the index will likely part VIII.E) The creditor uses the most either option, data for ARM yields rise.) Artificial regulatory incentives to recently available average prime offer would be difficult to obtain. rate as of the date the creditor sets the increase ARMs production in the These other data sources, however, transaction’s interest rate for the final subprime market could undermine provide useful benchmarks to evaluate time before consummation. the accuracy of the PMMS. The PMMS consumer protection. To facilitate compliance, the final rule The Board proposed to reduce has closely tracked these other indices, and commentary provide that the Board distortions in coverage resulting from according to a Board staff analysis. The will derive average prime offer rates changes in the yield curve by matching Board will continue to use them from survey data according to a loans to Treasury securities on the basis periodically to help it determine methodology it will make publicly of the loan’s expected life span rather whether the PMMS remains an available, and publish these rates in a than its legal term to maturity. For appropriate data source for Regulation table on the Internet on at least a weekly example, the Board proposed to match Z. If the PMMS ceases to be available, basis. This table will indicate how to or if circumstances arise that render it a 30-year fixed-rate mortgage loan to a identify a comparable transaction. 10-year Treasury security on the unsuitable for this rule, the Board will As noted above, the survey the Board consider other alternatives including supposition that the mortgage loan will intends to use for the foreseeable future prepay (or default) in ten years or less. conducting its own survey. is the PMMS, which contains weekly The Board will use the pricing terms A limitation of this approach is that average rates and points offered by a loan life spans change as rates of house from the PMMS, such as interest rate representative sample of creditors to and points, to calculate an annual price appreciation, mortgage rates, and prime borrowers seeking a first-lien, macroeconomic factors such as percentage rate (consistent with conventional, conforming mortgage and Regulation Z, § 226.22) for each of the who would have at least 20 percent 39 Robert B. Avery, Kenneth P. Brevoort, and four types of transactions that the Glenn B. Canner, Higher-Priced Home Lending and equity. The PMMS contains pricing data the 2005 HMDA Data, 92 Fed. Res. Bulletin A123– for four types of transactions: ‘‘1-year 40 See http://www.freddiemac.com/dlink/html/ 66 (Sept. 8, 2006). ARM,’’ ‘‘5/1-year ARM,’’ ‘‘30-year PMMS/display/PMMSOutputYr.jsp.

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PMMS reports. These annual percentage or higher, but a few trade associations data, the Board believes that the rates are the average prime offer rates for recommended 500 (700) or 600 (800). thresholds it is adopting would cover transactions of that type. The Board will These commenters contended that all, or virtually all, of the subprime derive annual percentage rates for other covering any part of the prime market market and a portion of the alt-A types of transactions from the loan would harm consumers because the market. The Board considered loan-level pricing terms available in the survey. secondary market would not purchase origination data for the period 2004 to The method of derivation the Board loans with rates over the threshold. 2007 for subprime and alt-A securitized expects to use is being published for They also stated that many originators pools. The proprietary source of these comment in connection with the would seek to avoid originating such data is FirstAmerican Loan simultaneously proposed revisions to loans because of a stigma these Performance.43 The Board also Regulation C. When finalized, the commenters expect will attach to such ascertained from a proprietary database method will be published on the loans, the increased compliance cost of mostly prime loans (McDash Internet along with the table of annual associated with the proposed Analytics) that coverage of the prime percentage rates. regulations, and the substantial market during the first three quarters of 2007 at these thresholds would have E. Threshold for Higher-Priced Mortgage monetary recovery TILA Section 130 been very limited. The Board recognizes Loans would provide plaintiffs for violations of the regulations. that the recent mortgage market The Board proposed a threshold of A trade association for the disruption began at the end of this three percentage points above the manufactured housing industry period, but it is the latest period for comparable Treasury security for first- submitted that the proposed thresholds which data were available. lien loans, or five percentage points for would cover a substantial majority of The Board is adopting a threshold for subordinate-lien loans. Since the final personal property loans used to subordinate-lien loans of 3.5 percentage rule uses a different index, it must also purchase manufactured homes. This points. This is consistent with the use a different threshold. The Board is commenter contended that the reasons Board’s proposal to set the threshold adopting a threshold for first-lien loans these loans are priced higher than loans over Treasury yields for these loans two of 1.5 percentage points above the secured by real estate (such as the percentage points above the threshold average prime offer rate for a smaller loan amounts and the lack of for first-lien loans. With rare exceptions, comparable transaction, and 3.5 real property securing the loan) do not commenters explicitly endorsed, or at percentage points for second-lien loans. support a rule that would cover least did not raise any objection to, this Public Comment personal property loans approach. The Board recognizes that it would be preferable to set a threshold Industry commenters consistently disproportionately. Consumer and civil rights group for second-lien loans above a measure of contended that, should the Board use commenters generally, but not market rates for second-lien loans, but it Treasury yields as proposed, thresholds uniformly, opposed limiting protections does not appear that a suitable measure of 300 and 500 basis points would be to higher-rate loans and recommended of this kind exists. Although data are too low to meet the Board’s stated applying these protections to all loans very limited, the Board believes it is objective of excluding the prime appropriate to apply the same difference market.41 These commenters secured by a principal dwelling. They recommended in the alternative that the of two percentage points to the recommended thresholds of 400 basis thresholds above average prime offer points (600 for subordinate-lien loans) thresholds be adopted at the levels proposed or even lower. They argued it rates. As discussed earlier, the Board 41 One trade association reported that some of its was critical to cover all of the subprime market and much if not all of the alt-A recognizes that there are limitations to members found the proposal would have covered making judgments about the future up to one-third of prime loans originated between market. November 2007 and January 2008. This and other scope of the rule based on past data. For commenters said the effect was particularly Discussion example, when the final rule takes pronounced with ARMs. Several members of this effect, the risk premiums for alt-A loans association were reported to have found that more As discussed above, the Board has than one-half of prime 7/1, 5/1, and 3/1 ARMs concluded that the stricter regulations of compared to the conforming loans in the originated between November 2007 and January § 226.35 should cover the subprime PMMS may be higher than the risk 2008 would have been covered. A different market and generally exclude the prime premiums for the period 2004–2007. In association of mortgage lenders indicated that some that case, coverage of alt-A loans would of its members had found that almost 20 percent of market; and in the face of uncertainty it prime and alt-A loans would be covered under the is appropriate to err on the side of be higher than an estimate for that proposal, though the time frame its members used covering somewhat more than the period would indicate. was not specified. A major lender reported that the Another important example is prime proposal would have captured 8–10 percent of its subprime market. Based on available data, it appeared that the thresholds the ‘‘jumbo’’ loans, or loans extended to portfolio in 2006 and 2007, about twice the portion borrowers with low-risk mortgage of its portfolio that it was required to report as Board proposed would capture all of the higher-priced under HMDA. The lender represents subprime market and a portion of the that it did not make subprime loans in this period 42 same source estimated to be 12 percent in 2005 and and asserts that its figures are predictive of the alt-A market. Based also on available 13 percent in 2006. In 2004, Regulation C captured impact the proposal would have on the prime a significantly smaller part of the market than an market overall. Another large lender that stated it 42 The Board noted in the proposal that the industry estimate of the subprime market (11 does not make subprime loans believes that about percentage of the first-lien mortgage market percent vs. 19 percent), but that year’s HMDA data 10 percent of its current originations would fall Regulation C has captured as higher-priced using a were somewhat anomalous because of a steep yield above the proposed thresholds. One lender, threshold of three percentage points has been curve. however, expressed satisfaction with the proposed greater than the percentage of the total market 43 Annual percentage rates were estimated from 300 basis points for first-lien loans and said an originations that one industry source has estimated the contract rates in these data using formulas internal analysis of historical data found it would to be subprime (25 percent vs. 20 percent in 2005; derived from a separate proprietary database of not have captured significant numbers of its prime 28 percent vs. 20 percent in 2006). For industry subprime loans that collects contract rates, points, loans. But this lender’s analysis found that estimates see IMF 2007 Mortgage Market at 4. and annual percentage rates. This separate database, significant numbers of prime subordinate-lien loans Regulation C’s coverage of higher-priced loans is which contains data on the loan originations of would have been captured, leading the lender to not thought, however, to have reached the prime eight subprime mortgage lenders, is maintained by recommend raising the threshold for subordinate- market in those years. Rather, in both 2005 and the Financial Services Research Program at George lien loans to 600 basis points. 2006 it reached into the alt-A market, which the Washington University.

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pricing characteristics, but in amounts the application is received. The Board with an objective of covering the that exceed the threshold for loans noted that inconsistency with subprime market and exclude the prime eligible for purchase by Freddie Mac or Regulation C, which sets the threshold market, and the definition of ‘‘higher- Fannie Mae. The PMMS collects pricing as of the 15th of the month before the priced mortgage loan’’ adopted in this data only on loans eligible for purchase rate is locked, could increase regulatory rule better achieves this objective than by one of these entities (‘‘conforming burden. The Board suggested, however, the definition in Regulation C for the loans’’). Prime jumbo loans have always that setting the threshold as of the reasons discussed in part VIII.D. had somewhat higher rates than prime application date might introduce more Accordingly, in a separate notice conforming loans, but the spread has certainty, earlier in the application published simultaneously with this widened significantly and become much process, to the determination as to final rule the Board is proposing to more volatile since August 2007. If this whether a potential transaction would amend Regulation C to apply the same spread remains wider and more volatile be a higher-priced mortgage loan when when the final rule takes effect, the rule consummated. index and threshold adopted in will cover a significant share of Very few commenters addressed the § 226.35(a). transactions that would be prime jumbo precise issue. A couple of them H. Types of Loans Covered Under loans. While covering prime jumbo specifically advocated using the rate § 226.35 loans is not the Board’s objective, the lock date to select the Treasury yield, as Board does not believe that it should set in Regulation C, rather than the The Board proposed to apply the the threshold at a higher level to avoid application date. Subsequent outreach protections of § 226.35 to first-lien, as what may be only temporary coverage of by the Board indicated that there are well as subordinate-lien, closed-end these loans relative to the long time different views as to which date to use. mortgage loans secured by the horizon for this rule. Some parties prefer the rate lock date consumer’s principal dwelling. This A third example is a request from a because it is more accurate and would include home purchase loans, trade association for the manufactured therefore would minimize coverage of refinancings, and home equity loans. housing industry, including lenders loans that are not intended to be The proposed definition would not specializing in this industry, that the covered and maximize coverage of loans cover loans that do not have primarily thresholds be set higher for loans that are intended to be covered. Other a consumer purpose, such as loans for secured by dwellings deemed to be parties prefer the application date personal property. This association because they believe it increases the real estate investment. The proposed pointed to the higher risk creditors bear creditor’s ability to predict, when definition also would not cover on these loans compared to loans underwriting the loan, that the loan is, HELOCs, reverse mortgages, secured by real property, which makes or is not, covered by § 226.35. construction-only loans, or bridge loans. their rates systematically higher for As noted above, the final rule requires In these respects, the rule is adopted as reasons apart from the risks they pose to the creditor to use the rate lock date, the proposed. date the rate is set for the final time consumers. It also maintained that such Coverage of Home Purchase Loans, loans have not been associated with the before consummation, rather than the Refinancings, and Home Equity Loans abusive practices of the subprime application date. Using the application market.44 date might increase the predictability of The statutory protections for HOEPA Credit risk and liquidity risk can vary coverage at the time of underwriting. loans are generally limited to closed-end by many factors, including geography, Using the rate lock date would increase refinancings and home equity loans. See property type, and type of loan. This the accuracy of coverage at least TILA Section 103(aa), 15 U.S.C. may suggest to some that different somewhat. On balance, the Board 1602(aa). The final rule applies the thresholds should be applied to believes it is more important to protections of § 226.35 to loans of these different classes of transactions. This maximize coverage accuracy. approach would make the regulation types, which have historically presented G. Proposal To Conform Regulation C the greatest risk to consumers. These inordinately complicated and subject it (HMDA) to frequent revision, which would not loans are often made to consumers who be in the interest of creditors, investors, Regulation C, which implements have home equity and, therefore, have or consumers. Although the simpler HMDA, requires creditors to report price an existing asset at risk. These loans approach the Board is adopting—just data on higher-priced mortgage loans. A also can be marketed aggressively by two thresholds, one for first-lien loans creditor reports the difference between originators to homeowners who may not and another for subordinate-lien loans— a loan’s annual percentage rate and the benefit from them and who, if has its disadvantages, the Board believes yield on Treasury securities having responding to the marketing and not they are outweighed by its benefits of comparable periods of maturity, if that shopping independently, may have simplicity and stability. difference is at least three percentage limited information about their options. points for first-lien loans or at least five The Board proposed to use its F. The Timing of Setting the Threshold percentage points for subordinate-lien authority under TILA Section 129(l)(2), The Board proposed to set the loans. 12 CFR 203.4(a)(12). Many 15 U.S.C. 1639(l)(2), to apply the threshold for a dwelling-secured commenters suggested that the Board protections of § 226.35 to home mortgage loan as of the application date. establish a uniform definition of purchase loans as well. Commenters did Specifically, a creditor would use the ‘‘higher-priced mortgage loan’’ for not object, and the Board is adopting the Treasury yield as of the 15th of the purposes of Regulation C and month preceding the month in which Regulation Z. Having a single definition proposal. Covering only refinancings of would reduce regulatory burden and home purchase loans would fail to 44 The specific concern of the commenter is with make the HMDA data a more useful tool protect consumers adequately. From the requirement to escrow, not, apparently, with the to evaluate effects of Regulation Z. 2003 through the first half of 2007, 42 other requirements for higher-priced loans. As Moreover, the Board adopted Regulation percent of the higher-risk ARMs that discussed in part IX.D, the Board is providing came to dominate the subprime market creditors two years to comply with the escrow C’s requirement to report certain requirement for manufactured home loans. mortgage loans as being higher-priced in recent years were extended to

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consumers to purchase a home.45 Accordingly, the need to protect inadequate underwriting of HELOCs Delinquencies on subprime ARMs used investors is not clear, and in any event unduly increased risks to originators for home purchase have risen more is likely not sufficient to justify the and consumers several years ago, the sharply than they have for refinancings. potential unintended consequences of agencies responded with guidance.46 Moreover, comments and testimony at imposing restrictions, with civil liability The Board also pointed to TILA and the Board’s hearings indicate that the if they are violated, on the financing of Regulation Z’s special protections for problems with abusive lending practices real estate investment transactions. borrowers with HELOCs such as are not confined to refinancings and The Board shares concerns that restrictions on changing plan terms. home equity loans. individuals who invest in residential Several national trade associations Furthermore, consumers who are real estate and do not pay their mortgage and a few large lenders voiced strong seeking home purchase loans can face obligations put tenants at risk of support for excluding HELOCs, unique constraints on their ability to eviction in the event of foreclosure. generally for the reasons the Board make decisions. First-time homebuyers Regulating the rights of landlords and cited. Several consumer and civil rights are likely unfamiliar with the mortgage tenants, however, is traditionally a groups disagreed, contending that market. Homebuyers generally are matter for state and local law. The Board enough HELOCs are securitized to raise primarily focused on acquiring a new believes that state and local law could doubts that the originator’s interests are home, arranging to move into it, and better address this particular concern sufficiently aligned with the borrower’s making other life plans related to the than a Board regulation. interests. They maintained that move, such as placing their children in Coverage of Nontraditional Mortgages Regulation Z disclosures and limitations new schools. These matters can occupy for HELOCs are not adequate to protect much of the time and attention Under the final rule, nontraditional consumers, and pointed to specific consumers might otherwise devote to mortgage loans, which permit non- cases in which unaffordable HELOCs shopping for a loan and deciding what amortizing payments or negatively had been extended. Other commenters, loan to accept. Moreover, even if the amortizing payments, are covered by such as an association of state consumer comes to understand later in § 226.35 if their APRs exceed the regulators, agreed that HELOCs should the application process that an offered threshold. Several consumer and civil be covered. Commenters offered very loan may not be appropriate, the rights groups, and others, contended few concrete suggestions, however, for consumer may not be able to reject the that § 226.35 should cover how to determine which HELOCs would loan without risk of abrogating the sales nontraditional mortgage loans regardless be covered, such as an index and agreement and losing a substantial of loan price because of their potential threshold. deposit, as well as disrupting moving for significant payment shock and other plans. risks that led the federal banking The Board is adopting the proposal agencies to issue the Nontraditional for the reasons stated. The Board Limitation to Loans Secured by Mortgage Guidance. The Board does not recognizes, however, that HELOCs Principal Dwelling; Exclusion of Loans believe that the enhanced protections of present a risk of circumvention. for Investment § 226.35 should be applied on the basis Creditors may seek to evade limitations As proposed, § 226.35 protections are of product type, with the limited on closed-end transactions by limited to loans secured by the exception of the narrow exemptions for structuring such transactions as open- consumer’s principal dwelling. The HELOCs and other loan types the Board end transactions. In § 226.35(b)(5), Board’s primary concern is to ensure is adopting. A rule based on product discussed below in part IX.E, the Board that consumers not lose the homes they type would need to be reexamined prohibits structuring a closed-end loan principally occupy because of unfair, frequently as new products were as an open-end transaction for the abusive, or deceptive lending practices. developed, which could undermine the purpose of evading the new rules in The inevitable costs of new regulation, market by making the rule less § 226.35. predictable. Moreover, it is not clear including potential unintended Other Exemptions Adopted consequences, can most clearly be what criteria the Board would use to justified when people’s principal homes decide which products were sufficiently The other proposed exclusions drew are at stake. risky to warrant categorical coverage. limited comment. A couple of A loan to a consumer to purchase or The Board believes that other tools such commenters expressed support for improve a second home would not be as supervisory guidance provide the excluding reverse mortgages while a covered by these protections unless the requisite flexibility to address particular couple of commenters opposed it. A few loan was secured by the consumer’s product types when that becomes large lenders voiced support for principal dwelling. Loans primarily for necessary. excluding construction-only loans. A a real estate investment purpose also are HELOC Exemption few commenters voiced support for the not covered. This exclusion is exclusion of temporary bridge loans of consistent with TILA’s focus on The Board proposed to exempt 12 months or less, and none of the consumer-purpose transactions and its HELOCs largely for two reasons. First, commenters seemed to oppose it. The exclusion in Section 104 of credit the Board noted that most originators of Board is adopting the proposed primarily for business, commercial, or HELOCs hold them in portfolio rather exclusions for reverse mortgages, agricultural purposes. See 15 U.S.C. than sell them, which aligns these construction-only loans, and temporary 1603(1). Real estate investors are originators’ interests in loan or bridge loans of 12 months or less. expected to be more sophisticated than performance more closely with their ordinary consumers about the real estate borrowers’ interests. Second, unlike 46 Interagency Credit Risk Guidance for Home financing process and to have more originations of higher-priced closed-end Equity Lending, SR 05–11 (May 16, 2005), available experience with it, especially if they mortgage loans, HELOC originations are at http://www.federalreserve.gov/boarddocs/ concentrated in the banking and thrift srletters/2005/sr0511a1.pdf.; Addendum to Credit invest in several properties. Risk Guidance for Home Equity Lending, SR 06–15 industries, where the federal banking (Sept. 29, 2006), available at http:// 45 Figure calculated from First American agencies can use supervisory authorities www.federalreserve.gov/BoardDocs/SRLetters/2006/ LoanPerformance data. to protect borrowers. For example, when SR0615a3.pdf.

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Reverse mortgages. The Board is narrowly and not to evade or held in portfolio or sold immediately— keenly aware of consumer protection circumvent the regulation. For example, or, if held, for how long before being concerns raised by the expanding a 12-month loan with a substantial sold. Therefore, such an exception to market for reverse mortgages, which are balloon payment would not qualify for the rule does not appear practicable and complex and are sometimes marketed the exemption where it was clearly could present significant opportunities with other complex financial products. intended to lead a borrower to refinance for evasion. Unique aspects of reverse mortgages— repeatedly into a chain of 12-month for example, the borrower’s repayment loans. IX. Final Rules for Higher-Priced ability is based on the value of the Mortgage Loans and HOEPA Loans Exemptions Not Adopted collateral rather than on income— A. Overview suggest that they should be addressed Industry commenters proposed This part discusses the new consumer separately from this final rule. The additional exclusions that the Board is protections the Board is applying to Board is reviewing this segment of the not adopting. ‘‘higher-priced mortgage loans’’ and mortgage market in connection with its Government-guaranteed loans. Some HOEPA loans. Creditors are prohibited comprehensive review of Regulation Z commenters proposed excluding loans from extending credit without regard to to determine what measures may be with federal guaranties such as FHA, borrowers’ ability to repay from sources required to ensure consumers are VA, and Rural Housing Service. They other than the collateral itself. The final protected. suggested that the federal regulations Construction-only loans. Section that govern these loans are sufficient to rule differs from the proposed rule in 226.35 excludes a construction-only protect consumers, and that new that it removes the proposed ‘‘pattern or loan, defined as a loan solely for the regulations under HOEPA were not only practice’’ phrase and adds a purpose of financing the initial unnecessary but could cause confusion. presumption of compliance when construction of a dwelling, consistent At least one commenter also suggested certain underwriting procedures are with the definition of a ‘‘residential excluding loans with state or local followed. Creditors are also required to mortgage transaction’’ in § 226.2(a)(24). agency guaranties. verify income and assets they rely upon A construction-only loan does not The Board does not believe that to determine repayment ability, and to include the permanent financing that exempting government-guaranteed loans establish escrow accounts for property replaces a construction loan. from § 226.35 is appropriate. It is not taxes and insurance. In addition, a Construction-only loans do not appear clear what criteria the Board would use higher-priced mortgage loan may not to present the same risk of consumer to decide precisely which government have a prepayment penalty except abuse as other loans the proposal would programs would be exempted; under certain conditions. These cover. The permanent financing, or a commenters did not offer concrete conditions are substantially narrower new home-secured loan following suggestions. Moreover, such exemptions than those proposed. construction, would be covered by could attract to agency programs less The Board finds that the prohibitions proposed § 226.35 depending on its scrupulous originators seeking to avoid in the final rule are necessary to prevent APR. Applying § 226.35 to construction- HOEPA’s civil liability, with serious practices that the Board finds to be only loans, which generally have higher unintended consequences for unfair, deceptive, associated with interest rates than the permanent consumers as well as for the agencies abusive lending practices, or otherwise financing, could hinder some borrowers’ and taxpayers. not in the interest of the borrower. See access to construction financing without Jumbo loans. A few commenters TILA Section 129(l)(2), 15 U.S.C. meaningfully enhancing consumer proposed excluding non-conforming or 1639(l)(2), and the discussion of this protection ‘‘jumbo’’ loans, that is, loans that exceed statute in part V above. Bridge loans. HOEPA now covers the threshold amount for eligibility for The Board is also adopting the certain bridge loans with rates or fees purchase by Fannie Mae or Freddie proposed rule prohibiting a creditor high enough to make them HOEPA Mac. They cited a lack of evidence of from structuring a closed-end mortgage loans. TILA Section 129(l)(1) provides widespread problems with jumbo loan loan as an open-end line of credit for the the Board authority to exempt classes of performance, and a belief that borrowers purpose of evading the restrictions on mortgage transactions from HOEPA if who can afford jumbo loans are more higher-priced mortgage loans, which do the Board finds that the exemption is in sophisticated consumers and therefore not apply to open-end lines of credit. the interest of the borrowing public and better able to protect themselves. This rule is based on the authority of the will apply only to products that The Board does not believe excluding Board under TILA Section 129(l)(2) to maintain and strengthen jumbo loans would be appropriate. The prohibit practices that would evade homeownership and equity protection. request is based on certain assumptions Board regulations adopted under 15 U.S.C. 1639(l)(2). The Board believes about the characteristics of the authority of that statute. 15 U.S.C. a narrow exemption for bridge loans borrowers who take out jumbo loans. In 1639(l)(2). from the restrictions of § 226.35, as they fact, jumbo loans are offered in the B. Disregard of Consumer’s Ability To apply to HOEPA loans, would be in subprime and alt-A markets and not just Repay—§§ 226.34(a)(4) and 226.35(b)(1) borrowers’ interest and support in the prime market. A categorical homeownership. exemption of jumbo loans could TILA Section 129(h), 15 U.S.C. The final rule, like the proposed rule, therefore seriously undermine 1639(h), and Regulation Z § 226.34(a)(4) gives as an example of a ‘‘temporary or protections for consumers, especially in prohibit a pattern or practice of bridge loan’’ a loan to purchase a new areas with above-average home prices. extending credit subject to § 226.32 dwelling where the consumer plans to Portfolio loans. A commenter (HOEPA loans) based on consumers’ sell a current dwelling within 12 proposed excluding loans held in collateral without regard to their months. This is not the only potential portfolio on the basis that a lender will repayment ability. The regulation bona fide example of a temporary or take more care with these loans. Among creates a presumption of a violation bridge loan. The Board does expect, other concerns with such an exemption where a creditor has a pattern or however, that the temporary or bridge is that it often cannot be determined as practice of failing to verify and loan exemption will be applied of consummation whether a loan will be document repayment ability. The Board

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proposed to revise the prohibition on deterrence of irresponsible lending. past-due ninety days or more (‘‘serious disregarding repayment ability and These commenters generally support the delinquency’’) was about 13 percent in extend it, through proposed proposed presumptions of violations but October 2007, more than double the § 226.35(b)(1), to higher-priced mortgage many of them urged the Board to adopt mid-2005 level.48 Adjustable-rate loans as defined in § 226.35(a). The quantitative standards for the proposed subprime mortgages reached a serious proposed revisions included adding presumptions for failing to consider delinquency rate of almost 28 percent in several rebuttable presumptions of debt-to-income ratios (DTI) and residual May 2008, quintuple the mid-2005 violations for a pattern or practice of income levels. As discussed above, level. The serious delinquency rate has failing to follow certain underwriting these commenters also would apply the also risen for loans in alt-A (near prime) procedures, and a safe harbor. rule to nontraditional mortgages securitized pools to almost 8 percent (as The final rule removes ‘‘pattern or regardless of price, and a few would of April 2008) from less than 2 percent practice’’ and therefore prohibits any apply the rule to the entire mortgage only a year ago. In contrast, 1.5 percent HOEPA loan or higher-priced mortgage market including the prime market. of loans in the prime-mortgage sector loan from being extended based on the The comments are discussed in more were seriously delinquent as of April collateral without regard to repayment detail throughout this section as 2008. ability. Verifying repayment ability has applicable. Higher delinquencies have shown been made a requirement rather than a through to foreclosures. Foreclosures presumptive requirement. The proposal Discussion were initiated on some 1.5 million U.S. provided that a failure to follow any one The Board finds that disregarding a homes during 2007, up 53 percent from of several specified underwriting consumer’s repayment ability when 2006, and the rate of foreclosure starts procedures would create a presumption extending a higher-priced mortgage loan looks to be higher yet for 2008. Lenders of a violation. In the final rule, those or HOEPA loan, or failing to verify the initiated over 550,000 foreclosures in procedures, with modifications, have consumer’s income, assets, and the first quarter of 2008, about 274,000 instead been incorporated into a obligations used to determine of them on subprime mortgages. This presumption of compliance which repayment ability, are unfair practices. was significantly higher than the replaces the proposed safe harbor. This section discusses the evidence quarterly average of 440,000 foreclosures in the second half of 2007 Public Comment from recent events of a disregard for repayment ability and reliance on and 325,000 in the first half, and twice Mortgage lenders and their trade unverified incomes in the subprime the quarterly average of 225,000 for the associations that commented generally, market; the substantial injuries that past six years.49 but not uniformly, support or at least do disregarding repayment ability and Payment increases on 2–28 and 3–27 not oppose a rule requiring creditors to failing to verify income causes ARMs have not been a major cause of consider repayment ability. They consumers; the reasons consumers the increase in delinquencies and maintain, however, that the rule as cannot reasonably avoid these injuries; foreclosures because most delinquencies drafted would unduly constrain credit and the Board’s basis for concluding occurred before the payments were availability because of the combination that the injuries are not outweighed by adjusted. Rather, a major contributor to of potentially significant damages under countervailing benefits to consumers or these delinquencies was lenders’ TILA Section 130, 15 U.S.C. 1640, and competition when repayment ability is extension of credit on the basis of a perceived lack of a clear and flexible disregarded or income is not verified. income stated on applications without safe harbor. These commenters stated Evidence of a recent widespread verification.50 Originators had strong that two elements of the rule that the disregard of repayment ability. incentives to make these ‘‘stated Board had intended to help preserve Approximately three-quarters of income’’ loans, and consumers had credit availability—the ‘‘pattern or securitized originations in subprime incentives to accept them. Because the practice’’ element and a safe harbor for pools from 2003 to 2007 were 2–28 or loans could be originated more quickly, a creditor having a reasonable 3–27 ARMs with a built-in potential for originators, who were paid based on expectation of repayment ability for at significant payment shock at the start of volume, could increase their earnings by least seven years—would not have the the third or fourth year, respectively.47 originating more of them. The share of intended effect. Many of these Originations of these types of mortgages ‘‘low doc’’ and ‘‘no doc’’ loan commenters suggested that the rule during 2005 and 2006 and through early originations in the securitized subprime would unduly constrain credit unless 2007 have contributed significantly to a market rose from 20 percent in 2000, to the Board removed the presumptions of substantial increase in serious 30 percent in 2004, to 40 percent in violations and provided a clearer and delinquencies and foreclosures. The 2006.51 The prevalence of stated income more specific safe harbor. Some of these proportion of all subprime mortgages lending left wide room for the loan commenters also requested additional officer, mortgage broker, or consumer to safe harbors, such as for use of an 47 In a typical case of a 2–28 discounted ARM, a overstate the consumer’s income so the automated underwriting system (AUS) $200,000 loan with a discounted rate of 7 percent consumer could qualify for a larger loan of Fannie Mae or Freddie Mac. for two years (compared to a fully-indexed rate of 11.5 percent) and a 10 percent maximum rate in the Consumer, civil rights, and 48 third year would start at a payment of $1,531 and Delinquency rates calculated from data from community development groups, as jump to a payment of $1,939 in the third year, even First American LoanPerformance on mortgages in well as some state and local government if the index value did not increase. The rate would subprime securitized pools. Figures include loans officials, several members of Congress, a reach the fully-indexed rate in the fourth year (if the on non-owner-occupied properties. 49 federal regulator, and others argued that index value still did not change), and the payment Estimates are based on data from MBA Nat’l would increase to $2,152. The example assumes an Delinquency Survey. ‘‘pattern or practice’’ seriously initial index of 5.5 percent and a margin of 6 50 See U.S. Gov’t Accountability Office, GAO–08– weakened the rule and urged its percent; assumes annual payment adjustments after 78R, Information on Recent Default and Foreclosure removal. They maintain that ‘‘pattern or the initial discount period; a 3 percent cap on the Trends for Home Mortgages and Associated practice’’ would effectively prevent an interest rate increase at the end of year 2; and a 2 Economic and Market Developments 5 (2007); percent annual payment adjustment cap on interest Fannie Mae, Weekly Economic Commentary (Mar. individual borrower from bringing a rate increases thereafter, with a lifetime payment 26, 2007). claim or counter-claim based on his or adjustment cap of 6 percent (or a maximum rate of 51 Figures calculated from First American her loan, and reduce the rule’s 13 percent). LoanPerformance data.

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and the loan officer or broker could to finance part or all of the down the loan are nontraditional. According receive a larger commission. There is payment. to one estimate, loans with substantial anecdotal evidence that By frequently basing lending nontraditional terms that permitted borrower incomes were commonly decisions on overstated incomes and borrowers to defer principal (‘‘interest- inflated.52 understated obligations, creditors were only’’) or both principal and some Lenders relying on overstated in effect often extending credit based on interest (‘‘option ARM’’) in exchange for incomes to make loans could not the value of the collateral, that is, the higher payments later—reached 78 accurately assess consumers’ repayment consumer’s house. Moreover, by percent of alt-A originations in 2006.58 ability.53 Evidence of this failure is coupling these practices with a practice The combination of a variable rate with found in the somewhat steeper increase of extending credit to borrowers with a deferral of principal and interest held in the rate of default for low/no doc very limited equity, creditors were often the potential for substantial payment loans originated when underwriting extending credit based on an shock within five years. Yet rising standards were declining in 2005 and expectation that the house’s value delinquency rates to almost 8 percent in 2006 relative to full documentation would appreciate rapidly.56 Creditors 2008, from less than 1 percent in 2006, loans.54 Due in large part to creditors’ may have felt that rapid house price could suggest that lenders too often reliance on inaccurate ‘‘stated incomes,’’ appreciation justified loosening their assessed repayment ability at a low lenders often failed to determine lending standards, but in some locations interest rate and payment that did not reliably that the consumer would be house price appreciation was fed by adequately account for near-certain able to afford even the initial discounted loosened standards, which permitted payment increases. In addition, these payments. Almost 13 percent of the 2– consumers to take out larger loans and loans typically were made based on 28 ARMs originated in 2005 appear to bid up house prices. Loosened lending reduced income documentation. For have become seriously delinquent standards therefore made it more likely example, the share of interest-only before their first reset.55 While some of that the inevitable readjustment of mortgages with low or no these borrowers may have been able to house prices in these locations would be documentation in alt-A securitized make their payments—but stopped severe. pools increased from around 64 percent because their home values declined and House price appreciation began to in 2003 to nearly 80 percent in 2006.59 they lost what little equity they had— slow in 2006 and house price levels It is generally accepted that the reduced others were not able to afford even their actually began to decline in many places documentation of income led to a high initial payments. in 2007. Borrowers who could not afford degree of income inflation in the alt-A Although payment shock on 2–28 and their mortgage obligations because their market just as it did in the subprime 3–27 ARMs did not contribute repayment ability had not been assessed market. significantly to the substantial increase properly found it more difficult to lower Substantial injury. A borrower who in delinquencies, there is reason to their payments by refinancing. They cannot afford to make the loan believe that creditors did not underwrite lacked sufficient equity to meet newly payments as well as payments for to a rate and payment that would take tightened lending standards, or they had property taxes and homeowners into account the risk to consumers of a negative equity, that is, they owed more insurance because the lender did not payment shock. Creditors also may not than their house was worth. For the adequately assess the borrower’s have factored in the consumer’s same reasons, many consumers also repayment ability suffers substantial obligation for the expected property could not extinguish their mortgage injury. Missing mortgage payments is taxes and insurance, or the increasingly costly: Large late fees are charged and obligations by selling their homes. common ‘‘piggyback’’ second-lien loan the borrower’s credit record is impaired, Declining house prices led to sharp or line of credit a consumer would use reducing her credit options. If increases in serious delinquency rates in refinancing to a loan with a lower both the subprime and alt-A market 52 See Mortgage Asset Research Inst., Inc., Eighth payment is an option (for example, if segments, as discussed above.57 Periodic Mortgage Fraud Case Report to the the borrower can obtain a loan with a Mortgage Bankers Association (2006) (reporting that Although the focus of § 226.35 is the longer maturity), refinancing can slow 90 of 100 stated income loans sampled used subprime market, it may cover part of the rate at which the consumer is able inflated income when compared to tax return data); the alt-A market. Disregard for Fitch Ratings, Drivers of 2006 Subprime Vintage to pay down principal and build equity. repayment ability was often found in Performance (November 13, 2007) (Fitch 2006 The borrower may have to tap home Subprime Performance) (reporting that stated the alt-A market as well. Alt-A loans are equity to cover the refinancing’s closing income loans with high combined loan to value made to borrowers who typically have ratios appear to have become vehicles for fraud). costs or may have to accept a higher higher credit scores than subprime 53 Consumers may also have been led to pay more interest rate in exchange for the lender for their loans than they otherwise would. There is borrowers, but the loans pose more risk paying the closing costs. If refinancing generally a premium for a stated income loan. An than prime loans because they involve is not an option, then the borrower and originator may not have sufficient incentive to small down payments or reduced disclose the premium on its own initiative because household must make sacrifices to keep collecting and reviewing documents could slow income documentation, or the terms of the home such as reducing other down the origination process, reduce the number of expenditures or taking additional jobs. If loans an originator produces in a period, and, 56 Often the lender extended credit knowing that therefore, reduce the originator’s compensation for the borrower would have no equity after taking into keeping the home is not tenable, the the period. Consumers who are unaware of this account a simultaneous second-lien (‘‘piggyback’’) borrower must sell it or endure premium are effectively deprived of an opportunity loan. According to Fitch 2006 Subprime foreclosure, the costs of which (for to shop for a potentially lower-rate loan requiring Performance, first-lien loans in subprime example, property maintenance costs, full documentation. securitized pools with simultaneous second liens attorneys fees, and other fees passed on 54 Determined from First American rose from 1.1 percent in 2000 to 6.4 percent in 2003 LoanPerformance data. See also Fitch 2006 to 30 percent in 2006. Moreover, in some cases the to the consumer) will erode any equity Subprime Performance (stating that lack of income appraisal the lender relied on overstated borrower verification, as opposed to lack of employment or equity because the lender or broker pressured the 58 David Liu and Shumin Li, Alt-A Credit—The down payment verification, caused 2006 low appraiser to inflate the house value. The prohibition Other Shoe Drops?, The MarketPulse (First documentation loans delinquencies to be higher against coercing appraisers is discussed below in American LoanPerformance, Inc., San Francisco, than earlier vintages’ low documentation loans). part X.B. Cal.) Dec. 2006. 55 Figure calculated from First American 57 Estimates are based on data from MBA Nat’l 59 Figures calculated from First American LoanPerformance data. Delinquency Survey. LoanPerformance data.

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the consumer had. The foreclosure will investors alike to distinguish repay. Borrowers are likely unaware of mar the consumer’s credit record and responsible from irresponsible actors. market imperfections that may reduce make it very difficult for the consumer See supra part II. lenders’ incentives to fully assess to become a homeowner again any time Injury not reasonably avoidable. One repayment ability. See part II.B. And soon. Many borrowers end up owing the might assume that borrowers could borrowers would not realize that a lender more than the house is worth, avoid unsustainable loans by comparing lender was applying loose underwriting especially if their homes are sold into a their current and expected incomes to standards such as assessing repayment declining market as is happening today their current and expected expenses, ability on the basis of a ‘‘teaser’’ in many parts of the country. including the scheduled loan payments payment. In addition, originators may Foreclosures also may force consumers disclosed under TILA and an estimate of sometimes encourage borrowers to be to move, which is costly and disruptive. property taxes and homeowners excessively optimistic about their ability In addition to the financial costs of insurance. There are several reasons, to refinance should they be unable to unsustainable lending practices, however, why consumers, especially in sustain repayment. For example, they borrowers and households can suffer the subprime market, accept risky loans sometimes offer reassurances that serious emotional hardship. they will struggle or fail to repay. In interest rates will remain low and house If foreclosures due to irresponsible some cases, originators mislead prices will increase; borrowers may be lending rise rapidly or reach high levels borrowers into entering into swayed by such reassurances because in a particular geographic area, then the unaffordable loans by understating the they believe the sources are experts. injuries can extend beyond the payment before closing and disclosing Stated income and stated asset loans individual borrower and household to the true payment only at closing (‘‘bait can make it even more difficult for a the larger community. A foreclosure and switch’’). At the closing table, many consumer to avoid an unsustainable cluster in a neighborhood can reduce borrowers may not notice the disclosure loan. With stated income (or stated homeowner equity throughout the of the payment amount or have time to asset) loans, the applicant may not neighborhood by bringing down prices, consider it because borrowers are realize that the originator is inflating the eroding the asset that for many typically provided with many applicant’s income and assets to qualify households is their largest.60 A documents to sign then. Borrowers who the applicant for the loan. Applicants do significant rise in foreclosures can consider the disclosure may nonetheless not necessarily even know that they are create a cycle where foreclosures bring feel constrained to close the loan, for a being considered for stated income or down property values, reducing the number of reasons. They may already stated asset loans. They may give the ability and incentive of homeowners, have paid substantial fees and expect originator documents verifying their particularly those under stress for other that more applications would require income and assets that the originator reasons, to retain their homes. more fees. They may have signed keeps out of the loan file because the Foreclosure clusters also can lower agreements to purchase a new house documents do not demonstrate the municipal tax revenues, reducing a and sell the current house. Or they may income and assets needed to make the locality’s ability to maintain services need to escape an overly burdensome loan. Moreover, if a consumer and make capital investments. At the payment on a current loan, or urgently knowingly applies for a stated income same time, revenues may be diverted to need the cash that the loan will provide or stated asset loan and correctly states mitigating hazards that clusters of for a household emergency. her income or assets, the originator can Furthermore, many consumers in the write an inflated figure into the vacant homes can create.61 subprime market will accept loans application form. It is typical for the Lending without regard to repayment knowing they may have difficulty originator to fill out the application for ability also has other consequences. It affording the payments because they the consumer, and the consumer may facilitates an abusive strategy of reasonably believe a more affordable not see the written application until ‘‘flipping’’ borrowers in a succession of loan will not be available to them. As closing, when the borrower often is refinancings designed ostensibly to explained in part II.B, limited provided with numerous documents to lower borrowers’ burdensome payments transparency of prices, products, and review and sign and may not review the that actually convert borrowers’ equity originator incentives reduces a application form with care. The into fees for originators without borrower’s expected benefit from consumer who detects the inflated providing borrowers a benefit. shopping further for a better option. numbers at the closing table may not Moreover, relaxed standards, such as Moreover, taking more time to shop can realize their importance or may face those that pervaded the subprime be costly, especially for the borrower in constraints that make it particularly market recently, may increase the a financial pinch. Thus, borrowers often difficult to walk away from the table incidence of abusive lending practices make a reasoned decision to accept without the loan. by attracting less scrupulous originators unfavorable terms. Some consumers may also overstate into the market while at the same time Furthermore, borrowers’ own their income or assets with the bringing more vulnerable borrowers into assessment of their repayment ability encouragement of a loan originator who the market. The rapid influx of new may be influenced by their belief that a makes it clear that the consumer’s actual originators that can accompany a lender would not provide credit to a income or assets are not high enough to relaxation of lending standards makes it consumer who did not have the capacity qualify them for the loans they seek. more difficult for regulators and to repay. Borrowers could reasonably Such originators may reassure infer from a lender’s approval of their applicants that this is a benign and 60 E.g., Zhenguo Lin, et al. Spillover Effects of applications that the lender had common practice. In addition, Foreclosures on Neighborhood Property Values, Journal of Real Estate Finance and Economics appropriately determined that they applicants may inflate their incomes Online (Nov. 2007), available at http:// would be able to repay their loans. and assets on their own initiative in www.springerlink.com/content/rk4q0p4475vr3473/ Borrowers operating under this circumstances where the originator does fulltext.pdf. impression may not independently not have reason to know. 61 E.g., William C. Apgar and Mark Duda. Collateral Damage: The Municipal Impact of assess their repayment ability to the For all of these reasons, borrowers Today’s Mortgage Foreclosure Boom (Minneapolis: extent necessary to protect themselves cannot reasonably avoid injuries from Homeownership Preservation Foundation 2005). from taking on obligations they cannot lenders’ disregard of repayment ability.

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Moreover, other consumers who are not income, current obligations, and discusses the basic prohibition, and parties to irresponsible transactions but employment. Section 226.34(a)(4) ensuing sections discuss the removal of suffer from their spillover effects have currently provides that a creditor is pattern or practice, the verification no ability to prevent these injuries. presumed to have violated this requirement, and the presumption of Injury not outweighed by prohibition if it engages in a pattern or compliance. countervailing benefits to consumers or practice of failing to verify repayment As discussed above, the Board finds to competition. There is no benefit to ability. extending higher-priced mortgage loans consumers or competition from loans The Board proposed to extend this or HOEPA loans based on the collateral that are extended without regard to prohibition to higher-priced mortgage without regard to the consumer’s consumers’ ability to make even the loans, see proposed § 226.35(b)(1), and repayment ability to be an unfair initial payments. There may be some to add several additional rebuttable practice. The final rule prohibits this benefit to consumers from loans that are presumptions of violation as well as a practice. The Board also took into underwritten based on the collateral and safe harbor. Under the proposal a account state laws that declare without regard to consumers’ ability to creditor would have been presumed to extending loans to consumers who sustain their payments past some initial violate the regulation if it engaged in a cannot repay an unfair practice.62 period. For example, a consumer who pattern or practice of failing to consider: Section 226.34(a)(4) governs the has lost her principal source of income consumers’ ability to pay the loan based process for extending credit; it is not may benefit from being able to risk her on the interest rate specified in the intended to dictate which types of credit home and her equity in the hope that, regulation (§ 226.34(a)(4)(i)(B)); or credit terms are permissible and before she exhausts her savings, she will consumers’ ability to make fully- which are not. The rule does not obtain a new job that will generate amortizing loan payments that include prohibit potentially riskier types of sufficient income to support the expected property taxes and loans such as loans with balloon payment obligation. The Board believes, homeowners insurance payments, loans with interest-only however, that this rare benefit is (§ 226.34(a)(4)(i)(C)); the ratio of payments, or ARMs with discounted outweighed by the substantial costs to borrowers’ total debt obligations to initial rates. With proper underwriting, most borrowers and communities of income as of consummation such products may be appropriate for extending higher-risk loans without (§ 226.34(a)(4)(i)(D)); and borrowers’ certain borrowers in the subprime regard to repayment ability. (Adopting residual income (§ 226.34(a)(4)(i)(E)). market. The regulation merely prohibits exceptions to the rule for hardship cases The proposed safe harbor appeared in a creditor from extending such products would create significant potential § 226.34(a)(4)(ii), which provided that a or any other higher-priced mortgage loopholes and make the rule unduly creditor does not violate § 226.34(a)(4) if loans without adequately evaluating complex. The final rule does, however, the creditor has a reasonable basis to repayment ability. contain an exemption for temporary or believe that consumers will be able to The rule is intended to ensure that ‘‘bridge’’ loans of 12 months or less, make loan payments for at least seven creditors do not assess repayment though this exemption is intended to be years, considering each of the factors ability using overstated incomes or construed narrowly.) identified in § 226.34(a)(4)(i) and any understated payment obligations. The The Board recognizes as well that other factors relevant to determining rule explicitly requires that the creditor stated income (or stated asset) lending repayment ability. verify income and assets using reliable has at least three potential benefits for The final rule removes the ‘‘pattern or third party documents and, therefore, consumers and competition. It may practice’’ qualification and therefore prohibits relying merely on an income speed credit access for consumers who prohibits a creditor from extending any statement from the applicant. See need credit on an emergency basis, save HOEPA loan or higher-priced mortgage § 226.34(a)(4)(ii). (This requirement is some consumers from expending loan based on the collateral without discussed in more detail below.) In significant effort to document their regard to repayment ability. Like the addition, the rule requires assessing not income, and provide access to credit for proposal, the final rule provides that just the consumer’s ability to pay loan consumers who cannot document their repayment ability is determined principal and interest, but also the incomes. The first two benefits are according to current and reasonably consumer’s ability to pay property taxes, limited relative to the substantial expected income, employment, assets homeowners insurance, and similar injuries caused by lenders’ relying on other than the collateral, current mortgage-related expenses. Mortgage- unverified incomes. The third benefit is obligations, and mortgage-related related expenses, such as homeowner’s also limited given that consumers who obligations such as expected property association dues or condominium or file proper tax returns can use at least tax and insurance obligations. See cooperative fees, are included because these documents, if no others are § 226.34(a)(4) and (a)(4)(i); failure to pay them could result in a available, to verify their incomes. § 226.35(b)(1). The final rule also shifts consumer’s default on his or her Among higher-priced mortgage loans, the proposed new presumptions of mortgage (if, for example, failure to pay where risks to consumers are already violations to a presumption of resulted in a senior lien on the unit that elevated, the potential benefits to compliance, with modifications. The constituted a default under the terms of consumers of stated income/stated asset presumption of compliance is revised to the consumer’s mortgage obligations). lending are outweighed by the potential specify a finite set of underwriting See §§ 226.34(a)(4); 226.34(a)(4)(i). injuries to consumers and competition. procedures; the reference to ‘‘any other As of consummation. The final rule factors relevant to determining Final Rule provides, as did the proposed rule, that repayment ability’’ has been removed. the creditor is responsible for assessing HOEPA and § 226.34(a)(4) currently See § 226.34(a)(4)(iii). The presumption repayment ability as of consummation. prohibit a lender from engaging in a of violation for failing to verify Two industry trade associations pattern or practice of extending HOEPA repayment ability currently in expressed concern over proposed loans based on the consumer’s collateral § 226.34(a)(4)(i), however, is being without regard to the consumer’s finalized instead as an explicit 62 See, e.g., Ind. Code §§ 24–4.5–6–102, 24–4.5–6– repayment ability, including the requirement to verify repayment ability. 111(l)(3); Mass. Gen. Laws ch. 93A, ch. 183 §§ 4, consumer’s current and expected See § 226.34(a)(4)(ii). This section 18(a); W.V. Code § 46A–7–109(3)(a).

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comment 34(a)(4)-2, indicating that, responsible mortgage underwriting, but permit lenders to consider expected while a creditor would be liable only for they are not as probative as income and income or employment, but what it knew or should have known as assets of the consumer’s ability to make inappropriate to require that they do so. of consummation, events after the scheduled payments on a mortgage Creditors are concerned that they would consummation may be relevant to obligation. For example, if a consumer be liable for accurately assessing a determining compliance. These has income of $3,000 per month, it is borrower’s employment stability, which commenters contend that creditors very unlikely that the consumer will be may depend on regional economic should not be held responsible for able to afford a monthly mortgage factors. accurately predicting future events such payment of $2,500 per month regardless The final comment, renumbered as as a borrower’s employment stability or of the consumer’s credit score or loan- 34(a)(4)–5, is revised somewhat to house price appreciation. One asserted to-value ratio. Moreover, incorporating address this concern. The revised that the rule would lead creditors to these other characteristics in the comment indicates that a creditor might impose more stringent underwriting regulation would potentially create a have knowledge of a likely reduction in criteria in geographic areas with major loophole for originators to income or employment and provides the economies projected to decline. These discount the importance of income and following example: a consumer’s commenters requested that the Board assets to repayment ability. For the same written application indicates that the clarify in the commentary that post- reasons, the Board also is not adopting consumer plans to retire within twelve closing events cannot be used to second- the suggestion of some commenters to months or transition from full-time to guess a lender’s underwriting decision, permit a creditor to rely on any factor part-time employment. As the example and one requested that the commentary that the creditor finds relevant to indicates, the Board does not intend to specifically state that a foreclosure does determine credit or delinquency risk. place unrealistic requirements on a not create a presumption of a violation. The final rule, like the proposal, creditor to speculate or inquire about The Board has revised the comment, provides broad flexibility as to the types every possible change in a borrower’s renumbered as 34(a)(4)-5, to delete the of income, assets, and employment a life circumstances. The sentence ‘‘a statement that events after creditor may rely on. Specific references creditor may have information consummation may be relevant to to seasonal and irregular employment indicating that an employed person will determining whether a creditor has were added to comment 34(a)(4)–6 become unemployed’’ is deleted as violated § 226.34(a)(4), but events after (numbered 34(a)(4)–3 in the proposal) in duplicative. consummation do not, by themselves, response to requests from commenters. Finally, new comment 34(a)(4)–7 establish a violation. Post- References to several different types of addresses the concern of several consummation events such as a sharp income, such as interest and dividends, commenters that the proposal appeared increase in defaults could be relevant to were also added. These examples are to require them to make inquiries of showing a ‘‘pattern or practice’’ of merely illustrative, not exhaustive. borrowers or consider information about disregarding repayment ability, but the The final rule and commentary also them that Regulation B, 12 CFR part final rule does not require proof of a follow the proposal in permitting a 202, would prohibit, such as a question pattern or practice. The final comment lender to rely on expected income and posed solely to a female applicant as to retains the proposed statement that a employment, not just current income whether she is likely to continue her violation is not established if borrowers and employment. Expectations for employment. The comment explains default because of significant expenses improvements in employment or that § 226.34(a)(4) does not require or or income losses that occur after income must be reasonable and verified permit the creditor to make inquiries or consummation. The Board believes it is with third party documents. The verifications that would be prohibited clear from the regulation and comment commentary gives examples of expected by Regulation B. that a default does not create a bonuses verified with documents Obligations. The final rule, like the presumption of a violation. demonstrating past bonuses, and proposed rule, requires the creditor to Income, assets, and employment. The expected employment verified with a consider the consumer’s current final rule, like the proposal, provides commitment letter from the future obligations as well as mortgage-related that sources of repayment ability employer stating a specified salary. See obligations such as expected property include current and reasonably comment 34(a)(4)(ii)–3. In some cases a tax and required insurance. See expected income, employment, and loan may have a likely payment increase § 226.34(a)(4)(i). The final rule does not assets other than the collateral. For the that would not be affordable at the contain the proposed rule’s reference to sake of clarity, new comment 34(a)(4)-2 borrower’s income as of consummation. ‘‘expected obligations.’’ An industry indicates that a creditor may base its A creditor may be able to verify a trade association suggested the reference determination of repayment ability on reasonable expectation of an increase in would stifle communications between a current or reasonably expected income, the borrower’s income that will make lender and a consumer because the on assets other than the collateral, or the higher payment affordable to the lender would seek to avoid eliciting both. A creditor that purported to borrower. information about the borrower’s plans determine repayment ability on the Several commenters expressed for future indebtedness, such as an basis of information other than income concern over language in proposed intention to take out student loans to or assets would have to clearly comment 34(a)(4)–3 indicating that send children to college. The Board demonstrate that this information is creditors are required, not merely agrees that the proposal could stifle probative of repayment ability. allowed, to consider information about communications. This risk does not The Board is not adopting the expected changes in income or have a sufficient offsetting benefit suggestion from several commenters to employment that would undermine because it is by nature speculative permit creditors to consider, when repayment ability. The proposed whether a mortgage borrower will determining repayment ability, other comment gave as an example that a undertake other credit obligations in the characteristics of the borrower or the creditor must consider information future. transaction such as credit score and indicating that an employed person will A reference to simultaneous mortgage loan-to-value ratio. These other become unemployed. Some commenters obligations (proposed comment characteristics may be critical to contended that it is appropriate to 34(a)(4)(i)–2)) has been retained but

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revised. See comment 34(a)(4)–3. pattern or practice is so onerous as to either ‘‘pattern or practice’’ or the Several commenters objected to the make it impracticable for an individual proposed safe harbor. The presumption proposed comment. They suggested a plaintiff to seek relief, either will better aid creditors with lender has a limited ability to identify affirmatively or in recoupment. They compliance planning, and it will better the existence of a simultaneous suggested a typical plaintiff does not help them mitigate litigation risk. In obligation with an unaffiliated lender if have the resources to obtain information short, the Board believes that removing the borrower does not self-report. They about a lender’s loans and loan policies ‘‘pattern or practice’’ and providing asked that the requirement be restricted sufficient to allege a pattern or practice. creditors a presumption of compliance to simultaneous obligations with the Moreover, should a plaintiff be able to will be more effective to prevent unfair same lender, or that it be limited to allege a pattern or practice and proceed practices, remedy them when they obligations the creditor knows or has to the discovery stage, one legal aid occur, and preserve access to credit. reason to know about, or that it have a organization commented based on direct Imposing the burden to prove safe harbor for a lender that has experience that a creditor may produce ‘‘pattern or practice’’ on an individual procedures to prevent consumers from a mountain of documents that borrower would leave many borrowers obtaining a loan from another creditor overwhelms the plaintiff’s resources and without a remedy under HOEPA for without the lender’s knowledge. The makes it impractical to pursue such loans that were made without regard to comment has been revised to indicate cases. One consumer group argued that repayment ability. Borrowers would not that the regulation makes a creditor the proposed rule would not adequately have a HOEPA remedy for individual, responsible for considering only those deter abuse because, by the time a unrelated loans made without regard to simultaneous obligations of which the pattern or practice emerged, substantial repayment ability, of which there could creditor has knowledge. harm would already have been done to be many in the aggregate. Even if an Exemptions. The Board is adopting consumers and investors. This unaffordable loan was part of a pattern the proposed exemptions from the rule commenter also argued that other TILA or practice, the individual borrower and for bridge loans, construction-only provisions give creditors sufficient his or her attorney would not loans, reverse mortgages, and HELOCs. protection against litigation risk, such as necessarily have that information.63 By These exemptions are discussed in part the cap on class action damages, the the time information about a particular VIII.H. A national bank and two trade right to cure certain errors creditors lender’s pattern or practice of associations with national bank discover on their own, and the defense unaffordable lending became members requested an additional for bona fide errors. widespread, the lender could have exemption for national banks that are in Several lenders and lender trade caused great injury to many borrowers, compliance with OCC regulation 12 CFR associations expressed concern that as well as to their neighbors and 34.3(b). The OCC regulation prohibits ‘‘pattern or practice’’ is too vague to communities. In addition, imposing a national banks from making a mortgage provide the certainty creditors seek and ‘‘pattern or practice’’ requirement on loan based predominantly on the bank’s asked for more specific guidance and HOEPA loans, but not higher-priced realization of the foreclosure or examples. Other industry commenters mortgage loans, would create an liquidation value of the borrower’s contended that the phrase was likely to anomaly. collateral without regard to the be interpreted to hold lenders that Moreover, a ‘‘pattern or practice’’ borrower’s ability to repay the loan originate large numbers of loans liable claim can be costly to litigate and might according to its terms. Unlike HOEPA, for errors in assessing repayment ability not be economically feasible except as however, the OCC regulation does not in just a small fraction of their part of a class action, which would not authorize private actions or actions by originations. For example, one large assure individual borrowers of adequate state attorneys general when the lender pointed out that an error rate of remedies. Class actions can take years to regulation is violated. Thus, the Board 0.5 percent in its 400,000 HMDA- reach a settlement or trial, while the is not adopting the requested reportable originations in 2006 would individual borrower who is facing exemption. have amounted to 2,000 loans. Several foreclosure because of an unaffordable commenters cited cases decided under loan requires a speedy resolution if the Pattern or Practice other statutes holding that a mere borrower is to keep the home. Moreover, Based on the comments and handful of instances were a pattern or lower-income homeowners are often additional information gathered by the practice. To address these concerns, two represented by legal aid organizations, Board, the Board is adopting the rule commenters requested that the phrase which are barred from bringing class without the phrase ‘‘pattern or be changed to ‘‘systematic practice’’ and actions if they accept funds from the practice.’’ The rule therefore prohibits that this new phrase be interpreted to Legal Services Corporation.64 an individual HOEPA loan or higher- mean willful or reckless disregard. To be sure, many borrowers who priced mortgage loan from being Industry commenters generally would be left without a HOEPA remedy extended based on the collateral preferred that ‘‘pattern or practice,’’ for an unaffordable loan may have without regard to repayment ability. whatever its limitations, be retained as remedies under state laws that lack a TILA Section 129(l)(2), 15 U.S.C. a form of protection against ‘‘pattern or practice’’ requirement. In 1638(l)(2), confers on the Board unwarranted litigation. some cases, however, state law remedies authority to revise HOEPA’s restrictions Discussion. The Board believes that would be inferior or unavailable. on HOEPA loans if the Board finds that removing ‘‘pattern or practice’’ is Moreover, state laws do not assure such revisions are necessary to prevent necessary to ensure a remedy for consumers uniform protection because unfair or deceptive acts or practices in consumers who are given unaffordable these laws vary considerably and connection with mortgage loans. The loans and to deter irresponsible lending, Board so finds for the reasons discussed which injures not just individual 63 Federal rules of civil procedure require that a below. borrowers but also their neighbors and defendant’s motion to dismiss be granted unless the Public comment. Consumer advocates communities. The Board further plaintiff alleged sufficient facts to make a pattern or practice ‘‘plausible.’’ Bell Atlantic v. Twombly, 127 and others strongly urged the Board to believes that the presumption of S. Ct. 1955 (2007). Many states follow the federal remove the pattern or practice element. compliance the Board is adopting will rules. They argued that the burden to prove a provide more certainty to creditors than 64 45 CFR 1617.3.

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generally may not cover federally appropriate degree of flexibility to consulted informal guidance chartered depository institutions (due to extend occasional collateral-based interpreting ‘‘pattern or practice’’ under federal preemption) or state chartered HOEPA loans to consumers who truly ECOA.67 The Board carefully depository institutions (due to specific need them and clearly understand the considered how it could adapt this exemptions or general ‘‘parity laws’’). risks involved. Removing ‘‘pattern or guidance to § 226.34(a)(4). Based on its For these reasons, imposing the practice’’ would eliminate this potential efforts, the Board concluded that, while burden to prove ‘‘pattern or practice’’ on consumer benefit. Based on industry additional guidance could reduce some an individual borrower would leave comments, however, the benefit is more uncertainty, it would necessarily leave many borrowers with a lesser remedy, theoretical than real. While industry substantial uncertainty. The Board or without any remedy, for loans made commenters may prefer retaining further concluded that significantly without regard to repayment ability. ‘‘pattern or practice’’ as a barrier to more certainty could be provided Removing this burden would not only individual suits, these commenters through the ‘‘presumption of improve remedies for individual indicated that ‘‘pattern or practice’’ is compliance’’ the final rule provides for borrowers, it would also increase too vague to be useful for compliance following enumerated underwriting deterrence of irresponsible lending. planning. Therefore, retaining ‘‘pattern practices. See § 226.34(a)(4)(iii), Individual remedies impose a more or practice’’ would not likely lead a discussed below. immediate and more certain cost on creditor to extend legitimate collateral- violators than either class actions or based loans except, perhaps, a trivial Verification of Repayment Ability actions by state or federal agencies, number such as one per year. Section 226.34(a)(4) currently which can take years and, in the case of The Board reached this conclusion contains a provision creating a the agencies, are subject to resource only after exploring ways to provide rebuttable presumption of a violation constraints. Increased deterrence of more clarity as to the meaning of where a lender engages in a pattern or irresponsible lending practices should ‘‘pattern or practice.’’ Existing comment practice of making HOEPA loans benefit not just borrowers who might 34(a)(4)–2 provides that a pattern or without verifying and documenting obtain higher-priced mortgage loans but practice depends on the totality of the repayment ability. The Board proposed also their neighbors and communities circumstances in the particular case; can to retain this presumption and extend it who would otherwise suffer the be established without the use of a to higher-priced mortgage loans. The spillover effects of such practices. statistical process and on the basis of an final rule is different in two respects. The Board acknowledges the unwritten lending policy; and cannot be First, as discussed above, the final rule legitimate concerns that lenders have established with isolated, random, or does not contain a ‘‘pattern or practice’’ expressed over litigation costs. As the accidental acts. Although this comment element. Second, it makes verifying Board indicated with the proposal, it has been in effect for several years, its repayment ability an affirmative proposed ‘‘pattern or practice’’ out of a effectiveness is impossible to assess requirement, rather than making failure concern that creating civil liability for because the market for HOEPA loans to verify a presumption of a violation. an originator that fails to assess shrank to near insignificance soon after In the final rule, the regulation repayment ability on any individual the comment was adopted.65 On its face, applies the verification requirement to loan could inadvertently cause an however, the guidance removes little of current obligations explicitly, see unwarranted reduction in the the uncertainty surrounding the § 226.34(a)(4)(ii)(C); in the proposal, an availability of mortgage credit to meaning of ‘‘pattern or practice.’’ (There explicit reference to obligations was in consumers. After further study, is only one reported decision to a staff comment. See proposed comment however, the Board believes that any interpret ‘‘pattern or practice’’ under 34(a)(4)(i)(A)–2, 73 FR at 1732. The increase in litigation risk would be HOEPA, Newton v. United Companies requirement to verify income and assets justified by the substantial benefits of a Financial Corp., 24 F. Supp. 2d 444 in final § 226.34(a)(4)(ii)(A) is rule that provided remedies to (E.D. Pa. 1998), and it has limited essentially identical to the requirement individual borrowers. While precedential value in light of later- of proposed § 226.35(b)(2). Under unwarranted litigation may well adopted comment 34(a)(4)–2.) The § 226.34(a)(4)(ii)(A), creditors must increase, the Board believes that several Board re-proposed the comment but verify assets or income, including factors will mitigate this cost. In commenters provided few concrete expected income, relied on in approving particular, TILA imposes a one-year suggestions for making the rule clearer an extension of credit using third-party statute of limitations on affirmative and the suggestions that were offered documents that provide reasonably claims, after which only recoupment would have left a large degree of reliable evidence of the income or and set-off are available; HOEPA limits uncertainty. assets. The final rule, like that proposed, the strict assignee liability of TILA The Board considered other potential includes an affirmative defense for a Section 131(d), 15 U.S.C. 1641(d) to sources of guidance on ‘‘pattern or creditor that can show that the amounts HOEPA loans; many defaults may be practice’’ from other statutes and of the consumer’s income or assets caused by intervening events such as job regulations. Case law is of inherently relied on were not materially greater loss rather than faulty underwriting; and limited value for such a contextual than the amount the creditor could have plaintiffs (or their counsel) may bear a inquiry. Moreover, there are published verified at consummation. substantial cost to prove a claim of court decisions, some cited by industry Public comment. Many, but by no faulty underwriting, which would often commenters, that suggest that even a means all, financial institutions, require substantial discovery and expert few instances could be considered to mortgage brokers, and mortgage 66 witnesses. Creditors could further meet this standard. The Board also industry trade groups that commented contain litigation risk by using the support a verification requirement. They procedures specified in the regulation 65 By 2004, HOEPA loans reported under HMDA raised concerns, however, that the were less than one percent of the mortgage market. that earn the creditor a presumption of particular requirement proposed would compliance. The Board does not believe the market’s contraction can be traced to the guidance on pattern or practice. The Board has also considered the 66 See, e.g., United States v. Balistrieri, 981 F.2d 67 Board Policy Statement on Enforcement of the possibility that the statute’s ‘‘pattern or 916, 929–30 (7th Cir. 1992); United States v. Pelzer Equal Credit Opportunity and Fair Housing Acts, practice’’ element allows creditors an Realty Co., Inc., 484 F.2d 438, 445 (5th Cir. 1973). Q9.

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restrict or eliminate access to credit for returns, payroll receipts, and financial that the creditor previously collected some borrowers, especially the self- institution records such as bank from the consumer, if the creditor employed, those who earn irregular statements. These kinds of documents believes the documents would not have commission- or cash-based incomes, are sufficiently reliable sources of changed since they were initially and low- and moderate-income information about borrowers’ income verified. See comment 34(a)(4)(ii)(A)–5. borrowers. Consumer and community and assets that the Board believes it is For example, if the creditor has groups and government officials appropriate to provide a safe harbor for collected the consumer’s 2006 tax return generally supported the proposed their use. Moreover, most consumers for a May 2007 loan, and the creditor verification requirement, with some can, or should be able to, produce one makes another loan to that consumer in suggesting somewhat stricter of these kinds of documents with little August 2007, the creditor may rely on requirements. Many of these same difficulty. For other consumers, the rule the 2006 tax return. commenters, however, contended the is quite flexible. It permits a creditor to Nor does the rule require a creditor to proposed affirmative defense would be rely on any third-party document that verify amounts of income or assets the a major loophole and urged its provides reasonably reliable evidence of creditor is not relying on to determine elimination. The comments are the income or assets relied on to repayment ability. For example, if a discussed in further detail below as determine repayment ability. Examples creditor does not rely on a part of the applicable. include check-cashing or remittance consumer’s income, such as an annual Discussion. For the reasons discussed receipts or a written statement from the bonus, in determining repayment above, the Board finds that it is unfair consumer’s employer. See comment ability, the creditor would not need to not to verify income, assets, and 34(a)(4)(ii)(A)–3. These examples are verify the consumer’s bonus. A creditor obligations used to determine only illustrative, not limiting. The one may verify an amount of income or repayment ability when extending a type of document that is excluded is a assets less than that stated in the loan higher-priced mortgage loan or HOEPA statement only from the consumer. file if adequate to determine repayment loan. The Board is finalizing the rule as Many commenters suggested that the ability. If a creditor does not verify proposed and incorporating it directly Board require creditors to collect the sufficient amounts to support a into § 226.34(a)(4), where it replaces the ‘‘best and most appropriate’’ determination that the consumer has the proposed presumption of a violation for documentation. The Board believes that ability to pay the loan, however, then a creditor that has a pattern or practice the costs of such a requirement would the creditor risks violating the of failing to verify repayment ability. outweigh the benefits. The vagueness of regulation. ‘‘Pattern or practice’’ has been removed the suggested standard could make Self-employed borrowers. The Board and the presumption has been made a creditors reluctant to accept has sought to address commenters’ requirement. The legal effect of this nontraditional forms of documentation. concerns about self-employed change is that the final rule, unlike the Nor is it clear how creditors would borrowers. The rule allows for flexibility proposal, would rarely, if ever, permit a verify that a form of documentation that in underwriting standards so that creditor to make even isolated ‘‘no might be best or most appropriate was creditors may adapt their underwriting income, no asset’’ loans (loans made not available. processes to the needs of self-employed without regard to income and assets) in The commentary has been revised to borrowers, so long as creditors comply the higher-priced mortgage loan market. clarify several points. See comments with § 226.34(a)(4). For example, the For the reasons explained above, 34(A)(4)(ii)(A)–3 and –4. Oral rule does not dictate how many years of however, the Board does not believe this information from a third party would tax returns or other information a legal change will reduce credit not satisfy the rule, which requires creditor must review to determine a self- availability; nor will it affect the documentation. Creditors may, employed applicant’s repayment ability. availability of ‘‘no income, no asset’’ however, rely on a letter or an e-mail Nor does the rule dictate which income loans in the prime market. from the third party. Creditors may also figure on the tax returns the creditor As discussed above, relying on rely on third party documentation the must use. The Internal Revenue Code inflated incomes or assets to determine consumer provides directly to the may require or permit deductions from repayment ability often amounts to creditor. Furthermore, as interpreted by gross income, such as a deduction for disregarding repayment ability, which the comments, the rule excludes capital depreciation, that a creditor causes consumers injuries they often documents that are not specific to the reasonably would regard as not relevant cannot reasonably avoid. By requiring consumer. It would not be sufficient to to repayment ability. verification of income and assets, the look at average incomes for the The rule is also flexible as to final rule is intended to limit these consumer’s stated profession in the consumers who depend heavily on injuries by reducing the risk that higher- region where the consumer lives or bonuses and commissions. If an priced mortgage loans will be made on average salaries for employees of the employed applicant stated that he was the basis of inflated incomes or assets.68 consumer’s employer. The commentary likely to receive an annual bonus of a The Board believes the rule is has been revised, however, to indicate certain amount from the employer, the sufficiently flexible to keep costs to that creditors may use third party creditor could verify the statement with consumers, such as any additional time information that aggregates individual- third-party documents showing a needed to close a loan or costs for specific data about consumers’ income, consumer’s past annual bonuses. See obtaining documentation, at reasonable such as a database service used by an comment 34(a)(4)(ii)–1. Similarly, levels relative to the expected benefits employer to centralize income employees who work on commission of the rule. verification requests, so long as the could be asked to produce third-party The rule specifically authorizes a information is reasonably current and documents showing past commissions. creditor to rely on W–2 forms, tax accurate and identifies the specific The Board is not adopting the consumer’s income. exemption some commenters requested 68 By requiring verification the rule also addresses The rule does not require creditors for self-employed borrowers. The the risk that consumers with higher-priced that have extended credit to a consumer exemption would give borrowers and mortgage loans who could document income would unknowingly pay more for a loan that did not and wish to extend new credit to the originators an incentive to declare a require documentation. same consumer to re-collect documents borrower employed by a third party to

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be self-employed to avoid having to show that, if they had relied on the Obligations. The proposal essentially verify the borrower’s income. It is not amount of verifiable income or assets, required a creditor to verify repayment clear how a declaration of self-employed their decision to extend credit and the ability; it provided that a pattern or status could be verified except by terms of the credit would not have been practice of failing to verify repayment imposing the very burden the different. See comment 34(a)(4)(ii)(B)–2. ability created a presumption of a exemption would be meant to avoid, Narrower alternatives. The Board violation. A proposed comment such as reviewing tax returns. sought comment on whether the rule indicated that verifying repayment The affirmative defense. The Board should be narrowed to prohibit only ability included verifying obligations. received a number of comments about extending credit where the creditor or See proposed comment 34(a)(4)(i)(A)–2. the proposed affirmative defense for a mortgage broker engaged in, influenced The final rule explicitly includes the creditor that can show that the amounts the borrower to engage in, or knew of requirement to verify obligations in the of the consumer’s income or assets the income or asset inflation. The vast regulation. See § 226.34(a)(4)(ii)(C). A creditor relied on were not materially majority of commenters who addressed comment to this provision indicates that greater than what the creditor could this alternative did not support it, and a credit report may be used to verify have documented at consummation. the Board is not adopting it. Placing the current obligations. A credit report, The Board’s reference to this defense as burden on the borrower or supervisory however, might not reflect certain a ‘‘safe harbor’’ appears to have caused agency to prove the creditor knew the obligations undertaken just before or at some confusion. Many commenters income was inflated would undermine consummation of the transaction and interpreted the phrase ‘‘safe harbor’’ to the rule’s effectiveness. In the case of secured by the same dwelling that mean that the Board was proposing a borrower claims or counter-claims, this secures the transaction (for example, a specific way to comply with the rule. burden would lead to costly discovery ‘‘piggyback’’ second-lien transaction These commenters either criticized the into factual questions, and this used to finance part of the down safe harbor as insufficiently specific discovery would often produce payment on the house where the first- about how to comply (in the case of conflicting evidence (‘‘he said, she lien transaction is for home purchase). industry commenters) or urged that it be said’’) that would require trial before a A creditor is responsible for considering eliminated as a major loophole for factfinder. A creditor significantly such obligations of which the creditor avoiding verifying income and assets (in increases the risk of income inflation has knowledge. See comment 34(a)(4)– the case of consumer group and other when it accepts a mere statement of 3. commenters). income, and the creditor is in the best The Board intended the provision position to substantially reduce this risk Presumption of Compliance merely as a defense for a lender that did at limited cost by simply requiring The Board proposed to add new, not verify income as required where the documentation. The Board believes this rebuttable presumptions of violations to failure did not cause injury. The approach is the most effective and § 226.34(a)(4) and, by incorporation, provision would place the burden on efficient way to protect not just the § 226.35(b)(1). These presumptions the lender to prove that its non- individual borrower but also the would have been for engaging in a compliance was immaterial. A creditor neighbors and communities that can pattern or practice of failing to consider: that does not verify income has no suffer from spillover effects of consumers’ ability to pay the loan based assurance that the defense will be unaffordable lending. on the interest rate specified in the available should the loan be challenged Some industry commenters suggested regulation; consumers’ ability to make in court. This creditor takes a adopting an affirmative defense for fully-amortizing loan payments that substantial risk that it will not be able creditors who can show that the include expected property taxes and to prove through discovery that the consumer intentionally misrepresented homeowners insurance; the ratio of income was as stated. Therefore, the income or assets or committed fraud. borrowers’ total debt obligations to Board expects that the defense will be The Board is not adopting this defense. income as of consummation; and used only in limited circumstances. For As discussed above, a rule that provided borrowers’ residual income. See example, a creditor might be able to use creditors with a defense where no proposed § 226.34(a)(4)(i)(B)–(E). The the defense when a bona fide documentation was present could result Board also proposed a presumption of compliance error, such as an occasional in litigation that was costly for both compliance for a creditor that has a failure of reasonable procedures for sides. A defense for cases of consumer reasonable basis to believe that collecting and retaining appropriate misrepresentation or fraud where the consumers will be able to make loan documents, produces litigation. The creditor documented the consumer’s payments for at least seven years, defense is not likely to be helpful to a income or assets would be unnecessary. considering each of the factors creditor in the case of compliance Creditors are allowed to rely on identified in § 226.34(a)(4)(i) and any examinations because there will not be documents provided directly by the other factors relevant to determining an opportunity in that context for the consumer so long as those documents repayment ability. creditor to determine the borrower’s provide reasonably reliable evidence of The final rule removes the proposed actual income. With this clarification, the consumer’s income or assets. A presumptions of violation for failing to the Board is adopting the affirmative consumer who provided false follow certain underwriting practices defense as proposed. documentation to the creditor, and who and incorporates these practices, with The defense is available only where wished to bring a claim against the modifications, into a presumption of the creditor can show that the amounts creditor, would have to demonstrate compliance that is substantially revised of income and assets relied on were not that the creditor reasonably should not from that proposed. Under materially greater than the amounts the have relied on the document. If the only § 226.34(a)(4)(iii), a creditor is presumed creditor could have verified. The fact that made the document unreliable to have complied with § 226.34(a)(4) if definition of ‘‘material’’ is not based on was the consumer’s having provided the creditor satisfies each of three a numerical threshold as some false information without the creditor’s requirements: (1) Verifying repayment commenters suggested. Rather, the knowledge, it would not have been ability; (2) determining the consumer’s commentary has been revised to clarify unreasonable for the creditor to rely on repayment ability using largest that creditors would be required to that document. scheduled payment of principal and

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interest in the first seven years which to assess repayment ability. The to which the creditor should underwrite following consummation and taking Board proposed that a creditor would be if it seeks to have a presumption of into account property tax and insurance presumed to have disregarded compliance. Furthermore, nothing in obligations and similar mortgage-related repayment ability if it had engaged in a the regulation prohibits, or creates a expenses; and (3) assessing the pattern or practice of failing to use the presumption against, loan products that consumer’s repayment ability using at fully-indexed rate (or the maximum rate are designed to serve consumers who least one of the following measures: a in seven years on a step-rate loan) and legitimately expect to sell or refinance ratio of total debt obligations to income, the fully-amortizing payment. sooner than seven years. or the income the consumer will have As discussed, the final rule does not A second aspect of § 226.34(a)(4) that after paying debt obligations. (The contain this proposed presumption of is integral to its balance of consumer procedures for verifying repayment violation. Instead, it provides that a protection and credit availability is its ability are required under paragraph creditor will have a presumption of exclusion of two nontraditional types of 34(a)(4)(ii); the other procedures are not compliance if, among other things, the loans from the presumption of required.) creditor uses the largest scheduled compliance that can pose more risk to Unlike the proposed presumption of payment of principal and interest in the consumers in the subprime market. compliance, the presumption of first seven years. This payment could be Under § 226.34(a)(4)(iv), no compliance in the final rule is not higher, or lower, than the payment presumption of compliance is available conditioned on a requirement that a determined according to the fully- for a balloon-payment loan with a term creditor have a reasonable basis to indexed rate and fully-amortizing shorter than seven years. If the term is believe that a consumer will be able to payment. The Board believes that the at least seven years, the creditor that make loan payments for a specified final rule is clearer and simpler than the underwrites the loan based on the period of years. Comments from proposal. It incorporates long- regular payments (not the balloon creditors indicated this proposed established principles in Regulation Z payment) may retain the presumption of requirement was not necessary and for determining a payment schedule compliance. If the term is less than introduced an undue degree of when rates or payments can change, seven years, compliance is determined compliance uncertainty. The final which should facilitate compliance. See on the basis of all of the facts and presumption of compliance, therefore, comment 34(a)(4)(iii)(B)–1. The final circumstances. This approach is simpler replaces this general requirement with rule is also more flexible than the than some of the alternatives the three specific procedural proposal. Instead of requiring the commenters recommended to address requirements mentioned in the previous creditor to use a particular payment, it balloon-payment loans, and it better paragraph. provides the creditor who uses the balances consumer protection and credit The creditor’s presumption of largest scheduled payment in seven availability than other alternatives they compliance for following these years a presumption of compliance. The suggested.69 Consumers are statistically procedures is not conclusive. The Board creditor has the flexibility to use a lower very likely to prepay (or default) within believes a conclusive presumption payment, and no presumption of seven years and avoid the balloon could seriously undermine consumer violation would attach; though neither payment. protection. A creditor could follow the would a presumption of compliance. Loans with scheduled payments that procedures and still disregard Instead, compliance would be would increase the principal balance repayment ability in a particular case or determined based on all of the facts and (negative amortization) within the first potentially in many cases. Therefore, circumstances. seven years are also excluded from the the borrower may rebut the presumption Two aspects of § 226.34(a)(4) help presumption of compliance. This with evidence that the creditor ensure that this approach provides exclusion will help ensure that the disregarded repayment ability despite consumers effective protection. First, presumption is available only for loans following these procedures. For the Board is adopting the proposed that leave the consumer sufficient example, evidence of a very high debt- seven-year horizon. That is, under equity after seven years to refinance. If to-income ratio and a very limited § 226.34(a)(4)(iii)(B) the relevant the payments scheduled for the first payment for underwriting is the largest residual income could be sufficient to seven years would cause the balance to rebut the presumption, depending on all payment in seven years. Industry increase, then compliance is determined of the facts and circumstances. If a commenters requested that the rule creditor fails to follow one of the non- incorporate a time horizon of no more 69 One large lender contended that balloon loans mandatory procedures set forth in than five years. As these commenters should be exempted from a repayment-ability rule paragraph 34(a)(4)(iii), then the indicated, most subprime loans, because consumers understand their risks. Another creditor’s compliance is determined including those with fixed rates, have recommended that balloon loans be exempted from based on all of the facts and paid off (or defaulted) within five years. the repayment ability rule if the term of the loan exceeds seven years for first-lien mortgages or five circumstances without there being a It is possible that prepayment speeds years for subordinate-lien loans. A trade association presumption of either compliance or will slow, however, as subprime lending representing community banks urged that balloon violation. See comment 34(a)(4)(iii)–1. practices and loan terms undergo payments be permitted so long as the creditor has Largest scheduled payment in seven substantial changes. Moreover, the final a reasonable basis to believe the borrower will make the payments for the term of the loan except the years. When a loan has a fixed rate and rule addresses commenters’ concern final, balloon payment. This trade association a fixed payment that fully amortizes the that the proposal seemed to require indicated that community banks often structure the loan over its contractual term to them to project the consumer’s income, loans they hold in portfolio as 3- or 5-year balloon maturity, there is no ambiguity about employment, and other circumstances loans, typically with 15–30 year amortization periods, to match the maturity of the loan to the the rate and payment at which the for as long as seven years as a condition maturity of their deposit base. A lender and a lender should assess repayment ability: to obtaining a presumption of lender trade association recommended using on The lender will use the fixed rate and compliance. Under the final rule, the short-term balloon loans a payment larger than the the fixed payment. But when the rate creditor is expected to underwrite based scheduled payment but smaller than the fully- amortizing payment, such as the payment that and payment can change, as has often on the facts and circumstances that exist would correspond to an interest rate two percentage been true of subprime loans, a lender as of consummation. Section points higher than the rate specified in the has to choose a rate and payment at 226.34(a)(4)(iii)(B) sets out the payment presumption of compliance.

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on all of the facts and circumstances repayment ability. If one of these guaranteed by the Department of without a presumption of compliance or metrics alone holds as much predictive Veterans Affairs, 38 CFR 36.4840; violation. power as the two together, as may be develop the Board’s own guidelines; or ‘‘Interest-only’’ loans can have a true of certain underwriting models at impose a threshold of 50 percent DTI presumption of compliance. With these certain times, then conditioning access with sufficient residual income. A loans, after an initial period of interest- to a safe harbor on using both metrics consumer research and advocacy group, only payments the payment is recast to could reduce access to credit without an however, supported the Board’s fully amortize the loan over the offsetting increase in consumer proposal not to set a quantitative remaining term to maturity. If the period protection. The Board also took into threshold. It specifically opposed a 50 of interest-only payments is shorter than account that, at this time, residual percent threshold as too high for seven years, the creditor may retain the income appears not to be as widely used sustainable lending. It further presumption of compliance if it uses the or tested as the DTI ratio.70 It is maintained that any specific DTI fully-amortizing payment that appropriate to permit the market to threshold would not be workable commences after the interest-only develop more experience with residual because proper underwriting depends period. If the interest-only period is income before considering whether to on too many factors, and the definition seven years or longer, the creditor may incorporate it as an independent of ‘‘debt’’ is too easily manipulated. retain the presumption of compliance if requirement of a regulatory presumption The Board is concerned that making it assesses repayment ability using the of compliance. a specific DTI ratio or residual income interest-only payment. Examples have The final rule does not contain level either a presumptive violation or been added to the commentary to quantitative thresholds for either of the a safe harbor could limit credit facilitate compliance. See comment two metrics. The Board specifically availability without providing adequate 34(a)(4)(iii)(B)–1. Examples of variable- solicited comment on whether it should offsetting benefits. The same debt-to- rate loans and a step-rate loan have also adopt such thresholds. Industry income ratio can have very different been added. commenters did not favor providing a implications for two consumers’ Debt-to-income ratio and residual presumption of compliance (or a repayment ability if the income levels of income. The proposal provided that a presumption of a violation) based on a the consumers differ significantly. creditor would be presumed to have specified debt-to-income ratio. The Moreover, it is not clear what thresholds violated the regulation if it engaged in reasons given include: Different would be appropriate. Limited data are a pattern or practice of failing to investors have different guidelines for available to the Board to support such consider the ratio of consumers’ total lenders to follow in calculating DTI; a determination. Underwriting debt obligations to consumers’ income underwriters following the same guidelines of the Department of or the income consumers will have after procedures can calculate different DTIs Veterans Affairs may be appropriate for paying debt obligations. A major on the same loan; borrowers may want the limited segment of the mortgage secondary market participant proposed or, in some high-cost areas, may need to market this agency is authorized to that considering total DTI and residual spend more than any specified serve, but they are not necessarily income not be an absolute prerequisite percentage of their income on housing appropriate for the large segment of the because other measures of income, and may have sufficient non-collateral mortgage market this regulation will assets, or debts may be valid methods to assets or residual incomes to support cover. assess repayment ability. A credit union the loan; and loans with high DTIs have Safe Harbors and Exemptions Not trade association contended that not necessarily had high delinquency Adopted residual income is not a necessary rates. Two trade associations indicated underwriting factor if a lender uses DTI. they would accept a quantitative safe Commenters requested several safe Consumer and civil rights groups, harbor if it were sufficiently flexible. harbors or exemptions that the Board is however, specifically support including Some commenters suggested a standard not adopting. Many industry both DTI and residual income as factors, of reasonableness. commenters sought a safe harbor for any contending that residual income is an Consumer and civil rights groups, a loan approved by the automated essential component of an affordability federal banking agency, and others underwriting system (AUS) of Fannie analysis for lower-income families. requested that the Board set threshold Mae or Freddie Mac; some sought a safe Based on the comments and its own levels for both DTI and residual income harbor for an AUS of any federally- analysis, the Board is revising the beyond which a loan would be regulated institution. The Board is not proposal to provide that a creditor does considered unaffordable, subject to adopting such a safe harbor. not have a presumption of compliance rebuttal by the creditor. They argued Commenters did not suggest a clear and with respect to a particular transaction that quantitative thresholds for these objective definition of an AUS that unless it uses at least one of the factors would improve compliance and would distinguish it from other types of following: the consumer’s ratio of total loan performance. These commenters systems used in underwriting. It would debt obligations to income, or the suggested that the regulation should not be appropriate to try to resolve this income the consumer will have after expressly recognize that, as residual concern by limiting a safe harbor to the paying debt obligations. Thus, the final income increases, borrowers can AUS’s of Fannie Mae and Freddie Mac, rule permits a creditor to retain a support higher DTI levels. They as that would give them an unfair presumption of compliance so long as it provided alternative recommendations: advantage in the marketplace. Moreover, uses at least one of these two measures. mandate the DTI and residual income a safe harbor for an AUS that is a ‘‘black The Board believes the flexibility levels found in the guidelines for loans box’’ and is not specifically required to permitted by the final rule will help comply with the regulation could promote access to responsible credit 70 Michael E. Stone, What is Housing undermine the regulation. Some without weakening consumer Affordability? The Case for the Residual Income industry commenters sought safe protection. The rule provides creditors Approach, 17 Housing Policy Debate 179 (Fannie harbors for transactions that provide the Mae 2006) (advocating use of a residual income flexibility to determine whether using approach but acknowledging that it ‘‘is neither well consumer a lower rate or payment on both a DTI ratio and residual income known, particularly in this country, nor widely the grounds that these transactions increases a creditor’s ability to predict understood, let alone accepted’’). would generally benefit the borrower.

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The chief example given is a refinance and higher-priced mortgage loans, to higher-priced mortgage loans that are (without cash out) that reduces the require that the penalty period expire at substantially the same as the restrictions consumer’s current monthly payment least sixty days before the first date, if that § 226.32(d)(6) and (7) apply on or, in the case of an ARM, the payment any, on which the periodic payment prepayment penalties for HOEPA loans. expected upon reset. The Board does amount may increase under the terms of Accordingly, the Board is revising not believe that a safe harbor for such the loan. footnote 48 to clarify that a higher- a transaction would benefit consumers. Based on the comments and its own priced mortgage loan (whether or not it For example, it could provide an analysis, the Board is adopting is a HOEPA loan) having a prepayment incentive to an originator to make an substantially revised rules for penalty that does not conform to the unaffordable loan to a consumer and prepayment penalties. There are two requirements of § 226.35(b)(2) also is then repeatedly refinance the loan with components to the final rule. First, the subject to a three-year right of new loans offering a slightly lower final rule prohibits a prepayment rescission. (The right of rescission, payment each time. penalty with a higher-priced mortgage however, does not extend to home One state Attorney General submitted loan or HOEPA loan if payments can purchase loans, construction loans, or a comment supporting permitting an change during the four-year period certain refinancings with the same asset-based loan where the borrower has following consummation. Second, for creditor.) suffered a loss of income but reasonably all other higher-priced mortgage loans anticipates improving her circumstances and HOEPA loans—loans whose Public Comment (e.g., temporary disability or illness, payments may not change for four years The Board received public input unemployment, or salary cut), or the after consummation—the final rule about the advantages and disadvantages borrower seeks a short-term loan limits prepayment penalty periods to a of prohibiting or restricting prepayment because she must sell the home due to maximum of two years following penalties in testimony provided at the a permanent reduction in income (e.g., consummation, rather than five years as 2006 and 2007 hearings the Board loss of job, or divorce from co-borrower) proposed. In addition, the final rule conducted on mortgage lending, and in or some other event (e.g., pending applies to this second category of loans comment letters associated with these foreclosure or occurrence of natural two requirements for HOEPA loans that hearings. In the official notice of the disaster). An association of mortgage the Board proposed to apply to higher- 2007 hearing, the Board expressly asked brokers also recommended that priced mortgage loans: the penalty must for oral and written comment about the exceptions be made for such cases. be permitted by other applicable law, effects of a prohibition or restriction The Board is not adopting safe and it must not apply in the case of a under HOEPA on prepayment penalties harbors or exemptions for such refinancing by the same creditor or its on consumers and on the type and terms ‘‘hardship’’ cases. As discussed above, affiliate. of credit offered. 72 FR 30380, 30382 the Board recognizes that consumers in The Board is not adopting the (May 31, 2007). Most consumer and such situations who fully understood proposed rule requiring a prepayment community groups, as well as some the risks involved would benefit from penalty provision to expire at least sixty state and local government officials and having the ability to address their days before the first date on which a a trade association for community situation by taking a large risk with their periodic payment amount may increase development financial institutions, home equity. At the same time, the under the loan’s terms. The final rule urged the Board to prohibit prepayment Board is concerned that exceptions for makes such a rule unnecessary. Under penalties with subprime loans. By such cases could severely undermine the final rule, if the consumer’s payment contrast, most industry commenters the rule because it would be difficult, if may change during the first four years opposed prohibiting prepayment not impossible, to distinguish bona fide following consummation, a prepayment penalties or restricting them beyond cases from mere circumvention. For penalty is prohibited outright. If the requiring that they expire sixty days some of these cases, such as selling a payment is fixed for four years, the final before reset, on the grounds that a home due to divorce or job loss (or any rule limits a prepayment penalty period prohibition or additional restrictions reason) and purchasing a new, to two years, leaving the consumer a would reduce credit availability in the presumably less expensive home, the penalty-free window of at least two subprime market. Some industry carve-out for bridge loans may apply. years before the payment may increase. commenters, however, stated that a In addition, for the reasons discussed three-year maximum prepayment C. Prepayment Penalties—§ 226.32(d)(6) below, the Board is not adopting the penalty period would be appropriate. and (7); § 226.35(b)(2) proposed rule prohibiting a prepayment In connection with the proposed rule, The Board proposed to apply to penalty where a consumer’s verified DTI the Board asked for comment about the higher-priced mortgage loans the ratio, as of consummation, exceeds 50 benefits and costs of prepayment prepayment penalty restrictions that percent. This restriction, however, will penalties to consumers who have TILA Section 129(c) applies to HOEPA continue to apply to HOEPA loans, as higher-priced mortgage loans, as well as loans. Specifically, HOEPA-covered provided by the statute. about the costs and benefits of the loans may only have a prepayment Under Regulation Z, 12 CFR specific restrictions proposed. Most penalty if: The penalty period does not 226.23(a)(3), footnote 48, a HOEPA loan financial institutions and their trade exceed five years from loan having a prepayment penalty that does associations stated that consumers consummation; the penalty does not not conform to the requirements of should be able to choose a loan with a apply if there is a refinancing by the § 226.32(d)(7) is a mortgage containing a prepayment penalty in order to lower same creditor or its affiliate; the provision prohibited by TILA Section their interest rate. Many of these borrower’s debt-to-income (DTI) ratio at 129, 15 U.S.C. 1639, and therefore is commenters stated that prepayment consummation does not exceed 50 subject to the three-year right of the penalties help creditors to manage percent; and the penalty is not consumer to rescind. Final prepayment risk, which in turn prohibited under other applicable law. § 226.35(b)(2), which the Board is increases credit availability and lowers 15 U.S.C. 1639(c); see also 12 CFR adopting under the authority of Section credit costs. Industry commenters 226.32(d)(6) and (7). In addition, the 129(l)(2), 15 U.S.C. 1639(l)(2), applies generally opposed the proposed rule Board proposed, for both HOEPA loans restrictions on prepayment penalties for that would prohibit prepayment

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penalties in cases where a consumer’s subprime loans outweigh their benefits. provision.72 These provisions cause DTI ratio exceeds 50 percent. The few With respect to subprime loans many consumers who pay the penalty, industry commenters that addressed the structured to have longer expected life as well as many consumers who cannot, proposal to require that a prepayment spans, however, the Board concludes substantial injuries. The risk of injury is penalty not apply in the case of a that the injuries from prepayment particularly high for borrowers who refinancing by the creditor or its affiliate penalties are closer to being in balance receive loans structured to have short opposed the provision. These with their benefits, warranting expected life spans because of a commenters supported, or did not restrictions but not, at this time, a significant expected payment increase. oppose, the proposal to require prohibition. A borrower with a prepayment prepayment penalties to expire at least Background. Prepayment risk is the penalty provision who has reason to sixty days before any possible payment risk that a loan will be repaid before the refinance while the provision is in effect increase. Several financial institutions, end of the loan term, a major risk of must choose between paying the penalty an industry trade association, and a mortgage lending. Along with default or foregoing the refinance, either of secondary-market investor risk, it is the major risk of extending which could be very costly. Paying the recommended that the Board set a three- mortgage loans. When mortgages penalty could exact several thousand year maximum penalty period instead of prepay, cash flow from loan payments dollars from the consumer; financing a five-year maximum. may not offset origination expenses or the penalty through the refinance loan By contrast, many other commenters, discounts consumers were provided on adds interest to that cost. When the including most consumer organizations, fees or interest rates. Moreover, consumer’s credit score has improved, several trade associations for state prepayment when market interest rates delaying the refinance until the penalty banking authorities, a few local, state, are declining, which is when borrowers expires could mean losing or at least and federal government officials, a are more likely to prepay, forces postponing an opportunity to lower the credit union trade association, and a investors to reinvest prepaid funds at a consumer’s interest rate. Declining to real estate agent trade association, lower rate. Furthermore, prepayment by pay the penalty also could mean supported prohibiting prepayment subprime borrowers whose credit risk foregoing or delaying a ‘‘cash out’’ loan penalties for higher-priced mortgage declines (for example, their equity or that would consolidate several large loans and HOEPA loans. Many of these their credit score increases) leaves an unsecured debts at a lower rate or help commenters stated that the cost of investor holding relatively riskier loans. the consumer meet a major life expense, prepayment penalties to subprime Creditors seek to account for such as for medical care. Borrowers who borrowers outweigh the benefits of any prepayment risk when they set loan have no ability to pay or finance the reductions in interest rates or up-front interest rates and fees, and they may penalty, however, have no choice but to fees they may receive. These also seek to address prepayment risk forego or delay any benefits from commenters stated that the Board’s with a prepayment penalty. A refinancing. proposed rule would not address prepayment penalty is a fee that a Prepayment penalty provisions also adequately the harms that prepayment borrower pays if he repays a mortgage exacerbate injuries from unaffordable or penalties cause consumers. Several within a specified period after abusive loans. In the worst case, where commenters recommended alternative origination. A prepayment penalty can a consumer has been placed in a loan restrictions of prepayment penalties amount to several thousand dollars. For he cannot afford to pay, delaying a with higher-priced mortgage loans and example, a consumer who obtains a 3– refinancing could increase the HOEPA loans if the Board did not 27 ARM with a thirty-year term for a consumer’s odds of defaulting and, prohibit such penalties, including loan in the amount of $200,000 with an ultimately, losing the house.73 limiting a prepayment penalty period to initial rate of 6 percent would have a Borrowers who were steered to loans two or three years following principal balance of $194,936 at the end with less favorable terms than they consummation or prohibiting of the second year following qualify for based on their credit risk face prepayment penalties with ARMs. consummation. If the consumer pays off an ‘‘exit tax’’ for refinancing to improve Public comments are discussed in the loan, a penalty of six months’ their terms. greater detail throughout this section. interest on the remaining balance—close Prepayment penalty provisions can to six monthly payments—will cost the cause more injury with loans designed Discussion consumer about $5,850.71 A penalty of to have short expected life spans. With For the reasons discussed below, the this magnitude reduces a borrower’s these loans, borrowers are particularly Board concludes that the fairness of likelihood of prepaying and assures a likely to want to prepay in a short time prepayment penalty provisions on return for the investor if the borrower to avoid the expected payment increase. higher-priced mortgage loans and does prepay. Moreover, in recent years, loans HOEPA loans depends to an important Substantial injury. Prepayment designed to have short expected life extent on the structure of the mortgage penalty provisions have been very spans have been among the most loan. It has been common in the common on subprime loans. Almost difficult for borrowers to afford—even subprime market to structure loans to three-quarters of loans in a large dataset before their payment increases. have a short expected life span. This has of securitized subprime loan pools Borrowers with 2–28 and 3–27 ARMs been achieved by building in a originated from 2003 through the first have been much more likely to become significant payment increase just a few half of 2007 had a prepayment penalty years after consummation. With respect 72 Figure calculated from First American to subprime loans designed to have 71 This is a typical contractual formula for LoanPerformance data. shorter life spans, the injuries from calculating the penalty. There are other formulas for 73 For the reasons set forth in part II.B., calculating the penalty, such as a percentage of the consumers in the subprime market have had a high prepayment provisions are potentially amount prepaid or of the outstanding loan balance risk of receiving loans they cannot afford to pay. the most serious, as well as the most (potentially reduced by the percentage (for example, The Board expects that the rule prohibiting difficult for a reasonable consumer to 20 percent) that a borrower, by law or contract, may disregard for repayment ability will reduce this risk avoid. For these loans, therefore, the prepay without penalty). As explained further substantially, but no rule can eliminate it. below, a consumer may pay a lower rate in Moreover, its success depends on vigorous Board concludes that the injuries caused exchange for having a provision providing for a enforcement by a wide range of agencies and by prepayment penalty provisions with penalty of this magnitude. jurisdictions.

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seriously delinquent than borrowers out.’’ 77 In addition, many subprime choose to place more weight on the with fixed-rate subprime mortgages. In borrowers would aspire to refinance for more certain and tangible cost of the part, the difference reflects that a lower rate when their credit risk initial monthly payment. There is a borrowers receiving 2–28 and 3–27 declines (for example, their credit score limit to the number of factors a ARMs have had lower average credit improves, or their equity increases). consumer can reasonably be expected to scores and less equity in their homes at Prepayment penalties’ lack of consider, so the more complex a loan origination. But the large difference also transparency also suggests that the less likely the consumer is to suggests that these shorter-term loans prepayment penalty provisions are often consider the prepayment penalty. For were more likely to be marketed and not knowingly and voluntarily chosen example, an FTC staff study found that underwritten in ways that increase the by subprime borrowers whose loans consumers presented with mortgage risk of unaffordability. A prepayment have them. In the subprime market, loans with more complex terms were penalty provision exacerbates this information on rates and fees is not easy more likely to miss or misunderstand injury, especially because borrowers to obtain. See part II.B. Information on key terms.78 with lower credit scores are the most prepayment penalties, such as how large These concerns are magnified with likely to have a need to refinance to they can be or how many consumers subprime loans structured to have short extract cash. actually pay them, is even harder to expected life spans, which will have obtain. The lack of transparency is variable rates (such as 2–28 and 3–27 Injury not reasonably avoidable. In exacerbated by originators’ incentives— ARMs) or other terms that can increase the prime market, the injuries largely hidden from consumers—to the payment. Adjustable-rate mortgages prepayment penalties cause are readily ‘‘push’’ loans with prepayment penalty are complicated for consumers even avoidable because lenders do not provisions and at the same time obscure without prepayment penalties. A typically offer borrowers mortgages with or downplay these provisions. If the Federal Reserve staff study suggests that prepayment penalty provisions. Indeed, consumer seeks the lowest monthly borrowers with ARMs underestimate the in one large dataset of first-lien prime payment—as the consumer in the amount by which their interest rates can loans originated from 2003 to mid-2007 subprime market often does—then the change.79 The study also suggests that just six percent of loans had these originator has a limited incentive to the borrowers most likely to make this provisions.74 In a dataset of subprime quote the payment for a loan without a mistake have a statistically higher securitized loans originated during the prepayment penalty provision, which likelihood of receiving subprime same period, however, close to three- will tend to be at least slightly higher. mortgages (for example, they have lower quarters had a prepayment penalty Perhaps more importantly, lenders pay incomes and less education).80 Adding provision.75 Moreover, evidence originators considerably larger a prepayment penalty provision to an suggests that a large proportion of commissions for loans with prepayment already-complex ARM product makes it subprime borrowers with prepayment penalties, because the penalty assures less likely the consumer will notice, penalty provisions have paid the the lender a larger revenue stream to understand, and consider this provision penalty. Approximately 55 percent of cover the commission. The originator when making decisions. Moreover, the subprime 2–28 ARMs in this same also has an incentive not to draw the shorter the period until the likely dataset originated from 2000 to 2005 consumer’s attention to the prepayment payment increase, the more the prepaid while the prepayment penalty penalty provision, in case the consumer consumer will have to focus attention provision was in effect.76 The data do should prefer a loan without it. on the adjustable-rate feature of the loan not indicate how many consumers Although the prepayment penalty and the less the consumer may be able actually paid a penalty, or how much provision must be disclosed on the post- to focus on other features. they paid. But the data suggest that a application TILA disclosure, the Moreover, subprime mortgage loans significant percentage of borrowers with consumer may not notice it amidst designed to have short expected life subprime loans have paid prepayment numerous other disclosures or may not spans appear more likely than other penalties, which, as indicated above, appreciate its significance. Moreover, an types of subprime mortgages to create can amount to several thousand dollars. unscrupulous originator may not incentives for abusive practices. These figures raise a serious question disclose the penalty until closing, when Because these loans create a strong as to whether a substantial majority of the consumer’s ability to negotiate terms incentive to refinance in a short time, subprime borrowers have knowingly is much reduced. they are likely to be favored by and voluntarily taken the very high risk Even a consumer offered a genuine originators who seek to ‘‘flip’’ their of paying a significant penalty. While choice would have difficulty comparing clients through repeated refinancings to subprime borrowers receive some rate the costs of subprime loans with and increase fee revenue; prepayment reduction for a prepayment penalty without a penalty, and would likely penalties are frequently associated with provision (as discussed at more length such a strategy.81 Moreover, 2–28 and in the next subsection), they also have 77 Id. It is not possible to discern from the data major incentives to refinance. They whether the cash was used only to cover the costs 78 Improving Consumer Mortgage Disclosures at often have had difficulty meeting their of refinancing or also for other purposes. See also 74 (‘‘[R]espondents had more difficulty recognizing Subprime Refinancing at 233 (reporting that 49 and identifying mortgage cost in the complex-loan regular obligations and experienced percent of subprime refinance loans involve equity scenario. This implies that borrowers in the major life disruptions. Many would extraction, compared with 26 percent of prime subprime market may have more difficulty therefore anticipate refinancing to refinance loans); Subprime Outcomes at 368–371 understanding their loan terms than borrowers in the prime market. The difference in understanding, extract equity to consolidate their debts (discussing survey evidence that borrowers with subprime loans are more likely to have experienced however, would be due largely to differences in the or pay a major expense; nearly 90 major adverse life events (marital disruption; major complexities of the loans, rather than the percent of subprime ARMs used for medical problem; major spell of unemployment; capabilities of the borrowers.’’). refinancings in recent years were ‘‘cash major decrease of income) and often use refinancing 79 Brian Bucks and Karen Pence, Do Borrowers for debt consolidation or home equity extraction); Understand their Mortgage Terms?, Journal of Subprime Lending Investigation at 551–52 (citing Urban Economics (forthcoming 2008). 74 Figure calculated from McDash Analytics data. survey evidence that borrowers with subprime 80 Id. 75 Figure calculated from First American loans have increased incidence of major medical 81 See generally U.S. Dep’t of Hous. & Urban Dev. LoanPerformance data. expenses, major unemployment spells, and major & U.S. Dep’t of Treasury, Recommendations to Curb 76 Id. drops in income). Continued

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3–27 ARMs were marketed to borrowers charging all of the risk in the form of APR associated with subprime 2–28 with low credit scores as ‘‘credit repair’’ higher interest rates or up-front fees for ARMs and 3–27 ARMs to be minimal, products, obscuring the fact that a all consumers. The extent to which ranging from 18 to a maximum of 29 prepayment penalty provision would creditors have actually passed on lower basis points, with one study finding no inhibit or prevent the consumer who rates and fees to consumers with rate reduction on such loans originated improved his credit score from prepayment penalty provisions in their by brokers.84 The one available (but refinancing at a lower rate. These loans loans is debated and, moreover, unpublished) study to compare the rate were also associated more than other inherently difficult to measure. With reduction to the cost of the penalty itself loan types with irresponsible limited exceptions, however, available found a net cost to the consumer with underwriting and marketing practices studies, discussed at more length below, 2–28 and 3–27 ARMs.85 The minimal that contributed to high rates of have shown consistently that loans with rate reductions strengthen doubt that delinquency even before the consumer’s prepayment penalties carry lower rates the high incidence of penalty provisions payment increased. or APRs than loans without prepayment was the product of informed consumer Subprime loans designed to have penalties having similar credit risk choice. Moreover, for the reasons short expected life spans also attracted characteristics.83 discussed above, prepayment penalties consumers who are more vulnerable to Evidence of lower rates or APRs is not are likely to cause the most significant, abusive prepayment penalties. sufficient to demonstrate that penalties and least avoidable, injuries when Borrowers with 2–28 and 3–27 ARMs provide a net benefit to consumers. coupled with loans designed to have had lower credit scores than borrowers Some consumers may not have chosen short expected life spans, which have with any other type of subprime loan.82 the lower rates or APRs voluntarily and proved to be the riskiest loans for These borrowers include consumers may have preferred ex ante, had they consumers. On balance, therefore, the with the least financial sophistication been properly informed, to have no Board believes these injuries outweigh and the fewest financial options. Such prepayment penalty provision and potential benefits. consumers are less likely to scrutinize a somewhat higher rates or fees. For higher-priced mortgage loans and loan for a restriction on prepayment or Borrowers with these provisions who HOEPA loans structured to have longer negotiate the restriction with an hold their loans past the penalty period expected life spans, however, the Board originator, who in any event has an are likely better off because they have concludes that the injuries and benefits incentive to downplay its significance. lower rates and do not incur a are closer to being in balance. Studies Injury not outweighed by prepayment penalty; but the benefit that analyze both fixed-rate mortgages countervailing benefits to consumers or these borrowers receive may be small and 2–28 and 3–27 ARMs show a more to competition. The Board concludes compared to the injury suffered by the significant reduction of rates and fees that prepayment penalties’ injuries many borrowers who pay the penalty, or for fixed-rate mortgages for loans with outweigh their benefits in the case of who cannot pay it and are locked into prepayment penalties, ranging from 38 higher-priced mortgage loans and an inappropriate or unaffordable loan. It basis points 86 to 60 basis points.87 HOEPA loans designed with planned or does appear, however, that prepayment Moreover, longer-term ARMs and fixed- potential payment increases after just a penalty provisions provide some benefit rate mortgages have had significantly few years. For other types of higher- to at least some consumers in the form lower delinquency rates than 2–28 and priced and HOEPA loans, however, the of reduced rates and increased credit 3–27 ARMs, suggesting these mortgages Board concludes that the injuries and availability. are more likely to be affordable to benefits are much closer to being in In the case of higher-priced mortgage consumers. In addition, mortgages equipoise. Thus, as explained further in loans and HOEPA loans designed to the next section, the final rule prohibits have short expected life spans, the 84 See Effect of Prepayment Penalties 43 (finding penalties in the first case and limits Board concludes that these potential that the presence of a prepayment penalty reduced them to two years in the second. benefits do not outweigh the injuries to risk premiums by 18 basis points for hybrid loans and 13 basis points for variable-rate loans); Prepayment penalties can increase consumers. Available studies generally Prepayment Fees Lower Rates 5 (stating that, for market liquidity by permitting creditors have found reductions in interest rate or first-lien subprime loans with a thirty-year term, the and investors to price directly and presence of a prepayment penalty reduced the APR efficiently for prepayment risk. This 83 See Chris Mayer, Tomasz Piskorski, and Alexei by 29 basis points for adjustable-rate loans and 20 liquidity benefit is more significant in Tchistyi, The Inefficiency of Refinancing: Why basis points for interest-only loans). 85 Cost-Benefit Analysis 26 (‘‘For the [2–28] ARM the subprime market than in the prime Prepayment Penalties Are Good for Risky Borrowers (Apr. 28, 2008) (Why Prepayment Penalties Are product, the total interest rate savings is market. Prepayment in the subprime Good), http://www1.gsb.columbia.edu/mygsb/ significantly less than the amount of the expected market is motivated by a wider variety faculty/research/pubfiles/3065/ prepayment penalty; for the [3–28] ARM product, of reasons than in the prime market, as Inefficiency%20of%20Refinancing%2Epdf; Gregory the two values are approximately equal.’’). discussed above, and therefore is subject Elliehausen, Michael E. Staten, and Jevgenijs 86 Effect of Prepayment Penalties 43. See also Steinbuks, The Effect of Prepayment Penalties on Cost-Benefit Analysis 24 (finding the total estimated to more uncertainty. In principle, the Pricing of Subprime Mortgages, 60 Journal of interest rate savings for fixed-rate loans to be 51 prepayment penalty provisions allow Economics and Business 33 (2008) (Effect of basis points for retail-originated loans and 33 basis creditors to charge most of the Prepayment Penalties); Michael LaCour-Little, points for broker-originated loans). prepayment risk only to the consumers Prepayment Penalties in Residential Mortgage 87 Prepayment Fees Lower Rates 5. See also Why Contracts: A Cost-Benefit Analysis (Jan. 2007) Prepayment Penalties Are Good 25 & fig. 4 (finding who actually prepay, rather than (unpublished) (Cost-Benefit Analysis); Richard F. that, depending on the borrower’s FICO score, DeMong and James E. Burroughs, Prepayment Fees fixed-rate loans with prepayment penalties had Predatory Home Mortgage Lending 73 (2000) (‘‘Loan Lead to Lower Interest Rates, Equity (Nov./Dec. interest rates that were about 50 basis points (where flipping generally refers to repeated refinancing of 2005), available at http:// FICO score 680 or higher) to about 70 basis points a mortgage loan within a short period of time with www.commerce.virginia.edu/faculty_research/ (where FICO score less than 620) lower than little or no benefit to the borrower.’’), available at faculty_homepages/DeMong/Prepaymentsand mortgages without prepayment penalties); but see http://www.huduser.org/publications/pdf/ InterestRates.pdf (Prepayment Fees Lower Rates); No Interest Rate Benefit (finding, for subprime treasrpt.pdf. but see Keith E. Ernst, Center for Responsible fixed-rate loans, that interest rates for purchase 82 Figures calculated from First American Lending, Borrowers Gain No Interest Rate Benefit loans with a prepayment penalty were between 39 LoanPerformance data about securitized subprime from Prepayment Penalties on Subprime Mortgages and 51 basis points higher than for such loans pools show that the median FICO score was 627 for (2005), http://www.responsiblelending.org/pdfs/ without a penalty and that for refinance loans there fixed-rate loans and 612 for short-term hybrid rr005-PPP_Interest_Rate-0105.pdf (No Interest Rate was no statistically significant difference in the ARMs (2–28 and 3–27 ARMS). Benefit). interest rates paid).

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designed to have longer life spans create one-year maximum length. Although a examples showing whether prepayment less opportunity for flipping and other financial services trade association penalties are permitted or prohibited in abuses, and the borrowers offered these supported a five-year maximum, several particular circumstances where the loans may be less vulnerable to abuse. financial institutions and mortgage amount of the periodic payment can These borrowers have had higher credit banking trade associations and a change. The commentary also provides scores and therefore more options, and government-sponsored enterprise stated examples of changes that are not their preference for a longer-lived loan that three years would be an appropriate deemed payment changes for purposes may imply that they have a longer-term maximum period for prepayment of the rule.90 perspective and a more realistic penalties with higher-priced mortgage With respect to loans structured to assessment of their situation. In fact, a loans. have longer expected life spans, the smaller proportion of borrowers with As discussed above, the Board Board concludes that the injuries from subprime fixed-rate mortgages with concludes that the injuries from prepayment penalty provisions that are penalty provisions originated between prepayment penalty provisions that short relative to the expected life span 2000 and 2005 prepaid in the first two consumers cannot reasonably avoid are closer to being in balance with their years (about 35 percent) than did outweigh these provisions’ benefits with benefits. Accordingly, for loans for borrowers with subprime 2–28 ARMs respect to higher-priced mortgage loans which the payment may not change, or with penalty provisions (about 55 and HOEPA loans structured to have may change only after four or more percent).88 Therefore, in the case of short expected life spans. Accordingly, years, the Board is not banning shorter prepayment penalty provisions the final rule prohibits a prepayment prepayment penalties. Instead, it is on loans structured to have longer life penalty provision with a higher-priced seeking to ensure the benefits of penalty spans, the Board does not conclude at mortgage loan or a HOEPA loan whose provisions on these loans are in line this time that the injuries from these payments may change during the first with the injuries they can cause by provisions outweigh the benefits. four years following consummation.89 A limiting the potential for injury to two four-year discount period is not years from consummation. The Final Rule common, but a three-year period was The Board recognizes that creditors For both higher-priced mortgage loans common at least until recently. Using a may respond by increasing interest and HOEPA loans, the final rule three-year period in the regulation, rates, up-front fees, or both, and that prohibits prepayment penalties if however, might simply encourage the some subprime borrowers may pay more periodic payments can change during market to structure loans with discount than they otherwise would, or not be the first four years following loan periods of three years and one day. able to obtain credit when they would consummation. For all other higher- Therefore, the Board adopts a four-year prefer. The Board believes these costs priced mortgage loans and HOEPA period in the final rule as a prophylactic are justified by the benefits of the rule. loans, the final rule limits the measure. Based on available studies, the expected prepayment penalty period to two years The prohibition applies to loans with increase in costs on the types of loans after loan consummation and also potential payment changes within four for which penalty provisions are requires that a prepayment penalty not years, including potential increases and prohibited is not large. For the apply if the same creditor or its affiliate potential declines; the prohibition is not remaining loan types, reducing the makes the refinance loan. For HOEPA limited to loans where the payment can allowable penalty period from the loans, the final rule retains the current increase but not decline. The Board is typical three years to two years should prohibition of prepayment penalties concerned that such a limitation might not lead to significant cost increases for where the borrower’s DTI ratio at encourage the market to develop subprime borrowers. Moreover, to the consummation exceeds 50 percent; the unconventional repayment schedules extent cost increases come in the form for HOEPA loans and higher-priced of higher rates or fees, they will be Board is not adopting this prohibition mortgage loans that are more difficult reflected in the APR, where they may be for higher-priced mortgage loans. The for consumers to understand, easier for more transparent to consumers than as final rule sets forth the foregoing originators to misrepresent, or both. The a prepayment penalty. Thus, it is not prepayment penalty rules in two final rule also refers specifically to clear that the efficiency of market separate sections: For HOEPA loans, in periodic payments of principal or pricing would decline. § 226.32(d)(7), and for higher-priced interest or both, to distinguish such The Board is not adopting the mortgage loans, in § 226.35(b)(3). payments from other payments, suggestion of some commenters that it TILA Section 129(c)(2)(C), 15 U.S.C. including amounts directed to escrow set a maximum penalty amount. A 1639(c)(2)(C), limits the maximum accounts. Staff commentary lists restriction of that kind does not appear prepayment penalty period with necessary or warranted at this time. HOEPA loans to five years following 89 This rule is stricter than HOEPA’s statutory consummation. The Board proposed to provision on prepayment penalties for HOEPA 90 As discussed above, the final rule sets forth the apply this HOEPA provision to higher- loans. This provision permits such penalties under prepayment penalty rules in two separate sections. priced mortgage loans. Commenters certain conditions regardless of a potential payment For HOEPA loans, § 226.32(d)(7) lists conditions change within the first four years. Section 129(l)(2) that must be met for the general penalty prohibition generally stated that a five-year authorizes the Board, however, to prohibit acts or in § 226.32(d)(6) not to apply. For higher-priced maximum prepayment period was too practices it finds to be unfair or deceptive in mortgage loans, § 226.35(b)(2) prohibits a penalty long. Some consumer organizations, an connection with mortgage loans—including HOEPA described in § 226.32(d)(6) unless the conditions in association of credit unions, and a loans. Since HOEPA’s restrictions on prepayment § 226.35(b)(i) and (ii) are met. To ensure consistent penalty provisions were adopted, much has interpretation of the separate sections, the staff federal banking regulatory agency changed to make these provisions more injurious to commentary to § 226.35(b)(2) cross-references the recommended a two-year limit on consumers and these injuries more difficult to payment-change examples and exclusions in staff prepayment penalty periods. A few avoid. The following risk factors became much commentary to § 226.32(d)(7). The examples in staff more common in the subprime market: ARMs with commentary to § 226.32(d)(7)(iv) refer to a consumer organizations recommended a payments that reset after just two or three years; condition that final § 226.35(b)(2) does not include, securitization of subprime loans under terms that however—the condition that, at consummation, the 88 Figures calculated from First American reduce the originator’s incentive to ensure the consumer’s total monthly debt payments may not LoanPerformance data. About 90 percent of the consumer can afford the loan; and mortgage brokers exceed 50 percent of the consumer’s monthly gross penalty provisions on the fixed-rate loans applied with hidden incentives to ‘‘push’’ penalty income. The staff commentary to § 226.35(b)(2) for at least two years. provisions. clarifies this difference.

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Sixty-day window. The Board does time. A mortgage bankers’ trade rather requires that a prepayment not believe that the proposed association and a large bank stated that penalty not apply in the event of a requirement that a prepayment penalty the requirement would prevent refinancing by the creditor or its period expire at least sixty days before customers from returning to the same affiliate. To make clear that the a potential payment increase would institution with which they have associated regulation, § 226.32(d)(7)(ii), adequately protect consumers with existing relationships. Another large does not prohibit a creditor from loans where the increase was expected bank stated that the rule would place refinancing a loan that the creditor (or shortly. As discussed, these loans, such lenders at a competitive disadvantage an affiliate of the creditor) originated, as 2–28 ARMs, will tend to attract when trying to refinance the loan of an the Board is revising the text of that consumers who have a short planning existing customer. regulation somewhat. Final horizon and intend to avoid the Requiring that a prepayment penalty § 226.32(d)(7)(ii) states that a HOEPA payment increase by refinancing. If not apply when a creditor refinances a loan may provide for a prepayment provided only a brief penalty-free loan it originated will discourage penalty if the prepayment penalty window to refinance before the increase originators from seeking to ‘‘flip’’ a provision will not apply if the source of (as proposed, a window in months 23 higher-priced mortgage loan. To prevent the prepayment funds is a refinancing and 24 for a 2–28 ARM), the consumer evasion by creditors who might direct by the creditor or an affiliate of the deciding whether to accept a loan with borrowers to refinance with an affiliated creditor. This change clarifies, without a penalty provision—assuming the creditor, the same-lender refinance rule altering, the meaning of the provision consumer was provided a genuine covers loans by a creditor’s affiliate. and is technical, not substantive, in choice—must predict quite precisely Although creditors may waive a nature. Final § 226.35(b)(2)(ii)(B) applies when he will want to refinance. If the prepayment penalty when they to higher-priced mortgage loans rather consumer believes he will want to refinance a loan that they originated to than to HOEPA loans but mirrors final refinance in month 18 and that his a consumer, consumers who refinance § 226.32(d)(7)(ii) in all other respects. credit score, home equity, and other with the same creditor may be charged Debt-to-income ratio. Under the indicators of credit quality will be high a prepayment penalty even if a creditor proposed rule, a higher-priced mortgage enough then to enable him to refinance, or mortgage broker has told the loan could not include a prepayment then the consumer probably would be consumer that the prepayment penalty penalty provision if, at consummation, better off with a loan without a penalty would be waived in that circumstance.92 the consumer’s DTI ratio exceeds 50 provision. If, however, the consumer The final rule requires that a percent. Proposed comments would believes he will not be ready or able to prepayment penalty not apply where a have given examples of funds and refinance until month 23 or 24 (the creditor or its affiliate refinances a obligations that creditors commonly penalty-free window), he probably higher-priced mortgage loan that the classify as ‘‘debt’’ and ‘‘income’’ and would be better off accepting the creditor originated to the consumer. The stated that creditors may, but need not, penalty provision. It is not reasonable to final rule is based on TILA Section look to widely accepted governmental expect consumers in the subprime 129(c)(2)(B), 15 U.S.C. 1639(c)(2)(B), and non-governmental underwriting market to make such precise which provides that a HOEPA loan may standards to determine how to classify predictions. Moreover, for transactions contain a prepayment penalty ‘‘if the particular funds or obligations as ‘‘debt’’ on which prepayment penalties are penalty applies only to a prepayment or ‘‘income.’’ permitted by the final rule, a sixty-day made with amounts obtained by the Most banking and financial services window would be moot because the consumer by means other than a trade associations and several large penalty provision may not exceed two refinancing by the creditor under the banks stated that the Board should not years and the payment on a loan with mortgage, or an affiliate of that prohibit prepayment penalties on a penalty provision may not change creditor.’’ The Board notes that TILA higher-cost loans where a consumer’s during the first four years following Section 129(c)(2)(B), 15 U.S.C. DTI ratio at consummation exceeds 50 consummation.91 1639(c)(2)(B), applies regardless of percent. Several of these commenters Refinance loan from same creditor. whether the creditor still holds the loan stated that the proposed rule would The Board is adopting with minor at the time of a refinancing by the disadvantage a consumer living on a revisions the proposed requirement that creditor or an affiliate of the creditor. In fixed income but with significant assets, a prepayment penalty not apply when a some cases, a creditor’s assignees are the including many senior citizens. Some of creditor refinances a higher-priced ‘‘true creditor’’ funding the loan; these commenters stated that the mortgage loan the creditor or its affiliate moreover, the rule prevents loan proposed rule would disadvantage originated. HOEPA imposes this transfers designed to evade the consumers in areas where housing requirement in connection with HOEPA prohibition. prices are relatively high. Some loans. 15 U.S.C. 1639(c)(2)(B). TILA Section 129(c)(2)(B) does not consumer organizations also objected to Some large financial institutions and prohibit a creditor from refinancing a the proposed DTI-ratio requirement, financial institution trade associations loan it or its affiliate originated but stating that the requirement would not that commented opposed the proposal. protect low-income borrowers with a A large bank stated that the requirement 92 This concern is evident, for example, in a DTI ratio equal to or less than 50 settlement agreement that ACC Capital Holdings percent but limited residual income. would not prevent loan flipping and Corporation and several of its subsidiaries, that mortgage brokers would easily including Ameriquest Mortgage Company The Board is not adopting a specific circumvent the rule by directing repeat (collectively, the Ameriquest Parties) made in 2006 DTI ratio in the rule prohibiting customers to a different creditor each with 49 states and the District of Columbia. The disregard of repayment ability. See part Ameriquest Parties agreed not to make false, IX.B. For the same reasons, the Board is misleading, or deceptive representations regarding 91 The Board sought comment on whether it prepayment penalties and specifically agreed not to not adopting the proposed prohibition should revise § 226.20(c) or draft new disclosure represent that they will waive a prepayment penalty of a prepayment penalty for all higher- requirements to reconcile that section with the at some future date, unless that promise is made in priced mortgage loans where a proposed requirement that a prepayment penalty writing and included in the terms of a loan consumer’s DTI ratio at consummation provision expire at least sixty days prior to the date agreement with a borrower. See, e.g., Iowa ex rel. of the first possible payment increase. This issue is Miller v. Ameriquest Mortgage Co., No. 05771 exceeds 50 percent. The Board is, also moot. EQCE–053090 at 18 (Iowa D. Ct. 2006) (Pls. Pet. 5). however, leaving the prohibition in

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place as it applies to HOEPA loans, as creditors to verify that the consumer’s are adequately protected by the this prohibition is statutory, TILA total monthly debt payments do not proposed requirement to consider a Section 129(c)(2)(A)(ii), and its removal exceed 50 percent of the consumer’s consumer’s ability to pay tax and does not appear warranted at this time. monthly gross income using the insurance obligations under This statute provides that for standards set forth in final § 226.35(b)(1), and by a disclosure of purposes of determining whether at § 226.34(a)(4)(ii). The Board also is estimated taxes and insurance they consummation of a HOEPA loan a revising the commentary associated recommended the Board adopt. consumer’s DTI ratio exceeds 50 with § 226.32(d)(7)(iii) to cross-reference Commenters also contended that setting percent, the consumer’s income and certain commentary associated with up an escrow infrastructure would be expenses are to be verified by a financial § 226.34(a)(4). very expensive; creditors will either statement signed by the consumer, by a Disclosure. For reasons discussed pass on these costs to consumers or credit report, and, in the case of above, the Board does not believe that decline to originate higher-priced employment income, by payment disclosure alone is sufficient to enable mortgage loans. records or by verification from the consumers to avoid injury from a Individual consumers who employer of the consumer (which prepayment penalty. There is reason to commented also expressed concern verification may be in the form of a pay believe, however, that disclosures could about the proposal. Some consumers stub or other payment record supplied more effectively increase expressed a preference for paying their by the consumer). The Board proposed transparency.93 The Board will be taxes and insurance themselves out of to adopt a stronger standard that would conducting consumer testing to fear that servicers may fail to pay these require creditors to verify the determine how to make disclosures obligations fully and on-time. Many consumer’s income and expenses in more effective. As part of this process, requested that, if escrows are required, accordance with verification rules that the Board will consider the creditors be required to pay interest on the Board proposed and is adopting in recommendation from some the escrowed funds. final § 226.34(a)(4)(ii), together with commenters that creditors who provide Several industry trade associations, associated commentary. Although the loans with prepayment penalties be several large creditors and some Board requested comment about the required to disclose the terms of a loan mortgage brokers, however, supported proposal to revise § 226.32(d)(7)(iii) and without a prepayment penalty. the proposed escrow requirement. They associated commentary, commenters were joined by the consumer groups, did not discuss this proposal. D. Escrows for Taxes and Insurance— community development groups, and As proposed, the Board is § 226.35(b)(3) state and federal officials that strengthening the standards that The Board proposed in § 226.35(b)(3) commented on the issue. Many of these § 226.32(d)(7)(iii) establishes for to require a creditor to establish an commenters argued that failure to verifying the consumer’s income and escrow account for property taxes and escrow leaves consumers unable to expenses when determining whether a homeowners insurance on a higher- afford the full cost of homeownership prepayment penalty is prohibited priced mortgage loan secured by a first and would face expensive force-placed because the consumer’s DTI ratio lien on a principal dwelling. Under the insurance or default, and possibly exceeds 50 percent at consummation of proposal, a creditor may allow a foreclosure. Commenters supporting the a HOEPA loan. There are three bases for consumer to cancel the escrow account, proposal differed on whether and under adopting an income verification but no sooner than 12 months after what circumstances creditors should be requirement that is stronger than the consummation. The Board is adopting permitted to cancel escrows. standard TILA Section 129(c)(2)(A)(ii) the rule as proposed and adding limited Large creditors without escrow establishes. First, under TILA Section exemptions for loans on cooperative systems asked for 12 to 24 months to 129(l)(2), the Board has a broad shares and, in certain cases, comply if the proposal is adopted. authority to update HOEPA’s condominium units. Discussion protections as needed to prevent unfair The final rule requires escrows for all As commenters confirmed, it is practices. 15 U.S.C. 1639(l)(2)(A). For covered loans secured by site-built the reasons discussed in part IX.B, the common for creditors to offer escrows in homes for which creditors receive the prime market, but not in the Board believes that relying solely on the applications on or after April 1, 2010, income statement on the application is subprime market. The Board believes and for all covered loans secured by that this discrepancy is not entirely the unfair to the consumer, regardless of manufactured housing for which whether the consumer is employed by result of consumers in the subprime creditors receive applications on or after market making different choices than another person, self-employed, or October 1, 2010. unemployed. Second, the Board has a consumers in the prime market. Rather, broad authority under TILA Section Public Comments subprime consumers, whether they would wish to escrow or not, face a 129(l)(2) to update HOEPA’s protections Many community banks and mortgage market where competitive forces have as needed to prevent their evasion. 15 brokers as well as several industry trade prevented significant numbers of U.S.C. 1639(l)(2)(A). A signed financial associations opposed the proposed creditors from offering escrows at all. In statement declaring all or most of a escrow requirement. Many of these such a market, consumers suffer consumer’s income to be self- commenters contended that mandating significant injury, especially, but not employment income or income from escrows is not necessary to protect only, those who are not experienced sources other than employment could consumers. They argued that consumers be used to evade the statute. Third, handling property taxes and insurance establishing a single standard for 93 For example, an FTC study based on on their own and are therefore least able verifying a consumer’s income and quantitative consumer testing using several fixed- to avoid these injuries. The Board finds obligations for HOEPA loans and rate loan scenarios found that improving a that these injuries outweigh the costs to higher-priced mortgage loans will disclosure of the prepayment penalty provision consumers of offering them escrows. For increased the percentage of participants who could facilitate compliance. tell that they would pay a prepayment penalty if these reasons, the Board finds that it is For the foregoing reasons, for HOEPA they refinanced. Improving Mortgage Disclosures unfair for a creditor to make a higher- loans, final § 226.32(d)(7)(iii) requires 109. priced mortgage loan without presenting

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the consumer a genuine opportunity to and offer creditors assurance that the payments of only principal and interest. escrow. In order to ensure that the collateral securing the loan is protected, These originators have little incentive to opportunity to escrow is genuine, the those advantages alone have not proven disclose or emphasize additional final rule requires that creditors sufficient incentive to make escrowing obligations for taxes and insurance. establish escrow accounts for first-lien widespread in the subprime market. Therefore, many consumers will decide higher-priced mortgage loans for at least Rather, if a creditor is to recoup its costs whether they can afford the offered loan twelve months. The Board believes that for offering an opportunity to escrow, on the basis of misleadingly low consumers, creditors, and investors will the creditor must convince a significant payment quotes, making it more likely all benefit from this requirement. number of subprime consumers that that they will obtain mortgages they Lack of escrow opportunities in the they would be better served by cannot afford. This risk is particularly subprime market. Relative to the prime accepting a higher monthly payment high for first time homebuyers, who lack market, few creditors in the subprime with escrows rather than a lower experience with the obligations of market offer consumers the opportunity monthly payment without escrows. Yet homeownership. The risk is also to escrow. The Board believes that, consumers’ focus on the lowest monthly elevated for homeowners who currently absent a rule requiring escrows, market payments in the subprime market, and have prime loans and contribute to an forces alone are unlikely to drive the lack of familiarity with escrows, escrow. If their circumstances change significant numbers of creditors to begin could make it difficult to convince and they refinance in the subprime to offer escrows in the subprime market. consumers to accept the higher market, they may not be aware that Consumers in the subprime market tend payment. In addition, the creditor who payments quoted to them do not include to shop based on monthly payment offered escrows would be vulnerable to amounts for escrow. For example, amounts, rather than on interest rates.94 competitors’ attempts to lure away current homeowners who have So creditors who are active in the existing borrowers by quoting a lower substantial unsecured consumer debt, subprime market, and who can quote monthly payment without disclosing but who also have equity in their low monthly payments to a prospective that the payment does not include homes, can be especially vulnerable to borrower, have a competitive advantage amounts for escrows. Nor could a ‘‘loan flipping’’ because they may find over creditors that quote higher monthly creditor who offered escrows a cash-out refinance offer attractive. Yet payments. A creditor who does not offer necessarily count on consumers who if they assumed, erroneously, that the the opportunity to escrow (and thus wanted to escrow finding the creditor monthly payment quoted to them quotes monthly payments that do not on their own. If only a small minority included amounts for escrows, they include amounts for escrows) can quote of creditors offer escrows, consumers would not be able to evaluate the true a lower monthly payment than a would, on average, have to contact cost of the loan product being offered. creditor who does offer an opportunity many creditors in order to find one that The lack of escrows in the subprime to escrow (and thus quotes a higher offers escrows and many consumers market also makes it more likely that monthly payment that includes amounts might reasonably give up the search certain consumers will not be able to for escrow). Consequently, creditors in before they were successful. handle their mortgage obligations the subprime market who offer escrows Under these conditions, creditors are including taxes and insurance. may be at a competitive disadvantage to unlikely to offer escrows unless their Subprime consumers, by definition, are creditors who do not. competitors are required to offer those who have experienced some difficulty in making timely payments on Creditors who offer escrows could try escrows. The Board believes that creditors’ failure to establish a capacity debt obligations. For this reason, some to overcome this competitive to escrow is a collective action problem; consumers may prefer to escrow if disadvantage by advertising the creditors would likely be better off if offered a choice, especially if they know availability and benefits of escrows to escrows were widely available in the from personal experience that they have subprime consumers. Yet offering subprime market, but most creditors difficulty saving on their own, paying escrows entails some significant cost to who have not offered escrows lack the their bills on-time, or both. Without an the creditor. The creditor must either necessary incentive to invest in the escrow, these consumers may be at outsource servicing rights to third party requisite systems unless their greater risk that a servicer will impose servicers and lose servicing revenue, or competitors do. This is the context for costly force-placed homeowners make a large initial investment to the Board’s finding that it is unfair for insurance or the local government will establish an escrow infrastructure in- a creditor to make a higher-priced seek to foreclose to collect unpaid taxes. house. According to comments from mortgage loan without offering an Consumers with unpaid property tax or some creditors, the cost to set up an escrow. insurance bills are particularly escrow infrastructure could range Substantial injury. A creditor’s failure vulnerable to predatory lending between one million dollars and $16 to offer escrows can cause consumers practices: originators offering them a million for a large creditor. While substantial injury. The lack of escrows refinancing with ‘‘cash out’’ to cover escrows improve loan performance 95 in the subprime market increases the their tax and insurance obligations can risk that consumers will base borrowing take advantage of their urgent 94 Subprime Mortgage Investigation at 554 (‘‘Our focus groups suggested that prime and subprime decisions on unrealistically low circumstances. The consumers who borrowers use quite different search criteria in assessments of their mortgage-related cannot or will not borrow more (for looking for a loan. Subprime borrowers search obligations. Brokers and loan officers example, because they lack the equity) primarily for loan approval and low monthly operating in a market where escrows are face default and a forced sale or payments, while prime borrowers focus on getting the lowest available interest rate. These distinctions not common generally quote monthly foreclosure. are quantitatively confirmed by our survey.’’). Injury not reasonably avoidable. 95 An industry representative at the Board’s 2007 http://federalreserve.gov/events/publichearings/ Consumers cannot reasonably avoid the hearing indicated that her company’s internal hoepa/2007/20070614/transcript.pdf. Also, the injuries that result from the lack of analysis showed that escrows clearly improved loan Credit Union National Association and California escrows. As described above, originators performance. Home Ownership and Equity and Nevada Credit Union Leagues comment letters Protection Act (HOEPA): Public Hearing, at 66 (June note that ‘‘[o]verall, loans with escrow accounts are in the subprime market have strong 14, 2007) (statement of Faith Schwartz, Senior Vice likely to perform better than loans without these incentives to quote only principal and President, Option One Mortgage Corp.), available at accounts.’’ interest payment amounts, and much

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weaker incentives to inform consumers required by the creditor. Loans with every creditor that originates higher- about tax and insurance obligations escrows generally perform better than priced mortgage loans secured by a first since doing so could put them at a loans without because escrows make it lien on a principal dwelling establish an competitive disadvantage. Consumers more likely that consumers will be able escrow with each loan. The Board may either be left unaware of the to pay their obligations. By contrast, proposed to limit the rule to first-lien magnitude of their taxes and insurance when consumers are faced with unpaid higher-priced mortgage loans because obligations, or may not realize that taxes and insurance, they may need to creditors in the prime market have amounts for taxes and insurance are not tap into their home equity to pay these traditionally required escrow accounts being escrowed for them if they are expenses and may become vulnerable to on first-lien mortgage loans as a means accustomed to the prime market’s predatory lending. In the worst cases, of protecting the lender’s interest in the practice of escrowing. And, in a market consumers may lose their homes to property securing the loan. The final where few creditors offer escrows and foreclosure for failure to pay property rule adopts this approach. A mandatory advertise their availability, consumers taxes. For these reasons, the Board finds escrow account on a first-lien loan who would prefer to escrow may give that the benefits from escrows outweigh ensures that funds are set aside for up trying to find a creditor who offers the costs associated with requiring payment of property taxes and escrows. Given the market they face, them. insurance premiums and eliminates the subprime consumers have little ability need to require an escrow on second The Final Rule or incentive to shop for a loan with lien loans. One commenter asked the escrows, and thus cannot reasonably The final rule prohibits a creditor Board to clarify in the final rule that avoid a loan that does not offer escrows. from extending a first-lien higher-priced creditors are not obligated to escrow Injury not outweighed by mortgage loan secured by a principal payments for optional items that the countervailing benefit to consumers or dwelling without escrowing property consumer may choose to purchase at its to competition. The Board recognizes taxes, homeowners insurance, and other discretion, such as an optional debt- that creditors incur costs in initiating insurance obligations required by the protection insurance or earthquake escrow capabilities and that creditors creditor. Creditors have the option to insurance. A commentary provision has who do not escrow can pass their cost allow for cancellation of escrows at the been added to clarify that creditors and savings on to consumers. Creditors that consumer’s request, but no earlier than servicers are not required to escrow offer escrows in-house may incur 12 months after consummation of the optional insurance items chosen by the potentially substantial costs in setting loan transaction. The Board is adopting consumer and not otherwise required by up or acquiring the necessary systems, an exemption for loans secured by creditor. See comment to although they may also gain some cooperative shares and a partial § 226.35(b)(4)(i). additional servicing revenue. Creditors exemption for loans secured by The Board recognizes that escrows that outsource servicing of escrow condominium units. The final rule can impose certain financial costs on accounts to third parties incur some cost defines ‘‘escrow account’’ by reference both creditors and borrowers. Creditors and forgo servicing revenue. to the definition of ‘‘escrow account’’ in are likely to pass on to consumers, In addition, there are some potential RESPA. Moreover, RESPA’s rules for either in part or entirely, the cost of costs to consumers. Servicers may at administering escrow accounts setting up and maintaining escrow times collect more funds than needed or (including how creditors handle systems, whether done in-house or fail to pay property taxes and insurance disclosures, initial escrow deposits, outsourced. The Board also recognizes when due, causing consumers to incur cushions, and advances to cover that prohibiting consumers from penalties and late fees. Congress has shortages) apply. The final rule also canceling before 12 months have passed expressly authorized the Department of complements the National Flood will impose costs on individual Housing and Urban Development (HUD) Insurance Program requirement that consumers who prefer to pay property to address these problems through flood insurance premiums be escrowed taxes and insurance premiums on their section 10 of the Real Estate Settlement if the creditor requires escrow for other own, and to earn interest on funds that Procedures Act (RESPA), 12 U.S.C. obligations such as hazard insurance.96 otherwise would be escrowed.97 By 2609, which limits amounts that may be The rule is intended to address the paying property taxes and insurance collected for escrow accounts; requires consumer injuries described above premiums directly, consumers are better servicers to provide borrowers annual caused by the lack of a genuine able to monitor that their payments are statements of the escrow balance and opportunity to escrow in the subprime credited on time, thus limiting the payments for property taxes and market. The rule assures a genuine likelihood, and related cost, of servicing homeowners insurance; and requires a opportunity to escrow by establishing a mistakes and abuses. In addition, mortgage servicer to provide market that provides widespread homebuyers do not need as much cash information about anticipated activity in escrows through a requirement that at closing when they are not required to the escrow accounts for the coming year have an escrow account. when it starts to service a loan. RESPA 96 Congress authorized NFIP through the National The Board believes, however, that the also provides consumers the means to Flood Insurance Act of 1968 (42 U.S.C. 4001), benefits of the rule outweigh these costs. resolve complaints by filing a ‘‘qualified which provides property owners with an opportunity to purchase flood insurance protection Moreover, the rule preserves some written request’’ with the servicer. The made available by the federal government for degree of consumer choice by Board expects that the number of buildings and their contents. NFIP requires all permitting a creditor to provide the qualified written requests may increase federally regulated private creditors and government-sponsored enterprises (GSEs) that consumer an option to cancel an escrow after the final rule takes effect. account 12 or more months after On the other hand, there is evidence, purchase loans in the secondary market to ensure that a building or manufactured home and any consummation. The Board considered described above, that where escrows are applicable personal property securing a loan in a alternatives that would avoid requiring used they improve loan performance to special flood hazard area are covered by adequate a creditor to set up an escrow system, the advantage of creditors, investors, flood insurance for the term of the loan. The flood insurance requirements do not apply to creditors or and consumers alike. This appears to be servicers that are not federally regulated and that 97 Some states require creditors to pay interest to an important reason that escrows are do not sell loans to Fannie Mae and Freddie Mac consumers for escrowed funds but most states do common in the prime market and often or other GSEs. not have such a requirement.

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or that would require a creditor to offer amounts for escrows by encouraging as the market changed, and complicate an escrow, but permit consumers to opt- consumers to decline the offered creditors’ compliance. out of escrows at closing. These escrow. A rule that required creditors Several commenters recommended alternatives would not provide merely to offer escrows would impose that the requirement to escrow be consumers sufficient protection from essentially the same costs on creditors limited to higher-priced mortgage loans the injuries discussed above, as to establish escrow systems as would with a combined loan-to-value ratio that explained in more detail below. the requirement to establish escrows, exceeds 80 percent. They contended Alternatives to requiring creditors to but would not alter the competitive that borrowers with at least 20 percent escrow. Some creditors that currently do landscape of the subprime market in a equity have the option to tap this equity not escrow oppose requiring escrows way that would make widespread to finance tax and insurance obligations. because of the substantial cost to set up escrowing more likely. The suggested exemption could, new systems and maintain them over Creditors also suggested that however, have the unintended time. They suggested that narrower, less consumers would be adequately consequence of permitting costly alternatives would protect protected by the final rule’s requirement unscrupulous originators to ‘‘strip’’ the consumers adequately. Most of these that creditors consider a consumer’s equity from less experienced borrowers. suggestions involved disclosure, such ability to handle tax and insurance As described above, homeowners with as: requiring creditors to warn obligations in addition to principal and existing escrow accounts who want to consumers that they will be responsible interest payments when originating refinance their loans may assume for property tax and insurance loans. See § 226.34(a)(4). While this erroneously that payment quotes obligations; estimating these obligations requirement will help ensure that include escrows when they do not, or on the TILA disclosure based on recent consumers can afford their monthly they may prefer the security that an assessments; and prohibiting creditors payment obligations, it will not escrow would provide if offered. from advertising monthly payments adequately address the injuries Cancellation after consummation. without including estimated amounts discussed above because creditors The final rule permits, but does not for property taxes and insurance. would continue to have incentives to require, creditors to offer consumers an The Board does not believe that these downplay tax and insurance obligations option to cancel their escrows 12 disclosures would adequately protect when they discussed payment months after consummation of the loan consumers from the injuries discussed obligations with consumers. Nor will transaction. Based on the operation of above. Because many consumers focus the rule requiring consideration of escrows in the prime market, the Board on monthly payment obligations, repayment ability sufficiently assist anticipates that creditors will likely competition would continue to give consumers in saving on their own. offer cancellation in exchange for a fee. originators incentives to downplay tax Another alternative would be to The Board acknowledges concerns and insurance obligations when they require escrows only for first time expressed by individual consumers that discuss payment obligations with homebuyers or other classes of requiring them to escrow for even a consumers. A disclosure provided at borrowers (such as previously prime relatively short time will increase their origination of the estimated property tax borrowers) less likely to have costs. These costs include the and insurance premiums does not assist experience handling tax and insurance opportunity costs of the funds in those consumers who need an escrow to obligations on their own. However, escrow, particularly if the funds do not ensure they save for and pay their limiting the escrow requirement to earn interest; a fee to cancel after 12 obligations on time. Moreover, adding a borrowers who are unaccustomed to months; costs associated with mistakes disclosure to the many disclosures paying taxes and insurance on their own or abuses by escrow agents; and the cost consumers already receive would not be would only delay injury, rather than of saving for the deposit at sufficient to educate first time prevent it. For example, if first time consummation of two months or more homebuyers and homeowners whose homebuyers with higher-priced of escrow payments that RESPA permits previous loans contained escrows who mortgage loans were required to escrow, a creditor to require. Mindful of these lack any real experience handling their those consumers would not gain the costs, the Board considered requiring own taxes and insurance. Disclosure experience of paying property taxes and only that creditors offer consumers a does, however, have an important role insurance on their own and might choice to escrow either on an ‘‘opt in’’ to play. Under the final rule, an reasonably believe that escrows are or ‘‘opt out’’ basis. advertisement for closed-end credit standard. When those consumers went As explained above, the Board secured by a first lien on a principal to refinance their loan, however, concluded that a requirement merely to dwelling that states a monthly payment creditors could mislead them by quoting offer the consumer a choice to escrow of principal and interest must payments without amounts for escrow would not be effective to prevent the prominently disclose that taxes and and the consumers might not be able to injuries associated with the lack of insurance premiums are not included. handle the tax and insurance obligations opportunity to escrow. A requirement to See § 226.24(f)(3). Moreover, the Board on their own. offer, not require, escrows would raise plans to explore revising the TILA In addition, requiring escrows only creditors’ costs but would not eliminate disclosures to add an estimate of for first time homebuyers or other their incentive to quote lower payment property tax and insurance premium classes of borrowers would not save a amounts without escrows and costs to the disclosed monthly payment. creditor the substantial expense of encourage borrowers to opt-out. For similar reasons, merely mandating setting up an escrow system unless the Requiring creditors to disclose that creditors offer escrows, but not that creditor declined to extend higher- information about the benefits of they require them, would not priced mortgage loans to such escrowing would not adequately sufficiently address the injuries borrowers. The Board believes most address this problem. It is likely that associated with the failure to escrow. creditors would not find this option most consumers would reasonably focus Without a widespread requirement to practical over the long term. Moreover, their attention more on disclosures escrow, some creditors could still press defining the categories of covered about the terms of the credit being a competitive advantage in quoting low borrowers would present practical offered, such as the monthly payment monthly payments that do not include challenges, require regular adjustment amount, rather than on information

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about the benefits of escrowing. An period may find it worthwhile to pay association ensures that taxes and originator engaged in loan flipping the fee. The final rule neither permits insurance are paid when due. might reassure the consumer that if the nor prohibits creditors from imposing Condominiums. The final rule consumer has any difficulty with the tax escrow cancellation fees and instead exempts certain higher-priced mortgage and insurance obligations the originator defers to state law on that issue. loans secured by condominium units will refinance the loan. Similarly, the rule neither requires nor from the requirement to escrow for For the foregoing reasons, the Board prohibits payment of interest on escrow homeowners insurance where the only does not believe that requiring creditors accounts since some, but not all, states insurance policy required by the merely to offer escrows with higher- have chosen to address consumer creditor is the condominium association priced mortgage loans, with an opt out concerns about losing the opportunity to master policy. No exemption is or opt in before consummation, would invest their funds by requiring creditors provided, however, for escrows for provide consumers sufficient protection. to pay interest on funds in escrow property taxes. The Board has concluded that requiring accounts. Typically, individual condominium creditors to impose escrows on units are taxed similarly to single-family borrowers with higher-priced mortgage Exemptions for Cooperatives; Partial homes. Generally, each unit owner pays loans, with an option to cancel only Exemption for Condominiums the property tax for the unit and each some time after consummation, would In response to comments and the unit is assessed its pro rata share of more effectively address the problems Board’s own analysis, the final rule does property taxes for common areas. created by subprime creditors’ failure to not require escrows for property taxes Condominium owners who do not have offer escrows. This approach imposes and insurance premiums for first-lien escrow accounts receive property tax costs on creditors that will be passed on, higher-priced mortgage loans secured by bills directly from the taxing at least in part, to consumers but the shares in a cooperative if the jurisdiction. The final rule requires Board believes these costs are cooperative association pays property escrows for property taxes for all higher- outweighed by the benefits. Moreover, tax and insurance premiums. The final priced mortgage loans secured by to the extent that escrows improve loan rule requires escrows for property taxes condominium units, regardless of performance and lead to fewer defaults, for first-lien higher-priced mortgage whether creditors are required to escrow the benefits of escrows may reduce the loans secured by condominium units insurance premiums for such loans. costs associated with establishing and but exempts from the escrow Homeowners insurance for maintaining escrow accounts. requirement insurance premiums if the condominiums, on the other hand, can Twelve months mandatory escrow. condominium’s association maintains vary based on the condominium The final rule sets the mandatory period and pays for insurance through a master association’s bylaws and other for escrows at 12 months after loan policy. governing regulations, as well as origination, at which point creditors Cooperatives. The final rule exempts specific creditor requirements. may allow borrowers to opt out of mortgage loans for cooperatives from the Generally, the condominium association escrow. Some community groups escrow requirement if the cooperative insures the building and the common commented that escrows should be pays property tax and insurance area under an association master policy. mandatory for a longer period or even premiums, and passes the costs on to In some cases, the condominium the life of the loan. Several groups individual unit owners based on their association does not insure individual commented that borrowers should not pro rata ownership share in the units and a separate insurance policy be allowed to opt out unless they have cooperative. A cooperative association must be written for each individual demonstrated a record of timely typically owns the building, land, and unit, just as it would be for a single- payments. Several commenters noted improvements, and each unit owner family home. In other cases, the master that consumers should be allowed to opt holds a cooperative share loan based on policy does cover individual unit out at loan consummation. the appraisal value of the shareholder’s owners’ fixtures and improvements The Board believes that a 12 month unit. Creditors typically require other than personal property. When the period appropriately balances consumer cooperative associations to maintain condominium association insures the protection with consumer choice. For insurance coverage under a single entire structure, including individual the reasons already explained, a package policy, commonly called an units, the condominium association mandatory period of some length is association master policy, for common pays the insurance premium and passes necessary to ensure that originators will elements, including fixtures, service the costs on to the individual unit not urge consumers to reduce their equipment and common personal owner. Much like the cooperative monthly payment by choosing not to property. Creditors periodically review arrangement described above, the escrow immediately at, or shortly after, an association master policy to ensure consumer’s payment of insurance loan consummation. Twelve months adequate coverage. premiums through condominium appears to be a sufficiently long period At loan origination, creditors inform association dues acts in a manner to render such efforts ineffectual, and to consumers of their monthly cooperative similar to an escrow account. For this introduce consumers to the benefits of association dues, which include, among reason, the final rule does not require escrowing, as most consumers will other costs, the consumer’s pro rata creditors to escrow insurance premiums receive bills for taxes and insurance in share for insurance and property taxes. for higher-priced mortgage loans that period. Moreover, 12 months is a When property taxes and insurance secured by condominium units if the relatively short period compared to the premiums are included in the monthly only insurance that the creditor requires expected life of the average loan, association dues, they are generally not is an association master policy that providing consumers an opportunity to escrowed with the lender. This is insures condominium units. handle their own taxes and insurance because the consumer’s payment of the obligations after the initial escrow monthly association dues acts in a Manufactured Housing requirement expires. manner similar to an escrow itself. In The final rule requires escrows for all Although fees to cancel escrow this way, the collection of insurance covered loans secured by manufactured accounts are common, a consumer who premiums and property tax amounts on housing for which creditors receive expects to hold the loan for a long a monthly basis by a cooperative applications on or after October 1, 2010

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to allow creditors and servicers manufactured housing. Instead, would require major system and sufficient time to establish the capacity consumers are likely to rely on the infrastructure changes by creditors that to escrow. Manufactured housing dealer or the manufacturer as their do not currently have escrow industry commenters requested that source for information, which can leave capabilities. They asked for an extended manufactured housing loans be consumers vulnerable. Often, compliance deadline of 12 to 24 months exempted from the escrow requirement. consumers obtain financing through the prior to the effective date of the final They argued that manufactured housing dealer, who ties the financing to the sale rule to allow for necessary escrow loans are mostly personal property loans of the home. In addition, commissions systems and procedures to develop. The taxed in many local jurisdictions like and yield spread premiums may be paid Board recognizes that creditors and other personal property, and that to dealers for placing consumers in high servicers will need some time to creditors and servicers do not require cost loans.100 develop in-house escrowing capabilities and do not offer escrows on In addition, manufactured homes are or to outsource escrow servicing to third manufactured housing loans.98 For usually concentrated in developments, parties. For that reason, the Board agrees reasons discussed in more detail below, such as parks, where they represent a that an extended compliance period is the final rule does not exempt from the large percentage of homes. Where appropriate for most covered loans escrow requirement higher-priced property tax revenues are the main secured by site-built homes. Therefore, mortgage loans secured by a first lien on source of funding for local government the final rule is effective for first-lien manufactured housing used as the services, a failure by a significant higher-priced mortgage loans for which consumer’s principal dwelling. The number of homeowners to pay property creditors receive applications on or after final rule applies to manufactured taxes could cause a reduction in local April 1, 2010, except for loans secured housing whether or not state law treats government services and an attendant by manufactured housing. Recognizing it as personal or real property.99 decline in property values. that there is a limited infrastructure for A manufactured home owner The Board believes that homeowners escrowing on manufactured housing typically pays personal property taxes of manufactured housing should be loans, and that yet additional time is directly to the taxing authority and afforded the same consumer protections needed for creditors and servicers to insurance premiums directly to the as the owners of site-built homes. comply with the rule, the final rule is insurer. Manufactured housing industry Manufactured homes provide much effective for all covered loans secured commenters argued that if a taxing needed affordable housing for millions by manufactured housing for which jurisdiction does not have an automated of Americans who, like owners of site- creditors receive applications on or after personal property tax system, creditors built homes, risk losing their homes for October 1, 2010. and servicers would have to service failure to pay property taxes. Escrows for property taxes and insurance E. Evasion Through Spurious Open-End escrows on manufactured housing loans Credit—§ 226.35(b)(4) manually at prohibitively high cost, premiums on first-lien, higher-priced especially taking into consideration mortgage loans secured by The exclusion of HELOCs from small loan size and low amount of manufactured homes that are § 226.35 is discussed in subpart A. property taxes for an average consumers’ principal dwellings are above. As noted, the Board recognizes manufactured home. necessary to prevent creditors from that the exclusion of HELOCs could lead The Board believes, nonetheless, that understating the cost of some creditors to attempt to evade the problems associated with first-lien homeownership, to inform consumers restrictions of § 226.35 by structuring higher-priced mortgage loans secured by that their manufactured home is subject credit as open-end instead of closed- manufactured housing are similar to to property tax, and to extend an end. Section 226.34(b) addresses this problems associated with site-built opportunity to consumers to escrow risk as to HOEPA loans by prohibiting home loans discussed above. Large funds each month for payment of creditors from structuring a transaction segments of manufactured housing property tax and insurance premiums. that does not meet the definition of ‘‘open-end credit’’ as a HELOC to evade consumers are low to moderate income State Laws families who may not enter the market HOEPA. The Board proposed to extend Several industry commenters asked with full information about the this rule to higher-priced mortgage loans the Board to clarify in the final rule that obligations associated with owning and is adopting § 226.35(b)(5). Section the escrow requirement preempts 226.35(b)(5) prohibits a creditor from inconsistent state escrow laws. TILA 98 Manufactured housing creditors are currently structuring a closed-end transaction— required by law to escrow for property taxes in generally preempts only inconsistent that is, a transaction that does not meet Texas. Prior to passing state legislation requiring state laws. See TILA Section 111(a)(1), the definition of ‘‘open-end credit’’—as escrows on manufactured housing, Texas legislators 15 U.S.C. 1610, § 226.28. Several a HELOC to evade the restrictions of observed that many manufactured housing owners consumers expressed concern that the were unaware of, and unable to pay, their property § 226.35. The Board is also adding tax. See Tex. SB 521, 78th Tex. Leg., 2003, effective regulation would preempt state laws comment 35(b)(5)-1 to provide guidance June 18, 2003; bill analysis available through the requiring creditors to pay interest on on how to apply the higher-priced Texas Senate Research Center at http:// escrow accounts under certain mortgage loan APR trigger in § 226.35(a) www.legis.state.tx.us/tlodocs/78R/analysis/pdf/ conditions. The final rule does not to a transaction structured as open-end SB00521I.pdf. prevent states from requiring creditors 99 Regulation Z currently defines a dwelling to credit in violation of § 226.35. Comment include manufactured housing. See § 226.2(a)(19). to pay interest on escrowed amounts. 35(b)(5)-1 is substantially similar to Official staff commentary § 226.2(a)(19) states that See comment § 226.35(b)(4)(i). comment 34(b)-1 which applies to mobile homes, boats and trailers are dwellings if they are in fact used as residences; § 226.2(b) Effective Date HOEPA loans. clarifies that the definition of ‘‘dwelling’’ includes Several industry representatives Public Comment any residential structure, whether or not it is real property under state law; §§ 226.15(a)(1)–5 and commented that the escrow requirement The Board received relatively few 226.23(a)(1)–3 make clear that a dwelling may comments on the proposed anti-evasion 100 include structures that are considered personal Kevin Jewell, Market Failures Evident in rule. As discussed in subpart A. above, property under state laws (e.g., mobile home, trailer Manufactured Housing (Jan. 2003), http:// or houseboat) and draws no distinction between www.consumersunion.org/consumeronline/ some commenters suggested applying personal property loans and real property loans. pastissues/housing/marketfailure.html. § 226.35 to HELOCs, which would

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eliminate the need for an anti-evasion been extended if the loan had been provided model language for the provision. By contrast, some creditors documented as a closed-end loan is a agreement and disclosures. The Board who supported the exclusion of factual determination to be made in stated that it would test this language HELOCs from § 226.35 noted that the each case. with consumers before determining how presence of the anti-evasion provision it would proceed on the proposal. X. Final Rules for Mortgage Loans— would address concerns about HELOCs The Board tested the proposal with being used to evade the rules in § 226.36 several dozen one-on-one interviews § 226.35. However, a few creditors Section 226.35, discussed above, with a diverse group of consumers. On expressed concern that the anti-evasion applies certain new protections to the basis of this testing and other proposal was too vague. One commenter higher-priced mortgage loans and information, the Board is withdrawing stated that loans that do not meet the HOEPA loans. In contrast, § 226.36 the proposal. The Board will continue to definition of open-end credit would be applies other new protections to explore available options to address subject to the closed-end rules with or mortgage loans generally, though only if unfair acts or practices associated with without the anti-evasion provision, and secured by the consumer’s principal originator compensation arrangements this commenter stated that therefore the dwelling. The final rule prohibits: (1) such as yield spread premiums. The anti-evasion provision was unnecessary Creditors or mortgage brokers from Board is particularly concerned with and might cause confusion. coercing, influencing, or otherwise arrangements that cause the incentives The Board also requested comment on encouraging an appraiser to provide a of originators to conflict with those of whether it should limit an anti-evasion misstated appraisal and (2) servicers consumers, where the incentives are not rule to HELOCs secured by first-liens, from engaging in unfair fee and billing transparent to consumers who rely on where the consumer draws down all or practices. The final rule neither adopts the originators for advice. As the Board most of the entire line of credit the proposal to require servicers to comprehensively reviews Regulation Z, immediately after the account is deliver a fee schedule to consumers it will continue to consider whether opened. Commenters did not express upon request, nor the proposal to disclosure or other approaches could be support for this alternative, and a few prohibit creditors from paying a effective to address this problem. explicitly opposed it. mortgage broker more than the Public Comment The Final Rule consumer had agreed in advance that the broker would receive. As with The Board received over 4700 The Board is adopting the anti- proposed § 226.35, § 226.36 does not comments on the proposal. Mortgage evasion provision as proposed. The rule apply to HELOCs. brokers, their federal and state trade is not meant to add new substantive The Board finds that the prohibitions associations, the Federal Trade requirements for open-end credit, but in the final rule are necessary to prevent Commission, and several consumer rather to ensure that creditors do not practices that the Board finds to be groups argued that applying the structure a loan which does not meet unfair, deceptive, associated with proposed disclosures to mortgage the definition of open-end credit as a abusive lending practices, or otherwise brokers but not to creditors’ employees HELOC to evade the requirements of not in the interest of the borrower. See who originate mortgages (‘‘loan § 226.35. The Board recognizes that TILA Section 129(l)(2), 15 U.S.C. officers’’) would reduce competition in consumers may prefer HELOCs to 1639(l)(2), and the discussion of this the market and harm consumers. They closed-end home equity loans because statute in part V.A above. The Board contended that disclosing a broker’s of the added flexibility HELOCs provide also believes that the final rules will compensation would cause consumers them. The Board does not intend to enhance consumers’ informed use of to believe, erroneously, that a loan limit consumers’ ability to choose credit. See TILA Sections 105(a), 102(a). arranged by a broker would cost more between these two ways of structuring than a loan originated by a loan officer. home equity credit. The anti-evasion A. Creditor Payments to Mortgage These commenters stated that many provision is intended to reach cases Brokers—§ 226.36(a) brokers would unfairly be forced out of where creditors have structured loans as The Board proposed to prohibit a business, and consumers would pay open-end ‘‘revolving’’ credit, even if the creditor from paying a mortgage broker higher prices, receive poorer service, or features and terms or other in connection with a covered have fewer options. The FTC, citing its circumstances demonstrate that the transaction more than the consumer published report of consumer testing of creditor had no reasonable expectation agreed in writing, in advance, that the mortgage broker compensation of repeat transactions under a reusable broker would receive. The broker would disclosures, contended that focusing line of credit. Although the practice also disclose that the consumer consumers’ attention on the amount of violates TILA, the new rule will subject ultimately would bear the cost of the the broker’s compensation could creditors to HOEPA’s stricter remedies if entire compensation even if the creditor confuse consumers and, under some the credit carries an APR that exceeds paid any part of it directly; and that a circumstances, lead them to select a § 226.35’s APR trigger for higher-priced creditor’s payment to a broker could more expensive loan. mortgage loans. influence the broker to offer the Mortgage brokers and some creditors The Board is also adding comment consumer loan terms or products that expressed concerns that the proposed 35(b)(5)-1 to provide guidance on how would not be in the consumer’s interest rule would not be practicable in cases to apply the higher-priced mortgage or the most favorable the consumer where creditors forward applications to loan APR trigger in § 226.35(a) to a could obtain.101 Proposed commentary other creditors and where brokers transaction structured as open-end decide to fund an application using a credit in violation of § 226.35. 101 Creditors could demonstrate compliance with warehouse line of credit. Specifically, the comment provides the proposed rule by obtaining a copy of the broker- Consumer advocates, members of guidance on how to determine the consumer agreement and ensuring their payment to Congress, the FDIC, and others stated ‘‘amount financed’’ and the ‘‘principal the broker does not exceed the amount stated in the agreement. The proposal would provide creditors loan amount’’ needed to determine the two alternative means to comply, one where the creditor can demonstrate that its payments to a loan’s APR. The comment provides that creditor complies with a state law that provides mortgage broker are not determined by reference to the amount of credit that would have consumers equivalent protection, and one where a the transaction’s interest rate.

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that the proposal would not address the earlier. Requiring an agreement before a however, the institution will originate conflict of interest between consumers fee or application would help ensure the the loan as a creditor and not switch to and brokers that rate-based compensation was set as independently being a broker. In these cases, the compensation of brokers (the yield as possible of loan’s rate and other agreement and disclosures, which spread premium) can cause. These terms, and that the consumer would not describe the institution as a broker and commenters urged that the only feel obligated to proceed with the state its compensation as if it were effective remedy for the conflict is to transaction. The Board also anticipated brokering the transaction, would likely ban this form of compensation. State that the proposal would increase mislead and confuse the consumer. This regulators expressed concern that the transparency and improve competition problem also arises, if less frequently, proposed disclosures would not provide in the market for brokerage services, when an institution that ordinarily consumers sufficient information, and which could lower the price of these brokers instead acts as creditor on could give brokers a legal ‘‘shield’’ services, improve the quality of those occasion. On those occasions, the against claims they acted contrary to services, or both. disclosures also would likely be consumers’ interests. Reasons for withdrawal. Based on the misleading and confusing. Creditors and their trade associations, Board’s analysis of the comments, The source of the problem is the on the other hand, generally supported consumer testing, and other proposed requirement that the the proposal, although with a number of information, the Board is withdrawing agreement be signed and disclosures suggested modifications. These the proposal. The Board is concerned given before the consumer has applied commenters agreed with the Board that that the proposed agreement and for a loan or paid a fee. The Board yield spread premiums create financial disclosures would confuse consumers considered permitting post-application incentives for brokers to steer and undermine their decision-making execution and disclosure by institutions consumers to less beneficial products rather than improve it. The risks of that perform dual roles. The proposed and terms. They saw a need for consumer confusion arise from two timing, however, was intended to regulation to remove or limit these sources. First, an institution can act as ensure that a consumer would be incentives. either creditor or broker depending on apprised of the broker’s compensation Commenters generally did not believe the transaction; as explained below, this and understand the broker’s role before the proposed alternatives for could render the proposed disclosures becoming, or feeling, committed to compliance (where a state law provides inaccurate and misleading in some, working with the broker. Accordingly, substantially equivalent protections or possibly many, cases of both broker and the Board concluded that providing this where a creditor can show that the creditor originations. Second, information later in the loan transaction compensation amount is not tied to the consumers who participated in one-on- would seriously undermine the interest rate) were feasible. Creditors one interviews about the proposed proposal’s objective of empowering the and mortgage brokers stated that both agreement and disclosures often consumer to shop and negotiate. alternatives were vague and would be concluded, erroneously, that brokers are Consumer testing. Consumer testing little used. Consumer advocates categorically more expensive than also suggested that at least some aspects believed the alternatives would likely creditors or that brokers would serve of the proposal could confuse and create loopholes in the rule. their best interests notwithstanding the mislead consumers. After publishing the Comments on specific issues are conflict resulting from the relationship proposal, a Board contractor, Macro discussed in more detail below as between interest rates and brokers’ International, Inc. (‘‘Macro’’), conducted appropriate. compensation. in-depth one-on-one interviews with a Dual roles. Mortgage brokers and Discussion diverse group of several dozen creditors noted that creditors and consumers who recently had obtained a The proposal was intended to limit brokers often play one of two roles. That mortgage loan.102 Macro developed and the potential for unfairness, deception, is, an institution that is ordinarily a tested a form in which the broker would and abuse in yield spread premiums creditor and originates loans in its name agree to a specified total compensation while preserving the ability of may determine that it cannot approve an and disclose (i) that any part of the consumers to cover their payments to application based on its own compensation paid by the creditor brokers through rate increases. Creditor underwriting criteria and present it to would cost the consumer a higher payments to brokers based on the another creditor for consideration. This interest rate, and (ii) that creditor interest rate give brokers an incentive to practice is known as ‘‘brokering out.’’ payments to brokers based on the rate provide consumers loans with higher The institution brokering out an interest rates. Many consumers are not application would be a mortgage broker create a conflict of interest between aware of this incentive and may rely on under the proposed rule; to receive mortgage brokers and consumers. the broker as a trusted advisor to help compensation from the creditor, it Throughout the testing, revisions were them navigate the complexities of the would have to execute the required made to the form in an effort to improve mortgage application process. agreement and provide the required comprehension. The testing revealed The proposal sought to reduce the disclosures. two difficulties with the forms tested. incentive of the broker to increase a The proposal requires a broker to First, the form’s statements that the consumer’s rate and increase the enter an agreement and give disclosures consumer would pay the broker through consumer’s leverage to negotiate with before the consumer submits an a higher rate and that the broker had a the broker. Under the proposal, creditor application, but an institution often may conflict of interest confused many payments to brokers would be not know whether it will be a broker or participants. Many participants stated, conditioned on a broker’s advance a creditor for that consumer until it upon reading the disclosure, that if they commitment to a specified receives and evaluates the application. agreed to pay the compensation the compensation amount. The proposal An institution that is ordinarily a broker was asking, then the broker would require the agreement to be creditor but sometimes a broker would 102 For more details on the consumer testing, see entered into before an application was have to enter into the agreement and Macro’s report, Consumer Testing of Mortgage submitted by a consumer or prior to the give the disclosures for all consumers Broker Disclosures, (July 10, 2008), available at payment of any fee, whichever occurred that seek to apply. In many cases, http://www.federalreserve.gov.

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would be obliged to find them the Conclusion. The Board considered affiliate of either, to misstate or lowest interest rate and best terms whether it could resolve the problems misrepresent the value of a consumer’s available. Many participants reached described above by applying the principal dwelling, unless the creditor this conclusion despite the clear proposal to the retail channel. The acts with reasonable diligence to statement in the form tested that brokers Board concluded, however, that determine that the appraisal was can increase their compensation by substantial additional testing and accurate or extends credit based on a increasing the interest rate. analysis would be required to determine separate appraisal untainted by Second, many first-round participants whether such an approach would be coercion. The Board is adopting the rule stated or implied after reading the form effective. Therefore, the Board is substantially as proposed. The Board that working through a broker would withdrawing the proposal. The Board has revised some of the proposed cost them more than working directly will continue to explore available examples of conduct that violates the with a lender, which is not necessarily options to address potential unfairness rule and conduct that does not violate true. A new provision was added to the associated with originator compensation the rule and has added commentary disclosure stating that lenders’ arrangements such as yield spread about when a misstatement of a employees are paid the same types of premiums. As the Board dwelling’s value is material. comprehensively reviews Regulation Z, rate-based commissions as brokers and Public Comment have the same conflict of interest. Many it will continue to consider whether participants, however, continued to disclosures or other approaches could Consumer and community advocacy voice a belief that brokered loans must effectively remedy this potential groups, appraiser trade associations, cost more than direct loans. unfairness without imposing state appraisal boards, individual appraisers, some financial institutions The results of testing indicate that unintended consequences. and banking trade associations, and a consumers did not sufficiently Definition of Mortgage Broker few other commenters expressed general understand some major aspects of the In connection with the proposal support for the proposed rule to prohibit proposed disclosures. On the one hand, relating to mortgage broker appraiser coercion. Several of these the disclosures could cause consumers compensation and the proposal commenters stated that the rule would to believe that mortgage brokers have prohibiting coercion of appraisers, the enhance enforcement against parties obligations to them that the law does Board proposed to define ‘‘mortgage that are not subject to the same not actually impose. In consumer broker’’ as a person, other than a oversight as depository institutions, testing, this belief seemingly resulted creditor’s employee, who for monetary such as independent mortgage from the disclosure of the fact that the gain arranges, negotiates, or otherwise companies and mortgage brokers. Some consumer would pay the broker a obtains an extension of credit for a of the commenters who supported the commission, and it persisted consumer. A person who met this rule also suggested including additional notwithstanding the accompanying definition would be considered a practices in the list of examples of disclosure of the conflict of interest mortgage broker even if the credit prohibited conduct. In addition, several resulting from the rate-commission obligation was initially payable to the appraiser trade associations jointly relationship. On the other hand, the person, unless the person funded the recommended that the Board prohibit disclosures could cause consumers to transaction from its own resources, from appraisal management companies from believe that retail loans are categorically deposits, or from a bona fide warehouse coercing appraisers. less costly than brokered loans. line of credit. Commenters generally did On the other hand, community banks, Notwithstanding an explicit statement not comment on the proposed consumer banking and mortgage in the tested forms that commissions definition. banking trade associations, and some based on interest rates also are paid to Defining ‘‘mortgage broker’’ is still large financial institutions opposed the loan officers, many participants voiced necessary, notwithstanding the Board’s proposed rule, stating that its adoption the belief that loan officers’ withdrawal of the proposed regulation would lead to nuisance suits by commissions would be lower than of creditor payments to mortgage borrowers who regret the amount they brokers’ commissions. They offered brokers, as mortgage brokers are subject paid for a house and would make different reasons for this conclusion, to the prohibitions on coercion of creditors liable for the actions of including for example that the lender appraisers, discussed below. The Board mortgage brokers and appraisers. and not the consumer would pay the is adopting the definition of mortgage Several of these commenters stated that loan officer’s commission. broker with a minor change to clarify the Board’s rule would duplicate Despite the difficulties with the that the term ‘‘mortgage broker’’ does requirements set by existing laws and disclosures observed in consumer not include a person who arranges, guidance, including federal regulations, testing, there were also some successes. negotiates, or otherwise obtains an interagency guidelines, state laws, and For instance, consumers generally extension of credit for him or herself. the Uniform Standards of Professional appeared to understand the language Appraisal Practice (USPAP). Further, describing the potential conflict of B. Coercion of Appraisers—§ 226.36(b) some of these commenters stated that interest, as noted above, even though it The Board proposed to prohibit creditors have limited ability to detect often was ignored because of seemingly creditors and mortgage brokers and their undue influence and should be held conflicting information. In addition, affiliates from coercing, influencing, or liable only if they extend credit language intended to convey to otherwise encouraging appraisers to knowing that a violation of consumers the importance of shopping misstate or misrepresent the value of a § 226.36(b)(1) had occurred. on their own behalf in the mortgage consumer’s principal dwelling. The Many commenters discussed market appeared to be successful. These Board also proposed to prohibit a appraisal-related agreements that Fannie more encouraging results suggest that creditor from extending credit when it Mae and Freddie Mac have entered into further development of a disclosure knows or has reason to know, at or with the Attorney General of New York approach to creditor payments to before loan consummation, that an and the Office of Federal Housing mortgage originators, through additional appraiser has been encouraged by the Enterprise Oversight (GSE Appraisal consumer testing, still may have merit. creditor, a mortgage broker, or an Agreements), which incorporated a

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Home Valuation Code of Conduct. Consumers will not necessarily be rule prohibiting such acts under TILA These commenters urged the Board to aware that a creditor or mortgage broker Section 129(l)(2), 15 U.S.C. 1639(l)(2). coordinate with the parties to the GSE is pressuring an appraiser to misstate or The Final Rule Appraisal Agreements to promote misrepresent the value of the principal consistency in the standards that apply dwelling they offer as collateral for a The Board requested comment on the to the residential appraisal process. loan. Furthermore, consumers who own potential costs and benefits of its The comments are discussed in property near a dwelling securing a proposed appraiser coercion regulation. greater detail below. consumer credit transaction but are not Some securitization trade associations Discussion parties to the transaction are not in a and financial institutions stated that position to know that a creditor or creditors obtain appraisals for their own The Board finds that it is an unfair mortgage broker is coercing an appraiser benefit, to determine whether to extend practice for creditors or mortgage to misstate a dwelling’s value. credit and the terms of credit extended. brokers to coerce, influence, or Consumers thus cannot reasonably The Board recognizes that, because otherwise encourage an appraiser to avoid injuries that result from creditors’ appraisals provide evidence of the misstate the value of a consumer’s or mortgage brokers’ coercing, collateral’s sufficiency to avoid losses if principal dwelling. Accordingly, the influencing, or encouraging an appraiser a borrower defaults on a loan, creditors Board is adopting the rule substantially to misstate or misrepresent the value of have a disincentive to coerce appraisers as proposed. a consumer’s principal dwelling. Substantial injury. Encouraging an to misstate value. However, loan appraiser to overstate or understate the Injury not outweighed by benefits to originators may believe that they stand value of a consumer’s dwelling causes consumers or to competition. The Board to benefit from coercing an appraiser to consumers substantial injury. An finds that the practice of coercing, misstate value, for example, if their inflated appraisal may cause consumers influencing, or otherwise encouraging compensation depends more on volume to purchase a home they otherwise appraisers to misstate or misrepresent of loans originated than on loan would not have purchased or to pay value does not benefit consumers or performance. Despite the disincentives more for a home than they otherwise competition. Acts or practices that cited by some commenters, there is would have paid. An inflated appraisal promote the misrepresentation of the evidence that coercion of appraisers is also may lead consumers to believe that market value of a dwelling distort the not uncommon, and may even be 103 they have more home equity than in fact market, and any competitive advantage widespread. they do, and to borrow or make other a creditor or mortgage broker obtains A few large banks and a financial financial decisions based on this through influencing an appraiser to services trade association suggested that incorrect information. For example, a misstate a dwelling’s value, or that a the Board prohibit mortgage brokers consumer who purchases a home based creditor gains by knowingly originating from ordering appraisals, as the GSE on an inflated appraisal may loans based on a misstated appraisal, is Appraisal Agreements do. The Board overestimate his or her ability to an unfair advantage. declines to determine that any refinance and therefore may take on a For the foregoing reasons, the Board particular procedure for ordering an riskier loan. A consumer also may take finds that it is an unfair practice for a appraisal necessarily promotes false out more cash with a refinance or home creditor or mortgage broker to coerce, reporting of value. As discussed above, equity loan than he or she would have influence, or otherwise encourage an the Board finds that coercion of had an appraisal not been inflated. appraiser to misstate the value of a appraisers by creditors or by mortgage Appraiser coercion thus distorts, rather consumer’s principal dwelling. As brokers is an unfair practice. Therefore, than enhances, competition. Though discussed in part V.A above, the Board the final rule prohibits actions by perhaps less common than overstated has broad authority under TILA Section creditors and mortgage brokers that are appraisals, understated appraisals can 129(l)(2) to adopt regulations that aimed at pressuring appraisers to cause consumers to be denied access to prohibit, in connection with mortgage misstate the value of a consumer’s credit for which they qualified. loans, acts or practices that the Board principal dwelling. Inflated or understated appraisals of finds to be unfair or deceptive. 15 U.S.C. In addition, some commenters stated homes concentrated in a neighborhood 1639(l)(2). Therefore, the Board may that the Board’s rule would be may affect appraisals of neighboring adopt regulations prohibiting unfair or redundant given the existence of homes, because appraisers factor into a deceptive practices by mortgage brokers USPAP. USPAP, however, establishes property valuation the value of who are not creditors and unfair or uniform rules regarding preparation of comparable properties. For the same deceptive practices that are ancillary to appraisals and addresses the conduct of reason, understated appraisals may the origination process, when such appraisers, not the conduct of creditors affect appraisals of neighboring practices are ‘‘in connection with or mortgage brokers. The federal properties. Therefore, inflating or mortgage loans.’’ Because appraisals financial institution regulatory agencies deflating appraised value can harm play an important role in a creditor’s have issued to the institutions they consumers other than those who are decision to extend mortgage credit as supervise regulations and guidance that party to the transaction with the well as the terms of such credit, the set forth standards for the policies and misstated appraisal. Board believes that it fits well within procedures institutions should Injury not reasonably avoidable. the Board’s authority under Section implement to enable appraisers to Consumers who are party to a consumer 129(l)(2) to prohibit creditors and exercise independent judgment when credit transaction cannot prevent mortgage brokers from coercing, creditors or mortgage brokers from influencing, or otherwise encouraging 103 For example, the October Research influencing appraisers to misstate or an appraiser to misstate the value of a Corporation’s 2007 National Appraisal Survey misrepresent a dwelling’s value. consumer’s principal dwelling and (released in Dec. 2006) found that appraisers Creditors and mortgage brokers directly creditors from extending credit based on reported being pressured to restate, adjust, or change reported property values by mortgage or indirectly select and contract with an appraisal when they know that brokers (71 percent), real estate agents (56 percent), the appraisers that value a dwelling for prohibited conduct has occurred. consumers (35 percent), lenders (33 percent), and a consumer credit transaction. Therefore, the Board issues the final appraisal management companies (25 percent).

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valuing a property.104 For example, main topics: (1) The terms used to an appraiser to misstate or misrepresent these regulations prohibit staff and fee describe prohibited conduct; (2) the the value of a consumer’s principal appraisers from having any direct or specific examples of conduct that is dwelling, and the list of examples the indirect interest, financial or otherwise, prohibited and conduct that is not section provides is illustrative and not in a subject property; fee appraisers also prohibited; and (3) the proscription on exhaustive. The Board believes that it is may not have any such interest in the extending credit where a creditor knows not necessary or possible to list all subject transaction.105 Unlike the about prohibited conduct. conceivable ways in which creditors or Board’s rule, however, these federal Prohibited conduct. Some mortgage brokers could pressure regulations do not apply to all commenters recommended that the appraisers to misstate a principal institutions. Moreover, these federal Board replace the phrase ‘‘coerce, dwelling’s value. However, the Board rules are part of an overarching influence, or otherwise encourage’’ with has added two examples to enhance the framework of regulation and ‘‘coerce, bribe, or extort.’’ These list in § 226.36(b)(1). The final rule does supervision of federally insured commenters stated that the words not limit the ability of a creditor or depository institutions and are not ‘‘influence’’ and ‘‘encourage’’ are vague broker to terminate a relationship with necessarily appropriate for application and subjective, whereas the words an appraiser for legitimate reasons. to independent mortgage companies and ‘‘bribe’’ and ‘‘extort’’ would provide Examples of prohibited conduct. The mortgage brokers. bright-line standards for compliance. Board is adopting the proposed Some state legislatures have Like the proposed rule, the final rule examples of prohibited conduct and prohibited coercion of appraisers or prohibits a creditor or mortgage broker adding two examples. The first added enacted general laws against mortgage from coercing, influencing, or otherwise example is a creditor’s or broker’s fraud that may be used to combat encouraging an appraiser to misstate the 106 exclusion of an appraiser from appraiser coercion. Not every state, value of a dwelling. The final rule does consideration for future engagement due however, has passed laws equivalent to not limit prohibited conduct to bribery to the appraiser’s failure to report a the final rule. Prohibiting creditors and or extortion. Creditors and mortgage value that meets or exceeds a minimum mortgage brokers from pressuring brokers may act in ways that would not threshold. This example is adapted from appraisers to misstate or misrepresent constitute bribery or extortion but that a statement in the supplementary the value of a consumer’s principal nevertheless improperly influence an information to the proposed rule. 73 FR dwelling provides enforcement agencies appraiser’s valuation of a dwelling. 1701. The second added example is in every state with a specific legal basis These actions can visit the same harm telling an appraiser a minimum reported for an action alleging appraiser on consumers as do bribery or extortion, value of a consumer’s principal coercion. Though states are able to take and thus they are prohibited by the final dwelling that is needed to approve the enforcement action against certain rule. The Board believes that loan. This example is consistent with institutions that are believed to engage commenters’ concerns about the clarity the position of the Appraisal Standards in appraisal abuses,107 some state laws of the terms used in the final rule can Board (ASB), which develops, interprets are preempted as to other creditors. The be addressed through the examples of and amends USPAP, that assignments final rule, adopted under HOEPA, conduct that is prohibited and conduct should not be contingent on the applies equally to all creditors. that is not prohibited discussed below. In response to the Board’s request for reporting of a predetermined opinion of Examples of conduct prohibited and value.108 comment about the proposed rule’s conduct not prohibited. The proposal provisions, commenters addressed three The Board is not adopting other offered several examples of conduct that examples of prohibited conduct would violate the rule and conduct that 104 See, e.g., 12 CFR part 208 subpart E and app. suggested by commenters. Some C, and 12 CFR part 225 subpart G (Board); 12 CFR would not violate the rule. The Board is commenters urged the Board to prohibit part 34, subparts C and D (Office of the Comptroller adopting the proposed examples of a creditor or mortgage broker from of the Currency (OCC)); 12 CFR part 323 and 12 prohibited conduct and adding two new omitting or removing an appraiser’s CFR part 365 (FDIC); 12 CFR part 564, 12 CFR examples of prohibited conduct. The 560.100, and 12 CFR 560.101 (Office of Thrift name from a list of approved appraisers, Supervision (OTS)); and 12 CFR 722.5 (National Board also is adopting all but one of the where the appraiser has not valued a Credit Union Administration (NCUA)). Applicable proposed examples of conduct that is property at the desired amount. The federal guidance the Board, OCC, FDIC, OTS, and not prohibited. Board believes such conduct is NCUA have issued includes Independent Appraisal Some commenters requested that and Evaluation Functions, dated October 28, 2003, encompassed in the examples provided and Interagency Appraisal and Evaluation additional actions be listed as examples in § 226.36(b)(1)(i)(B) and (C). that violate the rule, such as: Guidelines, dated October 27, 1994. Some commenters also requested that 105 12 CFR 225.65 (Board); 12 CFR 34.45 (OCC); Æ Excluding an appraiser from a list the Board add, as an example of a 12 CFR 323.5 (FDIC); 12 CFR 564.5 (OTS); and 12 of ‘‘approved’’ appraisers because the violation, a creditor’s or mortgage CFR 722.5 (NCUA). appraiser had valued properties at an 106 See, e.g., Colo. Rev. Stat. § 6–1–717; Iowa Code broker’s provision to an appraiser of the amount that had jeopardized or § 543D.18A; Ohio Rev. Code Ann. §§ 1322.07(G), contract of sale for the principal prevented the consummation of loan 1345.031(B), 4763.12(E). dwelling. The Board is not adopting the 107 For example, in 2006, 49 states and the transactions. example. USPAP Standard Rule 1–5 District of Columbia (collectively, the Settling Æ Telling an appraiser a minimum requires an appraiser to analyze all States) entered into a settlement agreement with acceptable appraised value. ACC Capital Holdings Corporation and several of its agreements of sale for a subject Æ Providing an appraiser with the subsidiaries, including Ameriquest Mortgage property, and Standard Rule 2–2 Company (collectively, the Ameriquest Parties). The price stated in a contract of sale. requires disclosure of information Settling States alleged that the Ameriquest Parties Æ Suggesting that an appraiser contained in such agreements or an had engaged in deceptive or misleading acts that consider additional properties as resulted in the Ameriquest Parties’ obtaining explanation of why such information is comparable to the subject property, after inflated appraisals of homes’ value. See, e,g., Iowa unobtainable or irrelevant. ex rel Miller v. Ameriquest Mortgage Co., No. 05771 an appraiser has submitted an appraisal EQCE–053090 (Iowa D. Ct. 2006) (Pls. Pet. 5). To report. settle the complaints, the Ameriquest Parties agreed 108 See, e.g., ASB Advisory Opinion No. 19, to abide by policies designed to ensure appraiser Final § 226.36(b)(1) prohibits conduct Unacceptable Assignment Conditions in Real independence and accurate valuations. that coerces, influences, or encourages Property Appraisal Assignments.

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Examples of conduct that is not consumer’s principal dwelling. The § 226.36(b)(2), however. In addition, the prohibited. The final rule adopts the proposed comment to § 226.36(b)(2) Board does not intend for § 226.36(b)(2) proposed examples of prohibited stated that a creditor is deemed to have to create grounds for voiding loan conduct with one change. The Board is acted with reasonable diligence if the agreements where violations are found. not adopting proposed creditor extends credit based on an That is, if a creditor knows of a violation § 226.36(b)(1)(ii)(F), which would have appraisal other than the one subject to of § 226.36(b)(1), and nevertheless provided that the rule would not be the restriction. extends credit in violation of § 226(b)(2), violated when a creditor or mortgage The Board is adopting the text of while the creditor will have violated broker terminates a relationship with an § 226.36(b)(2) and the associated § 226.36(b)(2), this violation does not appraiser for violations of applicable commentary substantially as proposed. necessarily void the consumer’s loan federal or state law or breaches of Some financial institutions and agreement with the creditor. Whether ethical or professional standards. Some financial institution trade associations the loan agreement is void is a matter commenters noted that there are other stated that the phrase ‘‘reason to know’’ determined by State or other applicable legitimate reasons for terminating a is vague and that creditors should be law. relationship with an appraiser, and they held liable for violations only if they C. Servicing Abuses—§ 226.36(c) requested that the Board include these extend credit when they had actual as examples of conduct that is not knowledge that a violation of The Board proposed to prohibit prohibited so that the provision would § 226.36(b)(1) exists. The final rule certain practices of servicers of closed- not be read as implicitly prohibiting prohibits ‘‘a creditor who knows, at or end consumer credit transactions them. The Board believes that it is not before loan consummation, of a secured by a consumer’s principal feasible to list all of the legitimate violation of § 226.36(b)(1) in connection dwelling. Proposed § 226.36(d) provided reasons a creditor or broker might with an appraisal’’ from extending that no servicer shall: (1) Fail to credit terminate a relationship with an credit based on that appraisal, unless a consumer’s periodic payment as of the appraiser. Accordingly, the Board is not the creditor acts with reasonable date received; (2) impose a late fee or adopting proposed § 226.36(b)(1)(ii)(F). diligence to determine that the appraisal delinquency charge where the late fee or Some commenters suggested that the does not materially misstate or delinquency charge is due only to a Board delete, from the examples of misrepresent the value of the consumer’s failure to include in a conduct that is not prohibited, asking an consumer’s principal dwelling. current payment a late fee or appraiser to consider additional Although final § 226.36(b)(2) does not delinquency charge imposed on earlier information about a consumer’s include the phrase ‘‘reason to know’’ payments; (3) fail to provide a current principal dwelling or about comparable included in the proposed rule, the final schedule of servicing fees and charges properties. Although in some cases a rule’s knowledge standard is not within a reasonable time of request; or post-report request that an appraiser intended to permit willful disregard of (4) fail to provide an accurate payoff consider additional information may be violations of § 226.36(b)(1). The Board statement within a reasonable time of a subtle form of pressure to change a also is adopting new commentary request. The final rule, redesignated as reported value, in other cases such a regarding how to determine whether a § 226.36(c), adopts the proposals request could reflect a legitimate desire misstatement of value is material. regarding prompt crediting, fee to improve an appraisal report. Many banks asked for guidance on pyramiding, and payoff statements, and Furthermore, federal interagency how to determine whether an appraisal modifies and clarifies the accompanying guidance directs institutions to return ‘‘materially’’ misstates a dwelling’s commentary. The Board is not adopting deficient reports to appraisers for value. In response to these comments, the fee schedule proposal, for the correction and to replace unreliable the Board is adopting a new comment reasons discussed below. to § 226.36(b)(2) that provides that a appraisals or evaluations prior to the Public Comment final credit decision.109 Therefore, the misrepresentation or misstatement of a Board is not deleting, from the examples dwelling’s value is not material if it Consumer advocacy groups, federal of conduct that is not prohibited, asking does not affect the credit decision or the and state regulators and officials, an appraiser to consider additional terms on which credit is extended. The consumers, and others strongly information about a consumer’s Board notes that existing appraisal supported the Board’s proposal to principal dwelling or about comparable regulations and guidance may direct address servicing abuses, although some properties. However, § 226.36(b) creditors to take certain steps in the urged alternative measures to address prohibits creditors and mortgage brokers event the creditor knows about servicer abuses, including requiring loss from making such requests in order to problems with an appraisal. For mitigation. Industry commenters, on the coerce, influence, or otherwise example, the Interagency Appraisal and other hand, were generally opposed to encourage an appraiser to misstate or Evaluation Guidelines dated Oct. 28, certain aspects of the proposals, misrepresent the value of a dwelling. 1994 direct institutions to return particularly the fee schedule. Industry Extension of credit. As proposed, deficient reports to appraisers and commenters also urged the Board to § 226.36(b)(2) provided that a creditor is persons performing evaluations for adopt any such rules under its authority prohibited from extending credit if the correction and to replace unreliable in TILA Section 105(a) to adopt creditor knows or has reason to know, appraisals or evaluations prior to regulations to carry out the purposes of at or before loan consummation, of a making a final credit decision. These TILA, and not under Section 129(l)(2). violation of § 226.36(b)(1) (for example, guidelines further state that changes to Commenters also requested several by an employee of the creditor or a an appraisal’s estimate of value are clarifications. mortgage broker), unless the creditor permitted only as a result of a review Prompt crediting. Commenters acted with reasonable diligence to conducted by an appropriately qualified generally favored, or did not oppose, the determine that the appraisal does not state-licensed or -certified appraiser in prompt crediting rule. In particular, materially misstate the value of the accordance with Standard III of USPAP. consumer advocacy groups, federal and The final rule does not dictate specific state regulators and officials, and others 109 See Interagency Appraisal and Evaluation due diligence procedures for creditors to supported the rule. However, some Guidelines, SR 94–55 (FIS) (Oct. 24, 1994) at 9. follow when they suspect a violation of industry commenters and others

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requested clarification on certain advocates have raised concerns that without notifying either the consumer implementation details. Commenters some servicers may be charging or the court.114 Similarly, because also disagreed about whether and how consumers unwarranted or excessive payoff statements lack transparency (in to address partial payments. fees (such as late fees and other that they do not provide detailed Fee pyramiding. Commenters ‘‘service’’ fees) and may be improperly accounting information) and because generally supported prohibiting late fee submitting negative credit reports, in consumers are often unaware of the pyramiding. Several industry the normal course of mortgage servicing exact amount owed, some servicers may commenters argued, however, that a as well as in foreclosures. Some of these assess inaccurate or false fees on the new rule would be unnecessary because abusive fees, they contend, result from payoff statement.115 servicers are subject to a prohibition on servicers’ failure to promptly credit Substantial injury. Consumers subject pyramiding under other regulations. consumers’ accounts, or when servicers to the servicer practices described above Fee schedule. Most commenters pyramid late fees. In addition to suffer substantial injury. For example, opposed the fee schedule proposal. One anecdotal evidence of significant one state attorney general and several consumer advocate group criticized the consumer complaints about servicing consumer advocates stated that failure disclosure’s utility where consumers practices, abusive practices have been to properly credit payments is one of the cannot shop for and select servicers. cited in a variety of court cases.112 In most common problems consumers Other consumer advocates urged the 2003, the FTC announced a $40 million have with servicers. Servicers that do Board to adopt alternative measures settlement with a large mortgage not timely credit, or that misapply, they argued would be more effective to servicer and its affiliates to address payments cause the consumer to incur combat fee abuses. Industry commenters allegations of abusive behavior.113 late fees where none should be also objected to the proposal as Consumer advocates have also raised assessed.116 Even where the first late fee impracticable and unnecessarily concerns that consumers are sometimes is properly assessed, servicers may burdensome. Most industry commenters unaware of fees charged, or unable to apply future payments to the late fee strongly opposed disclosure of third understand the basis upon which fees first. Doing so results in future party fees, particularly because third are charged. This may occur because payments being deemed late even if party fees can vary greatly and may be servicers often do not disclose precise they are, in fact, paid in full within the indeterminable in advance. fees in advance; some consumers are not required time period, thus permitting Payoff statements. Consumer provided any other notice of fees (such the servicer to charge additional late advocates strongly supported the as a monthly statement or other after- fees—a practice commonly referred to as proposal to require provision of payoff the-fact notice); and when consumers ‘‘pyramiding’’ of late fees. These statements within a reasonable time. are provided a statement or other fee practices can cause the account to The proposed commentary stated that it notice, fees may not be itemized or appear to be in default, and thus can would be reasonable under normal detailed. For example, in a number of give rise to charging excessive or market conditions to provide statements bankruptcy cases, servicers have unwarranted fees to consumers, who within three business days of receipt of improperly assessed post-petition fees may not even be aware of the default or a consumer’s request. Community banks fees if they do not receive statements. stated that three business days would Misbehavior and Mistake in Bankruptcy Mortgage Once consumers are in default, these typically be adequate. However, large Claims, University of Iowa Legal Study Research Paper No. 07–29 (Nov. 2007); Kevin McCoy, Hitting practices can make it difficult for financial institutions and their trade Home: Homeowners Fight for their Mortgage Rights, consumers to catch up on payments. associations urged the Board to adopt a USA Today (June 25, 2008), available at http:// These practices also may improperly longer time period in the commentary. www.usatoday.com/money/industries/banking/ 2008-06-25-mortgage-services-countrywide- trigger negative credit reports, which These commenters also requested other lawsuit_N.htm; Mara Der Hovanesian, The can cause consumers to be denied other clarifications. The comments are ‘‘Foreclosure Factories’’ Vise, BusinessWeek.com credit or pay more for such credit, and discussed in more detail throughout this (Dec. 25, 2006), available at http:// www.businessweek.com/magazine/content/06_52/ section, as applicable. 114 b4015147.htm?chan=search. See, e.g., Jones v. Wells Fargo (In re Jones), 366 B.R. 584 (E.D. La 2007) (‘‘In this Court’s experience, 112 See, e.g., Workman v. GMAC Mortg. LLC (In Discussion few, if any, lenders make the adjustments necessary re Workman), 2007 Bankr. LEXIS 3887 (Bankr. D. to properly account for a reorganized debt As discussed in the preamble to the S.C. Nov. 21, 2007) (servicer held in civil contempt for, among other things, failure to promptly credit repayment plan. As a result, it is common to see proposed rule, the Board shares late charges, fees, and other expenses assessed to a concerns about abusive servicing payments made before discharge from bankruptcy and charging of unauthorized late and attorneys debtor’s loan as a result of post-petition accounting practices. Consumer advocates raised fees); Islam v. Option One Mortgage Corp., 432 F. mistakes made by lenders.’’). See also Payne v. abusive mortgage servicer practices as Supp. 2d 181 (D. Mass 2006) (servicer allegedly Mortg. Elec. Reg. Sys. (In re Payne), 2008 Bankr. part of the Board’s 2006 and 2007 continued to report borrower delinquent even after LEXIS 1340 (Bankr. Kan. May 6, 2008); Sanchez v. receiving the full payoff amount for the loan); In Re Ameriquest (In re Sanchez), 372 B.R. 289 (S.D. Tx. hearings as well as in recent 2007); Harris v. First Union Mortg. Corp. (In re 110 Gorshstein, 285 B.R. 118 (S.D.N.Y. 2002) (servicer congressional hearings. Servicer sanctioned for falsely certifying that borrowers were Harris), 2002 Bankr. LEXIS 771 (Bankr. D. Ala. abuses have also received increasing delinquent); Rawlings v. Dovenmuehle Mortgage 2002); In Re Tate, 253 B.R. 653. attention both in academia and the Inc., 64 F. Supp. 2d 1156 (M.D. Ala. 1999) (servicer 115 See, e.g., Maxwell v. Fairbanks Capital Corp. (In re Maxwell), 281 B.R. 101, 114 (D. Mass 2002) press.111 In particular, consumer failed for over 7 months to correct account error despite borrowers’ twice sending copies of canceled (servicer ‘‘repeatedly fabricated the amount of the checks evidencing payments, resulting in Debtor’s obligation to it out of thin air’’). 110 See, e.g., Comment letter of the National unwarranted late and other fees); Ronemus v. FTB 116 See, e.g. Holland v. GMAC Mortg. Corp., 2006 Consumer Law Center to Docket No. OP–1253 (Aug. Mortgage Servs., 201 B.R. 458 (1996) (among other U.S. Dist. LEXIS 25723 (D. Kan. 2006) (servicer’s 15, 2006) at 11; Legislative Proposals on Reforming abuses, servicer failed to promptly credit payments misapplication of borrower’s payment to the wrong Mortgage Practices, Hearing Before the H. Comm. and instead paid them into a ‘‘suspense’’ account, account resulted in improper late fees and negative On Fin. Servs., 110th Cong. 74 (2007) (Testimony resulting in unwarranted late fees and unnecessary credit reports, despite borrower’s proof of canceled of John Taylor, National Community Reinvestment and improper accrual of interest on the note). checks); In re Payne, 2008 Bankr. LEXIS at *30 Coalition). 113 Consent Order, United States v. Fairbanks (servicer’s failure to properly and timely account for 111 See, e.g., Paula Fitzgerald Bone, Toward a Capital Corp., Civ. No. 03–12219–DPW (D. Mass payments and failure to distinguish between pre- General Model of Consumer Empowerment and Nov. 21, 2003, as modified Sept. 4, 2007). See also petition and post-petition payments caused its Welfare in Financial Markets with an Application Ocwen Federal Bank FSB, Supervisory Agreement, accounting system and payment history to to Mortgage Servicers, 42 Journal of Consumer OTS Docket No. 04592 (Apr. 19, 2004) (settlement improperly show borrowers as delinquent in their Affairs 165 (Summer 2008); Katherine M. Porter, resolving mortgage servicing issues). payments).

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require consumers to engage in time- contract directly with investors to consumer’s principal dwelling to be consuming credit report correction service the loan, and consumers are not unfair. As described in part V.A above, efforts. a party to the servicing contract. TILA Section 129(l)(2) authorizes In addition, a servicer’s failure to Today, separate servicing companies protections against unfair practices ‘‘in provide accurate payoff statements in a play a key role: they are chiefly connection with mortgage loans’’ that timely fashion can cause substantial responsible for account maintenance, the Board finds to be unfair or injury to consumers. One state attorney including collecting payments, deceptive. 15 U.S.C. 1639(l)(2). general commented that its office often remitting amounts due to investors, Therefore, the Board may take action receives complaints about unreasonable handling interest rate adjustments on against unfair or deceptive practices by delays in the provision of payoff variable rate loans, and managing non-creditors and against unfair or statements. Consumers may want to delinquencies and foreclosures. deceptive practices outside of the refinance a loan to obtain a lower Servicers also act as the primary point origination process, when such interest rate or to avoid default or of contact for consumers after practices are ‘‘in connection with foreclosure, but may be impeded from origination, because in most cases the mortgage loans.’’ The Board believes doing so due to inaccurate or untimely original creditor has securitized and that unfair or deceptive servicing payoff statements. These consumers sold the loan shortly after origination. In practices fall squarely within the thus incur additional costs and may be exchange for performing these services, purview of Section 129(l)(2) because subject to financial problems or even servicers generally receive a fixed per- servicing is an integral part of the life of foreclosure. In addition to the injuries loan or monthly fee, float income, and a mortgage loan and as such is ‘‘in caused by delayed payoff statements, ancillary fees—including default connection with mortgage loans.’’ consumers are injured by inaccurate charges—that consumers must pay. Accordingly, the final rule prohibits payoff statements. As described above, Investors are principally concerned certain unfair or deceptive servicing some servicers assess inaccurate or false with maximizing returns on the practices under Section 129(l)(2), 15 fees on the payoff statement without the mortgage loans and are generally U.S.C. 1639(l)(2). consumer’s knowledge. Even when the indifferent to the fees the servicer The Final Rule consumer requests clarification, a charges the consumer so long as the fees servicer may provide an invalid do not reduce the investor’s return (e.g., Section 226.36(c) prohibits three accounting of fees or charges.117 Or, a by prompting an unwarranted servicing practices. First, the rule servicer may provide the payoff foreclosure). Consumers are not able to prohibits a servicer from failing to credit statement too late in the refinancing choose their servicers. Consumers also a payment to a consumer’s account as of process for the consumer to obtain are not able to change servicers without the date received. Second, the rule clarification without risking losing his refinancing, which is a time-consuming, prohibits ‘‘pyramiding’’ of late fees by or her new loan commitment.118 expensive undertaking. Moreover, if prohibiting a servicer from imposing a Injury not reasonably avoidable. The interest rates are rising, refinancing may late fee on a consumer for making a injuries caused by servicer abuses are only be possible if the consumer accepts payment that constitutes the full not reasonably avoidable because a loan with a higher interest rate. After amount due and is timely, but for a market competition is not adequate to refinancing, consumers may find their previously assessed late fee. Third, the prevent abusive practices, particularly loans assigned back to the same servicer rule prohibits a servicer from failing to when mortgages are securitized and as before, or to another servicer provide, within a reasonable time after servicing rights are sold. Historically, engaging in the same practices. As a receiving a request, an accurate under the mortgage loan process, a result, servicers do not have to compete statement of the amount currently lender would often act as both in any direct sense for consumers. Thus, required to pay the obligation in full, originator and collector—that is, it there may not be sufficient market often referred to as a payoff statement. would service its own loans. Although pressure on servicers to ensure Under § 226.36(c)(3), the term some creditors sold servicing rights, competitive practices.119 ‘‘servicer’’ and ‘‘servicing’’ are given the they remained vested in the customer Injury not outweighed by same meanings as provided in service experience in part due to countervailing benefits to consumers or Regulation X, 24 CFR 3500.2. As reputation concerns and in part because to competition. The injuries described described in more detail below, the payment streams continued to flow above also are not outweighed by any Board is not adopting the proposed rule directly to them. However, with rise of countervailing benefits to consumers or that would prohibit a servicer from the ‘‘originate to distribute’’ model competition. Commenters did not cite, failing to provide to a consumer, within discussed in part II.B above, the original and the Board is not aware of, any a reasonable time after receiving a creditor has become removed from benefit to consumers from delayed request, a schedule of all fees and future direct involvement in a crediting of payments, pyramided fees, charges it imposes in connection with consumer’s loan, and thus has less or delayed issuance of payoff mortgage loans it services. incentive and ability to detect or deter statements. The Board recognizes that servicers servicing abuses or respond to consumer For these reasons, the Board finds the will incur additional costs to alter their complaints about servicing abuses. acts and practices prohibited under systems to comply with some aspects of When loans are securitized, servicers § 226.36(c) for closed-end consumer the final rule. For example, in some credit transactions secured by a instances some servicers may incur 117 See, e.g., In re Maxwell, 281 B.R. 101, 114 (D. costs in investing in systems to produce Mass 2002). 119 In one survey, J.D. Power found that 118 See, e.g., In re Jones, 366 B.R. at 587–588 consumers whose loans have been sold have payoff statements within a shorter (consumer in bankruptcy forced to remit improper customer satisfaction scores 32 points lower than period of time than their current sums demanded on payoff statement or lose loan those who have remained with the loan originator. technology affords. As a result, some commitment from new lender. ‘‘Although Debtor J.D. Power and Associates Reports: USAA Ranks servicers will, directly or indirectly, questioned the amounts [servicer] alleged were due, Highest in Customer Satisfaction with Primary he was unable to obtain an accounting from Mortgage Servicing. Press Release (July 19, 2006), pass those costs on to consumers. The [servicer] explaining its calculations or any other available at http://www.jdpower.com/corporate/ Board believes, however, that these substantiation for the payoff.’’). news/releases/pdf/2006117.pdf. costs to consumers are outweighed by

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the consumer benefits provided by the period before a late fee accrues, the payment is non-conforming, and the rules as adopted. Board has revised the comment to servicer nonetheless accepts the reference grace periods. The final payment, then § 226.36(c)(2) provides Prompt Crediting comment thus states that a servicer that that the servicer must credit the account The Board proposed §§ 226.36(d)(1)(i) receives a payment on or before the due within five days of receipt. If the and 226.36(d)(2) to prohibit a servicer date (or within any grace period), and servicer chooses not to accept the non- from failing to credit payments as of the does not enter the payment on its books conforming payment, it would not date received. The proposed prompt or in its system until after the payment’s violate the rule by returning the check. crediting rule and accompanying due date (or expiration of any grace Comment 36(c)(2)–1 provides commentary are substantially similar to period) does not violate the rule as long examples of reasonable payment the existing provisions requiring prompt as the entry does not result in the requirements. Although the list of crediting of payment on open-end imposition of a late charge, additional examples is non-exclusive, at the transactions in § 226.10. The final rule interest, or similar penalty to the request of several commenters, payment adopts, as §§ 226.36(c)(1)(i) and consumer, or in the reporting of coupons have been added to the list of 226.36(c)(2), the rule substantially as negative information to a consumer examples because they can assist proposed, but with revisions to the reporting agency. If a payment is servicers in expediting the crediting proposed commentary to address the received after the due date and any process to consumers’ benefit. questions of partial payments and grace period, § 226.36(c)(1)(i) does not The Board sought comment on payment cut-off times. Commentary has prohibit the assessment of late charges whether it should provide a safe harbor also been added or modified in response or reporting negative information to a as to what constitutes a reasonable to commenters’ concerns. consumer reporting agency. payment requirement, for example, a Commenters generally favored, or did Some industry commenters were cut-off time of 5 p.m. for receipt of a not oppose, the prompt crediting rule. concerned that the rule would affect mailed check. Commenters generally In particular, consumer advocacy their monthly interest accrual supported including safe harbors; groups, federal and state regulators and accounting systems. Many closed-end accordingly, new comment 32(c)(2)–2 officials, and others supported the rule. mortgage loan agreements require provides that it would be reasonable to One state attorney general and several calculation of interest based on an require a cut-off time of 5 p.m. for consumer advocacy groups stated that amortization schedule where payments receipt of a mailed check at the location failure to properly credit payments is are deemed credited as of the due date, specified by the creditor for receipt of one of the most common servicing whether the payment was actually such check. problems they see consumers face. received prior to the scheduled due date Partial payments. The Board sought However, as described in more detail or within any grace period. Thus, comment on whether (and if so, how) below, some industry commenters and making the scheduled payment early partial payments should be addressed in others requested clarification on certain does not decrease the amount of interest the prompt crediting rule. Consumer implementation details. Commenters the consumer owes, nor does making advocate and industry commenters also generally disagreed on whether and the scheduled payment after the due disagreed on whether partial payments how to address partial payments. date (but within a grace period) increase should be credited, if the consumer’s Method and timing of payments. the interest the consumer owes. payment covers at least the principal Section 226.36(c)(1)(i) requires a According to these commenters, this so- and interest due but not amounts due servicer to credit a payment to the called ‘‘monthly interest accrual for escrows or late or other service fees. consumer’s loan account as of the date amortization method’’ provides Consumer groups argued that servicers of receipt, except when a delay in certainty to consumers (about payments should be required to credit partial crediting does not result in any charge due) and to investors (about expected payments under the rule, when the to the consumer or in the reporting of yields). The final rule is not intended to payment would cover at least the negative information to a consumer prohibit or alter use of this method, so principal and interest due. They reporting agency, or except as provided long as the servicer recognizes on its expressed concern that servicers in § 226.36(c)(2). Many industry books or in its system that payments routinely place such partial payments commenters, as well as the GSEs have been timely made for purposes of into suspense accounts, triggering the requested clarifications on the timing determining late fees or triggering accrual of late fees and other default and method of crediting payments, and negative credit reporting. fees. On the other hand, most industry the final staff commentary has been The final rule also adopts proposed commenters urged the Board not to revised accordingly. comment 36(d)(2)–1, redesignated as require crediting of partial payments, For example, final comment 36(c)(2)–1, which states that the servicer because doing so would contradict the 36(c)(1)(i)–1 makes clear that the rule may specify in writing reasonable structure of uniform loan documents, does not require a servicer to physically requirements for making payments. One would violate servicing agreements, enter the payment on the date received, commenter expressed concern that late would be contrary to monthly interest but requires only that it be credited as fees or negative credit reports may be accrual accounting methods, and would of the date received. The proposed triggered when a timely payment require extensive systems and comment explained that a servicer does requires extensive research, and the accounting changes. They also argued not violate the rule if it receives a creditor may inadvertently violate that crediting partial payments could payment on or before its due date and § 226.36(c)(1)(i). Such research might be cause the consumer’s loan balance to enters the payment on its books or in its required, for example, when a check increase. After crediting the partial system after the due date if the entry does not include the account number for payment, the servicer would add the does not result in the imposition of a the mortgage loan and is written by remaining payment owed to the late charge, additional interest, or someone other than the consumer. principal balance; thus, the principal similar penalty to the consumer, or in However, in this scenario, the check balance would be greater than the the reporting of negative information to would typically constitute a payment amount scheduled (and the interest a consumer reporting agency. Because that does not conform to the servicer’s calculated on that larger principal consumers are often afforded a grace reasonable payment requirements. If a balance that would be due would be

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greater than the scheduled interest). As enforcement actions against institutions. addenda when fees change. Many a result, subsequent regularly scheduled By bringing the fee pyramiding rule industry commenters strongly opposed payments would no longer cover the under TILA Section 129(l)(2), state disclosure of third party fees. These actual outstanding principal and attorneys general would be able to commenters argued that fees can vary interest due. enforce the rule through TILA, where greatly by geography (inter- and intra- New comment 36(c)(1)(i)–2 makes currently they may be limited to state) and over the life of the loan, and clear that whether a partial payment enforcing the rule solely through state are not within the servicer’s control, must be credited depends on the statutes (which statutes may not be particularly when the consumer is in contract between the parties. uniform). Accordingly, the anti- default. Moreover, they stated, some Specifically, the new comment states pyramiding rule adopted today would charges relating to foreclosure or other that payments should be credited based provide state attorneys general an legal actions cannot be determined in on the legal obligation between the additional means of enforcement against advance. For example, newspaper creditor and consumer. The comment servicers, thus providing an additional publication costs will vary depending also states that the legal obligation is consumer protection against an unfair on the newspaper and length of the determined by applicable state law or practice. notice required; third party service other law. Thus, if under the terms of providers may charge varying prices Schedule of Fees and Charges the legal obligations governing the loan, based on the cost of labor, materials, the required monthly payment includes Proposed 226.36(d)(1)(iii) would have and scope of work required.120 Industry principal, interest, and escrow, then required a servicer to provide to a commenters maintained that servicers consistent with those terms, servicers consumer upon request a schedule of all would pass on to consumers the costs of would not be required to credit specific fees and charges that may be the increased burden and risk incurred. payments that include only principal imposed in connection with the At a minimum, they argued, the fee and interest payments. Concerns about servicing of the consumer’s account, schedule should be limited to standard partial payments may be addressed in including a dollar amount and an or common fees, such as nonsufficient part by the fee pyramiding rule, explanation of each and the fund fees or duplicate statement fees. discussed below, which prohibits circumstances under which each fee The Board has considered the servicers from charging late fees if a may be imposed. The proposal would concerns raised by commenters and has payment due is short solely by the have required a fee schedule that is concluded that the transparency benefit amount of a previously assessed late fee. specific both as to the amount and type of the schedule does not sufficiently of each charge, to prevent servicers from offset the burdens of producing such a Pyramiding Late Fees disguising fees by lumping them schedule. Thus, the Board is not The Board proposed to adopt a together or giving them generic names. adopting proposed § 226.36(d)(1)(iii). parallel approach to the existing The proposal also would have required First, the transparency benefit is prohibition on late fee pyramiding the disclosure of third party fees limited. It is not clear that consumers contained in the ‘‘credit practices rule,’’ assessed on consumers by servicers. The would request fee schedules sufficiently under section 5 of the FTC Act, 15 rule was intended to bring transparency in advance of being charged any fees so U.S.C. 45. See, e.g., 12 CFR 227.15 to the market, to enhance consumer as to provide consumers the benefit of (Board’s Regulation AA). Proposed understanding of servicer charges, and the notice intended by the proposed § 226.36(c)(1)(ii) would have prohibited to make it more difficult for rule. In addition, any schedules servicers from imposing any late fee or unscrupulous servicers to camouflage or provided to consumers may be out of delinquency charge on the consumer in inflate fees. The Board sought comment date by the time the consumer is connection with a payment, when the on the effectiveness of this approach, assessed fees. Many third party fees consumer’s payment was timely and and solicited suggestions on alternative would also be impractical to specify. made in full but for any previously methods to achieve the same objective. Even if third party fees are simply listed assessed late fees. The proposed Given servicers’ potential difficulty in as ‘‘actual charge’’ or ‘‘market price,’’ commentary provided that the identifying the specific amount of third the fee schedules may be too long— prohibition should be construed party charges prior to imposition of possibly dozens of pages— and detailed consistently with the credit practices such charges, the Board also sought to be meaningful or useful to rule. The final rule adopts the proposal comment on whether the benefit of consumers. The Board considered and accompanying staff commentary. increasing the transparency of third limiting fee schedules to the servicer’s Commenters generally supported party fees would outweigh the costs own standard fees. However, while such prohibiting fee pyramiding. Several associated with a servicer’s uncertainty schedules might assist consumers who commenters argued, however, that a as to such fees. are current, they would be of limited new rule would be unnecessary because Most commenters opposed the fee utility to delinquent consumers, who servicers are subject to a regulation schedule proposal. One consumer are often subject to substantial third prohibiting fee pyramiding, whether advocate group argued that the party fees. For the foregoing reasons, the they are banks (12 CFR 227.15), thrifts disclosure would not help because Board is not adopting proposed (12 CFR 535.4), credit unions (12 CFR consumers cannot shop for and select § 226.36(d)(1)(iii). 706.4) or other institutions (16 CFR servicers. Other consumer advocates The Board solicited suggestions on 444.4). However, the Board believes that urged the Board to adopt alternative alternative methods to address servicer adopting a fee pyramiding prohibition measures they argued would be more charges and fees. Commenters urged the under TILA Section 129(l)(2), 15 U.S.C. effective to prevent servicer abuses. Board to consider a variety of 1639(l)(2), would extend greater Industry commenters also objected to alternatives to combat abusive servicing protections to consumers than currently the proposal as impracticable and provided by regulation. While fee unnecessarily burdensome. Some stated 120 See, e.g., Vikas Bajaj, Contractors Are Kept pyramiding is impermissible for all that they currently provide limited fee Busy Maintaining Abandoned Homes, N.Y. Times (May 26, 2008), available at http:// entities under either the Board, OTS, or schedules upon request, but that they www.nytimes.com/2008/05/27/business/ FTC rules, state officials are not granted would incur a substantial time and cost 27home.html?_r=1&scp=1&sq=florida+foreclosure authority under the FTC Act to bring burden to reprint schedules or add &st=nyt&oref=slogin.

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practices, including prohibiting statements also help consumers to Under the proposed rule, the servicer servicers from imposing fees unless the monitor inflated payoff claims. Thus, would be required to respond to the fee is authorized by law, agreed to in the the Board is adopting a rule requiring request of a person acting on behalf of note, and bona fide and reasonable; servicers to provide an accurate payoff the consumer. Thus, for example, a prohibiting servicers from misstating the statement within a reasonable time after creditor with which a consumer is amounts consumers owe; and requiring receiving a request. refinancing may request a payoff servicers to provide monthly statements As noted above, the proposed statement. Others who act on the to consumers to permit consumers to commentary stated that under normal consumer’s behalf, such as a non-profit monitor charges. The Board continues to market conditions, three business days homeownership counselor, also may have concerns about transparency and would be a reasonable time to provide wish to obtain a payoff statement for the abuse of servicer fees. The Board will the payoff statements. Large financial consumer. Some industry commenters continue to evaluate the issue, and may institutions and their trade associations expressed concern about the privacy consider whether to propose additional encouraged the Board to extend the implications of such a requirement, and rules in this area in connection with its three business day time frame to requested that the Board permit comprehensive review of Regulation Z’s anywhere from five business days to additional time to confirm the closed-end mortgage disclosure rules. fifteen calendar days to provide consumer’s permission prior to releasing account information. To Loan Payoff Statements servicers enough time to compile the necessary payoff information. While the address these concerns, the Board has Proposed § 226.36(d)(1)(iv) would Board notes that the commentary’s time revised the commentary to state that the have prohibited a servicer from failing frame is a safe harbor and not a servicer may first take reasonable to provide, within a reasonable time requirement, the Board is extending the measures to verify the identity of after receiving a request from the time frame from three to five business persons purporting to act on behalf of consumer or any person acting on behalf days to address commenters’ concerns. the consumer and to obtain the of the consumer, an accurate statement Several industry commenters also consumer’s authorization to release of the full amount required to pay the requested special time periods for information to any such persons before obligation in full as of a specified date, the ‘‘reasonable time’’ frame begins to often referred to as a payoff statement. homes in foreclosure or loss mitigation. Some argued that emergency run. The proposed commentary stated that Industry commenters also requested circumstances (such as imminent under normal market conditions, three that, as in the prompt crediting rule, foreclosure) require swifter servicer business days would be a reasonable servicers be permitted to specify action; on the contrary, others argued time to provide the payoff statements; reasonable requirements to ensure that such circumstances are inherently however, a longer time might be payoff requests may be promptly complicated and require additional reasonable when the market is processed. The Board believes clear servicer time and effort. However, the experiencing an unusually high volume procedures for consumer requests for of refinancing requests. Board believes five business days loan payoff statements will benefit Consumer advocates strongly should provide sufficient time to handle consumers, as these procedures will supported the proposed rule, and most most payoff requests, including most expedite processing of a consumer’s community banks stated that three requests where the loan is delinquent, request. Therefore, the Board is adding business days would be adequate for in bankruptcy, or the servicer has new commentary 226.36(c)(1)(iii)–3 to production of payoff statements. incurred an escrow advance. As clarify that the servicer may specify However, large financial institutions discussed below, there may be reasonable requirements for making and their trade associations urged the circumstances under which a longer payoff requests, such as requiring Board to adopt a longer time period in time period is reasonable; the response requests to be in writing and directed to the commentary than three business time would simply not fall under the a specific address, e-mail address or fax days. Large financial institutions and five business day safe harbor. number specified by the servicer, or their trade associations also requested The commentary retains the proposal orally to a specified telephone number, clarification on requests from third that the time frame might be longer in or any other reasonable requirement or parties, citing privacy concerns. Further, some instances. The example has been method. If the consumer does not follow they urged the Board to refine the rule revised, however, from when ‘‘the these requirements, a longer time frame to provide that statements should be market’’ is experiencing an unusually for responding to the request would be accurate when issued, because events high volume of refinancing requests to reasonable. could occur after issuance that would ‘‘the servicer.’’ A particular servicer’s Finally, industry commenters make the payoff statement inaccurate. experience may not correspond requested clarification that the The Board is adopting the rule perfectly with general market statement must be accurate when substantially as proposed, renumbered conditions. The example is intended to issued. They maintained that events as § 226.36(c)(1)(iii), with clarifications recognize that more time may be occurring after issuance of the statement and changes to the commentary. The reasonable where a servicer is cause a statement to become inaccurate, Board has revised the accompanying experiencing temporary constraints on such as when a consumer’s previous staff commentary to provide that five its ability to respond to payoff requests. payment is returned for insufficient business days would normally be a The example is not intended, however, funds after the servicer has issued the reasonable time to provide the to enable servicers to take an loan payoff statement. The Board is statements under most circumstances, unreasonable amount of time to provide adding new comment 226.36(c)(1)(iii)–4 and to make several other clarifications payoff statements if it is due to a failure to explain that payoff statements must in response to commenters’ concerns. to devote adequate staffing to handling be accurate when issued. The payoff Servicers’ delays in providing payoff requests. The Board believes that the statement amount should reflect all statements can impede consumers from revised commentary balances servicers’ payments due and all fees and charges refinancing existing loans or otherwise operational needs with consumers’ incurred as of the date of issuance. clearing title and increase transaction interests in promptly obtaining a payoff However, the Board recognizes that costs. Promptly delivered payoff statement. events occurring after issuance and

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outside the servicer’s control, such as a advertisements with promotional rates Second, the Board is amending the returned check and nonsufficient funds or payments state the word regulation and commentary to ensure fee, or an escrow advance, may cause ‘‘introductory;’’ excluding radio and that advertisements adequately disclose the payoff statement to become television advertisements for home- not only promotional plan terms, but inaccurate. If the statement was accurate equity plans from the requirements also the rates and payments that will when it was issued, subsequent events regarding promotional rates or apply over the term of the plan. The that change the payoff amount do not payments; allowing advertisements for changes are modeled after proposed result in a violation of the rule. closed-end credit to state that payments amendments to the advertising rules for D. Coverage—§ 226.36(d) do not include mortgage insurance open-end plans that are not home- premiums rather than requiring secured. See 73 FR 28866, 28892 (May The Board proposed to exclude advertisements to state the highest and 19, 2008) and 72 FR 32948, 33064 (June HELOCs from § 226.36(d) because most lowest payment amounts; and removing 14, 2007). originators of HELOCs hold them in the prohibition on the use of the term The Board is also implementing portfolio rather than sell them, which ‘‘financial advisor’’ by a for-profit provisions of the Bankruptcy Abuse aligns these originators’ interests in loan mortgage broker or mortgage lender. Prevention and Consumer Protection performance more closely with their Public Comment Act of 2005 which requires disclosure of borrowers’ interests, and HELOC the tax implications of certain home- originations are concentrated in the Most commenters were generally equity plans. See Public Law 109–8, 119 banking and thrift industries, where the supportive of the Board’s proposed Stat. 23. Other technical and conforming federal banking agencies can use advertising rules. Lenders and their changes are also being made. supervisory authorities to protect trade associations made a number of borrowers. As described in more detail The Board proposed to prohibit requests for clarification or modification certain acts or practices connected with in part IX.E above, the proposed of the rules, and a few cautioned that exclusion of HELOCs drew criticism advertisements for closed-end mortgage requiring too much information be credit under TILA section 129(l)(2) and from several consumer and civil rights disclosed in advertisements could cause groups but strong support from industry sought comment on whether it should creditors to avoid advertising specific extend any or all of the prohibitions commenters. For the reasons discussed credit terms, thereby depriving in part VIII.H above, the Board is contained in proposed § 226.24(i) to consumers of useful information. By home-equity plans, or whether there adopting the exclusion as proposed, contrast, consumer and community renumbered as § 226.36(d). were other acts or practices associated groups as well as state and local with advertisements for home-equity XI. Advertising government officials made some plans that should be prohibited. The suggestions for tightening the The Board proposed to amend the final rule does not apply the application of the rules. The comments advertising rules for open-end home- prohibitions contained in § 226.24(i) to are discussed in more detail throughout equity plans under § 226.16, and for home-equity plans for the reasons this section as applicable. closed-end credit under § 226.24, to discussed below in connection with the address advertisements for home- A. Advertising Rules for Open-End final rule for closed-end mortgage credit secured loans. For open-end home- Home-Equity Plans—§ 226.16 advertisements. See discussion of equity plan advertisements, the two § 226.24(i) below. Overview most significant proposed changes Current Statute and Regulation related to the clear and conspicuous The Board is revising the open-end standard and the advertisement of home-equity plan advertising rules in TILA Section 147, implemented by promotional terms. For advertisements § 226.16. As in the proposal, the two the Board in § 226.16(d), governs for closed-end credit secured by a most significant changes relate to the advertisements of open-end home- dwelling, the three most significant clear and conspicuous standard and the equity plans secured by the consumer’s proposed changes related to advertisement of promotional terms in principal dwelling. 15 U.S.C. 1665b. strengthening the clear and conspicuous home-equity plans. Each of these The statute applies to the advertisement standard for advertising disclosures, proposed changes is summarized below. itself, and therefore, the statutory and regulating the disclosure of rates and First, as proposed, the Board is regulatory requirements apply to any payments in advertisements to ensure revising the clear and conspicuous person advertising an open-end credit that low promotional or ‘‘teaser’’ rates or standard for home-equity plan plan, whether or not they meet the payments are not given undue advertisements, consistent with the definition of creditor. See comment emphasis, and prohibiting certain acts approach taken in the advertising rules 2(a)(2)–2. Under the statute, if an open- or practices in advertisements as for consumer leases under Regulation end credit advertisement sets forth, provided under Section 129(l)(2) of M. See 12 CFR 213.7(b). New affirmatively or negatively, any of the TILA. commentary provisions clarify how the specific terms of the plan, including any The final rule is substantially similar clear and conspicuous standard applies required periodic payment amount, then to the proposed rule and adopts, with to advertisements of home-equity plans the advertisement must also clearly and some modifications, each of the with promotional rates or payments, conspicuously state: (1) Any loan fee the proposed changes discussed above. The and to Internet, television, and oral amount of which is determined as a most significant changes are: Modifying advertisements of home-equity plans. percentage of the credit limit and an when an advertisement is required to The rule also allows alternative estimate of the aggregate amount of disclose certain information about tax disclosures for television and radio other fees for opening the account; (2) implications; using the term advertisements for home-equity plans in any case in which periodic rates may ‘‘promotional’’ rather than by revising the Board’s earlier proposal be used to compute the finance charge, ‘‘introductory’’ to describe certain open- for open-end plans that are not home- the periodic rates expressed as an end credit rates or payments applicable secured to apply to home-equity plans annual percentage rate; (3) the highest for a period less than the term of the as well. See 12 CFR 226.16(e) and 72 FR annual percentage rate which may be loan and removing the requirement that 32948, 33064 (June 14, 2007). imposed under the plan; and (4) any

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other information the Board may by equal prominence to the promotional about rates or payments that apply for regulation require. rate or payment are deemed to meet this the term of the plan to be in close The specific terms of an open-end requirement if they appear in the same proximity to promotional rates or plan that ‘‘trigger’’ additional type size as the trigger terms. A more payments would not be practical for disclosures, which are commonly detailed discussion of the requirements many electronic advertisements and that known as ‘‘triggering terms,’’ are the for promotional rates or payments is the requirements of § 226.16(c) payment terms of the plan, or finance found below. adequately ensure that consumers charges and other charges required to be The equal prominence and close viewing electronic advertisements have disclosed under §§ 226.6(a) and proximity requirements of § 226.16(d)(6) access to important additional 226.6(b). If an advertisement for a home- apply to all visual text advertisements information about the terms of the equity plan states a triggering term, the except for television advertisments. advertised product. regulation requires that the However, comment 16–2 states that The Board is also adopting as advertisement also state the terms electronic advertisements that disclose proposed new comments to interpret the required by the statute. See 12 CFR promotional rates or payments in a clear and conspicuous standards for 226.16(d)(1); see also comments 16(d)– manner that complies with the Board’s Internet, television, and oral 1 and –2. recently amended rule for electronic advertisements of home-equity plans. advertisements under § 226.16(c) are New comment 16–3 explains that Authority deemed to satisfy the clear and disclosures in the context of visual text The Board is exercising the following conspicuous standard. See 72 FR 63462 advertisements on the Internet must not authorities in promulgating final rules. (Nov. 9, 2007). Under the rule, if an be obscured by techniques such as TILA Section 105(a) authorizes the electronic advertisement provides the graphical displays, shading, coloration, Board to adopt regulations to ensure required disclosures in a table or or other devices, and must comply with meaningful disclosure of credit terms so schedule, any statement of triggering all other requirements for clear and that consumers will be able to compare terms elsewhere in the advertisement conspicuous disclosures under available credit terms and avoid the must clearly direct the consumer to the § 226.16(d). New comment 16–4 uninformed use of credit. 15 U.S.C. location of the table or schedule. For likewise explains that textual 1604(a). TILA Section 122 authorizes example, a triggering term in an disclosures in television advertisements the Board to require that information, advertisement on an Internet Web site must not be obscured by techniques including the information required may be accompanied by a link that such as graphical displays, shading, under Section 147, be disclosed in a directly takes the consumer to the coloration, or other devices, must be clear and conspicuous manner. 15 additional information. See comment displayed in a manner that allows the U.S.C. 1632. TILA Section 147 also 16(c)(1)–2. consumer to read the information, and requires that information, including any The Board sought comment on must comply with all other other information required by regulation whether it should amend the rules for requirements for clear and conspicuous by the Board, be clearly and electronic advertisements for home- disclosures under § 226.16(d). The conspicuously set forth in such form equity plans to require that all Board believes, however, that this rule and manner as the Board may by information about rates or payments can be applied with some flexibility to regulation require. 15 U.S.C. 1665b. that apply for the term of the plan be account for variations in the size of stated in close proximity to promotional Discussion television screens. For example, a rates or payments in a manner that does lender would not violate the clear and Clear and conspicuous standard. The not require the consumer to click a link conspicuous standard if the print size Board is adopting as proposed new to access the information. The majority used was not legible on a handheld or comments 16–2 to –5 to clarify how the of commenters who addressed this issue portable television. New comment 16–5 clear and conspicuous standard applies urged the Board to adopt comment 16– explains that oral advertisements, such to advertisements for home-equity 2 as proposed. They noted that many as by radio or television, must provide plans. electronic advertisements on the disclosures at a speed and volume Comment 16–1 explains that Internet are displayed in small areas, sufficient for a consumer to hear and advertisements for open-end credit are such as in banner advertisements or comprehend them. In this context, the subject to a clear and conspicuous next to search engine results, and word ‘‘comprehend’’ means that the standard set forth in § 226.5(a)(1). The requiring information about the rates or disclosures must be intelligible to Board is not prescribing specific rules payments that apply for the term of the consumers, not that advertisers must regarding the format of advertisements. plan to be in close proximity to the ensure that consumers understand the However, new comment 16–2 elaborates promotional rates or payments would meaning of the disclosures. The Board on the requirement that certain not be practical. These commenters also is also allowing the use of a toll-free disclosures about promotional rates or suggested that Internet users are telephone number as an alternative to payments in advertisements for home- accustomed to clicking on links in order certain disclosures in radio and equity plans be prominent and in close to find further information. Commenters television advertisements. proximity to the triggering terms in also expressed concern about the order to satisfy the clear and practicality of requiring closely Section 226.16(d)(2)—Discounted and conspicuous standard when proximate disclosures in electronic Premium Rates promotional rates or payments are advertisements that may be displayed If an advertisement for a variable-rate advertised and the disclosure on devices with small screens, such as home-equity plan states an initial requirements of new § 226.16(d)(6) on Internet-enabled cellular phones or annual percentage rate that is not based apply. The disclosures are deemed to personal digital assistants, that might on the index and margin used to make meet this requirement if they appear necessitate scrolling or clicking on links later rate adjustments, the advertisement immediately next to or directly above or in order to view additional information. must also state the period of time the below the trigger terms, without any The Board is adopting comment 16– initial rate will be in effect, and a intervening text or graphical displays. 2 as proposed. The Board agrees that reasonably current annual percentage Terms required to be disclosed with requiring disclosures of information rate that would have been in effect using

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the index and margin. See 12 CFR § 226.16(d)(3) with technical revisions. Board’s proposal applied the new 226.16(d)(2). The Board is adopting as The comment is revised and requirements to advertisements for proposed revisions to this section to renumbered as comment 16(d)–9. The home-equity plans where the advertised require that the triggered disclosures be required disclosures regarding balloon extension of credit may, by its terms, stated with equal prominence and in payments must be stated with equal exceed the fair market value of the close proximity to the statement of the prominence and in close proximity to dwelling. The Board sought comment initial APR. The Board believes that this the minimum periodic payment. The on whether the new requirements will enhance consumers’ understanding Board believes that this will enhance should instead apply to only of the cost of credit for the home-equity consumers’ ability to notice and advertisements that state or imply that plan being advertised. understand the potential financial the creditor provides extensions of As proposed, new comment 16(d)–6 impact of making only minimum credit greater than the fair market value provides safe harbors for what payments. of the dwelling. Of the few commenters constitutes a ‘‘reasonably current index who addressed this issue, the majority Section 226.16(d)(4)—Tax Implications and margin’’ as used in § 226.16(d)(2) as were in favor of the alternative approach well as § 226.16(d)(6). Under the Section 1302 of the Bankruptcy Act because many home-equity plans may, comment, the time period during which amends TILA Section 147(b) to require in some circumstances, allow for an index and margin are considered additional disclosures for extensions of credit greater than the fair reasonably current depends on the advertisements that are disseminated in market value of the dwelling and medium in which the advertisement paper form to the public or through the advertisers would likely include the was distributed. For direct mail Internet, relating to an extension of disclosure in nearly all advertisements. advertisements, a reasonably current credit secured by a consumer’s principal The final rule differs from the index and margin is one that was in dwelling that may exceed the fair proposed rule and requires that the effect within 60 days before mailing. For market value of the dwelling. Such additional tax implication disclosures printed advertisements made available advertisements must include a be given only when an advertisement to the general public and for statement that the interest on the states that extensions of credit greater advertisements in electronic form, a portion of the credit extension that is than the fair market value of the reasonably current index and margin is greater than the fair market value of the dwelling are available. The rule does one that was in effect within 30 days dwelling is not deductible for Federal not apply to advertisements that merely before printing, or before the income tax purposes. 15 U.S.C. imply that extensions of credit greater advertisement was sent to a consumer’s 1665b(b). The statute also requires a than the fair market value of the e-mail address, or for advertisements statement that the consumer should dwelling may occur. By limiting the made on an Internet Web site, when consult a tax adviser for further required disclosures to only those viewed by the public. information on the tax deductibility of advertisements that state that extensions the interest. of credit greater than the fair market Section 226.16(d)(3)–Balloon Payment The Bankruptcy Act also requires that value of the dwelling are available, the Existing § 226.16(d)(3) requires that if disclosures be provided at the time of Board believes the rule will provide the an advertisement for a home-equity plan application in cases where the extension required disclosures to consumers when contains a statement about any of credit may exceed the fair market they are most likely to be receptive to minimum periodic payment, the value of the dwelling. See 15 U.S.C. the information while avoiding advertisement must also state, if 1637a(a)(13). The Board intends to overloading consumers with applicable, that a balloon payment may implement the application disclosure information about the tax consequences result. As proposed, the Board is portion of the Bankruptcy Act during its of home-equity plans when it is less revising this section to clarify that only forthcoming review of closed-end and likely to be meaningful to them. statements of the amount of any HELOC disclosures under TILA. Comment 16(d)–3 is revised to minimum periodic payment trigger the However, the Board requested comment conform to the final rule and to clarify required disclosure, and to require that on the implementation of both the when an advertisement must give the the disclosure of a balloon payment be advertising and application disclosures disclosures required by § 226.16(d)–4 equally prominent and in close under this provision of the Bankruptcy for all home-equity plan advertisements proximity to the statement of a Act for open-end credit in its October that refer to tax deductibility and when minimum periodic payment. Consistent 17, 2005, ANPR. 70 FR 60235, 60244 an advertisement must give the new with comment 5b(d)(5)(ii)–3, the Board (Oct. 17, 2005). A majority of comments disclosures relating to extensions of is clarifying that the disclosure is on this issue addressed only the credit greater than the fair market value triggered when an advertisement application disclosure requirement, but of the consumer’s dwelling. contains a statement of any minimum some commenters specifically periodic payment amount and a balloon addressed the advertising disclosure Section 226.16(d)(6)—Promotional Rates payment may result if only minimum requirement. One industry commenter and Payments periodic payments are made, even if a suggested that the advertising disclosure The Board proposed to add balloon payment is uncertain or requirement apply only in cases where § 226.16(d)(6) to address the unlikely. Additionally, the Board is the advertised product allows for the advertisement of promotional (termed clarifying that a balloon payment results credit to exceed the fair market value of ‘‘introductory’’ in the proposal) rates if paying the minimum periodic the dwelling. Other industry and payments in advertisements for payments would not fully amortize the commenters suggested that the home-equity plans. The proposed rule outstanding balance by a specified date requirement apply only to provided that if an advertisement for a or time, and the consumer must repay advertisements for products that are home-equity plan stated a promotional the entire outstanding balance at such intended to exceed the fair market value rate or payment, the advertisement must time. of the dwelling. use the term ‘‘introductory’’ or ‘‘intro’’ The final rule, as proposed, The Board proposed to revise in immediate proximity to each mention incorporates the language from existing § 226.16(d)(4) and comment 16(d)–3 to of the promotional rate or payment. The comment 16(d)–7 into the text of implement TILA Section 147(b). The proposed rule also provided that such

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advertisements must disclose the ‘‘introductory’’ only for promotional under the plan, if that rate is less than following information in a clear and rates offered in connection with an a reasonably current annual percentage conspicuous manner with each listing of account opening. 73 FR 28866, 28892 rate that would be in effect based on the the promotional rate or payment: The (May 9, 2008). The Board is adopting index and margin that will be used to period of time during which the the term ‘‘promotional’’ rather than make rate adjustments under the plan. promotional rate or promotional ‘‘introductory’’ in the rule, but the The term ‘‘promotional payment’’ payment will apply; in the case of a Board is not requiring open-end home- means, in the case of a variable-rate promotional rate, any annual percentage equity plans to state the word plan, the amount of any minimum rate that will apply under the plan; and, ‘‘introductory’’ for promotional rates or payment applicable to a home-equity in the case of a promotional payment, payments offered in connection with the plan for a promotional period that is not the amount and time periods of any opening of an account. While the term derived from the index and margin that payments that will apply under the ‘‘introductory’’ is common in other will be used to determine the amount of plan. In variable-rate transactions, consumer credit contexts, such as credit any other minimum payments under the payments determined based on cards, it may not be as meaningful to plan and, given an assumed balance, is application of an index and margin to consumers in the context of less than any other minimum payment an assumed balance would be required advertisements for home-equity plans that will be in effect under the plan to be disclosed based on a reasonably and may be confusing to some based on a reasonably current current index and margin. consumers in that context. The Board application of the index and margin that The final rule excludes radio and believes that the information required to will be used to determine the amount of television advertisements for home- be disclosed under § 226.16(d)(6) is such payments. For a non-variable-rate equity plans from the requirements of sufficient to inform consumers that plan, the term ‘‘promotional payment’’ § 226.16(d)(6). This modification is advertised promotional terms will not means the amount of any minimum consistent with the approach the Board apply for the full term of the plan. payment applicable to a home-equity proposed, and is adopting, for Commenters also expressed confusion plan for a promotional period if that § 226.24(f) which contains similar about the distinction between payment is less than the amount of any requirements for advertisements for promotional rates under § 226.16(d)(6) other payments required under the plan closed-end credit that is home-secured. and discounted and premium rates given an assumed balance. The term See § 226.24(f)(1). As the Board noted in under § 226.16(d)(2). While some ‘‘promotional period’’ means a period of the supplementary information to the advertised rates may be covered under time, less than the full term of the loan, proposal for advertisements for home- both § 226.16(d)(2) and § 226.16(d)(6), that the promotional rate or payment secured closed-end loans, the Board each rule covers some rates that the may be applicable. does not believe it is feasible to apply other does not. The definition of a As proposed, comment 16(d)–5.i the requirements of this section, notably promotional rate under § 226.16(d)(6) is clarifies how the concepts of the close proximity and prominence not limited to initial rates; a rate that is promotional rates and promotional requirements, to oral advertisements. not based on the index and margin used payments apply in the context of The Board also sought comment in to make rate adjustments under the plan advertisements for variable-rate plans. connection with closed-end home- may be a promotional rate even if it is Specifically, the comment provides that secured loans on whether these or not the first rate that applies. At the if the advertised annual percentage rate different standards should be applied to same time, § 226.16(d)(6) applies to a or the advertised payment is based on oral advertisements for home-secured rate that is not based on the index and the index and margin that will be used loans but commenters did not address margin that will be used to make later to make rate or payment adjustments this issue. rate adjustments under the plan only if over the term of the loan, then there is The final rule also differs from the that rate is less than a reasonably no promotional rate or promotional proposed rule in using the term current annual percentage rate that payment. On the other hand, if the ‘‘promotional’’ rather than would be in effect under the index and advertised annual percentage rate, or the ‘‘introductory’’ to describe the rates and margin used to make rate adjustments. advertised payment, is not based on the payments covered by § 226.16(d)(6). The By contrast, § 226.16(d)(2) applies to an index and margin that will be used to final rule also does not adopt proposed initial annual percentage rate that is not make rate or payment adjustments, and § 226.16(d)(6)(ii) and proposed based on the index and margin used to a reasonably current application of the comment 16(d)–5.ii which required that make later rate adjustments regardless of index and margin would result in a advertisements with promotional rates whether the later rate would be greater higher annual percentage rate or, given or payments state the term or less than the initial rate. an assumed balance, a higher payment, ‘‘introductory’’ or ‘‘intro’’ in immediate Section 226.16(d)(6)(i)—Definitions. then there is a promotional rate or proximity to each listing of a The Board proposed to define the terms promotional payment. promotional rate or payment. Some ‘‘introductory rate,’’ ‘‘introductory The revisions generally assume that a industry commenters noted that payment,’’ and ‘‘introductory period’’ in single index and margin will be used to consumers might be confused by the use § 226.16(d)(6)(i). The final rule uses the make rate or payment adjustments of the term ‘‘introductory’’ in cases terms ‘‘promotional rate,’’ ‘‘promotional under the plan. The Board sought where it applied to a promotional rate payment,’’ and ‘‘promotional period’’ comment on whether and to what extent or payment that was not the initial rate instead and the definition of multiple indexes and margins are used or payment. ‘‘promotional payment’’ is clarified to in home-equity plans and whether The Board received similar comments refer to the minimum payments under a additional or different rules are needed in response to its earlier proposal for home-equity plan, but the final rule is for such products. Commenters stated open-end plans that are not home- otherwise as proposed. In a variable-rate that multiple indexes and margins secured, and the Board subsequently plan, the term ‘‘promotional rate’’ generally are not used within the same issued a new proposal for those plans means any annual percentage rate plan, but requested clarification on how that would use the term ‘‘promotional’’ applicable to a home-equity plan that is the requirements of § 226.16(d)(6) rather than ‘‘introductory’’ and require not based on the index and margin that would apply to advertisements that that advertisements state the word will be used to make rate adjustments contain information about rates or

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payments based on an index and margin Commenters also sought to exclude payment a promotional payment. For available under the plan to certain advertisements for plans that permit the example, if a minimum payment of $500 consumers, such as those with certain consumer to repay all or part of the results from an assumed $10,000 draw, credit scores, but where a different balance during the draw period at a and the minimum payment would margin may be offered to other fixed rate, rather than a variable rate, increase to $1,000 if the consumer made consumers. The definitions of from the promotional rate and payment an additional $10,000 draw, the promotional rate and promotional requirements. These commenters payment is not a promotional payment. payment refer to the rates or payments expressed concern that they did not Section 226.16(d)(6)(ii)—Stating the under the advertised plan. If rate know at the advertising stage whether promotional period and post- adjustments will be based on only one consumers would choose the fixed-rate promotional rate or payments. Section index and margin for each consumer, conversion option and that disclosing 226.16(d)(6)(ii), renumbered and the fact that the advertised rate or plans that offer the option as though a modified to exclude radio and television payment may not be available to all consumer had chosen it could lead to advertisements, but otherwise adopted borrowers does not make the advertised confusion. Regulation Z already requires as proposed, provides that if an rate or payment a promotional one. fixed-rate conversion options to be advertisement states a promotional rate However, an advertisement for open- disclosed in applications for variable- or promotional payment, it must also end credit may state only those terms rate home-equity plans. See comment clearly and conspicuously disclose, that actually are or will be arranged or 5b(d)(5)(ii)–2. The Board believes that with equal prominence and in close offered by the creditor. See 12 CFR requiring information about fixed-rate proximity to the promotional rate or 226.16(a). conversion options to be disclosed in payment, the following, as applicable: One banking industry trade group advertisements could confuse The period of time during which the commenter sought an exception from consumers about a feature that is promotional rate or promotional the definition of promotional rate and optional. New comment 16(d)–5.v states payment will apply; in the case of a promotional payment for initial rates that the presence of a fixed-rate promotional rate, any annual percentage that are derived by applying the index conversion option does not, by itself, rate that will apply under the plan; and, and margin used to make rate make a rate (or payment) a promotional in the case of a promotional payment, adjustments under the loan, but one. the amount and time periods of any calculated in a slightly different manner Similarly, some industry commenters payments that will apply under the than will be used to make later rate also sought an exception from the plan. In variable-rate transactions, adjustments. For example, an initial rate definition of promotional rate and payments that will be determined based may be calculated based on the index in payment for plans with preferred-rate on application of an index and margin effect as of the closing or lock-in date, provisions, where the rate will increase to an assumed balance must be rather than another date which will be upon the occurrence of some event. For disclosed based on a reasonably current used to make other rate adjustments example, the consumer may be given a index and margin. under the plan such as the 15th day of preferred rate for electing to make Proposed comment 16(d)–5.iii the month preceding the anniversary of automated payments but that preferred- provided safe harbors for satisfying the the closing date. The Board is not rate would end if the consumer later closely proximate or equally prominent adopting an exception from the ceases that election. Regulation Z requirements of proposed definition of promotional rate and already requires preferred-rate § 226.16(d)(6)(iii). Specifically, the promotional payment. However, the provisions to be disclosed in required disclosures would be deemed Board believes that an initial rate in the applications for variable-rate home- to be closely proximate to the example described above would still be equity plans. See comment promotional rate or payment if they ‘‘based on’’ the index and margin used 5b(d)(12)(viii)–1. The Board believes were in the same paragraph as the to make other rate adjustments under that requiring information about promotional rate or payment. the plan and therefore would not be a preferred-rate provisions to be disclosed Information disclosed in a footnote promotional rate. at the advertising stage is less likely to would not be deemed to be closely Some industry commenters sought an be meaningful to consumers who are proximate to the promotional rate or exclusion from the definition of usually gathering general rate and payment. Some commenters noted that promotional rate and promotional payment information about multiple the safe harbor definition of ‘‘closely payment for plans that apply different plans and are less likely to focus on proximate’’ in this comment (that the rates or payments to a draw period and disclosures about preferred-rate terms required disclosures be in the same to a repayment period. For example, and conditions. New comment 16(d)– paragraph as the promotional rate or some plans may provide for interest- 5.vi states that the presence of a payment) differed from the definition of only payments during a draw period preferred-rate provision does not, by ‘‘closely proximate’’ in comment 16–2 and fully-amortizing payments during a itself, make a rate (or payment) a (that the required disclosures be repayment period. Consistent with the promotional one. immediately next to or directly above or requirements for application disclosures Comment 16(d)–5.iv, renumbered but below the promotional rate or payment). under § 226.5b, the Board is not otherwise adopted as proposed, clarifies The Board is modifying final comment adopting exceptions for plans with draw how the concept of promotional 16(d)–5.ii, as renumbered, to match the periods and repayment periods. If an payments applies in the context of definition of ‘‘closely proximate’’ in advertisement states a promotional rate advertisements for non-variable-rate comment 16–2. However, the Board is or payment offered during a draw plans. Specifically, the comment retaining the part of the safe harbor that period it must provide the required provides that if the advertised payment disallows the use of footnotes. disclosures about the rates or payments is calculated in the same way as other Consumer testing of account-opening that apply for the term of the plan. The payments under the plan based on an and other disclosures undertaken in Board believes that such information assumed balance, the fact that the conjunction with the Board’s open-end will help consumers understand the full minimum payment could increase Regulation Z proposal suggests that cost of the credit over the term of the solely if the consumer made an placing information in a footnote makes plan. additional draw does not make the it much less likely that the consumer

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will notice it. As proposed, the required proposal for open-end plans that are not or practices in advertisements as disclosures will be deemed equally home-secured, if adopted, would provided under TILA Section 129(l)(2), prominent with the promotional rate or expand the rule to allow for alternative 15 U.S.C. 1639(l)(2). payment if they are in the same type disclosures for all advertisements for The final rule is substantially similar size as the promotional rate or payment. open-end credit. In addition, § 226.16(e) to the proposed rule and adopts, with Comment 16(d)–5.iii clarifies that the permits an advertisement to provide some modifications, each of the requirement to disclose the amount and either a toll-free telephone number or a proposed changes discussed above. time periods of any payments that will telephone number that allows a First, the Board is adding a provision apply under the plan may require the consumer to reverse the telephone setting forth the clear and conspicuous disclosure of several payment amounts, charges when calling for information. standard for all closed-end including any balloon payments. The The final rule also adds new advertisements and a number of new comment provides an example of a commentary clarifying the alternative commentary provisions applicable to home-equity plan with several payment disclosure option. This commentary was advertisements for home-secured loans. amounts over the repayment period to included in the Board’s earlier proposal The regulation is being revised to illustrate the disclosure requirements. for credit cards and other open-end include a clear and conspicuous The comment has been modified from plans, and is substantively the same as standard for advertising disclosures, the proposal, in response to public the commentary for alternative consistent with the approach taken in comment, to add a clarification that the disclosures for advertisements for the advertising rules for Regulation M. final payment need not be disclosed if closed-end credit under § 226.24(g). See See 12 CFR 213.7(b). New staff it is not greater than two times the 72 FR 32948, 33144 (June 14, 2007), and commentary provisions are added to amount of any other minimum comments 24(g)–1 and 24(g)–2. clarify how the clear and conspicuous payments under the plan. Comment The Board’s revision follows the standard applies to rates or payments in 16(d)–6, which is discussed above, general format of the Board’s earlier advertisements for home-secured loans, provides safe harbor definitions for the proposal for alternative disclosures for and to Internet, television, and oral phrase ‘‘reasonably current index and television and radio advertisements. If a advertisements of home-secured loans. margin.’’ triggering term is stated in the The final rule also adds a provision to Section 226.16(d)(6)(iii)—Envelope advertisement, one option is to state allow alternative disclosures for excluded. Section 226.16(d)(6)(iii), clearly and conspicuously each of the television and radio advertisements that renumbered but otherwise adopted as disclosures required by §§ 226.16(b)(1) is modeled after a proposed revision to proposed, provides that the and (d)(1). Another option is for the the advertising rules for open-end (not requirements of § 226.16(d)(6)(ii) do not advertisement to state clearly and home-secured) plans. See 72 FR 32948, apply to envelopes, or to banner conspicuously the APR applicable to the 33064 (June 14, 2007). advertisements and pop-up home-equity plan, and the fact that the Second, the Board is amending the advertisements that are linked to an rate may be increased after regulation and commentary to address electronic application or solicitation consummation, and provide a telephone the advertisement of rates and payments provided electronically. In the Board’s number that the consumer may call to for home-secured loans. The revisions view, because banner advertisements receive more information. Given the are designed to ensure that and pop-up advertisements are used to space and time constraints on television advertisements adequately disclose all rates or payments that will apply over direct consumers to more detailed and radio advertisements, the required advertisements, they are similar to the term of the loan and the time disclosures may go unnoticed by envelopes in the direct mail context. periods for which those rates or consumers or be difficult for them to payments will apply. Many Section 226.16(e)—Alternative retain. Thus, providing an alternative advertisements for home-secured loans Disclosures—Television or Radio means of disclosure may be more emphasize low, promotional ‘‘teaser’’ Advertisements effective in many cases given the nature rates or payments that will apply for a of the media. The Board is adopting § 226.16(e), as limited period of time. Such This approach is also similar to the renumbered, to allow for alternative advertisements often do not give approach taken in the advertising rules disclosures of the information required consumers accurate or balanced for consumer leases under Regulation for home-equity plans under information about the costs or terms of M, which also allows the use of toll-free § 226.16(d)(1), where applicable. The the products offered. supplementary information to the numbers in television and radio The revisions also prohibit proposal referred to these as alternative advertisements. See 12 CFR advertisements from disclosing an disclosures for oral advertisements, but 213.7(f)(1)(ii). interest rate lower than the rate at which the proposed regulation text did not B. Advertising Rules for Closed-End interest is accruing. Instead, the only limit the alternative disclosures to oral Credit—§ 226.24 rates that may be included in advertisements. The proposed advertisements for home-secured loans regulation text was consistent with the Overview are the APR and one or more simple Board’s proposal for credit cards and The Board proposed to amend the annual rates of interest. Many other open-end plans. See proposed closed-end credit advertising rules in advertisements for home-secured loans § 226.16(f) and 72 FR 32948, 33064 § 226.24 to address advertisements for promote very low rates that do not (June 14, 2007). The final rule does not home-secured loans. The three most appear to be the rates at which interest limit the alternative disclosures to oral significant aspects of the proposal is accruing. The advertisement of advertisements. The final rule does, related to strengthening the clear and interest rates lower than the rate at however, limit § 226.16(e)’s application conspicuous standard for advertising which interest is accruing is likely to advertisements for home-equity plans disclosures, regulating the disclosure of confusing for consumers. Taken and redesignates it from § 226.16(f) to rates and payments in advertisements to together, the Board believes that the § 226.16(e). These changes are meant to ensure that low promotional or ‘‘teaser’’ changes regarding the disclosure of rates conform the rule to the existing rates or payments are not given undue and payments in advertisements for regulation, but the Board notes that its emphasis, and prohibiting certain acts home-secured loans will enhance the

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accuracy of advertising disclosures and states a triggering term, then the on the requirement that certain benefit consumers. advertisement must also state any disclosures about rates or payments in Third, pursuant to TILA Section downpayment, the terms of repayment, advertisements for home-secured loans 129(l)(2), 15 U.S.C. 1639(l)(2), the Board and the rate of the finance charge be prominent and in close proximity to is prohibiting seven specific acts or expressed as an APR. See 12 CFR other information about rates or practices in connection with 226.24(c)–(d) (as redesignated from payments in the advertisement in order advertisements for home-secured loans §§ 226.24(b)–(c)) and the staff to satisfy the clear and conspicuous that the Board finds to be unfair, commentary thereunder. standard and the disclosure deceptive, associated with abusive requirements of § 226.24(f). Terms Authority lending practices, or otherwise not in required to be disclosed in close the interest of the borrower. The Board is exercising the following proximity to other rate or payment Bankruptcy Act changes. The Board is authorities in promulgating final rules. information are deemed to meet this also making several changes to clarify TILA Section 105(a) authorizes the requirement if they appear immediately certain provisions of the closed-end Board to adopt regulations to ensure next to or directly above or below the advertising rules, including the scope of meaningful disclosure of credit terms so trigger terms, without any intervening certain triggering terms, and to that consumers will be able to compare text or graphical displays. Terms implement provisions of the Bankruptcy available credit terms and avoid the required to be disclosed with equal Abuse Prevention and Consumer uninformed use of credit. 15 U.S.C. prominence to other rate or payment Protection Act of 2005 requiring 1604(a). TILA Section 122 authorizes information are deemed to meet this disclosure of the tax implications of the Board to require that information, requirement if they appear in the same home-secured loans. See Public Law including the information required type size as other rates or payments. The 109–8, 119 Stat. 23. Technical and under Section 144, be disclosed in a requirements for disclosing rates or conforming changes to the closed-end clear and conspicuous manner. 15 payments are discussed in more detail advertising rules are also made. U.S.C. 1632. TILA Section 129(l)(2) below. authorizes the Board to prohibit acts or Public Comment The equal prominence and close practices in connection with mortgage proximity requirements of § 226.24(f) As discussed above, the Board loans that the Board finds to be unfair apply to all visual text advertisements received numerous, mostly positive, or deceptive. TILA Section 129(l)(2) also except for television advertisements. comments on the proposed revisions. authorizes the Board to prohibit acts or However, comment 24(b)–2 states that Specific comments requesting practices in connection with the electronic advertisements that disclose modifications or clarifications to the refinancing of mortgage loans that the rates or payments in a manner that proposed requirements for Board finds to be associated with complies with the Board’s recently advertisements for closed-end home- abusive lending practices, or that are amended rule for electronic secured credit are discussed below as otherwise not in the interest of the advertisements under § 226.24(e) are applicable. borrower. 15 U.S.C. 1639(l)(2). deemed to satisfy the clear and Current Statute and Regulation Section 226.24(b)—Clear and conspicuous standard. See 72 FR 63462 Conspicuous Standard (Nov. 9, 2007). Under the existing rule TILA Section 144, implemented by for electronic advertisements, if an the Board in § 226.24, governs As proposed, the Board is adding a electronic advertisement provides the advertisements of credit other than clear and conspicuous standard in required disclosures in a table or open-end plans. 15 U.S.C. 1664. TILA § 226.24(b) that applies to all closed-end schedule, any statement of triggering Section 144 thus applies to advertising. This provision terms elsewhere in the advertisement advertisements of closed-end credit, supplements, rather than replaces, the must clearly direct the consumer to the including advertisements for closed-end clear and conspicuous standard that location of the table or schedule. For credit secured by a dwelling (also applies to all closed-end credit example, a triggering term in an referred to as ‘‘home-secured loans’’). disclosures under Subpart C of advertisement on an Internet Web site The statute applies to the advertisement Regulation Z and that requires all may be accompanied by a link that takes itself, and therefore, the statutory and disclosures to be in a reasonably the consumer directly to the additional regulatory requirements apply to any understandable form. See 12 CFR information. See comment 24(e)–4. person advertising closed-end credit, 226.17(a)(1); comment 17(a)(1)–1. The The Board sought comment on whether or not such person meets the new provision provides a framework for whether it should amend the rules for definition of creditor. See comment clarifying how the clear and electronic advertisements for home- 2(a)(2)–2. Under the statute, if an conspicuous standard applies to secured loans to require that advertisement states the rate of a finance advertisements that are not in writing or information about rates or payments charge, the advertisement must state the in a form that the consumer may keep, that apply for the term of the loan be rate of that charge as an APR. In or that emphasize promotional rates or stated in close proximity to other rates addition, closed-end credit payments. or payments in a manner that does not advertisements that contain certain Existing comment 24–1 explains that require the consumer to click on a link terms must also include additional advertisements for closed-end credit are to access the information. The Board disclosures. The specific terms of subject to a clear and conspicuous also solicited comment on the costs and closed-end credit that ‘‘trigger’’ standard based on § 226.17(a)(1). The practical limitations, if any, of imposing additional disclosures, which are comment is renumbered as comment this close proximity requirement on commonly known as ‘‘triggering terms,’’ 24(b)–1 and revised to reference the electronic advertisements. The majority are (1) the amount of the downpayment, format requirements for advertisements of commenters who addressed this issue if any, (2) the amount of any installment of rates or payments for home-secured urged the Board to adopt comment payment, (3) the dollar amount of any loans. The Board is not prescribing 24(b)–2 as proposed. They noted that finance charge, and (4) the number of specific rules regarding the format of many electronic advertisements on the installments or the period of repayment. advertising disclosures generally. Internet are displayed in small areas, If an advertisement for closed-end credit However, comment 24(b)–2 elaborates such as in banner advertisements or

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next to search engine results, and word ‘‘comprehend’’ means that the additional disclosures are required requiring information about the rates or disclosures must be intelligible to when an advertisement includes payments that apply for the term of the consumers, not that advertisers must information showing the effect of the loan in close proximity to all other ensure that consumers understand the buydown agreement on the payment applicable rates or payments would not meaning of the disclosures. Section schedule. Such advertisements must be practical. These commenters also 226.24(g) provides an alternative provide the disclosures required by suggested that Internet users are method of disclosure for television or § 226.24(d)(2) because showing the accustomed to clicking on links in order radio advertisements when triggering effect of the buydown agreement on the to find further information. Commenters terms are stated and is discussed more payment schedule is a statement about also expressed concern about the fully below. the amount of any payment, and thus is practicality of requiring closely a triggering term. See 12 CFR Section 226.24(c)—Advertisement of proximate disclosures in electronic 226.24(d)(1)(iii). In these circumstances, Rate of Finance Charge advertisements that may be displayed the additional disclosures are necessary on devices with small screens, such as Disclosure of simple annual rate or for consumers to understand the costs of on Internet-enabled cellular telephones periodic rate. If an advertisement states the loan and the terms of repayment. or personal digital assistants, that might a rate of finance charge, it must state the Consistent with these changes, and as necessitate scrolling or clicking on links rate as an APR. See 12 CFR 226.24(c) (as proposed, the examples of statements in order to view additional information. redesignated from § 226.24(b)). An about buydowns that an advertisement The Board is adopting comment advertisement may also state, in may make without triggering additional 24(b)–2 as proposed. The Board agrees conjunction with and not more disclosures are being removed. that requiring disclosures of information conspicuously than the APR, a simple Effective rates. As proposed, the about rates or payments that apply for annual rate or periodic rate that is Board is deleting what was previously the term of the loan to be in close applied to an unpaid balance. comment 24(b)–4. The comment had proximity to information about all other As proposed, the Board is allowed the advertisement of three rates: rates or payments would not be renumbering § 226.24(b) as § 226.24(c), the APR; the rate at which interest is practical for many electronic and revising it. The revised rule accruing; and an interest rate lower than advertisements, and that the provides that advertisements for home- the rate at which interest is accruing, requirements of § 226.24(e) adequately secured loans shall not state any rate which may be referred to as an effective ensure that consumers viewing other than an APR, except that a simple rate, payment rate, or qualifying rate. electronic advertisements have access to annual rate that is applied to an unpaid The staff commentary also contained an important additional information about balance may be stated in conjunction example of how to disclose the three the terms of the advertised product. with, but not more conspicuously than, rates. The Board is also adopting as the APR. Advertisement of a periodic The Board proposed to delete this proposed new comments to interpret the rate, other than the simple annual rate staff commentary for the reasons stated clear and conspicuous standards for of interest, or any other rates, is no below. First, the disclosure of three rates Internet, television, and oral longer permitted in connection with is unnecessarily confusing for advertisements of home-secured loans. home-secured loans. consumers and the disclosure of an Comment 24(b)–3 explains that Also as proposed, comment 24(b)–2 is interest rate lower than the rate at which disclosures in the context of visual text renumbered as comment 24(c)–2 and interest is accruing does not provide advertisements on the Internet must not revised to clarify that a simple annual meaningful information to consumers be obscured by techniques such as rate or periodic rate is the rate at which about the cost of credit. Second, when graphical displays, shading, coloration, interest is accruing. A rate lower than the effective rates commentary was or other devices, and must comply with the rate at which interest is accruing, adopted in 1982, the Board noted that all other requirements for clear and such as an effective rate, payment rate, the commentary was designed ‘‘to conspicuous disclosures under § 226.24. or qualifying rate, is not a simple annual address the advertisement of special Comment 24(b)–4 likewise explains that rate or periodic rate. The example in financing involving ‘effective rates,’ visual text advertisements on television renumbered comment 24(c)–2 also is ‘payment rates,’ or ‘qualifying rates.’’’ must not be obscured by techniques revised to reference § 226.24(f), which See 47 FR 41338, 41342 (Sept. 20, 1982). such as graphical displays, shading, contains requirements regarding the At that time, when interest rates were coloration, or other devices, must be disclosure of rates and payments in quite high, these terms were used in displayed in a manner that allows a advertisements for home-secured loans. connection with graduated-payment consumer to read the information Buydowns. As proposed, comment mortgages. Today, however, some required to be disclosed, and must 24(b)–3, which addresses ‘‘buydowns,’’ advertisers appear to rely on this comply with all other requirements for is renumbered as comment 24(c)–3 and comment when advertising rates for a clear and conspicuous disclosures revised. A buydown is where a seller or variety of home-secured loans, such as under § 226.24. The Board believes, creditor offers a reduced interest rate negative amortization loans and option however, that this rule can be applied and reduced payments to a consumer ARMs. In these circumstances, the with some flexibility to account for for a limited period of time. Previously, advertisement of rates lower than the variations in the size of television this comment provided that the seller or rate at which interest is accruing for screens. For example, a lender would creditor, in the case of a buydown, these products is not helpful to not violate the clear and conspicuous could advertise the reduced simple consumers, particularly consumers who standard if the print size used was not interest rate, the limited term to which may not fully understand how these legible on a handheld or portable the reduced rate applies, and the simple non-traditional home-secured loans television. Comment 24(b)–5 explains interest rate applicable to the balance of work. that oral advertisements, such as by the term. The advertisement also could Some industry commenters suggested radio or television, must provide the show the effect of the buydown that the advertisement of rates lower disclosures at a speed and volume agreement on the payment schedule for than the rate at which interest is sufficient for a consumer to hear and the buydown period. The Board is accruing might provide meaningful comprehend them. In this context, the revising the comment to explain that information to some consumers.

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Specifically, some advertisements for consistent with other changes and is the consumer makes the interest-only negative amortization loans and option designed to ensure that advertisements payments for the full two years. The ARMs quote a payment amount that is for closed-end credit, especially home- Board believes that without these based on an effective rate. Commenters secured loans, adequately disclose the disclosures consumers may not fully suggested that if the corresponding terms that will apply over the full term understand the cost of the loan or the effective rate itself was not advertised, of the loan, not just for a limited period payment terms that may result once the consumers might be confused about the of time. higher payments take effect. rate on which the payment was based. Consistent with these changes, and as As proposed, the revisions to For the reasons stated above, the Board proposed, comment 24(c)(2)–2 is renumbered comment 24(d)(2)–2 apply believes that consumers are likely to be renumbered as comment 24(d)(2)–2 and to all closed-end advertisements. The confused by advertisements that state a revised. As proposed, commentary Board believes that the terms of rate lower than the rate at which interest regarding advertisement of loans that repayment for any closed-end credit is accruing. The Board is addressing the have a graduated-payment feature is product should be disclosed for the full advertisement of payments for home- being removed from comment 24(d)(2)– term of the loan, not just for a limited secured loans in new § 226.24(f), 2. period of time. The Board also does not discussed below, to require that The Board did not propose to make believe that this change will advertisements contain information substantive changes to commentary significantly impact advertising about the payments that apply for the regarding advertisements for home- practices for closed-end credit products term of the loan. secured loans where payments may vary such as auto loans and installment loans Discounted variable-rate transactions. because of the inclusion of mortgage that ordinarily have shorter terms than As proposed, comment 24(b)–5 is being insurance premiums. Under the existing home-secured loans. commentary, the advertisement could renumbered as comment 24(c)–4 and As proposed, new comment 24(d)(2)– state the number and timing of revised to explain that an advertisement 3 is added to address the disclosure of for a discounted variable-rate payments, the amounts of the largest balloon payments as part of the transaction which advertises a reduced and smallest of those payments, and the repayment terms. The commentary or discounted simple annual rate must fact that other payments will vary notes that in some transactions, a show with equal prominence and in between those amounts. Some industry balloon payment will occur when the close proximity to that rate, the limited commenters noted, however, that consumer only makes the minimum term to which the simple annual rate advertisers can only estimate the payments specified in an advertisement. applies and the annual percentage rate amounts of mortgage insurance A balloon payment results if paying the that will apply after the term of the premiums at the advertising stage, and minimum payments does not fully initial rate expires. that the requirement to show the largest The comment is also being revised to and smallest of the payments that amortize the outstanding balance by a explain that additional disclosures are include mortgage insurance premiums specified date or time, usually the end required when an advertisement may not be meaningful to consumers of the term of the loan, and the includes information showing the effect because consumers’ actual payment consumer must repay the entire of the discount on the payment amounts may vary from the advertised outstanding balance at such time. The schedule. Such advertisements must payment amounts. For this reason, the commentary explains that if a balloon provide the disclosures required by commentary is being revised to no payment will occur if the consumer § 226.24(d)(2). Showing the effect of the longer require the advertisement to only makes the minimum payments discount on the payment schedule is a show the amount of the largest and specified in an advertisement, the statement about the number of smallest payments reflecting mortgage advertisement must state with equal payments or the period of repayment, insurance premiums. Rather, the prominence and in close proximity to and thus is a triggering term. See 12 CFR advertisement may state the number and the minimum payment statement the 226.24(d)(1)(ii). In these circumstances, timing of payments, the fact that the amount and timing of the balloon the additional disclosures are necessary payments do not include amounts for payment that will result if the consumer for consumers to understand the costs of mortgage insurance premiums, and that makes only the minimum payments for the loan and the terms of repayment. the actual payment obligation will be the maximum period of time that the Consistent with these changes, the higher. consumer is permitted to make such examples of statements about In advertisements for home-secured minimum payments. The Board believes discounted variable-rate transactions loans with one series of low monthly that disclosure of the balloon payment that an advertisement may make payments followed by another series of in advertisements that promote such without triggering additional higher monthly payments, comment minimum payments is necessary to disclosures are being removed. 24(d)(2)–2.iii explains that the inform consumers about the repayment advertisement may state the number and terms that will apply over the full term Section 226.24(d)—Advertisement of time period of each series of payments of the loan. Terms That Require Additional and the amounts of each of those As proposed, comments 24(c)(2)–3 Disclosures payments. However, the amount of the and –4 are renumbered as comments Required disclosures. As proposed, series of higher payments must be based 24(d)(2)–4 and –5 without substantive the Board is renumbering § 226.24(c) as on the assumption that the consumer change. § 226.24(d) and revising it. The rule makes the series of lower payments for Section 226.24(e)—Catalogs or Other clarifies the meaning of the ‘‘terms of the maximum allowable period of time. Multiple-Page Advertisements; repayment’’ required to be disclosed. For example, if a consumer has the Electronic Advertisements Specifically, the terms of repayment option of making interest-only payments must reflect ‘‘the repayment obligations for two years and an advertisement The Board is renumbering § 226.24(d) over the full term of the loan, including states the amount of the interest-only as § 226.24(e) and making technical any balloon payment,’’ not just the payment, the advertisement must state changes to reflect the renumbering of repayment terms that will apply for a the amount of the series of higher certain sections of the regulation and limited period of time. This revision is payments based on the assumption that commentary, as proposed.

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Section 226.24(f)—Disclosure of Rates that the creditor need not assume that to apply the requirements of this and Payments in Advertisements for a fixed-rate conversion option, by itself, section, notably the close proximity and Credit Secured by a Dwelling means that more than one simple prominence requirements, to oral The Board proposed to add a new annual rate of interest will apply under advertisements. The Board sought subsection (f) to § 226.24 to address the § 226.24(f)(2) and the payments that comment on whether these or different disclosure of rates and payments in would apply if a consumer opted to standards should be applied to oral advertisements for home-secured loans. convert the loan to a fixed rate need not advertisements for home-secured loans The primary purpose of these provisions be disclosed as separate payments under but commenters did not address this is to ensure that advertisements do not § 226.24(f)(3)(i)(A). issue. Similarly, some industry commenters Section 226.24(f)(2)—Disclosure of place undue emphasis on low also sought an exception for loans with rates. As proposed, § 226.24(f)(2) promotional ‘‘teaser’’ rates or payments, preferred-rate provisions, where the rate addresses the disclosure of rates. Under but adequately disclose the rates and will increase upon the occurrence of the rule, if an advertisement for credit payments that the will apply over the some event. For example, the consumer secured by a dwelling states a simple term of the loan. The final rule is may be given a preferred rate for annual rate of interest and more than adopted as proposed, but adds a number electing to make automated payments one simple annual rate of interest will of new commentary provisions to clarify but that preferred-rate would end if the apply over the term of the advertised the rule in response to public comment. consumer later ceases that election. loan, the advertisement must disclose One banking industry trade group Regulation Z already requires preferred- the following information in a clear and commenter sought an exception from rate provisions be disclosed before conspicuous manner: (a) Each simple §§ 226.24(f)(2) and (f)(3)(i)(A) for consummation. See comment annual rate of interest that will apply. variable-rate loans with initial rates that 19(b)(2)(vii)–4. The Board believes that In variable-rate transactions, a rate are derived by applying the index and requiring information about preferred- determined by an index and margin margin used to make rate adjustments rate provisions to be disclosed at the must be disclosed based on a reasonably under the loan, but calculated in a advertising stage is less likely to be current index and margin; (b) the period slightly different manner than will be meaningful to consumers who are of time during which each simple used to make later rate adjustments. For usually gathering general rate and annual rate of interest will apply; and example, an initial rate may be payment information about multiple (c) the annual percentage rate for the calculated based on the index in effect loans and are less likely to focus on loan. If the rate is variable, the annual as of the closing or lock-in date, rather disclosures about preferred-rate terms percentage rate must comply with the than another date which will be used to and conditions. New comment 24(f)–1.ii accuracy standards in §§ 226.17(c) and make other rate adjustments under the states that the creditor need not assume 226.22. plan such as the 15th day of the month a preferred-rate provision, by itself, Comment 24(f)–5, renumbered but preceding the anniversary of the closing means that more than one simple otherwise as proposed, specifically date. The Board is not adopting an annual rate of interest will apply under addresses how this requirement applies exception from §§ 226.24(f)(2) and § 226.24(f)(2) and need not disclose as in the context of advertisements for (f)(3)(i)(A). However, the Board believes separate payments under variable-rate transactions. For such that an initial rate in the example § 226.24(f)(3)(i)(A) the payments that transactions, if the simple annual rate described above would still be ‘‘based would result upon the occurrence of the that applies at consummation is based on’’ the index and margin used to make event that causes a rate increase under on the index and margin that will be other rate adjustments under the plan the preferred-rate provision. used to make subsequent rate and therefore it would not, by itself, Also, comment 24(f)–1.iii excludes adjustments over the term of the loan, trigger the required disclosures in loan programs that offer a rate reduction then there is only one simple annual § 226.24(f)(2). Likewise, an to consumers after the occurrence of a rate and the requirements of advertisement need not disclose a specified event, such as the consumer § 226.24(f)(2) do not apply. If, however, separate payment amount under making a series of on-time payments. the simple annual rate that applies at § 226.24(f)(3)(i)(A) for payments that are Some industry commenters suggested, consummation is not based on the index based on the same index and margin, if and the Board agrees, that information and margin that will be used to make even calculated differently. about decreases in rates or payments subsequent rate adjustments over the Commenters also sought to exclude upon the occurrence of a specified event term of the loan, then there is more than advertisements for variable-rate loans need not be disclosed with equal one simple annual rate and the that permit the consumer to convert the prominence and in close proximity to requirements of § 226.24(f)(2) apply. loan into a fixed rate loan. These information about other rates and The revisions generally assume that a commenters expressed concern that payments. The advertisement may single index and margin will be used to creditors do not know at the advertising disclose only the initial rate or payment make rate or payment adjustments stage whether consumers would choose and it need not disclose the effect of the under the loan. The Board solicited the fixed-rate conversion option and rate reduction feature. Alternatively, the comment on whether and to what extent that disclosing loans that offer the advertisement may also disclose the multiple indexes and margins are used option as though a consumer had effect of the rate reduction feature, but in home-secured loans and whether chosen it could lead to confusion. it would then have to comply with the additional or different rules are needed Regulation Z already requires fixed-rate requirements of § 226.24(f). for such products. Commenters stated conversion options be disclosed before Section 226.24(f)(1)—Scope. Section that multiple indexes and margins are consummation. See comment 226.24(f)(1), as proposed, provides that not used within the same loan, but 19(b)(2)(vii)–3. The Board believes that the new section applies to any requested clarification on how the requiring information about fixed-rate advertisement for credit secured by a requirements of § 226.24(f) apply to conversion options be disclosed in dwelling, other than television or radio advertisements that contain information advertisements could confuse advertisements, including promotional about rates or payments based on the consumers about a feature that is materials accompanying applications. index and margin available under the optional. New comment 24(f)–1.i states The Board does not believe it is feasible loan to certain consumers, such as those

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with certain credit scores, but where a be deemed equally prominent with the The rule adopts the clear and different margin may be offered to other advertised rate or payment if they are in conspicuous standard for the disclosure consumers. Section 226.24(f) applies to the same type size as the advertised rate of payments in advertisements for advertisements for variable-rate loans if or payment. home-secured loans as proposed. Under the simple annual rate of interest (or the Comment 24(f)–3, renumbered but this standard, the information required payment) that applies at consummation otherwise as proposed, provides a cross- to be disclosed under § 226.24(f)(3) is not based on the index and margin reference to comment 24(b)–2, which regarding the amounts and time periods used to make subsequent rate (or provides further guidance on the clear of payments must be disclosed with payment) adjustments over the term of and conspicuous standard in this equal prominence and in close the loan. See comment §§ 226.24(f)–5 context. proximity to any advertised payment and 24(f)(3)–2. If a loan’s rate or Section 226.24(f)(3)—Disclosure of that triggered the required disclosures. payment adjustments will be based on payments. New § 226.24(f)(3) addresses The information required to be only one index and margin for each the disclosure of payments. As under disclosed under § 226.24(f)(3) regarding consumer, the fact that the advertised the proposed rule, if an advertisement the fact that taxes and insurance rate or payment may not be available to for credit secured by a dwelling states premiums are not included in the all consumers does trigger the the amount of any payment, the payment must be prominently disclosed requirements of § 226.24(f). However, an advertisement must disclose the and in close proximity to the advertised advertisement for open-end credit may following information in a clear and payments. The Board believes that state only those terms that actually are conspicuous manner: (a) The amount of requiring the disclosure about taxes and or will be arranged or offered by the each payment that will apply over the insurance premiums to be equally creditor. See 12 CFR 226.24(a). term of the loan, including any balloon prominent could distract consumers Finally, as proposed, the rule payment. In variable-rate transactions, from the key payment and time period establishes a clear and conspicuous payments that will be determined based information. As noted above, comment standard for the disclosure of rates in on application of an index and margin 24(f)–2 provides safe harbors for advertisements for home-secured loans. must be disclosed based on a reasonably compliance with the equal prominence Under this standard, the information current index and margin; (b) the period and close proximity standards. required to be disclosed by § 226.24(f)(2) of time during which each payment will Comment 24(f)–3 provides a cross- must be disclosed with equal apply; and (c) in an advertisement for reference to the comment 24(b)–2, prominence and in close proximity to credit secured by a first lien on a which provides further guidance any advertised rate that triggered the dwelling, the fact that the payments do regarding the application of the clear required disclosures, except that the not include amounts for taxes and and conspicuous standard in this annual percentage rate may be disclosed insurance premiums, if applicable, and context. with greater prominence than the other Comment 24(f)–4, renumbered but that the actual payment obligation will information. otherwise as proposed, clarifies how the be greater. These requirements are in Proposed comment 24(f)–1 provided rules on disclosures of rates and addition to the disclosure requirements safe harbors for compliance with the payments in advertisements apply to the of § 226.24(d). equal prominence and close proximity use of comparisons in advertisements. standards. Specifically, the required As proposed, comment 24(f)(3)–2 This commentary covers both rate and disclosures would be deemed to be specifically addresses how this payment comparisons, but in practice, closely proximate to the advertised rate requirement applies in the context of comparisons in advertisements usually or payment if they were in the same advertisements for variable-rate focus on payments. paragraph as the advertised rate or transactions. For such transactions, if Comment 24(f)(3)–1, clarifies that the payment. Information disclosed in a the payment that applies at requirement to disclose the amounts footnote would not be deemed to be consummation is based on the index and time periods of all payments that closely proximate to the advertised rate and margin that will be used to make will apply over the term of the loan may or payment. Some commenters noted subsequent payment adjustments over require the disclosure of several that the safe harbor definition of the term of the loan, then there is only payment amounts, including any ‘‘closely proximate’’ in this comment one payment that must be disclosed and balloon payment. The comment (that the required disclosures be in the the requirements of § 226.24(f)(3) do not provides an illustrative example. The same paragraph as the advertised rate or apply. If, however, the payment that commentary has been modified from the payment) differed from the definition of applies at consummation is not based proposal, in response to comment, to ‘‘closely proximate’’ in comment 24–2 on the index and margin that will be add a clarification that the final (that the required disclosures be used to make subsequent payment scheduled payment in a fully amortizing immediately next to or directly above or adjustments over the term of the loan, loan need not be disclosed if the final below the advertised rate or payment). then there is more than one payment scheduled payment is not greater than The Board is renumbering and that must be disclosed and the two times the amount of any other modifying final comment 24(f)–2 to requirements of § 226.24(f)(3) apply. regularly scheduled payment. match the definition of ‘‘closely As discussed above in regard to Comment 24(f)–6, renumbered but proximate’’ in comment 24–2. However, § 226.24(f)(2), the revisions in otherwise as proposed, provides safe the Board is retaining the part of the safe § 226.24(f)(3) generally assume that a harbors for what constitutes a harbor that disallows the use of single index and margin will be used to ‘‘reasonably current index and margin’’ footnotes. Consumer testing of account- make rate or payment adjustments as used in § 226.24(f). Under the opening and other disclosures under the loan. If a loan’s rate or commentary, the time period during undertaken in conjunction with the payment adjustments will be based on which an index and margin is Board’s open-end Regulation Z proposal only one index and margin for each considered reasonably current depends suggests that placing information in a consumer, the fact that the advertised on the medium in which the footnote makes it much less likely that rate or payment may not be available to advertisement was distributed. For the consumer will notice it. As all consumers does trigger the direct mail advertisements, a reasonably proposed, the required disclosures will requirements of § 226.24(f). current index and margin is one that

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was in effect within 60 days before about the amount or percentage of the information on the deductibility of the mailing. For printed advertisements downpayment and the terms of interest. made available to the general public and repayment, the advertisement could The Bankruptcy Act also requires that for advertisements in electronic form, a provide a toll-free telephone number, or disclosures be provided at the time of reasonably current index and margin is a telephone number that allows a application in cases where the extension one that was in effect within 30 days consumer to reverse the phone charges, of credit may exceed the fair market before printing, or before the that the consumer may call to receive value of the dwelling. See 15 U.S.C. advertisement was sent to a consumer’s more information. (The language from 1638(a)(15). The Board intends to e-mail address, or for advertisements proposed comment 24(g)–1, which implement the application disclosure made on an Internet Web site, when permitted the use of a telephone number portion of the Bankruptcy Act during its viewed by the public. that allows a consumer to reverse the forthcoming review of closed-end and Section 226.24(f)(4)—Envelope phone charges, has been incorporated HELOC disclosures under TILA. excluded. As proposed, § 226.24(f)(4) into the text of § 226.24(g), and However, the Board requested comment provides that the requirements of proposed comment 24(g)–1 has been on the implementation of both the §§ 226.24(f)(2) and (3) do not apply to removed.) Given the space and time advertising and application disclosures envelopes or to banner advertisements constraints on television and radio under this provision of the Bankruptcy and pop-up advertisements that are advertisements, the required disclosures Act for open-end credit in its October linked to an electronic application or may go unnoticed by consumers or be 17, 2005, ANPR. 70 FR 60235, 60244 solicitation provided electronically. In difficult for them to retain. Thus, (Oct. 17, 2005). A majority of comments the Board’s view, banner advertisements providing an alternative means of on this issue addressed only the and pop-up advertisements are similar disclosure is more effective in many application disclosure requirement, but to envelopes in the direct mail context. cases given the nature of television and some commenters specifically addressed the advertising disclosure Section 226.24(g)—Alternative radio media. requirement. One industry commenter Disclosures—Television or Radio This approach is consistent with the suggested that the advertising disclosure Advertisements approach taken in the proposed requirement apply only in cases where revisions to the advertising rules for The Board proposed to add a new the advertised product allows for the open-end plans (other than home- § 226.24(g) to allow alternative credit to exceed the fair market value of secured plans). See 72 FR 32948, 33064 disclosures to be provided in oral the dwelling. Other industry (June 14, 2007). This approach is also television and radio advertisements commenters suggested that the similar, but not identical, to the pursuant to its authority under TILA requirement apply only to approach taken in the advertising rules §§ 105(a), 122, and 144. The final rule advertisements for products that are under Regulation M. See 12 CFR is modified from the proposal in that it intended to exceed the fair market value allows alternative disclosures not only 213.7(f). Section 213.7(f)(1)(ii) of of the dwelling. for information provided orally, but also Regulation M permits a leasing The Board proposed to add for information provided in visual text advertisement made through television § 226.24(h) and comment 24(h)–1 to in television advertisements. Some or radio to direct the consumer to a implement TILA Section 144(e). The commenters noted a discrepancy written advertisement in a publication Board’s proposal applied the new between the Board’s proposed of general circulation in a community requirements to advertisements for § 226.24(g), which would not allow the served by the media station. The Board home-secured loans where the alternative disclosures for visual text in has not proposed this option because it advertised extension of credit may, by television advertisements for closed-end may not provide sufficient, readily- its terms, exceed the fair market value credit, and proposed § 226.16(f), which accessible information to consumers of the dwelling. The Board sought would allow the alternative disclosures who are shopping for a home-secured comment on whether the new for visual text in television loan and because advertisers, requirements should instead apply to advertisements for open-end credit, and particularly those advertising on a only advertisements that state or imply urged the Board to follow the approach regional or national scale, are not likely that the creditor provides extensions of found in § 226.16(f). The Board believes to use this option. credit greater than the fair market value that the same reasoning that applies to Section 226.24(h)—Tax Implications of the dwelling. Of the few commenters allowing alternative disclosures in oral who addressed this issue, the majority radio and television advertisements also Section 1302 of the Bankruptcy Act were in favor of the alternative approach applies to allowing alternative amends TILA Section 144(e) to address because many home-secured loans may, disclosures for visual text television advertisements that are disseminated in in some circumstances, allow for advertisements and the final rule is paper form to the public or through the extensions of credit greater than the fair revised accordingly. With one Internet, as opposed to by radio or market value of the dwelling and modification, § 226.24(g) follows the television, and that relate to an advertisers would likely include the proposal for allowing alternative extension of credit secured by a disclosure in nearly all advertisements. disclosures in radio and television consumer’s principal dwelling that may The final rule differs from the advertisements. One option is to state exceed the fair market value of the proposed rule and requires that the clearly and conspicuously each of the dwelling. Such advertisements must additional tax implication disclosures disclosures required by § 226.24(d)(2) if include a statement that the interest on be given only when an advertisement a triggering term is stated in the the portion of the credit extension that states that extensions of credit greater advertisement. Another option is for the is greater than the fair market value of than the fair market value of the advertisement to state clearly and the dwelling is not tax deductible for dwelling are available. The rule does conspicuously the APR applicable to the Federal income tax purposes. 15 U.S.C. not apply to advertisements that merely loan, and the fact that the rate may be 1664(e). For such advertisements, the imply that extensions of credit greater increased after consummation, if statute also requires inclusion of a than the fair market value of the applicable. However, instead of statement that the consumer should dwelling may occur. By limiting the disclosing the required information consult a tax adviser for further required disclosures to only those

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advertisements that state that extensions connected with mortgage and mortgage suggestions on how to extend the of credit greater than the fair market refinancing advertising that appear to be prohibitions to HELOCs, while another value of the dwelling are available, the inconsistent with the standards set forth sought extension of only the prohibition Board believes the rule will provide the in Section 129(l)(2) of TILA. on the misleading use of the current required disclosures to consumers when The Board has sought to craft the lender’s name. Few commenters they are most likely to be receptive to rules carefully to make compliance with suggested that the Board consider any the information while avoiding the requirements sufficiently clear and additional prohibitions on misleading overloading consumers with has provided additional examples in advertising either for closed-end information about the tax consequences commentary to assist compliance with mortgage loans or HELOCs. A more of home-secured loans when it is less this rule. As discussed above, the Board detailed discussion of the comments is likely to be meaningful to them. is not extending the seven prohibitions provided below. Accordingly, proposed comment 24(h)– on misleading advertisements to Section 226.24(i)(1)—Misleading 1 is removed as no longer necessary. HELOCs because it has not been advertising for ‘‘fixed’’ rates, payments provided with, or found, sufficient or loans. Proposed § 226.24(i)(1) Section 226.24(i)—Prohibited Acts or evidence demonstrating that HELOC prohibited the use of the term ‘‘fixed’’ Practices in Mortgage Advertisements advertisements contain deceptive in advertisements for credit secured by The Board proposed to add § 226.24(i) practices similar to those found in a dwelling, unless certain conditions are to prohibit the following seven acts or advertisements for closed-end mortgage satisfied, in three different scenarios: (i) practices in connection with loans. However, the Board may Advertisements for variable-rate advertisements of closed-end mortgage consider, as part of its larger review of transactions; (ii) advertisements for non- loans: (1) The use of the term ‘‘fixed’’ to HELOC rules, prohibiting certain variable-rate transactions in which the refer to rates or payments of closed-end misleading or deceptive practices if interest rate can increase; and (iii) home loans, unless certain conditions warranted. The Board notes that closed- advertisements that promote both are satisfied; (2) comparison end mortgage loan advertisements (as variable-rate transactions and non- advertisements between actual and well as HELOCs) must continue to variable-rate transactions. The proposed hypothetical rates and payments, unless comply with all applicable state and rule prohibited the use of the term certain conditions are satisfied; (3) federal laws, including Section 5 of the ‘‘fixed’’ in advertisements for variable- falsely advertising a loan as government FTC Act.121 rate transactions, unless two conditions supported or endorsed; (4) displaying Public comment. The Board are satisfied. First, the phrase the name of the consumer’s current specifically sought comment on the ‘‘Adjustable-Rate Mortgage’’ or lender without disclosing that the appropriateness of the seven proposed ‘‘Variable-Rate Mortgage’’ must appear advertising mortgage lender is not prohibitions; whether the Board should in the advertisement before the first use affiliated with such current lender; (5) prohibit any additional misleading or of the word ‘‘fixed’’ and be at least as claiming debt elimination when one deceptive acts or practices; and whether conspicuous as every use of the word debt merely replaces another debt; (6) the prohibitions should be extended to ‘‘fixed.’’ Second, each use of the word the use of the term ‘‘counselor’’ or advertisements for open-end home ‘‘fixed’’ must be accompanied by an ‘‘financial advisor’’ by for-profit brokers equity lines of credit (HELOCs). equally prominent and closely or lenders; and (7) foreign language Consumer and community advocacy proximate statement of the time period advertisements that provide required groups, associations of state regulators, for which the rate or payment is fixed disclosures only in English. federal agencies, and most industry and the fact that the rate may vary or the Pursuant to its authority under TILA commenters supported the Board’s payment may increase after that period. Section 129(l)(2), 15 U.S.C. 1639(l)(2), efforts to address misleading advertising The proposed rule also prohibited the the Board is adopting § 226.24(i) acts and practices. Many creditors and use of the term ‘‘fixed’’ to refer to the substantially as proposed with their trade associations, however, urged payment in advertisements solely for modifications to § 226.24(i)(2) to clarify the Board to use its authority under non-variable-rate transactions where the that the information required to be TILA Section 105(a), 15 U.S.C. 1604(a), payment will increase (for example, disclosed in comparison advertisements rather than Section 129(l)(2), 15 U.S.C. fixed-rate mortgage transactions with an is the information required under 1639(l)(2), to prohibit certain initial lower payment that will § 226.24(f), to § 226.24(i)(6) to withdraw advertising acts or practices for closed- increase), unless each use of the word the prohibition on the use of the term end mortgage loans. These commenters ‘‘fixed’’ to refer to the payment is ‘‘financial advisor,’’ and other expressed concern that promulgating accompanied by an equally prominent modifications to clarify the scope and the prohibitions under Section 129(l)(2) and closely proximate statement of the intent of the rule. The final rule applies may expose creditors to extensive time period for which the payment is only to closed-end mortgage loans. private legal action for inadvertent fixed and the fact that the payment will Section 129(l)(2) of TILA gives the technical violations. increase after that period. Board the authority to prohibit acts or Commenters were divided on whether Finally, the proposed rule prohibited practices in connection with mortgage to extend the proposed prohibitions to the use of the term ‘‘fixed’’ in loans that it finds to be unfair or HELOCs. Many community banks advertisements that promote both deceptive. Section 129(l)(2) of TILA also agreed with the Board that the variable-rate transactions and non- gives the Board the authority to prohibit misleading or deceptive acts often variable-rate transactions, unless certain acts or practices in connection with the associated with mortgage and mortgage conditions are satisfied. First, the phrase refinancing of mortgage loans that the refinancing advertisements do not occur ‘‘Adjustable-Rate Mortgage,’’ ‘‘Variable- Board finds to be associated with in HELOC advertisements. Some Rate Mortgage,’’ or ‘‘ARM’’ must appear abusive lending practices, or that are consumer groups and state regulators, in the advertisement with equal otherwise not in the interest of the however, urged the Board to extend all prominence as any use of the word borrower. 15 U.S.C. 1639(l)(2). Through of the prohibitions to HELOCs. One ‘‘fixed.’’ Second, each use of the term an extensive review of advertising copy large creditor offered specific ‘‘fixed’’ to refer to a rate, payment, or to and other outreach efforts, Board staff the credit transaction, must clearly refer identified a number of acts or practices 121 15 U.S.C. 41 et seq. solely to transactions for which rates are

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fixed and, if used to refer to a payment, payment will be applied after the first one advertisement reviewed be accompanied by an equally five years. prominently discloses that the product prominent and closely proximate The Board concludes that these types is an ‘‘Adjustable-Rate Mortgage’’ in statement of the time period for which of advertisements are associated with large type, and clearly discloses in the payment is fixed and the fact that abusive lending practices and also standard type that the rate is ‘‘fixed’’ for the payment will increase after that deceptive under the three-part test for the first three, five, or seven years period. Third, if the term ‘‘fixed’’ refers deception set forth in Part V.A above.122 depending upon the product selected to the variable-rate transactions, it must The use of the word ‘‘fixed’’ in these and may increase after that time period. be accompanied by an equally advertisements is likely to mislead Such an advertisement demonstrates prominent and closely proximate consumers into believing that the that there are legitimate and appropriate statement of a time period for which the advertised product is a fixed-rate circumstances for using the term rate or payment is fixed, and the fact mortgage with rates and payments that ‘‘fixed’’ in advertisements for variable- that the rate may vary or the payment will not change during the term of the rate transactions. may increase after that period. loan. Consumers often shop for loans Section 226.24(i)(2)—Misleading Many creditors and their trade based on whether the term is fixed or comparisons in advertisements. associations argued that the proposed not. Indeed, some credit counselors Proposed § 226.24(i)(2) prohibited any prohibition contained many formatting often encourage consumers to shop only advertisement for credit secured by a and language requirements, and for fixed-rate mortgages. Therefore, dwelling from making any comparison therefore could easily generate liability information about a mortgage loan’s between actual or hypothetical for technical, inadvertent errors. These monthly payment or interest rate is payments or rates and the payment or commenters opposed the possible risk important to consumers. As a result, the simple annual rate that will be available of civil liability for violations of this length of time for which the payment or under the advertised product for less proposed rule and instead, urged the interest rate will remain fixed is likely than the term of the loan, unless two Board to use its authority under TILA to affect a consumer’s decision about conditions are satisfied. First, the Section 105(a), 15 U.S.C. 1604(a). One whether to apply for a loan product. comparison must include with equal mortgage banking group suggested that The final rule does not, however, prominence and in close proximity to if the Board promulgated the rule it prohibit use of the word ‘‘fixed’’ in the ‘‘teaser’’ payment or rate, all should not prescribe detailed formatting advertisements for home-secured loans applicable payments or rates for the rules but rather state that compliance where the use of the term is not advertised product that will apply over with the rules governing trigger terms in misleading. Advertisements that refer to the term of the loan and the period of § 226.24 satisfies compliance with this a rate or payment, or to the credit time for which each applicable payment rule. Another bank commented that transaction, as ‘‘fixed’’ are appropriate or simple annual rate will apply. requiring disclosure after each use of the when used to denote a fixed-rate Second, the advertisement must word ‘‘fixed’’ is excessive and suggested mortgage in which the rate or payment include a prominent statement in close that the disclosure be required only amounts do not change over the full proximity to the advertised payments once after the first use of the word. term of the loan. Use of the term ‘‘fixed’’ that such payments do not include In contrast, a number of consumer also is appropriate in an advertisement amounts for taxes and insurance groups, as well as the FDIC and where the interest rate or payment may premiums, if applicable. In the case of associations of state regulators, urged increase solely because the loan product advertisements for variable-rate the Board to prohibit the use of the features a preferred-rate or fixed-rate transactions where the advertised word ‘‘fixed’’ in advertisements for conversion provision (see comment payment or simple annual rate is based variable-rate mortgages, including ones 24(f)–1 for further guidance), or where on the index and margin that will be that have a fixed-rate for a specified the final scheduled payment in a fully used to make subsequent rate or time period. They argued that the word amortizing loan is not greater than twice payment adjustments over the term of ‘‘fixed’’ is confusing to consumers when the amount of other regularly scheduled the loan, the comparison must include: used to reference any loan other than payments. The Board does not intend (a) An equally prominent statement in those that have rates (or payments) fixed that this rule apply to the use of the close proximity to the advertised for their entire term. word ‘‘fixed’’ in advertisements for payment or rate that the payment or rate The Board is adopting the prohibition home-secured loans that refers to fees or is subject to adjustment and the time on the use of the term ‘‘fixed’’ to refer settlements costs. period when the first adjustment will to rates or payments of closed-end The final rule does not ban the use of occur; and (b) a prominent statement in home-secured loans as proposed with a the term ‘‘fixed’’ in advertisements for close proximity to the advertised modification to § 226.24(i)(1)(ii) to variable rate products. The term ‘‘fixed’’ payment that the payment does not clarify application of the rule to non- is used in connection with adjustable- include amounts for taxes and insurance variable-rate transactions. Based on its rate mortgages, or with fixed-rate premiums, if applicable. review of advertising copy, the Board mortgages that include low initial Proposed comment 24(i)–1 clarified finds that some advertisements do not payments that will increase. These that a comparison includes a claim adequately disclose that the interest rate advertisements make clear that the rate about the amount that a consumer may or payment amounts are ‘‘fixed’’ only or payment is only ‘‘fixed’’ for a defined save under the advertised product. For for a limited period of time, rather than period of time, but after that the rate or example, a statement such as ‘‘save $600 for the full term of the loan. For payment may increase. For example, per month on a $500,000 loan’’ example, some advertisements reviewed constitutes an implied comparison prominently refer to a ‘‘30–Year Fixed 122 There must be a representation, omission or between the advertised product’s Rate Loan’’ or ‘‘Fixed Pay Rate Loan’’ on practice that is likely to mislead the consumer; the payment and a consumer’s current the first page. A footnote on the last act or practice is examined from the perspective of payment. page of the advertisements discloses in a consumer acting reasonably in the circumstances; The Board did not propose to prohibit and the representation, omission, or practice must small type that the loan product is a be material—that is, it must be likely to affect the comparisons that take into account the payment option ARM in which the fully consumer’s conduct or decision with regard to a consolidation of non-mortgage credit, indexed rate and fully amortizing product or service. such as auto loans, installment loans, or

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revolving credit card debt, into a single, that under the proposed revisions to the consumer’s current payments or home-secured loan. However, the Board § 226.24(c), advertisements for home- rates to payments or rates available for specifically sought comment on whether secured loans would be allowed to use the advertised product that will only be comparisons based on the assumed only the APR, which would include in effect for a limited period of time, refinancing of non-mortgage debt into a finance charges, while advertisements rather than for the term of the loan. new home-secured loan are associated for other closed-end loans, such as auto Similarly, the Board finds that such with abusive lending practices or loans, would be permitted to promote comparisons can be misleading if the otherwise not in the interest of the simple annual rates of interest along consumer’s current payments include borrower and should therefore be with APRs, and advertisements from amounts for taxes and insurance prohibited as well. open-end credit would be able to premiums, but the payments for the Creditors and their trade groups, disclose APRs that did not have to advertised product do not include those consumer and community advocacy include any finance charges. amounts. Information about the terms of groups, federal agencies, and The Board is adopting the prohibition the loan, such as rate and monthly associations of state regulators largely proposed in § 226.24(i)(2) on the payment, are material and likely to supported the proposed requirement comparison of actual and hypothetical affect a consumer’s decision about that advertisements showing rates in advertisements unless certain whether to apply for the advertised comparisons between actual or conditions are satisfied. The final rule is mortgage loan. Consumers may compare hypothetical rate or payments and the modified to clarify that the information current obligations and the lower advertised rate or payment disclose required to be disclosed in conjunction advertised rates or payments and information about the rates or payments with the advertised rate or payment is conclude that the advertised loan that would apply for the term of the the information required under product will offer them a better interest advertised loan and the period of time §§ 226.24(f)(2) and (3). By referencing rate and/or monthly payment. for which such rates or payments would § 226.24(f), the final rule incorporates, Some industry commenters requested be in effect. One mortgage banking trade without repeating, the requirements of that, consistent with § 226.24(f), the rule group suggested that the proposed that section. By referencing require information about amounts for revisions to the trigger term § 226.24(f)(3), the final rule exempts taxes and insurance premiums only for requirements would sufficiently address subordinate lien loans from the escrow advertisements for first-lien loans. By issues with comparison advertisements disclosure component of the rule. In incorporating the requirements of and that a separate rule was addition, the final rule maintains the § 226.24(f), the final rule excludes unnecessary. Another commenter proposed requirement that advertisements for subordinate lien requested an exception for subordinate advertisements making comparisons to a loans from the requirement that the lien loans from the escrow disclosure variable-rate transaction, where the advertisement include a prominent component of the rule noting that the advertised payment or simple annual statement in close proximity to the monthly payments of subordinate liens rate is based on the index and margin advertised payment that the payment do not generally include escrows for that will be used to make subsequent does not include amounts for taxes and taxes and insurance. rate or payment adjustments over the insurance premiums, if applicable. Commenters were divided on whether term of the loan, must include an Monthly payments of subordinate lien comparisons between non-mortgage equally prominent statement in close loans do not generally require escrows debt and mortgage debt should be proximity to the payment or rate that for taxes and insurance and therefore allowed. Industry commenters generally the payment or rate is subject to are unable to include such amounts in supported the Board’s decision to allow adjustment and the time period when any monthly payment calculation. debt consolidation advertisements that the first adjustment will occur. Moreover, subordinate lien loans are compare home-secured debt payments Some advertisements for home- generally advertised for the purpose of to other debt payments. They noted that secured loans make comparisons replacing or consolidating other debt consolidation offers consumers between actual or hypothetical rate or subordinate lien loans or non-home concrete benefits, such as increased payment obligations and the rates or secured obligations rather than home- cash flow or reduced interest rates, and payments that would apply if the secured first-lien loans. that advertising communicated these consumer obtains the advertised The Board also is not banning debt choices to consumers. One bank product. The advertised rates or consolidation advertisements or commenter suggested that the Board payments used in these comparisons requiring additional disclosures about require additional disclosures to alert frequently are low introductory ‘‘teaser’’ the cost or consequences of consumers to the potential rates or payments that will not apply consolidating short term unsecured debt consequences of such debt over the full term of the loan, and do not into longer term secured debt. The consolidation, such as closing costs and include amounts for taxes or insurance Board believes that debt consolidation loan duration. On the other hand, premiums. In addition, the current rate can be beneficial for some consumers. associations of state regulators urged the or payment obligations used in these Prohibiting the use of comparisons in Board to ban debt consolidation comparisons frequently include not advertisements that are based solely on comparison advertisements entirely. only the consumer’s mortgage payment, low introductory ‘‘teaser’’ rates or They argued that consumers could be but also possible payments for short- payments should address abusive misled about the risks and benefits of term, non-home secured, or revolving practices in advertisements focused on consolidating short-term unsecured debt credit obligations, such as auto loans, debt consolidation. However, additional into long-term secured debt. installment loans, or credit card debts. disclosures are unlikely to provide One large bank, however, pointed out The Board finds these types of consumers with meaningful information that the interest rates that could be comparisons of rates and payments in at the advertising stage or be effective disclosed for closed-end home-secured advertisements to be deceptive under against aggressive push marketing debt would be different than the rates the three-part test for deception set forth tactics inherent in many advertisements. for other kinds of secured debt in debt in part V.A above. Making comparisons Last, the Board emphasizes that under consolidation comparison in advertisements can mislead a the final rule, the interest rate stated for advertisements. The commenter noted consumer if the advertisement compares a home-secured loan must be the APR.

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The final rule permits, but does not decision to apply for that particular loan offer to eliminate debt, or waive or require, an interest rate for any secured product. For these reasons, the Board forgive a consumer’s existing loan terms debt to be advertised also as a simple finds these types of advertisements to be or obligations to another creditor. annual rate of interest. The Board notes deceptive under the three-part test for Proposed comment 24(i)–3 provided that § 226.24(b) allows the simple deception set forth in part V.A above. examples of claims that would be annual interest rate that is applied to an Section 226.24(i)(4)—Misleading use prohibited. These include the following unpaid balance to be stated so long as of the current mortgage lender’s name. claims: ‘‘Wipe Out Personal Debts!’’, it is not advertised more conspicuously Proposed § 226.24(i)(4) prohibited any ‘‘New DEBT-FREE Payment’’, ‘‘Set than the APR. Revisions to § 226.24(c) advertisement for a home-secured loan, yourself free; get out of debt today’’, also allow the use of a simple annual such as a letter, that is not sent by or ‘‘Refinance today and wipe your debt rate of interest that is applied to an on behalf of the consumer’s current clean!’’, ‘‘Get yourself out of debt * * * unpaid balance to be stated in an lender from using the name of the Forever!’’, and, in the context of an advertisement for a home-secured loan consumer’s current lender, unless the advertisement referring to a consumer’s so long as it is not advertised more advertisement also discloses with equal existing obligations to another creditor, conspicuously than the APR. In prominence: (a) the name of the person ‘‘Pre-payment Penalty Waiver.’’ The addition, the Board’s review of or creditor making the advertisement; proposed comment also clarified that advertisements shows that many of the and (b) a clear and conspicuous this provision does not prohibit an comparison advertisements compared statement that the person making the advertisement for a home-secured loan monthly payments rather than interest advertisement is not associated with, or from claiming that the advertised rates, perhaps because comparison of acting on behalf of, the consumer’s product may reduce debt payments, monthly payments resonate more for current lender. consolidate debts, or shorten the term of consumers than comparison of interest Many creditors and their trade groups, the debt. rates. state regulators, and other commenters Most commenters supported the Section 226.24(i)(3)— offered strong support for the proposed Board’s proposal to prohibit misleading Misrepresentations about government prohibition on the misleading use of a claims of debt elimination. A number of endorsement. Proposed § 226.24(i)(3) consumer’s current mortgage lender’s industry commenters also expressed prohibited statements about government name. State regulators noted that some support for the proposed commentary endorsement unless the advertisement states have similar requirements already provision clarifying that advertisements is for an FHA loan, VA loan, or similar in place and have a history of could still claim to consolidate or loan program that is, in fact, endorsed enforcement in this area. A credit union reduce debt. However, one bank or sponsored by a federal, state, or local association suggested that the Board ban suggested that there were examples of government entity. Proposed comment the use of a mortgage lender’s name non-misleading claims of debt 24(i)–2 illustrated that a without that lender’s permission elimination, such as ‘‘eliminate high misrepresentation about government outright, as is currently done in some interest credit card debt.’’ endorsement would include a statement states, rather than requiring a The Board is modifying the rule to that the federal Community disclosure. A mortgage banking trade clarify that only misleading claims of Reinvestment Act entitles the consumer group and a large creditor suggested that debt elimination are prohibited. Based to refinance his or her mortgage at the the regulation clarify that the envelope on the advertising copy reviewed, some new low rate offered in the or other mailing materials are part of advertisements for home-secured loans advertisement because it conveys to the any advertisement and that the required include statements that promise to consumer a misleading impression that disclosure be closely proximate, as well eliminate, cancel, wipe-out, waive, or the advertised product is endorsed or as equally prominent, to the statement forgive debt. The Board finds that such sponsored by the federal government. of the current lender’s name. advertisements can mislead consumers No commenters objected to this The Board is adopting the rule as into believing that they are entering into prohibition. proposed. Some advertisements for a debt forgiveness program rather than The Board is adopting the rule as home-secured loans prominently merely replacing one debt obligation proposed. Some advertisements for display the name of the consumer’s with another. For these reasons, the home-secured loans characterize the current mortgage lender, while failing to Board finds these types of products offered as ‘‘government loan disclose or to disclose adequately the advertisements to be deceptive under programs,’’ ‘‘government-supported fact that the advertisement is by a the three-part test for deception set forth loans,’’ or otherwise endorsed or mortgage lender that is not associated in part V.A above. sponsored by a federal or state with the consumer’s current lender. The Section 226.24(i)(6)—Misleading use government entity, even though the Board finds that such advertisements of the term ‘‘counselor’’. Proposed advertised products are not government- may mislead consumers into believing § 226.24(i)(6) prohibited advertisements supported loans, such as FHA or VA that their current lender is offering the for credit secured by a dwelling from loans, or otherwise endorsed or loan advertised or that the loan terms using the terms ‘‘counselor’’ or sponsored by any federal, state, or local stated in the advertisement constitute a ‘‘financial advisor’’ to refer to a for- government entity. Such advertisements reduction in the consumer’s payment profit mortgage broker or creditor, its can mislead consumers into believing amount or rate, rather than an offer to employees, or persons working for the that the government is guaranteeing, refinance the current loan with a broker or creditor that are involved in endorsing, or supporting the advertised different creditor. For these reasons, the offering, originating or selling loan product. Government-endorsed Board finds these types of mortgages. Nothing in the proposed rule loans often offer certain benefits or advertisements to be deceptive under prohibited advertisements for bona fide features that may be attractive to many the three-part test for deception set forth consumer credit counseling services, consumers and not otherwise available in part V.A above. such as counseling services provided by through private lenders. As a result, the Section 226.24(i)(5)—Misleading non-profit organizations, or bona fide fact that a loan product is associated claims of debt elimination. Proposed financial advisory services, such as with a government loan program can be § 226.24(i)(5) prohibited advertisements services provided by certified financial a material factor in the consumer’s for credit secured by a dwelling that planners. The final rule retains the

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prohibition on the use of the term and/or licensed by a state regulatory disclosures in both English and a ‘‘counselor’’ by for-profit brokers or agency to provide a range of financial foreign language or advertisements that creditors in advertisements for home- advice and services on securities, provide disclosures entirely in English secured credit, but does not adopt the insurance, retirement planning and or entirely in a foreign language would prohibition on the use of the term other financial products, including not be affected by this prohibition. ‘‘financial advisor’’ for the reasons residential mortgage loans. These Most commenters expressed support stated below. registered securities broker-dealers for the prohibition on advertising A few creditors and financial services currently use the term ‘‘financial triggering information in a foreign and securities industry associations advisor’’ in advertisements and language and then providing argued that the proposed prohibition on solicitations. There are also other information about other trigger terms or the term ‘‘financial advisor’’ was too financial professionals who must meet required disclosures in English. broad. These commenters noted that certain federal or state professional The Board is adopting the rule as registered securities broker-dealers and standards, certifications or other proposed. Some advertisements for other licensed financial professionals, requirements and use the term home-secured loans are targeted to non- who may also be licensed as mortgage ‘‘financial advisor’’ because they are in English speaking consumers. In general, brokers if required under applicable the business of providing financial this is an appropriate means of state law, may place advertisements for planning and advice. Examples include promoting home ownership or offering mortgage loans, often in conjunction investment advisors, certified public loans to under-served, immigrant with a range of other financial products. accountants, and certified financial communities. Some of these One large securities firm noted that its planners. Many of these professionals advertisements, however, provide financial advisors routinely refer are obligated to act in the client’s information about some trigger terms or customers to its credit corporation interest and disclose conflicts of interest required disclosures, such as a low subsidiary and that these financial (i.e., owe a fiduciary obligation) and introductory ‘‘teaser’’ rate or payment, advisors may place advertisements therefore, the use of the term ‘‘financial in a foreign language, but provide listing themselves as contact persons for advisor’’ by such individuals is not information about other trigger terms or a range of services and products, misleading.124 Because it is not practical required disclosures, such as the fully- including residential mortgage loans. to distinguish with sufficient clarity the indexed rate or fully amortizing These commenters suggested that the legitimate uses of the term ‘‘financial payment, only in English. The Board Board provide a clear exception for advisor’’ in accordance with various finds that this practice can mislead non- registered securities broker-dealers and federal or state laws, from improper use, English speaking consumers who may other investment advisors. the Board is withdrawing the not be able to comprehend the An association of certified mortgage prohibition on the term ‘‘financial important English-language disclosures. planning specialists suggested a safe advisor.’’ However, the Board notes that For these reasons, the Board finds these harbor for the use of the term ‘‘financial the use of the term ‘‘financial advisor’’ types of advertisements to be deceptive advisor’’ for those advertisers who have in mortgage advertisements must under the three-part test for deception earned a title or designation that comply with all applicable state and set forth in part V.A above. requires an examination or experience, federal laws, including the FTC Act.125 adherence to a code of ethics, and The Board is retaining the prohibition XII. Mortgage Loan Disclosures continuing education. This commenter on the use of the term counselor. The A. Early Mortgage Loan Disclosures— suggested that advertisers that did not Board believes that the exception to this § 226.19 prohibition for not-for-profit entities is have fiduciary relationships with Pursuant to its authority under TILA consumers be required to include a sufficient to capture the legitimate use of this term. The use of the term Section 105(a), 15 U.S.C. 1604(a), the disclaimer in their ads so stating. Board proposed to require creditors to The Board is not adopting the counselor outside of this context is give consumers transaction-specific, prohibition on the use of the term likely to mislead consumers into early mortgage loan disclosures for ‘‘financial advisor’’ as proposed in believing that the lender or broker has closed-end loans secured by a § 226.24(i)(6). The Board recognizes that a fiduciary relationship with the consumer’s principal dwelling, financial advisors play a legitimate role consumer and is considering only the including refinancings, home equity in assisting consumers in selecting consumer’s best interest. For these loans (other than HELOCs) and reverse appropriate home-secured loans. The reasons, the Board finds these types of mortgages. The proposed rule would prohibition on the term ‘‘financial advertisements to be deceptive under require that creditors deliver this advisor’’ was intended to prevent the three-part test for deception set forth disclosure not later than three business creditors and brokers from falsely in part V.A above. days after application and before a implying to residential mortgage Section 226.24(i)(7)—Misleading consumer pays a fee to any person, consumers that they are acting in a foreign-language advertisements. other than a fee for obtaining the fiduciary capacity when, in fact, they Proposed § 226.24(i)(7) prohibited consumer’s credit history. The Board are not. However, the Board did not advertisements for home-secured loans also proposed corresponding changes to intend to prevent the legitimate from providing information about some the staff commentary and certain other business use of, or otherwise conflict or trigger terms or required disclosures, conforming amendments to Regulation intervene with federal and state laws such as an initial rate or payment, only Z. Providing the mortgage loan that contemplate the use of, the term in a foreign language, but providing disclosure early for all mortgage ‘‘financial advisor.’’ 123 information about other trigger terms or For example, securities broker-dealers required disclosures, such as transactions, and before consumers have typically are registered by the U.S. information about the fully-indexed rate paid significant fees, would help Securities and Exchange Commission or fully amortizing payment, only in consumers make informed use of credit English. Advertisements that provide all and better enable them to shop among 123 See, e.g., Investment Advisors Act of 1940, 14 available credit alternatives. U.S.C. 80b–1 et seq.; Securities Exchange Act of 124 14 U.S.C. 80b–1 et seq. The Board is adopting § 226.19(a)(1) 1934, 15 U.S.C. 78a et seq. 125 15 U.S.C. 41 et seq. as proposed, with new commentary to

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address concerns about application of construction of a consumer’s dwelling increases. It will also show an APR for the fee restriction to third parties, such but does not include refinance or home- the full loan term based on the fully as mortgage brokers. The early mortgage equity loans. The Board proposed to indexed rate instead of the initial rate. loan disclosure rule is effective for loans amend Regulation Z to implement TILA Providing this information not later than for which a creditor has received an Section 128(b)(1) in a manner that three business days after application, application on or after October 1, 2009. would require the disclosures earlier in and before the consumer has paid a the mortgage transaction, rather than at substantial fee, will help ensure that Public Comment any time before consummation, which consumers have a genuine opportunity The Board sought comment on would result in a requirement similar to to review the credit terms offered; that whether the benefits of requiring the TILA Section 128(b)(2). the terms are consistent with their early mortgage loan disclosure would The final rule is issued pursuant to understanding of the transaction; and outweigh operational or other costs, and TILA Section 105(a), which mandates that the credit terms meet their needs whether further guidance was necessary that the Board prescribe regulations to and are affordable. This information to clarify what fees would be deemed in carry out TILA’s purposes. 15 U.S.C. will further enable the consumer to connection with an application. 1604(a). TILA Section 102(a) provides, decide whether to move forward with Many creditors and their trade in pertinent part, that TILA’s purposes the transaction or continue to shop associations opposed the proposal, are to assure a meaningful disclosure of among alternative loan products and arguing that the operational cost and credit terms so that the consumer is sources of credit. compliance difficulties (for example, better able to compare various credit The Board recognizes that the early system reprogramming, testing, terms available and avoid the mortgage loan disclosure rule will procedural changes, and staff training) uninformed use of credit. 15 U.S.C. impose additional costs on creditors, outweigh the benefits of improving 1601(a). The final rule is intended to some of which may be passed on in part consumers’ ability to shop among help consumers make informed use of to consumers. Because early disclosures alternative loans. They noted that the credit and shop among available credit currently are required for home burden may be significant for some alternatives. purchase loans, some creditors already creditors, such as community banks. Under current Regulation Z, creditors deliver early mortgage loan disclosures Citing operational difficulties, many need not deliver a mortgage loan on non-purchase mortgages. Not all industry commenters requested a disclosure on non-purchase mortgage creditors, however, follow this practice, compliance period of up to 18 months transactions until consummation. As a and they will also incur one-time from the effective date of the final rule. practical matter, consumers commonly implementation costs to modify their They also expressed concern about the do not receive disclosures until the systems in addition to ongoing costs to scope of the fee restriction and its closing table. By that time consumers originate loans. The Board believes, application to third party originators. may not be in a position to make however, that the benefits to consumers Consumer groups, state regulators and meaningful use of the disclosure. Once of receiving early estimates of loan enforcement agencies that commented consumers have reached the settlement terms, such as enhanced shopping and on proposed § 226.19(a)(1) generally table, it is likely too late for them to use competition, offset any additional costs. supported the proposed rule because it the disclosure to shop for mortgages or would increase the availability of to inform themselves adequately of the The Final Rule information to consumers when they are terms of the loan. Consumers receive at For the reasons discussed below, the shopping for loans. Some, however, settlement a large, often overwhelming, Board is adopting the rule as proposed argued for greater enforceability and number of documents, and may not with new staff commentary to address, redisclosure before consummation of reasonably be able to focus adequate through examples, the application of the the loan transaction to enhance the attention on the mortgage loan fee restriction to third parties, such as accuracy of the information disclosed. disclosure to verify that it reflects what mortgage brokers. The final rule applies they believe to be the loan’s terms. to all closed-end loans secured by a Discussion Moreover, by the time of loan consumer’s principal dwelling (other TILA Section 128(b)(1), 15 U.S.C. consummation, consumers may feel than HELOCs) and requires creditors to 1638(b)(1), provides that the closed-end committed to the loan because they are deliver the early mortgage loan credit disclosure (mortgage loan accessing equity for an urgent need, may disclosure to consumers no later than disclosure), which includes the APR be refinancing a loan to obtain a lower three business days after application and other material disclosures, must be rate (which may only be available for a and before any fee is paid, other than a delivered ‘‘before the credit is short time), or may have already paid fee for obtaining the consumer’s credit extended.’’ Regulation Z currently substantial application or other fees. history, such as a credit report. implements this statutory provision by The early mortgage loan disclosure Third party originators. The Board allowing creditors to provide the required by the final rule will provide proposed § 226.19(a)(1)(ii) to prohibit a disclosures at any time before information to consumers about the creditor or any other person from consummation. TILA Section 128(b)(2) terms of the loan, such as the payment collecting a fee, other than a fee for and § 226.19 of Regulation Z apply to schedule, earlier in the shopping obtaining the consumer’s credit history, ‘‘residential mortgage transactions’’ process. For example, ARMs may have until the early mortgage loan disclosure subject to RESPA and require that ‘‘good a low, initial fixed rate period followed is received by the consumer. faith estimates’’ of the mortgage loan by a higher variable rate based on an Many creditors and their trade disclosure be made before the credit is index plus margin. Some fixed rate associations argued that the fee extended, or delivered not later than loans also may have a temporary initial restriction would be difficult or three business days after the creditor rate that is discounted. These loans may impossible to apply and monitor in the receives the consumer’s written be marketed to consumers on the basis wholesale channel, especially with application, whichever is earlier. 15 of the low initial payment or the low respect to appraisal fees. These U.S.C. 1638(b)(2). A residential initial interest rate. The payment commenters noted that third parties, mortgage transaction includes loans to schedule will show the increases in such as mortgage brokers, submit finance the acquisition or initial monthly payments when the rate consumer applications to multiple

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creditors; they expressed concern that examples when creditors are in example, rate lock, appraisal and flood under the proposal lenders might have compliance with § 226.19(a)(1)(ii). The certification fees. They argued that to refuse to accept a new application new commentary addresses the prohibiting these fees could harm where the consumer has already paid a situation where a mortgage broker consumers in a rising interest rate fee to a prior creditor but then withdrew submits a consumer’s written environment, delay consumers’ access the first application or had it denied. application to a new creditor because a to credit (for example, delay conditional Most creditors also expressed concern prior creditor denied the consumer’s approvals, application processing, that the phrase ‘‘any other person’’ mortgage application, or the consumer closing and funding of loans), and would require them to monitor the withdrew the application, but the reverse the benefits of automated and timing of fees paid to brokers, and stated consumer already paid a fee to the prior streamlined mortgage loan processing. that they could not track such creditor (aside from a fee for obtaining Some commenters urged alternatively information accurately. Many creditors the consumer’s credit history). The that the Board restrict only the requested that the Board clarify whether comment clarifies that in this situation, imposition of nonrefundable fees. In creditors would have to refuse the new creditor or third party complies contrast, state regulators urged the applications submitted by a broker that with § 226.19(a)(1)(ii) if it does not Board to tighten the fee restriction, already had obtained a fee from the collect or impose any additional fee noting that allowing the collection of consumer (other than a fee for obtaining until after the consumer receives an credit report fees will conflict with the consumer’s credit history) because it early mortgage loan disclosure from the many state laws. would be too late for creditors to new creditor. The Board is adopting the rule comply with the timing requirement of Many creditors also stated that the regarding the fee restriction as the early mortgage loan disclosure. A rule would inappropriately require them proposed. Consumers typically pay fees few commenters urged the Board to to monitor the actions of third parties. to apply for a mortgage loan, such as limit the fee restriction to fees collected Although the rule does not require fees for a credit report, a property only by creditors. creditors to take specific action with appraisal, or an interest rate lock, as The Board is adopting the proposed respect to monitoring third parties, well as general ‘‘application’’ fees to rule without modification but is adding creditors must comply with this rule process the loan. If the fees are comment 19(a)(1)(ii)–3 to clarify the whether they deal with consumers significant, as they often are for rule’s treatment of applications directly or indirectly through third appraisals and for extended rate locks, submitted by third parties, such as parties. Creditors that receive consumers may feel constrained from mortgage brokers, and to provide applications through a third party may shopping for alternative loans because examples of compliance with the rule. choose to require through contractual they feel financially committed to the A broker’s submission of a consumer’s arrangement that the third party include transaction. This risk is particularly information (registration) to more than with a consumer’s written application a high in the subprime market, where one creditor, and the layered certification, for example, that no fee consumers often are cash-strapped and underwriting and approval process that has been collected in violation of where limited price transparency may occurs in the wholesale channel, may § 226.19(a)(1). The Board also notes that obscure the benefits of shopping for complicate implementation of the fee the federal banking agencies have issued mortgage loans, as discussed in more restriction. Generally a broker submits a guidance that addresses, among other detail in part II. The risk also applies to consumer’s written application (the things, systems and controls that should the prime market, where many trigger for early TILA disclosures under be in place for establishing and consumers would find a fee of several § 226.19(a)(1)(i)) to only one creditor maintaining relationship with third hundred dollars, such as the fee often based on product offerings, the parties.126 imposed for an appraisal and other consumer’s choice, and other factors. The Board recognizes that services, to be costly enough to deter Under the final rule, once the creditor unscrupulous third parties may not them from shopping further among receives the consumer’s written comply with the fee restriction, alternative loans and sources. Limiting application, the creditor must provide regardless of contractual obligations. the fee restriction to nonrefundable fees the early mortgage loan disclosure after The Board may consider, as part of its also would likely undermine the intent which the creditor and/or the broker overall review of closed-end of the rule. Consumers, especially those may collect fees (other than a fee for disclosures, whether it should propose in the subprime market, may not have obtaining the consumer’s credit history) rules that would directly prohibit third sufficient cash to pay ‘‘refundable fees’’ from the consumer. However, after the parties from collecting a fee before the to multiple creditors, and therefore collection of fees, the creditor may consumer receives the early mortgage would be discouraged from shopping or engage in further underwriting that loan disclosure, other than a fee for otherwise unable to obtain multiple could result in a denial of the obtaining the consumer’s credit history. early mortgage loan disclosures to consumer’s application. The broker may Scope of the fee restriction. compare credit terms. then submit the application to a Regulation Z currently does not prohibit In addition, the definition of different creditor who must also comply creditors from collecting any fee before ‘‘business day’’ under § 226.2(a)(6) is with the final rule. giving consumers the closed-end credit being revised for purposes of the The Board proposed to regulate the disclosures required by § 226.19(a)(1). consumer’s receipt of early mortgage collection of fees by ‘‘any other person’’ The Board proposed in § 226.19(a)(1)(ii) loan disclosures under § 226.19(a)(1)(ii). in § 226.19(a)(1)(ii) to avoid to prohibit the collection of any fee, Existing § 226.2(a)(6) contains two circumvention of the fee restriction. other than a fee for obtaining the definitions of ‘‘business day.’’ Under the However, in some circumstances it may consumer’s credit history, until after the standard definition, a business day not be reasonable to expect creditors to consumer receives the early mortgage means a day on which the creditor’s know whether the consumer paid a fee loan disclosure. Most industry offices are open to the public for to a broker before receiving the early commenters urged the Board to broaden carrying on substantially all of its mortgage loan disclosure. Therefore, the the fee exception to include, for business functions. However, for Board is adding new comment purposes of rescission under §§ 226.15 19(a)(1)(ii)–3 to illustrate through 126 See, e.g., Nontraditional Mortgage Guidance. and 226.23, and for purposes of

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§ 226.31, a ‘‘business day’’ means all automated and streamlined loan obtaining the consumer’s credit history calendar days except Sundays and processing. may be charged before the consumer specified legal public holidays. The Presumption of receipt. Proposed receives the early mortgage loan definition of ‘‘business day’’ is being § 226.19(a)(1)(ii) provided that a fee may disclosure, provided the fee is ‘‘bona revised to apply the second definition of not be imposed until after a consumer fide and reasonable in amount.’’ Many business day to the consumer’s receipt has received the early mortgage loan creditors and their trade associations of early mortgage loan disclosures under disclosure and that the consumer is noted that different pricing schedules § 226.19(a)(1)(ii). The Board believes presumed to receive the disclosure three make it difficult to ascertain the exact that the definition of business day that business days after it is mailed. cost of a credit report and urged the excludes Sundays and legal public Proposed comment 19(a)(1)(ii)–1 Board to allow creditors to charge a flat holidays is more appropriate because clarified further that creditors may or nominal fee for the credit report. consumers should not be presumed to charge a consumer a fee, in all cases, The Board is adopting have received disclosures in the mail on after midnight of the third business day § 226.19(a)(1)(iii) as proposed. The final a day on which there is no mail following mailing the disclosure, and rule recognizes that creditors generally delivery. for disclosures delivered in person, fees cannot provide accurate transaction- Under the final rule, creditors may may be charged anytime after delivery. specific cost estimates without having presume that the consumer receives the One commenter addressed the receipt considered the consumer’s credit early mortgage loan disclosure three of disclosures sent by mail and history. Requiring creditors to bear the business days after mailing. For suggested that the Board consider: (1) A cost of reviewing credit history with example, a creditor that puts the early presumption that disclosures sent by little assurance the consumer will apply mortgage loan disclosure in the mail on overnight courier are received by the for a loan would be unduly a Friday can presume that the consumer consumer the next day; and (2) a burdensome. Some creditors might receives such disclosure the following presumption that disclosures delivered forego obtaining the consumer’s credit Tuesday, and impose appraisal, rate- by electronic communication in history; disclosures made without any lock and other application fees after compliance with applicable credit risk assessment of the consumer midnight on Tuesday (assuming there requirements under the Electronic are likely to be of little value to the are no intervening legal public Signatures in Global and National consumer. holidays). The Board does not believe Commerce Act (‘‘E–Sign Act’’), 15 The language ‘‘bona fide and that the rule delaying the collection of U.S.C. 7001 et seq., are received by the reasonable in amount,’’ in fees will have a significant negative consumer immediately. § 226.19(a)(1)(iii) does not require the impact on the mortgage loan application The Board considered but is not creditor to charge the consumer the and approval process. Three business adopting rules for overnight courier and actual cost incurred by the creditor for days sets an appropriate timeframe for other delivery methods. For example, that particular credit report, but rather the consumer to receive and review the overnight courier companies do not contemplates a reasonable and early mortgage loan disclosure. It is not appear to adhere to one generally justifiable fee. Many creditors enter into always practical for a creditor to know accepted definition for ‘‘overnight arrangements where pricing varies when a consumer will actually receive delivery’’; it may mean next business based on volume of business or other the early mortgage loan disclosure. day or next calendar day. Recognized legitimate business factors, which Creditors can choose among many holidays and business hours also affect makes the exact charge imposed on a different methods to deliver the what is considered overnight delivery. particular consumer difficult to disclosures to consumers, such as by In light of these variations the Board determine. The Board believes that a fee overnight delivery service, e-mail or believes it is not feasible to define with that bears a reasonable relationship to regular postal mail. In most instances sufficient clarity what may be the actual charge incurred by the consumers will receive the early considered acceptable ‘‘overnight creditor is ‘‘bona fide and reasonable in mortgage loan disclosure within three delivery’’ or to delineate a presumption amount.’’ business days, and the Board notes that of receipt for all available methods of Enhanced civil remedies and it is common industry practice to delivery. redisclosure. The Board proposed the deliver mortgage disclosures by In addition, although the final rule early mortgage loan disclosure pursuant overnight courier. provides a presumption of receipt if the to its authority under TILA Section The Board contemplated providing a early mortgage loan disclosure is 105(a), 15 U.S.C. 1604(a). Consumer longer timeframe for the presumption of delivered by mail, it does not prevent advocacy groups generally support the receipt of the early mortgage loan creditors from choosing any permissible early mortgage loan disclosure, but disclosure. Some originators could method available to deliver the early urged the Board to allow for civil delay hiring an appraiser until after the mortgage loan disclosure, such as enforcement to ensure compliance. consumer pays an appraisal fee, which overnight courier or e-mail if in They argued that without enhanced would delay the appraisal report and compliance with the E–Sign Act. remedies, the disclosures could become the processing time for the application. Creditors may impose such fees any instruments for ‘‘bait and switch’’ Some creditors may refuse to lock-in the time after the consumer actually schemes. Specifically, consumer groups interest rate until after the consumer receives the early mortgage loan urged the Board to use its authority pays a rate lock fee, or alternatively disclosure. Evidence of receipt by the under TILA Section 129(l)(2), 15 U.S.C. lock-in the interest rate and bear some consumer, such as documentation that 1639(l)(2), in addition to Section 105(a), market risk or cost until it can impose the mortgage loan disclosure was and declare that failure to deliver timely a rate lock fee on the consumer. The delivered by certified mail, overnight and accurate early disclosures is an Board believes the three business day delivery, or e-mail (if similar unfair and deceptive practice subject to time frame for the fee restriction strikes documentation is available), is sufficient enhanced damages under Section a proper balance between enabling to establish compliance with 129(l)(2). Consumer groups also argued consumers to review their credit terms § 226.19(a)(1)(ii). that the early mortgage loan disclosure before making a financial commitment Exception to fee restriction. Proposed should be considered a material and maintaining the efficiency of § 226.19(a)(1)(iii) provided that a fee for disclosure subject to remedies available

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under TILA Section 130(a)(4), 15 U.S.C. of these required early mortgage loan Early TILA Disclosures 1640(a)(4) and extended rescission disclosures may need to be updated to Pursuant to Section 105(d), the rights. reflect the increased complexity of requirement to provide consumers with The Board is adopting the final rule mortgage products. The Board is transaction-specific mortgage loan as proposed, pursuant to its authority reviewing current TILA mortgage disclosures under § 226.19 applies to all under TILA Section 105(a), 15 U.S.C. disclosures and potential revisions to applications received on or after 1604(a). The early mortgage loan these disclosures through consumer October 1, 2009. Although state disclosure is an early good faith testing. The Board expects that this regulators noted that some creditors estimate of transaction-specific terms, testing will identify potential already have systems in place to provide such as the APR and payment schedule. improvements for the Board to propose early mortgage loan disclosures to Although the Board shares commenters’ for public comment in a separate comply with state law requirements, concerns about bait and switch tactics, rulemaking. In addition, the Board will creditors and their trade groups responsible creditors may not know the continue to have discussions with HUD generally urged the Board to allow more precise credit terms to disclose, and to improve mortgage disclosures. therefore must provide estimates, lead time than six months to comply to because the disclosure must be provided XIII. Mandatory Compliance Dates provide sufficient time for system re- before the underwriting process is Under TILA Section 105(d), certain of programming, testing, procedural complete. However, through its review the Board’s disclosure regulations are to changes, and staff training. of closed-end mortgage disclosures, the have an effective date of that October 1 The early mortgage disclosure rule is Board may determine that some which follows by at least six months the triggered by the date of receipt of a requirement for accuracy of the early date of promulgation. 15 U.S.C. 1604(d). consumer’s written application, and disclosures is feasible. However, the Board may, at its therefore all written applications Consumer groups and others also discretion, lengthen the implementation received by creditors on or after October suggested that the Board require period for creditors to adjust their forms 1, 2009 must comply with § 226.19. redisclosure of the early mortgage loan to accommodate new requirements, or Existing comment 19(a)(1)–3 disclosure some time period (e.g., at shorten the period where the Board (redesignated as comment 19(a)(1)(i)–3) least seven days) before consummation finds that such action is necessary to states that a written application is if there have been material changes. prevent unfair or deceptive disclosure deemed received when it reaches the They asserted that an inaccurate or practices. No similar effective date creditor in any of the ways applications misleading early disclosure could cause requirement exists for non-disclosure are normally transmitted, such as mail, consumers to stop shopping based on regulations. hand delivery or through a broker. erroneous credit terms. Under current The Board requested comment on For example, a creditor that receives § 226.19(a)(2), redisclosure already is whether six months would be an a consumer’s written application for a required no later than consummation appropriate implementation period, and mortgage refinancing on September 30, and industry practice is to give the on the length of time necessary for 2009, and which is consummated on consumer a final TILA at closing, which creditors to implement the proposed October 29, 2009, does not need to does not facilitate shopping. The final rules, as well as whether the Board deliver an early mortgage loan rule does not revise the requirements for should specify a shorter implementation disclosure to the consumer and redisclosure prior to consummation. period for certain provisions to prevent otherwise comply with the fee The Board may consider the need for unfair or deceptive practices. Three restriction requirements of this rule. A additional rules as part of its overall organizations of state consumer credit creditor that receives a consumer’s review of closed-end mortgage regulators who jointly commented written application on October 1, 2009 disclosures. suggested that some of the proposed must deliver to the consumer an early revisions could be enacted quickly mortgage loan disclosure within three B. Plans To Improve Disclosure without any burden to creditors, and business days and before the consumer Most creditors and their trade requested implementation as soon as pays a fee to any person, other than a associations, citing the HUD’s current possible. Many industry commenters fee for obtaining the consumer’s credit RESPA proposal and the 1998 Federal and their trade associations stated that history. The creditor may impose a fee Reserve Board and HUD Joint Report to although six months is an appropriate on the consumer, such as for an the Congress Concerning Reform to time period to implement some parts of appraisal or underwriting, after the TILA and RESPA, urged the Board to the rule, creditors would need consumer receives the disclosure. Under delay the proposed early mortgage loan additional time to make system § 226.19(a)(1)(ii) the consumer is disclosure rule and make it part of enhancements and to implement presumed to have received the early broader disclosure reform, or at least compliance training for other parts of mortgage loan disclosure three business part of the comprehensive review of the rule. For example, they stated that days after it is mailed, and therefore, the Regulation Z’s closed-end rules that the extra time is needed to establish systems creditor may impose a fee after midnight Board is conducting currently. to identify loans at or above the APR on the third business day following The Board believes that better trigger for higher-priced mortgage loans. mailing. information in the mortgage market can Most commenters who addressed the improve competition and help effective date specifically requested a Escrow Rules consumers make better decisions. The compliance period longer than six As described in part IX.D, although final rule is designed, in part, to prevent months for the proposed early mortgage many creditors currently provide for incomplete or misleading mortgage loan loan disclosure requirement and the escrows, large creditor commenters and advertisements and solicitations, and to proposed escrow requirement. In light their trade associations requested that require creditors to provide mortgage of these concerns, the Board believes this provision be delayed by 12 to 24 disclosures earlier so that consumers additional compliance time beyond six months to allow creditors that currently can get the information they need when months is appropriate. Therefore, have no escrowing capacity or it is most useful to them. The Board compliance with the final rule will be infrastructure to implement the recognizes that the content and format mandatory as specified below. necessary systems and processes.

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Manufactured housing industry prepayment penalties would not apply. specify the types of records that must be commenters were particularly Nevertheless, the loan servicing rules in retained. concerned because, as described in Part § 226.36(c) will apply to loan servicers Under the PRA, the Board accounts IX.D, currently a limited infrastructure as of October 1, 2009, regardless of for the paperwork burden associated is in place for escrowing on when the creditor received the with Regulation Z for the state member manufactured housing loans. application or consummated the banks and other creditors supervised by Accordingly, the requirement to transaction. the Board that engage in lending establish an escrow account for taxes covered by Regulation Z and, therefore, and insurance (§ 226.35(b)(3)) for XIV. Paperwork Reduction Act are respondents under the PRA. higher-priced mortgage loans is effective In accordance with the Paperwork Appendix I of Regulation Z defines the for such loans for which creditors Reduction Act (PRA) of 1995 (44 U.S.C. Federal Reserve-regulated institutions receive applications on or after April 1, 3506; 5 CFR part 1320 app. A.1), the as: State member banks, branches and 2010. For higher-priced mortgage loans Board reviewed the final rule under the agencies of foreign banks (other than secured by manufactured housing, authority delegated to the Board by the however, compliance is mandatory for federal branches, federal agencies, and Office of Management and Budget insured state branches of foreign banks), such loans for which creditors receive (OMB). The collection of information commercial lending companies owned applications on or after October 1, 2010. that is required by this final rulemaking or controlled by foreign banks, and is found in 12 CFR part 226. The Board Advertising Rules and Other Rules organizations operating under section may not conduct or sponsor, and an Adopted Under TILA Section 129(l)(2) 25 or 25A of the Federal Reserve Act. organization is not required to respond Other federal agencies account for the The final advertising rules are to, this information collection unless the paperwork burden on other creditors. effective for advertisements occurring information collection displays a Paperwork burden associated with on or after October 1, 2009. For currently valid OMB control number. entities that are not creditors will be example, the advertising rules would be The OMB control number is 7100–0199. applicable to radio advertisements accounted for by other federal agencies. This information collection is broadcast on or after October 1, 2009, or To ease the burden and cost of required to provide benefits for for solicitations mailed on or after complying with Regulation Z consumers and is mandatory (15 U.S.C. October 1, 2009. The servicing rules are (particularly for small entities), the 1601 et seq.). The respondents/ effective for any loans serviced on or Board provides model forms, which are recordkeepers are creditors and other after October 1, 2009, whether the appended to the regulation. servicer obtained servicing rights on the entities subject to Regulation Z, including for-profit financial As mentioned in the Preamble, on loan before or after that date. The January 9, 2008, a notice of proposed remaining rules are effective for loans institutions and small businesses. Since the Board does not collect any rulemaking (NPR) was published in the for which a creditor receives an Federal Register (73 FR 1672). The application on or after October 1, 2009. information, no issue of confidentiality normally arises. However, in the event comment period for this notice expired Application of Mandatory Compliance the Board were to retain records during on April 8, 2008. No comments Dates; Pre-Existing Obligations the course of an examination, the specifically addressing the burden As described above, the final rule is information may be protected from estimate were received; therefore, the prospective in application. Sometimes a disclosure under the exemptions (b)(4), burden estimates will remain change in the terms of an existing (6), and (8) of the Freedom of unchanged as published in the NPR. obligation constitutes a refinancing, Information Act (5 U.S.C. 522(b)). The final rule will impose a one-time which is a new transaction requiring TILA and Regulation Z are intended increase in the total annual burden new disclosures. An assumption, where to ensure effective disclosure of the under Regulation Z by 46,880 hours the creditor agrees in writing to accept costs and terms of credit to consumers. from 552,398 to 599,278 hours. This a subsequent consumer as a primary For open-end credit, creditors are burden increase will be imposed on all obligor, is also treated as a new required, among other things, to Federal Reserve-regulated institutions transaction. See 12 CFR 226.20(a) and disclose information about the initial that are deemed to be respondents for (b). A refinancing or assumption is costs and terms and to provide periodic the purposes of the PRA. Note that these covered by a provision of the final rule statements of account activity, notices of burden estimates do not include the if the transaction occurs on or after that changes in terms, and statements of burden addressing changes to format, provision’s effective date. For example, rights concerning billing error timing, and content requirements for the if a creditor receives an application for procedures. Regulation Z requires five main types of open-end credit a refinancing on or after October 1, specific types of disclosures for credit disclosures governed by Regulation Z as 2009, and the refinancing is and charge card accounts and home- announced in a separate proposed consummated on October 15, 2009, the equity plans. For closed-end loans, such rulemaking (Docket No. R–1286). provision restricting prepayment as mortgage and installment loans, cost The Board has a continuing interest in penalties in § 226.35(b)(2) applies, but disclosures are required to be provided the public’s opinions of our collections the escrow requirement in § 226.35(b)(3) prior to consummation. Special of information. At any time, comments would not apply because the escrow disclosures are required in connection regarding the burden estimate, or any provision is only effective for new with certain products, such as reverse other aspect of this collection of transactions where the application is mortgages, certain variable-rate loans, information, including suggestions for received on or after April 1, 2010 (or and certain mortgages with rates and reducing the burden, may be sent to: October 1, 2010 for manufactured fees above specified thresholds. TILA Secretary, Board of Governors of the housing-secured loans). However, if a and Regulation Z also contain rules Federal Reserve System, 20th and C modification of an existing obligation’s concerning credit advertising. Creditors Streets, NW., Washington, DC 20551; terms that does not constitute a are required to retain evidence of and to the Office of Management and refinancing under § 226.20(a) occurs on compliance for 24 months, 12 CFR Budget, Paperwork Reduction Project October 15, 2009, the restriction on 226.25, but Regulation Z does not (7100–0199), Washington, DC 20503.

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XV. Regulatory Flexibility Analysis 2. Summary of Issues Raised by Advocacy suggested that the Board In accordance with section 4 of the Comments in Response to the Initial failed to provide sufficient information Regulatory Flexibility Act (RFA), 5 Regulatory Flexibility Analysis about the economic impact of the proposed rule and that the Board’s U.S.C. 601–612, the Board is publishing In accordance with section 3(a) of the a final regulatory flexibility analysis for request for public comment on the costs RFA, 5 U.S.C 603(a), the Board prepared to small entities of the proposed rule the proposed amendments to Regulation an initial regulatory flexibility analysis Z. The RFA requires an agency either to was not appropriate. Section 3(a) of the (IRFA) in connection with the proposed RFA requires agencies to publish for provide a final regulatory flexibility rule, and acknowledged that the analysis with a final rule or certify that comment an IRFA which shall describe projected reporting, recordkeeping, and the impact of the proposed rule on small the final rule will not have a significant other compliance requirements of the economic impact on a substantial entities. 5 U.S.C 603(a). In addition, proposed rule would have a significant section 3(b) requires the IRFA to contain number of small entities. An entity is economic impact on a substantial considered ‘‘small’’ if it has $165 certain information including a number of small entities. In addition, description of the projected reporting, million or less in assets for banks and the Board recognized that the precise recordkeeping and other compliance other depository institutions; and $6.5 compliance costs would be difficult to requirements of the proposed rule, million or less in revenues for non-bank ascertain because they would depend on including an estimate of the classes of mortgage lenders, mortgage brokers, and a number of unknown factors, 127 small entities which will be subject to loan servicers. including, among other things, the The Board received a large number of the requirement and the type of specifications of the current systems professional skills necessary for comments contending that the proposed used by small entities to prepare and rule would have a significant impact on preparation of the report or record. 5 provide disclosures and/or solicitations U.S.C. 603(b). various businesses. In addition, the and to administer and maintain The Board’s IRFA complied with the Board received one comment on its accounts, the complexity of the terms of requirements of the RFA. First, the initial regulatory flexibility analysis. credit products that they offer, and the Board described the impact of the Based on public comment, the Board’s range of such product offerings. The proposed rule on small entities by own analysis, and for the reasons stated Board sought information and comment describing the rule’s proposed below, the Board believes that this final on any costs, compliance requirements, requirements in detail throughout the rule will have a significant economic or changes in operating procedures supplementary information for the impact on a substantial number of small arising from the application of the proposed rule. Second, the Board entities. proposed rule to small entities. The described the projected compliance 1. Statement of the Need for, and Board recognizes that businesses often requirements of the rule in its IRFA, Objectives of, the Final Rule pass compliance costs on to consumers noting the need for small entities to update systems, disclosures and The Board is publishing final rules to and that a less costly rule could benefit underwriting practices.128 The RFA establish new regulatory protections for both small business and consumers. does not require the Board to undertake consumers in the residential mortgage The Board reviewed comments an exhaustive economic analysis of the market through amendments to submitted by various entities in order to proposal’s impact on small entities in Regulation Z, which implements TILA ascertain the economic impact of the the IRFA. Instead, the IRFA procedure and HOEPA. As stated more fully above, proposed rule on small entities. A is intended to evoke commentary from the amendments are intended to protect number of financial institutions and small businesses about the effect of the consumers in the mortgage market from mortgage brokers expressed concern that rule on their activities, and to require unfair, abusive, or deceptive lending the Board had underestimated the costs agencies to consider the effect of a and servicing acts or practices while of compliance. In addition, the Office of regulation on those entities. Cement preserving responsible lending and Advocacy of the U.S. Small Business Administration (Advocacy) submitted a Kiln Recycling Coalition v. EPA, 255 sustainable homeownership. Some of F.3d 855, 868 (D.C. Cir. 2001). The comment on the Board’s IRFA. the restrictions apply to only higher- Board described the projected impact of Executive Order 13272 directs Federal priced mortgage loans, while others the proposed rule and sought comments agencies to respond in a final rule to apply to all mortgage loans secured by from small entities themselves on the written comments submitted by a consumer’s principal dwelling. For effect the proposed rule would have on Advocacy on a proposed rule, unless the example, for higher-priced mortgage their activities. The Board also notes agency certifies that the public interest loans, the amendments prohibit lending that the final rule does not adopt the is not served by doing so. The Board’s based on the collateral without regard to proposed rule on creditor payments to response to Advocacy’s comment letter consumers’ ability to repay their mortgage brokers, reducing the final is below. obligations from income, or from other rule’s impact on small mortgage broker sources besides the collateral. In Response to U.S. Small Business entities. addition, the amendments’ goals are to Administration comment. Advocacy Advocacy also commented that the ensure that advertisements for mortgage supported the consumer protection Board failed to provide sufficient credit provide accurate and balanced goals in the proposed rule, but information about the number of small information and do not contain expressed concern that the Board’s IRFA mortgage brokers that may be impacted misleading or deceptive representations; did not adequately assess the impact of by the rule. Section 3(b)(3) of the RFA and to provide consumers transaction- the proposed rule on small entities as requires the IRFA to contain a specific disclosures early enough to use required by the RFA. Advocacy urged description of and, where feasible, an while shopping for a mortgage. the Board to issue a new proposal estimate of the number of small entities containing a revised IRFA. For the to which the proposed rule will apply. 127 U.S. Small Business Administration, Table of reasons stated below, the Board believes 5 U.S.C. 603(b)(3) (emphasis added). Small Business Size Standards Matched to North American Industry Classification System Codes, that its IRFA complied with the The Board provided a description of the available at http://www.sba.gov/idc/groups/public/ requirements of the RFA and the Board documents/sba_homepage/serv_sstd_tablepdf.pdf. is proceeding with a final rule. 128 73 FR 1672, 1720 (Jan. 9, 2008).

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small entities to which the proposed supplementary information to the concept to the definition proposed, but rule would apply and provided an Board’s proposal. different in the particulars. The final estimate of the number of small Other comments. In addition to definition, like the proposed definition, depository institutions to which the Advocacy’s comment letter, a number of sets a threshold above a market rate to proposed rule would apply.129 The industry commenters expressed distinguish higher-priced mortgage Board also provided an estimate of the concerns that the rule, as proposed, loans from the rest of the mortgage total number of mortgage broker entities would be costly to implement, would market. Instead of yields on Treasury and estimated that most of these were not provide enough flexibility, and securities, the definition in the final rule small entities.130 The Board stated that would not adequately respond to the uses a survey-based estimate of market it was not aware of a reliable source for needs or nature of their business. Many rates for the lowest-risk prime the total number of small entities likely commenters argued that improved mortgages, referred to as the average to be affected by the proposal.131 Thus, disclosures could protect consumers prime offer rate. The Board believes that the Board did not find it feasible to against unfair acts or practices in the final rule will more effectively meet estimate their number. connection with closed-end mortgage both goals of covering prime loans and loans secured by a consumer’s principal excluding prime, though it will cover Advocacy also suggested that the dwelling as well as the proposed rule. some prime loans under certain market Board’s IRFA did not sufficiently As discussed in part XII, while the conditions. address alternatives to the proposed Board anticipates proposing Escrows. The proposed rule would rule. Section 3(c) of the RFA requires improvements to mortgage loan require creditors to establish escrow that an IRFA contain a description of disclosures, the Board believes that accounts for taxes and insurance and any significant alternatives to the better disclosures alone would not permitted them to allow borrowers to proposed rule which accomplish the adequately address unfair, abusive or opt out of escrows 12 months after loan stated objectives of applicable statutes deceptive practices in the mortgage consummation. Several industry and which minimize any significant market, including the subprime market. commenters noted that the compliance economic impact of the proposed rule Since improved disclosures alone with the escrow proposal would be on small entities. 5 U.S.C. 603(c). The would fail to accomplish the stated costly and many small banks and Board’s IRFA discusses the alternative objectives of TILA Section 129(l)(2), community banks commented that they of improved disclosures and requests which authorizes the Board to prohibit do not currently require escrows comment on other alternatives. unfair or deceptive practices in because of this cost. A few small lenders Advocacy commented that the Board’s connection with mortgage loans, the commented that the costs of setting up IRFA does not discuss the economic Board concluded that improved escrow accounts are prohibitively impact that the disclosure alternative disclosures alone do not represent a expensive but did not disclose what would have on small entities. Yet the significant alternative to the proposed such costs are. Manufactured housing Board’s IRFA discussion of the rule, as a result of which the IRFA did industry commenters were especially disclosure alternative indicates that the not discuss the economic impact of concerned about the cost of requiring Board does not believe that the improved disclosures. escrows for manufactured homes that disclosure alternative would accomplish Many of the issues raised by are taxed as personal property because the stated objectives of applicable commenters do not apply uniquely to there is no unified, systematic process statutes.132 Advocacy also suggested small entities and are addressed above for the collection of personal property that the Board did not discuss other in other parts of the SUPPLEMENTARY taxes among various government alternatives such as a later INFORMATION. The comments that entities. implementation date. However, the expressed specific concerns about the The final rule is adopted substantially Board specifically discussed and effect of the proposed rule on small as proposed. As discussed above, the requested comment on the effective date entities are discussed below. Board does not believe that alternatives in another section of the supplementary Defining loans as higher-priced. The to the final rule would achieve HOEPA’s information to the proposed rule.133 proposed rule defined higher-priced objectives. The Board has, however, Section 5(a) of the RFA permits an mortgage loans as loans with an APR chosen effective dates for the final rule agency to perform the IRFA analysis that exceeds the comparable Treasury that give creditors a longer (among others) in conjunction with or as security by three or more percentage implementation period for establishing part of any other analysis required by points for first-lien loans, or five or escrow accounts. Comments on the any other law if such other analysis more percentage points for subordinate- effective dates of the final rule are satisfies the provisions of the RFA. 5 lien loans. Some small banks, discussed below. U.S.C. 605(a). Other alternatives were community banks and manufactured Broker disclosures. The Board discussed throughout the housing representatives expressed proposed to prohibit creditors from concerns that, based on the proposed paying a mortgage broker more than the

129 definition of higher-priced mortgage consumer had agreed in advance that Id. at 1719. loans, some prime loans may be the broker would receive. A large 130 Id. at 1720. According to the National Association of Mortgage Brokers, in 2004 there were classified as higher-priced, which could number of mortgage brokers commented 53,000 mortgage brokerage companies that have negative impact on their business. that the proposal could lead to brokers employed an estimated 418,700 people. The Board Many of these commenters proposed being less competitive in the believes that most of these companies are small changing the definition of higher-priced marketplace and may result in some entities. In its comment letter, Advocacy noted that the appropriate SBA size standard for mortgage mortgage loans, and manufactured small brokers exiting the marketplace. brokers is $6.5 million in average annual receipts housing industry representatives The Board tested the proposal in and that, of 15,590 mortgage broker firms in the proposed a separate standard for several dozen one-on-one interviews U.S. according to the 2002 Economic Census data, personal property loans on with a diverse group of consumers. On 15,195 would be classified as small using the $6.5 million standard. manufactured homes. the basis of this testing and other 131 73 FR 1672, 1719 (Jan. 9, 2008). As discussed above, the Board is information, the Board is withdrawing 132 Id. at 1720. adopting a definition of ‘‘higher-priced its proposal to prohibit creditors from 133 Id. at 1717. mortgage loan’’ that is similar in paying a mortgage broker more than the

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consumer had agreed in advance that provisions in order to prevent unfair or million or less and thus were the broker would receive. The Board is deceptive practices. considered small entities for purposes of concerned that the proposed agreement Many industry commenters and their the RFA. Of 4,554 banks, 401 thrifts and and disclosures would confuse trade associations stated that six months 7,318 credit unions that filed call report consumers and undermine their would be an appropriate data and were considered small entities, decision making rather than improve it. implementation period for some parts of 4,259 banks, 377 thrifts, and 3,757 The Board will continue to explore the rule, but that they would need credit unions, totaling 8,393 available options to address potentially additional time to implement the institutions, extended mortgage credit. unfair acts or practices associated with proposed early mortgage loan disclosure For purposes of this analysis, thrifts originator compensation arrangements requirement and the proposed escrow include savings banks, savings and loan such as yield spread premiums. requirement. Commenters requested entities, co-operative banks and Servicing. The proposed rule additional time to implement the early industrial banks. prohibited mortgage servicers from mortgage loan disclosure rule in order to In its IRFA, the Board recognized that ‘‘pyramiding’’ late fees, failing to credit provide sufficient time for system re- it could not identify with certainty the payments as of the date of receipt, programming, testing, procedural number of small nondepository failing to provide loan payoff statements changes, and staff training. And, institutions that would be subject to the upon request within a reasonable time, although many creditors currently proposed rule. Home Mortgage or failing to deliver a fee schedule to a provide for escrows, other creditors, Disclosure Act (HMDA) data indicate consumer upon request. Several including many that are small entities, that 2,004 non-depository institutions commenters noted that the fee schedule currently have no escrowing capacity or filed HMDA reports in 2006. Based on disclosures would be very costly for a infrastructure. These commenters the small volume of lending activity servicer since fees vary by state, county, requested a period of 12 to 24 months reported by these institutions, most are city, investor and even product. The to implement the necessary systems and likely to be small. Board has considered the concerns processes. Manufactured housing Certain parts of the final rule would raised by commenters and has industry commenters were particularly apply to mortgage brokers. The Board concluded that the transparency benefit concerned because a limited provided an estimate of the number of of the schedule does not sufficiently infrastructure is in place for escrowing mortgage brokers in its IRFA, citing data offset the burdens of producing such a on manufactured housing loans. from the National Association of schedule. Thus, the Board is not In light of these concerns, the Board Mortgage Brokers indicating that in adopting the proposed fee schedule believes additional compliance time 2004 there were 53,000 mortgage disclosure. beyond six months is appropriate. With brokerage companies.134 The Board Early disclosures. The proposed rule two exceptions, the final rule is effective estimated in the IRFA that most of these would require creditors to give for loans consummated on or after companies are small entities. A consumers transaction-specific, early October 1, 2009. The requirement to comment letter received by the U.S. mortgage loan disclosures for certain establish an escrow account for taxes Small Business Administration, citing closed-end loans secured by a and insurance for higher-priced the 2002 Economic Census, stated that consumer’s principal dwelling. The mortgage loans is effective for loans there were 15,195 small mortgage broker proposed rule would require creditors to consummated on or after April 1, 2010, entities. deliver this disclosure within three or, for loans secured by manufactured Certain parts of the final rule would business days of application and before housing, consummated on or after also apply to mortgage servicers. As a consumer pays a fee to any person, October 1, 2010. noted in IRFA, the Board is not aware, other than a fee for obtaining the 3. Description and Estimate of Small however, of a source of data for the consumer’s credit report. Many Entities To Which the Proposed Rule number of small mortgage servicers. The creditors and their trade associations Would Apply available data are not sufficient for the opposed the proposal due to operational Board to realistically estimate the cost and compliance difficulties (for The final rule applies to all number of mortgage servicers that example, system reprogramming, institutions and entities that engage in would be subject to the final rule and testing, procedural changes, and staff closed-end home-secured lending and that are small as defined by the U.S. training). They noted that the burden servicing. The Board acknowledged in Small Business Administration. may be significant for some small entity its IRFA the lack of a reliable source for creditors, such as community banks. the total number of small entities likely 4. Reporting, Recordkeeping, and Other The Board is adopting to be affected by the proposal, since the Compliance Requirements § 226.19(a)(1)(iii) substantially as credit provisions of TILA and The compliance requirements of the proposed. The Board believes that Regulation Z have broad applicability to final rule are described in the alternatives to the final rule would not individuals and businesses that SUPPLEMENTARY INFORMATION. Some achieve TILA’s objectives. However, as originate, extend and service even small small entities will be required, among discussed below, the Board has chosen numbers of home-secured credit. other things, to modify their an implementation period for the final Through data from Reports of underwriting practices and home- rule that responds to creditors’ concerns Condition and Income (‘‘call reports’’), secured credit disclosures to comply about the time required to comply with the Board identified approximate with the revised rules. The precise costs the rule. numbers of small depository institutions to small entities of updating their Effective date. The Board requested that would be subject to the proposed systems, disclosures, and underwriting comment on whether six months would rules. Based on March 2008 call report practices are difficult to predict. These be an appropriate implementation data, approximately 8,393 small costs will depend on a number of period, and on the length of time institutions would be subject to the final unknown factors, including, among necessary for creditors to implement the rule. Approximately 17,101 depository other things, the specifications of the proposed rules, as well as whether the institutions in the United States filed Board should specify a shorter call report data, approximately 12,237 of 134 http://www.namb.org/namb/ implementation period for certain which had total domestic assets of $165 Industry_Facts.asp?SnID=719224934.

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current systems used by such entities to come into compliance with the final connection with credit secured by a prepare and provide disclosures and/or rule’s requirements. consumer’s principal dwelling. solicitations and to administer and The Board also notes that it is * * * * * maintain accounts, the complexity of withdrawing two proposed rules for I 3. Section 226.2 is amended by the terms of credit products that they which small entity commenters revising paragraph (a)(6) to read as offer, and the range of such product expressed concern about the costs of follows: offerings. For some small entities, compliance. The Board is withdrawing certain parts of the rule may require the its proposal to prohibit creditors from § 226.2 Definitions and Rules of type of professional skills already paying a mortgage broker more than the Construction. necessary to meet other legal consumer had agreed in advance that (a) * * * requirements. For example, the Board the broker would receive, and its (6) ‘‘Business Day’’ means a day on believes that final rule’s requirements proposal to require a servicer to provide which the creditor’s offices are open to with regard to advertising will require to a consumer upon request a schedule the public for carrying on substantially the same types of professional skills and of all specific fees and charges that may all of its business functions. However, recordkeeping procedures that are be imposed in connection with the for purposes of rescission under needed to comply with existing TILA servicing of the consumer’s account. §§ 226.15 and 226.23, and for purposes and Regulation Z advertising rules. The Board believes that these changes of § 226.19(a)(1)(ii) and § 226.31, the Other parts of the rule may require new minimize the significant economic term means all calendar days except professional skills and recordkeeping impact on small entities while still Sundays and the legal public holidays procedures for some small entities. For meeting the stated objectives of HOEPA specified in 5 U.S.C. 6103(a), such as example, creditors that do not currently and TILA. New Year’s Day, the Birthday of Martin offer escrow accounts will need to Luther King, Jr., Washington’s Birthday, implement that capability. The Board List of Subjects in 12 CFR Part 226 Memorial Day, Independence Day, believes that costs of the final rule as a Advertising, Consumer protection, Labor Day, Columbus Day, Veterans whole will have a significant economic Day, Thanksgiving Day, and Christmas effect on small entities. Federal Reserve System, Mortgages, Reporting and recordkeeping Day. 5. Steps Taken To Minimize the requirements, Truth in lending. Subpart B—Open-End Credit Economic Impact On Small Entities Authority and Issuance The steps the Board has taken to I 4. Section 226.16 is amended by minimize the economic impact and I For the reasons set forth in the revising paragraphs (d)(2) through compliance burden on small entities, preamble, the Board amends Regulation (d)(4), and adding new paragraphs (d)(6) including the factual, policy, and legal Z, 12 CFR part 226, as set forth below: and (e) to read as follows: reasons for selecting the alternatives adopted and why each one of the other PART 226—TRUTH IN LENDING § 226.16 Advertising. significant alternatives was not (REGULATION Z) * * * * * accepted, are described above in the (d) Additional requirements for home- I SUPPLEMENTARY INFORMATION and in the 1. The authority citation for part 226 equity plans summary of issues raised by the public is amended to read as follows: * * * * * comments in response to the proposal’s Authority: 12 U.S.C. 3806; 15 U.S.C. 1604, (2) Discounted and premium rates. If IRFA. The final rule’s modifications 1637(c)(5), and 1639(l). an advertisement states an initial annual from the proposed rule that minimize percentage rate that is not based on the economic impact on small entities are Subpart A—General index and margin used to make later summarized below. rate adjustments in a variable-rate plan, I First, the Board has provided a 2. Section 226.1 is amended by the advertisement also shall state with different standard for defining higher- revising paragraph (d)(5) to read as equal prominence and in close priced mortgage loans to more follows: proximity to the initial rate: accurately correspond to mortgage § 226.1 Authority, purpose, coverage, (i) The period of time such initial rate market conditions and exclude from the organization, enforcement and liability. will be in effect; and definition some prime loans that might * * * * * (ii) A reasonably current annual have been classified as higher-priced percentage rate that would have been in under the proposed rule. The Board (d) * * * effect using the index and margin. believes that this will decrease the * * * * * (3) Balloon payment. If an economic impact of the final rule on (5) Subpart E contains special rules advertisement contains a statement of small entities by limiting their for mortgage transactions. Section any minimum periodic payment and a compliance costs for prime loans the 226.32 requires certain disclosures and balloon payment may result if only the Board does not intend to cover under provides limitations for loans that have minimum periodic payments are made, the higher-priced mortgage loan rules. rates and fees above specified amounts. even if such a payment is uncertain or Second, the Board is providing an Section 226.33 requires disclosures, unlikely, the advertisement also shall implementation period that responds to including the total annual loan cost rate, state with equal prominence and in commenters’ concerns about the time for reverse mortgage transactions. close proximity to the minimum needed to comply with the final rule. Section 226.34 prohibits specific acts periodic payment statement that a The Board is also providing later and practices in connection with balloon payment may result, if effective dates for the escrow mortgage transactions that are subject to applicable.36e A balloon payment requirement than for the other parts of § 226.32. Section 226.35 prohibits results if paying the minimum periodic the final rule. As discussed above, the specific acts and practices in connection payments does not fully amortize the Board believes that these effective dates with higher-priced mortgage loans, as outstanding balance by a specified date will decrease costs for small entities by defined in § 226.35(a). Section 226.36 providing them with sufficient time to prohibits specific acts and practices in 36e [Reserved.]

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or time, and the consumer is required to (ii) Is less than other minimum free telephone number, or any telephone repay the entire outstanding balance at payments under the plan derived by number that allows a consumer to such time. If a balloon payment will applying a reasonably current index and reverse the phone charges when calling occur when the consumer makes only margin that will be used to determine for information, along with a reference the minimum payments required under the amount of such payments, given an that such number may be used by the plan, an advertisement for such a assumed balance. consumers to obtain additional cost program which contains any statement (2) For a plan other than a variable- information. of any minimum periodic payment shall rate plan, any minimum payment also state with equal prominence and in applicable for a promotional period if Subpart C—Closed-End Credit close proximity to the minimum that payment is less than other I periodic payment statement: payments required under the plan given 5. Section 226.17 is amended by (i) That a balloon payment will result; an assumed balance. revising paragraphs (b) and (f) to read as and (C) Promotional period. A follows: (ii) The amount and timing of the ‘‘promotional period’’ means a period of § 226.17 General disclosure requirements. balloon payment that will result if the time, less than the full term of the loan, consumer makes only the minimum that the promotional rate or promotional * * * * * (b) Time of disclosures. The creditor payments for the maximum period of payment may be applicable. shall make disclosures before time that the consumer is permitted to (ii) Stating the promotional period make such payments. and post-promotional rate or payments. consummation of the transaction. In (4) Tax implications. An If any annual percentage rate that may certain mortgage transactions, special advertisement that states that any be applied to a plan is a promotional timing requirements are set forth in interest expense incurred under the rate, or if any payment applicable to a § 226.19(a). In certain variable-rate home-equity plan is or may be tax plan is a promotional payment, the transactions, special timing deductible may not be misleading in following must be disclosed in any requirements for variable-rate this regard. If an advertisement advertisement, other than television or disclosures are set forth in § 226.19(b) distributed in paper form or through the radio advertisements, in a clear and and § 226.20(c). In certain transactions Internet (rather than by radio or conspicuous manner with equal involving mail or telephone orders or a television) is for a home-equity plan prominence and in close proximity to series of sales, the timing of the secured by the consumer’s principal each listing of the promotional rate or disclosures may be delayed in dwelling, and the advertisement states payment: accordance with paragraphs (g) and (h) that the advertised extension of credit (A) The period of time during which of this section. may exceed the fair market value of the the promotional rate or promotional * * * * * dwelling, the advertisement shall payment will apply; (f) Early disclosures. If disclosures clearly and conspicuously state that: (B) In the case of a promotional rate, required by this subpart are given before (i) The interest on the portion of the any annual percentage rate that will the date of consummation of a credit extension that is greater than the apply under the plan. If such rate is transaction and a subsequent event fair market value of the dwelling is not variable, the annual percentage rate makes them inaccurate, the creditor tax deductible for Federal income tax must be disclosed in accordance with shall disclose before consummation purposes; and the accuracy standards in §§ 226.5b, or (except that, for certain mortgage (ii) The consumer should consult a 226.16(b)(1)(ii) as applicable; and transactions, § 226.19(a)(2) permits tax adviser for further information (C) In the case of a promotional redisclosure no later than regarding the deductibility of interest payment, the amounts and time periods consummation or settlement, whichever and charges. of any payments that will apply under is later).39 * * * * * the plan. In variable-rate transactions, * * * * * (6) Promotional rates and payments— payments that will be determined based I 6. Section 226.19 is amended by (i) Definitions. The following definitions on application of an index and margin revising the heading and paragraph apply for purposes of paragraph (d)(6) of shall be disclosed based on a reasonably (a)(1) to read as follows: this section: current index and margin. (A) Promotional rate. The term (iii) Envelope excluded. The § 226.19 Certain mortgage and variable- ‘‘promotional rate’’ means, in a variable- requirements in paragraph (d)(6)(ii) of rate transactions. rate plan, any annual percentage rate this section do not apply to an envelope (a) Mortgage transactions subject to that is not based on the index and in which an application or solicitation RESPA—(1)(i) Time of disclosures. In a margin that will be used to make rate is mailed, or to a banner advertisement mortgage transaction subject to the Real adjustments under the plan, if that rate or pop-up advertisement linked to an Estate Settlement Procedures Act (12 is less than a reasonably current annual application or solicitation provided U.S.C. 2601 et seq.) that is secured by percentage rate that would be in effect electronically. the consumer’s principal dwelling, under the index and margin that will be (e) Alternative disclosures—television other than a home equity line of credit used to make rate adjustments under the or radio advertisements. An subject to § 226.5b, the creditor shall plan. advertisement for a home-equity plan make good faith estimates of the (B) Promotional payment. The term subject to the requirements of § 226.5b disclosures required by § 226.18 before ‘‘promotional payment’’ means— made through television or radio stating consummation, or shall deliver or place (1) For a variable-rate plan, any any of the terms requiring additional them in the mail not later than three minimum payment applicable for a disclosures under paragraph (b) or (d)(1) business days after the creditor receives promotional period that: of this section may alternatively comply the consumer’s written application, (i) Is not derived by applying the with paragraph (b) or (d)(1) of this whichever is earlier. index and margin to the outstanding section by stating the information (ii) Imposition of fees. Except as balance when such index and margin required by paragraph (b)(2) of this provided in paragraph (a)(1)(iii) of this will be used to determine other section or paragraph (d)(1)(ii) of this minimum payments under the plan; and section, as applicable, and listing a toll- 39 [Reserved.]

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section, neither a creditor nor any other not more conspicuously than, the (1) Scope. The requirements of this person may impose a fee on the annual percentage rate. paragraph apply to any advertisement consumer in connection with the (d) Advertisement of terms that for credit secured by a dwelling, other consumer’s application for a mortgage require additional disclosures—(1) than television or radio advertisements, transaction subject to paragraph (a)(1)(i) Triggering terms. If any of the following including promotional materials of this section before the consumer has terms is set forth in an advertisement, accompanying applications. received the disclosures required by the advertisement shall meet the (2) Disclosure of rates—(i) In general. paragraph (a)(1)(i) of this section. If the requirements of paragraph (d)(2) of this If an advertisement for credit secured by disclosures are mailed to the consumer, section: a dwelling states a simple annual rate of the consumer is considered to have (i) The amount or percentage of any interest and more than one simple received them three business days after downpayment. annual rate of interest will apply over they are mailed. (ii) The number of payments or period the term of the advertised loan, the (iii) Exception to fee restriction. A of repayment. advertisement shall disclose in a clear creditor or other person may impose a (iii) The amount of any payment. and conspicuous manner: (iv) The amount of any finance fee for obtaining the consumer’s credit (A) Each simple annual rate of interest charge. history before the consumer has that will apply. In variable-rate (2) Additional terms. An received the disclosures required by transactions, a rate determined by advertisement stating any of the terms paragraph (a)(1)(i) of this section, adding an index and margin shall be in paragraph (d)(1) of this section shall provided the fee is bona fide and disclosed based on a reasonably current state the following terms,49 as reasonable in amount. index and margin; applicable (an example of one or more (B) The period of time during which * * * * * typical extensions of credit with a each simple annual rate of interest will I 7. Section 226.23 is amended by statement of all the terms applicable to apply; and revising footnote 48 to paragraph (a)(3) each may be used): (C) The annual percentage rate for the to read ‘‘The term ‘material disclosures’ (i) The amount or percentage of the loan. If such rate is variable, the annual means the required disclosures of the downpayment. percentage rate shall comply with the annual percentage rate, the finance (ii) The terms of repayment, which accuracy standards in §§ 226.17(c) and charge, the amount financed, the total of reflect the repayment obligations over 226.22. payments, the payment schedule, and the full term of the loan, including any (ii) Clear and conspicuous the disclosures and limitations referred balloon payment. requirement. For purposes of paragraph to in §§ 226.32(c) and (d) and (iii) The ‘‘annual percentage rate,’’ (f)(2)(i) of this section, clearly and 226.35(b)(2).’’ using that term, and, if the rate may be conspicuously disclosed means that the increased after consummation, that fact. required information in paragraphs I 8. Section 226.24 is amended by (e) Catalogs or other multiple-page (f)(2)(i)(A) through (C) shall be disclosed redesignating paragraphs (b) through (d) advertisements; electronic with equal prominence and in close as paragraphs (c) through (e), advertisements—(1) If a catalog or other proximity to any advertised rate that respectively, adding new paragraph (b), multiple-page advertisement, or an triggered the required disclosures. The revising newly designated paragraphs electronic advertisement (such as an required information in paragraph (c) through (e), removing and reserving advertisement appearing on an Internet (f)(2)(i)(C) may be disclosed with greater footnote 49, and adding new paragraphs Web site), gives information in a table prominence than the other information. (f) through (i), to read as follows: or schedule in sufficient detail to permit (3) Disclosure of payments—(i) In § 226.24 Advertising. determination of the disclosures general. In addition to the requirements * * * * * required by paragraph (d)(2) of this of paragraph (c) of this section, if an section, it shall be considered a single advertisement for credit secured by a (b) Clear and conspicuous standard. advertisement if— dwelling states the amount of any Disclosures required by this section (i) The table or schedule is clearly and payment, the advertisement shall shall be made clearly and conspicuously set forth; and disclose in a clear and conspicuous conspicuously. (ii) Any statement of the credit terms manner: (c) Advertisement of rate of finance in paragraph (d)(1) of this section (A) The amount of each payment that charge. If an advertisement states a rate appearing anywhere else in the catalog will apply over the term of the loan, of finance charge, it shall state the rate or advertisement clearly refers to the including any balloon payment. In as an ‘‘annual percentage rate,’’ using page or location where the table or variable-rate transactions, payments that that term. If the annual percentage rate schedule begins. will be determined based on the may be increased after consummation, (2) A catalog or other multiple-page application of the sum of an index and the advertisement shall state that fact. If advertisement or an electronic margin shall be disclosed based on a an advertisement is for credit not advertisement (such as an advertisement reasonably current index and margin; secured by a dwelling, the appearing on an Internet Web site) (B) The period of time during which advertisement shall not state any other complies with paragraph (d)(2) of this each payment will apply; and rate, except that a simple annual rate or section if the table or schedule of terms (C) In an advertisement for credit periodic rate that is applied to an includes all appropriate disclosures for secured by a first lien on a dwelling, the unpaid balance may be stated in a representative scale of amounts up to fact that the payments do not include conjunction with, but not more the level of the more commonly sold amounts for taxes and insurance conspicuously than, the annual higher-priced property or services premiums, if applicable, and that the percentage rate. If an advertisement is offered. actual payment obligation will be for credit secured by a dwelling, the (f) Disclosure of Rates and Payments greater. advertisement shall not state any other in Advertisements for Credit Secured by (ii) Clear and conspicuous rate, except that a simple annual rate a Dwelling. requirement. For purposes of paragraph that is applied to an unpaid balance (f)(3)(i) of this section, a clear and may be stated in conjunction with, but 49 [Reserved.] conspicuous disclosure means that the

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required information in paragraphs (i) In the case of an advertisement rate is based on the index and margin (f)(3)(i)(A) and (B) shall be disclosed solely for one or more variable-rate that will be used to make subsequent with equal prominence and in close transactions, rate or payment adjustments over the proximity to any advertised payment (A) The phrase ‘‘Adjustable-Rate term of the loan, the advertisement that triggered the required disclosures, Mortgage,’’ ‘‘Variable-Rate Mortgage,’’ or includes an equally prominent and that the required information in ‘‘ARM’’ appears in the advertisement statement in close proximity to the paragraph (f)(3)(i)(C) shall be disclosed before the first use of the word ‘‘fixed’’ payment or rate that the payment or rate with prominence and in close proximity and is at least as conspicuous as any use is subject to adjustment and the time to the advertised payments. of the word ‘‘fixed’’ in the period when the first adjustment will (4) Envelope excluded. The advertisement; and occur. requirements in paragraphs (f)(2) and (B) Each use of the word ‘‘fixed’’ to (3) Misrepresentations about (f)(3) of this section do not apply to an refer to a rate or payment is government endorsement. Making any envelope in which an application or accompanied by an equally prominent statement in an advertisement that the solicitation is mailed, or to a banner and closely proximate statement of the product offered is a ‘‘government loan advertisement or pop-up advertisement time period for which the rate or program’’, ‘‘government-supported linked to an application or solicitation payment is fixed, and the fact that the loan’’, or is otherwise endorsed or provided electronically. rate may vary or the payment may sponsored by any federal, state, or local (g) Alternative disclosures—television increase after that period; government entity, unless the or radio advertisements. An (ii) In the case of an advertisement advertisement is for an FHA loan, VA advertisement made through television solely for non-variable-rate transactions loan, or similar loan program that is, in or radio stating any of the terms where the payment will increase (e.g., a fact, endorsed or sponsored by a federal, requiring additional disclosures under stepped-rate mortgage transaction with state, or local government entity. paragraph (d)(2) of this section may an initial lower payment), each use of (4) Misleading use of the current comply with paragraph (d)(2) of this the word ‘‘fixed’’ to refer to the payment lender’s name. Using the name of the section either by: is accompanied by an equally consumer’s current lender in an (1) Stating clearly and conspicuously prominent and closely proximate advertisement that is not sent by or on each of the additional disclosures statement of the time period for which behalf of the consumer’s current lender, required under paragraph (d)(2) of this the payment is fixed, and the fact that unless the advertisement: section; or the payment will increase after that (i) Discloses with equal prominence (2) Stating clearly and conspicuously period; or the name of the person or creditor the information required by paragraph (iii) In the case of an advertisement making the advertisement; and (d)(2)(iii) of this section and listing a for both variable-rate transactions and (ii) Includes a clear and conspicuous toll-free telephone number, or any non-variable-rate transactions, statement that the person making the telephone number that allows a (A) The phrase ‘‘Adjustable-Rate advertisement is not associated with, or consumer to reverse the phone charges Mortgage,’’ ‘‘Variable-Rate Mortgage,’’ or acting on behalf of, the consumer’s when calling for information, along with ‘‘ARM’’ appears in the advertisement current lender. a reference that such number may be with equal prominence as any use of the (5) Misleading claims of debt used by consumers to obtain additional term ‘‘fixed,’’ ‘‘Fixed-Rate Mortgage,’’ or elimination. Making any misleading cost information. similar terms; and claim in an advertisement that the (h) Tax implications. If an (B) Each use of the word ‘‘fixed’’ to mortgage product offered will eliminate advertisement distributed in paper form refer to a rate, payment, or the credit debt or result in a waiver or forgiveness or through the Internet (rather than by transaction either refers solely to the of a consumer’s existing loan terms radio or television) is for a loan secured transactions for which rates are fixed with, or obligations to, another creditor. by the consumer’s principal dwelling, and complies with paragraph (i)(1)(ii) of (6) Misleading use of the term and the advertisement states that the this section, if applicable, or, if it refers ‘‘counselor’’. Using the term advertised extension of credit may to the variable-rate transactions, is ‘‘counselor’’ in an advertisement to refer exceed the fair market value of the accompanied by an equally prominent to a for-profit mortgage broker or dwelling, the advertisement shall and closely proximate statement of the mortgage creditor, its employees, or clearly and conspicuously state that: time period for which the rate or persons working for the broker or (1) The interest on the portion of the payment is fixed, and the fact that the creditor that are involved in offering, credit extension that is greater than the rate may vary or the payment may originating or selling mortgages. fair market value of the dwelling is not increase after that period. (7) Misleading foreign-language tax deductible for Federal income tax (2) Misleading comparisons in advertisements. Providing information purposes; and advertisements. Making any comparison about some trigger terms or required (2) The consumer should consult a tax in an advertisement between actual or disclosures, such as an initial rate or adviser for further information regarding hypothetical credit payments or rates payment, only in a foreign language in the deductibility of interest and charges. and any payment or simple annual rate an advertisement, but providing (i) Prohibited acts or practices in that will be available under the information about other trigger terms or advertisements for credit secured by a advertised product for a period less than required disclosures, such as dwelling. The following acts or practices the full term of the loan, unless: information about the fully-indexed rate are prohibited in advertisements for (i) In general. The advertisement or fully amortizing payment, only in credit secured by a dwelling: includes a clear and conspicuous English in the same advertisement. (1) Misleading advertising of ‘‘fixed’’ comparison to the information required rates and payments. Using the word to be disclosed under sections Subpart E—Special Rules for Certain ‘‘fixed’’ to refer to rates, payments, or 226.24(f)(2) and (3); and Home Mortgage Transactions the credit transaction in an (ii) Application to variable-rate advertisement for variable-rate transactions. If the advertisement is for I 9. Section 226.32 is amended by transactions or other transactions where a variable-rate transaction, and the revising paragraphs (d)(6) and (d)(7) to the payment will increase, unless: advertised payment or simple annual read as follows:

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§ 226.32 Requirements for certain closed- (A) A creditor must verify amounts of § 226.35 Prohibited acts or practices in end home mortgages. income or assets that it relies on to connection with higher-priced mortgage * * * * * determine repayment ability, including loans. (d) * * * expected income or assets, by the (a) Higher-priced mortgage loans—(1) (6) Prepayment penalties. Except as consumer’s Internal Revenue Service For purposes of this section, a higher- allowed under paragraph (d)(7) of this Form W–2, tax returns, payroll receipts, priced mortgage loan is a consumer section, a penalty for paying all or part financial institution records, or other credit transaction secured by the of the principal before the date on third-party documents that provide consumer’s principal dwelling with an which the principal is due. A reasonably reliable evidence of the annual percentage rate that exceeds the prepayment penalty includes computing consumer’s income or assets. average prime offer rate for a a refund of unearned interest by a (B) Notwithstanding paragraph comparable transaction as of the date method that is less favorable to the (a)(4)(ii)(A), a creditor has not violated the interest rate is set by 1.5 or more consumer than the actuarial method, as paragraph (a)(4)(ii) if the amounts of percentage points for loans secured by defined by section 933(d) of the Housing income and assets that the creditor a first lien on a dwelling, or by 3.5 or and Community Development Act of relied upon in determining repayment more percentage points for loans 1992, 15 U.S.C. 1615(d). ability are not materially greater than secured by a subordinate lien on a (7) Prepayment penalty exception. A the amounts of the consumer’s income dwelling. mortgage transaction subject to this or assets that the creditor could have (2) ‘‘Average prime offer rate’’ means section may provide for a prepayment verified pursuant to paragraph an annual percentage rate that is derived penalty (including a refund calculated (a)(4)(ii)(A) at the time the loan was from average interest rates, points, and according to the rule of 78s) otherwise consummated. other loan pricing terms currently permitted by law if, under the terms of (C) A creditor must verify the offered to consumers by a representative the loan: consumer’s current obligations. sample of creditors for mortgage (i) The penalty will not apply after the transactions that have low-risk pricing (iii) Presumption of compliance. A two-year period following characteristics. The Board publishes creditor is presumed to have complied consummation; average prime offer rates for a broad with this paragraph (a)(4) with respect (ii) The penalty will not apply if the range of types of transactions in a table to a transaction if the creditor: source of the prepayment funds is a updated at least weekly as well as the (A) Verifies the consumer’s repayment refinancing by the creditor or an affiliate methodology the Board uses to derive ability as provided in paragraph of the creditor; these rates. (iii) At consummation, the consumer’s (a)(4)(ii); (3) Notwithstanding paragraph (a)(1) total monthly debt payments (including (B) Determines the consumer’s of this section, the term ‘‘higher-priced amounts owed under the mortgage) do repayment ability using the largest mortgage loan’’ does not include a not exceed 50 percent of the consumer’s payment of principal and interest transaction to finance the initial monthly gross income, as verified in scheduled in the first seven years construction of a dwelling, a temporary accordance with § 226.34(a)(4)(ii); and following consummation and taking or ‘‘bridge’’ loan with a term of twelve (iv) The amount of the periodic into account current obligations and months or less, such as a loan to payment of principal or interest or both mortgage-related obligations as defined purchase a new dwelling where the may not change during the four-year in paragraph (a)(4)(i); and consumer plans to sell a current period following consummation. (C) Assesses the consumer’s dwelling within twelve months, a * * * * * repayment ability taking into account at reverse-mortgage transaction subject to I 10. Section 226.34 is amended by least one of the following: The ratio of § 226.33, or a home equity line of credit revising the heading and paragraph total debt obligations to income, or the subject to § 226.5b. (a)(4) to read as follows: income the consumer will have after (b) Rules for higher-priced mortgage paying debt obligations. loans. Higher-priced mortgage loans are § 226.34 Prohibited acts or practices in (iv) Exclusions from presumption of subject to the following restrictions: connection with credit subject to § 226.32. compliance. Notwithstanding the (1) Repayment ability. A creditor shall (a) * * * previous paragraph, no presumption of not extend credit based on the value of (4) Repayment ability. Extend credit compliance is available for a transaction the consumer’s collateral without regard subject to § 226.32 to a consumer based for which: to the consumer’s repayment ability as on the value of the consumer’s collateral (A) The regular periodic payments for of consummation as provided in without regard to the consumer’s the first seven years would cause the § 226.34(a)(4). repayment ability as of consummation, principal balance to increase; or (2) Prepayment penalties. A loan may including the consumer’s current and (B) The term of the loan is less than not include a penalty described by reasonably expected income, seven years and the regular periodic § 226.32(d)(6) unless: employment, assets other than the payments when aggregated do not fully (i) The penalty is otherwise permitted collateral, current obligations, and amortize the outstanding principal by law, including § 226.32(d)(7) if the mortgage-related obligations. balance. loan is a mortgage transaction described (i) Mortgage-related obligations. For (v) Exemption. This paragraph (a)(4) in § 226.32(a); and purposes of this paragraph (a)(4), does not apply to temporary or ‘‘bridge’’ (ii) Under the terms of the loan— mortgage-related obligations are loans with terms of twelve months or (A) The penalty will not apply after expected property taxes, premiums for less, such as a loan to purchase a new the two-year period following mortgage-related insurance required by dwelling where the consumer plans to consummation; the creditor as set forth in (B) The penalty will not apply if the sell a current dwelling within twelve § 226.35(b)(3)(i), and similar expenses. source of the prepayment funds is a months. (ii) Verification of repayment ability. refinancing by the creditor or an affiliate Under this paragraph (a)(4) a creditor * * * * * of the creditor; and must verify the consumer’s repayment I 11. New § 226.35 is added to read as (C) The amount of the periodic ability as follows: follows: payment of principal or interest or both

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may not change during the four-year the consumer credit obligation is creditor who knows, at or before loan period following consummation. initially payable to such person, unless consummation, of a violation of (3) Escrows—(i) Failure to escrow for the person provides the funds for the paragraph (b)(1) of this section in property taxes and insurance. Except as transaction at consummation out of the connection with an appraisal shall not provided in paragraph (b)(3)(ii) of this person’s own resources, out of deposits extend credit based on such appraisal section, a creditor may not extend a loan held by the person, or by drawing on a unless the creditor documents that it secured by a first lien on a principal bona fide warehouse line of credit. has acted with reasonable diligence to dwelling unless an escrow account is (b) Misrepresentation of value of determine that the appraisal does not established before consummation for consumer’s dwelling—(1) Coercion of materially misstate or misrepresent the payment of property taxes and appraiser. In connection with a value of such dwelling. premiums for mortgage-related consumer credit transaction secured by (3) Appraiser defined. As used in this insurance required by the creditor, such a consumer’s principal dwelling, no paragraph (b), an appraiser is a person as insurance against loss of or damage creditor or mortgage broker, and no who engages in the business of to property, or against liability arising affiliate of a creditor or mortgage broker providing assessments of the value of out of the ownership or use of the shall directly or indirectly coerce, dwellings. The term ‘‘appraiser’’ property, or insurance protecting the influence, or otherwise encourage an includes persons that employ, refer, or creditor against the consumer’s default appraiser to misstate or misrepresent the manage appraisers and affiliates of such or other credit loss. value of such dwelling. persons. (ii) Exemptions for loans secured by (i) Examples of actions that violate (c) Servicing practices. (1) In shares in a cooperative and for certain this paragraph (b)(1) include: connection with a consumer credit condominium units—(A) Escrow (A) Implying to an appraiser that transaction secured by a consumer’s accounts need not be established for current or future retention of the principal dwelling, no servicer shall— loans secured by shares in a appraiser depends on the amount at (i) Fail to credit a payment to the cooperative; and which the appraiser values a consumer’s consumer’s loan account as of the date (B) Insurance premiums described in principal dwelling; of receipt, except when a delay in paragraph (b)(3)(i) of this section need (B) Excluding an appraiser from crediting does not result in any charge not be included in escrow accounts for consideration for future engagement to the consumer or in the reporting of loans secured by condominium units, because the appraiser reports a value of negative information to a consumer where the condominium association has a consumer’s principal dwelling that reporting agency, or except as provided an obligation to the condominium unit does not meet or exceed a minimum in paragraph (c)(2) of this section; owners to maintain a master policy threshold; (ii) Impose on the consumer any late insuring condominium units. (C) Telling an appraiser a minimum fee or delinquency charge in connection (iii) Cancellation. A creditor or reported value of a consumer’s principal with a payment, when the only servicer may permit a consumer to dwelling that is needed to approve the delinquency is attributable to late fees cancel the escrow account required in loan; or delinquency charges assessed on an paragraph (b)(3)(i) of this section only in (D) Failing to compensate an earlier payment, and the payment is response to a consumer’s dated written appraiser because the appraiser does not otherwise a full payment for the request to cancel the escrow account value a consumer’s principal dwelling applicable period and is paid on its due that is received no earlier than 365 days at or above a certain amount; and date or within any applicable grace after consummation. (E) Conditioning an appraiser’s period; or (iv) Definition of escrow account. For compensation on loan consummation. (iii) Fail to provide, within a purposes of this section, ‘‘escrow (ii) Examples of actions that do not reasonable time after receiving a request account’’ shall have the same meaning violate this paragraph (b)(1) include: from the consumer or any person acting as in 24 CFR 3500.17(b) as amended. (A) Asking an appraiser to consider on behalf of the consumer, an accurate (4) Evasion; open-end credit. In additional information about a statement of the total outstanding connection with credit secured by a consumer’s principal dwelling or about balance that would be required to satisfy consumer’s principal dwelling that does comparable properties; the consumer’s obligation in full as of a not meet the definition of open-end (B) Requesting that an appraiser specified date. credit in § 226.2(a)(20), a creditor shall provide additional information about (2) If a servicer specifies in writing not structure a home-secured loan as an the basis for a valuation; requirements for the consumer to follow open-end plan to evade the (C) Requesting that an appraiser in making payments, but accepts a requirements of this section. correct factual errors in a valuation; payment that does not conform to the I 12. New § 226.36 is added to read as (D) Obtaining multiple appraisals of a requirements, the servicer shall credit follows: consumer’s principal dwelling, so long the payment as of 5 days after receipt. as the creditor adheres to a policy of (3) For purposes of this paragraph (c), § 226.36 Prohibited acts or practices in selecting the most reliable appraisal, the terms ‘‘servicer’’ and ‘‘servicing’’ connection with credit secured by a rather than the appraisal that states the have the same meanings as provided in consumer’s principal dwelling. highest value; 24 CFR 3500.2(b), as amended. (a) Mortgage broker defined. For (E) Withholding compensation from (d) This section does not apply to a purposes of this section, the term an appraiser for breach of contract or home equity line of credit subject to ‘‘mortgage broker’’ means a person, substandard performance of services as § 226.5b. other than an employee of a creditor, provided by contract; and Supplement I to Part 226—Official Staff who for compensation or other (F) Taking action permitted or Interpretations monetary gain, or in expectation of required by applicable federal or state compensation or other monetary gain, statute, regulation, or agency guidance. Subpart A—General arranges, negotiates, or otherwise (2) When extension of credit obtains an extension of consumer credit prohibited. In connection with a I 13. In Supplement I to Part 226, under for another person. The term includes a consumer credit transaction secured by Section 226.1—Authority, Purpose, person meeting this definition, even if a consumer’s principal dwelling, a Coverage, Organization, Enforcement

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and Liability, new headings 1(d) Section 226.2—Definitions and Rules of added, and newly designated Organization and Paragraph 1(d)(5), and Construction paragraphs 16(d)–7 and 16(d)–9 are new paragraph 1(d)(5)–1 are added to 2(a) Definitions. revised; and new heading 16(e) read as follows: * * * * * Alternative disclosures—television or radio advertisements is added, and new Section 226.1—Authority, Purpose, Coverage, 2(a)(6) Business day. Organization, Enforcement and Liability * * * * * paragraphs 16(e)–1 and 16(e)–2 are added, to read as follows: * * * * * 2. Recission rule. A more precise rule for what is a business day (all calendar days Section 226.16—Advertising 1(d) Organization. except Sundays and the federal legal Paragraph 1(d)(5). holidays listed in 5 U.S.C. 6103(a)) applies 1. Clear and conspicuous standard— 1. Effective dates. The Board’s revisions to when the right of rescission, the receipt of general. Section 226.16 is subject to the Regulation Z published on July 30, 2008 (the disclosures for certain mortgage transactions general ‘‘clear and conspicuous’’ standard for ‘‘final rules’’), apply to covered loans under section 226.19(a)(1)(ii), or mortgages subpart B (see § 226.5(a)(1)) but prescribes no (including refinance loans and assumptions subject to section 226.32 are involved. (See specific rules for the format of the necessary considered new transactions under 226.20), also comment 31(c)(1)–1.) Four federal legal disclosures, aside from the format for which the creditor receives an application holidays are identified in 5 U.S.C. 6103(a) by requirements related to the disclosure of a on or after October 1, 2009, except for the a specific date: New Year’s Day, January 1; promotional rate under § 226.16(d)(6). Aside final rules on advertising, escrows, and loan Independence Day, July 4; Veterans Day, from the terms described in § 226.16(d)(6), servicing. The final rules on escrows in November 11; and Christmas Day, December the credit terms need not be printed in a § 226.35(b)(3) are effective for covered loans, 25. When one of these holidays (July 4, for certain type size nor need they appear in any (including refinancings and assumptions in example) falls on a Saturday, federal offices particular place in the advertisement. 226.20) for which the creditor receives an and other entities might observe the holiday 2. Clear and conspicuous standard— application on or after April 1, 2010; but for on the preceding Friday (July 3). The promotional rates or payments for home- such loans secured by manufactured housing observed holiday (in the example, July 3) is equity plans. For purposes of § 226.16(d)(6), on or after October 1, 2010. The final rules a business day for purposes of rescission, the a clear and conspicuous disclosure means applicable to servicers in § 226.36(c) apply to receipt of disclosures for certain mortgage that the required information in all covered loans serviced on or after October transactions under section 226.19(a)(1)(ii), or § 226.16(d)(6)(ii)(A)–(C) is disclosed with 1, 2009. The final rules on advertising apply the delivery of disclosures for certain high- equal prominence and in close proximity to cost mortgages covered by section 226.32. to advertisements occurring on or after the promotional rate or payment to which it October 1, 2009. For example, a radio ad * * * * * applies. If the information in occurs on the date it is first broadcast; a 2(a)(24) Residential mortgage transaction. § 226.16(d)(6)(ii)(A)–(C) is the same type size solicitation occurs on the date it is mailed to 1. Relation to other sections. This term is and is located immediately next to or directly the consumer. The following examples important in five provisions in the above or below the promotional rate or illustrate the application of the effective regulation: payment to which it applies, without any dates for the final rules. i. § 226.4(c)(7)—exclusions from the intervening text or graphical displays, the disclosures would be deemed to be equally i. General. A refinancing or assumption as finance charge. prominent and in close proximity. defined in 226.20(a) or (b) is a new ii. § 226.15(f)—exemption from the right of Notwithstanding the above, for electronic transaction and is covered by a provision of rescission. iii. § 226.18(q)—whether or not the advertisements that disclose promotional the final rule if the creditor receives an obligation is assumable. rates or payments, compliance with the application for the transaction on or after that iv. § 226.20(b)—disclosure requirements requirements of § 226.16(c) is deemed to provision’s effective date. For example, if a for assumptions. satisfy the clear and conspicuous standard. creditor receives an application for a v. § 226.23(f)—exemption from the right of 3. Clear and conspicuous standard— refinance loan covered by 226.35(a) on or rescission. Internet advertisements for home-equity after October 1, 2009, and the refinance loan plans. For purposes of this section, a clear is consummated on October 15, 2009, the * * * * * 5. Acquisition. *** and conspicuous disclosure for visual text provision restricting prepayment penalties in advertisements on the Internet for home- § 226.35(b)(2) applies. However, If the * * * * * equity plans subject to the requirements of transaction were a modification of an existing ii. Examples of new transactions involving § 226.5b means that the required disclosures obligation’s terms that does not constitute a a previously acquired dwelling include the are not obscured by techniques such as refinance loan under § 226.20(a), the final financing of a balloon payment due under a graphical displays, shading, coloration, or rules, including for example the restriction land sale contract and an extension of credit other devices and comply with all other on prepayment penalties would not apply. made to a joint owner of property to buy out requirements for clear and conspicuous ii. Escrows. Assume a consumer applies for the other joint owner’s interest. In these disclosures under § 226.16(d). See also a refinance loan to be secured by a dwelling instances, disclosures are not required under comment 16(c)(1)–2. (that is not a manufactured home) on March § 226.18(q) (assumability policies). However, 4. Clear and conspicuous standard— 15, 2010, and the loan is consummated on the rescission rules of §§ 226.15 and 226.23 televised advertisements for home-equity do apply to these new transactions. April 2, 2010, the escrow rule in 226.35(b)(3) plans. For purposes of this section, including does not apply. * * * * * alternative disclosures as provided for by iii. Servicing. Assume that a consumer § 226.16(e), a clear and conspicuous applies for a new loan on August 1, 2009. Subpart B—Open-End Credit disclosure in the context of visual text The loan is consummated on September 1, advertisements on television for home-equity 2009. The servicing rules in 226.36(c) apply I 15. In Supplement I to Part 226, under plans subject to the requirements of § 226.5b to the servicing of that loan as of October 1, Section 226.16—Advertising, paragraph means that the required disclosures are not 2009. 16–1 is revised, paragraph 16–2 is obscured by techniques such as graphical redesignated as paragraph 16–6, and displays, shading, coloration, or other I 14. In Supplement I to Part 226, under new paragraphs 16–2 through 16–5 and devices, are displayed in a manner that Section 226.2—Definitions and Rules of 16–7 are added; under 16(d) Additional allows for a consumer to read the information Construction, 2(a) Definitions, 2(a)(6) requirements for home-equity plans, required to be disclosed, and comply with all other requirements for clear and conspicuous Business day, paragraph 2(a)(6)–2 is paragraph 16(d)–3 is revised, paragraphs disclosures under § 226.16(d). For example, revised, and under 2(a)(24) Residential 16(d)–5, 16(d)–6, and 16(d)–7 are very fine print in a television advertisement mortgage transaction, paragraphs redesignated as paragraphs 16(d)–7, would not meet the clear and conspicuous 2(a)(24)–1 and 2(a)(24)–5.ii are revised, 16(d)–8, and 16(d)–9, respectively, new standard if consumers cannot see and read to read as follows: paragraphs 16(d)–5 and 16(d)–6 are the information required to be disclosed.

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5. Clear and conspicuous standard—oral iii. Amounts and time periods of payments. comply with all provisions in § 226.16 not advertisements for home-equity plans. For Section 226.16(d)(6)(ii)(C) requires disclosure solely the rules in § 226.16(d). If an purposes of this section, including of the amount and time periods of any advertisement contains information (such as alternative disclosures as provided for by payments that will apply under the plan. the payment terms) that triggers the duty § 226.16(e), a clear and conspicuous This section may require disclosure of under § 226.16(d) to state the annual disclosure in the context of an oral several payment amounts, including any percentage rate, the additional disclosures in advertisement for home-equity plans subject balloon payment. For example, if an § 226.16(b) must be provided in the to the requirements of § 226.5b, whether by advertisement for a home-equity plan offers advertisement. While § 226.16(d) does not radio, television, the Internet, or other a $100,000 five-year line of credit and require a statement of fees to use or maintain medium, means that the required disclosures assumes that the entire line is drawn the plan (such as membership fees and are given at a speed and volume sufficient for resulting in a minimum payment of $800 per transaction charges), such fees must be a consumer to hear and comprehend them. month for the first six months, increasing to disclosed under § 226.16(b)(1) and (3). For example, information stated very rapidly $1,000 per month after month six, followed * * * * * at a low volume in a radio or television by a $50,000 balloon payment after five 9. Balloon payment. See comment advertisement would not meet the clear and years, the advertisement must disclose the 5b(d)(5)(ii)–3 for information not required to conspicuous standard if consumers cannot amount and time period of each of the two be stated in advertisements, and on situations hear and comprehend the information monthly payment streams, as well as the in which the balloon payment requirement required to be disclosed. amount and timing of the balloon payment, does not apply. 6. Expressing the annual percentage rate in with equal prominence and in close 16(e) Alternative disclosures—television or abbreviated form. *** proximity to the promotional payment. radio advertisements. 7. Effective date. For guidance on the However, if the final payment could not be 1. Multi-purpose telephone number. When applicability of the Board’s revisions to more than twice the amount of other an advertised telephone number provides a § 226.16 published on July 30, 2008, see minimum payments, the final payment need recording, disclosures should be provided comment 1(d)(5)–1. not be disclosed. early in the sequence to ensure that the * * * * * iv. Plans other than variable-rate plans. consumer receives the required disclosures. 16(d) Additional requirements for home- For a plan other than a variable-rate plan, if For example, in providing several options— equity plans. an advertised payment is calculated in the such as providing directions to the same way as other payments based on an advertiser’s place of business—the option * * * * * assumed balance, the fact that the minimum allowing the consumer to request disclosures 3. Statements of tax deductibility. An payment could increase solely if the should be provided early in the telephone advertisement that refers to deductibility for consumer made an additional draw does not message to ensure that the option to request tax purposes is not misleading if it includes make the payment a promotional payment. disclosures is not obscured by other a statement such as ‘‘consult a tax advisor For example, if a payment of $500 results information. regarding the deductibility of interest.’’ An from an assumed $10,000 draw, and the 2. Statement accompanying telephone advertisement distributed in paper form or payment would increase to $1,000 if the number. Language must accompany a through the Internet (rather than by radio or consumer made an additional $10,000 draw, telephone number indicating that disclosures television) that states that the advertised the payment is not a promotional payment. are available by calling the telephone extension of credit may exceed the fair v. Conversion option. Some home-equity number, such as ‘‘call 1–800–000–0000 for market value of the consumer’s dwelling is plans permit the consumer to repay all or details about credit costs and terms.’’ not misleading if it clearly and part of the balance during the draw period at conspicuously states the required a fixed rate (rather than a variable rate) and Subpart C—Closed-End Credit information in §§ 226.16(d)(4)(i) and (ii). over a specified time period. The fixed-rate * * * * * conversion option does not, by itself, make I 16. In Supplement I to Part 226, under 5. Promotional rates and payments in the rate or payment that would apply if the Section 226.17—General Disclosure advertisements for home-equity plans. consumer exercised the fixed-rate conversion Requirements, 17(c) Basis of disclosures Section 226.16(d)(6) requires additional option a promotional rate or payment. and use of estimates, Paragraph disclosures for promotional rates or vi. Preferred-rate provisions. Some home- 17(c)(1), paragraph 17(c)(1)–8 is revised, payments. equity plans contain a preferred-rate and under 17(f) Early disclosures, i. Variable-rate plans. In advertisements for provision, where the rate will increase upon variable-rate plans, if the advertised annual the occurrence of some event, such as the paragraph 17(f)–4 is revised, to read as percentage rate is based on (or the advertised consumer-employee leaving the creditor’s follows: payment is derived from) the index and employ, the consumer closing an existing Section 226.17—General Disclosure margin that will be used to make rate (or deposit account with the creditor, or the Requirements payment) adjustments over the term of the consumer revoking an election to make loan, then there is no promotional rate or automated payments. A preferred-rate * * * * * 17(c) Basis of disclosures and use of promotional payment. If, however, the provision does not, by itself, make the rate estimates. advertised annual percentage rate is not or payment under the preferred-rate based on (or the advertised payment is not provision a promotional rate or payment. * * * * * derived from) the index and margin that will 6. Reasonably current index and margin. Paragraph 17(c)(1). be used to make rate (or payment) For the purposes of this section, an index and * * * * * adjustments, and a reasonably current margin is considered reasonably current if: 8. Basis of disclosures in variable-rate application of the index and margin would i. For direct mail advertisements, it was in transactions. The disclosures for a variable- result in a higher annual percentage rate (or, effect within 60 days before mailing; rate transaction must be given for the full given an assumed balance, a higher payment) ii. For advertisements in electronic form it term of the transaction and must be based on then there is a promotional rate or was in effect within 30 days before the the terms in effect at the time of promotional payment. advertisement is sent to a consumer’s e-mail consummation. Creditors should base the ii. Equal prominence, close proximity. address, or in the case of an advertisement disclosures only on the initial rate and Information required to be disclosed in made on an Internet Web site, when viewed should not assume that this rate will § 226.16(d)(6)(ii) that is immediately next to by the public; or increase. For example, in a loan with an or directly above or below the promotional iii. For printed advertisements made initial rate of 10 percent and a 5 percentage rate or payment (but not in a footnote) is available to the general public, including points rate cap, creditors should base the deemed to be closely proximate to the listing. ones contained in a catalog, magazine, or disclosures on the initial rate and should not Information required to be disclosed in other generally available publication, it was assume that this rate will increase 5 § 226.16(d)(6)(ii) that is in the same type size in effect within 30 days before printing. percentage points. However, in a variable- as the promotional rate or payment is 7. Relation to other sections. rate transaction with a seller buydown that deemed to be equally prominent. Advertisements for home-equity plans must is reflected in the credit contract, a consumer

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buydown, or a discounted or premium rate, published on July 30, 2008, see comment receives an early mortgage loan disclosure disclosures should not be based solely on the 1(d)(5)–1 from the new creditor. initial terms. In those transactions, the * * * * * 19(a)(1)(iii) Exception to fee restriction. disclosed annual percentage rate should be a 5. Itemization of amount financed. In many 1. Requirements. A creditor or other person composite rate based on the rate in effect mortgage transactions, the itemization of the may impose a fee before the consumer during the initial period and the rate that is amount financed required by § 226.18(c) will receives the required disclosures if it is for the basis of the variable-rate feature for the contain items, such as origination fees or obtaining the consumer’s credit history, such remainder of the term. (See the commentary points, that also must be disclosed as part of as by purchasing a credit report(s) on the to § 226.17(c) for a discussion of buydown, the good faith estimates of settlement costs consumer. The fee also must be bona fide discounted, and premium transactions and required under RESPA. Creditors furnishing and reasonable in amount. For example, a the commentary to § 226.19(a)(2) for a the RESPA good faith estimates need not give creditor may collect a fee for obtaining a credit report(s) if it is in the creditor’s discussion of the redisclosure in certain consumers any itemization of the amount ordinary course of business to obtain a credit mortgage transactions with a variable-rate financed, either with the disclosures report(s). If the criteria in § 226.19(a)(1)(iii) provided within three days after application feature.) are met, the creditor may describe or refer to or with the disclosures given at * * * * * this fee, for example, as an ‘‘application fee.’’ consummation or settlement. 17(f) Early disclosures. 19(a)(1)(ii) Imposition of fees. * * * * * * * * * * 1. Timing of fees. The consumer must I 18. In Supplement I to Part 226, under 4. Special rules. In mortgage transactions receive the disclosures required by this Section 226.24—Advertising, paragraph subject to § 226.19, the creditor must section before paying or incurring any fee 24–1 is revised; heading 24(d) Catalogs redisclose if, between the delivery of the imposed by a creditor or other person in or other multiple-page advertisements; required early disclosures and connection with the consumer’s application electronic advertisements and consummation, the annual percentage rate for a mortgage transaction that is subject to changes by more than a stated tolerance. § 226.19(a)(1)(i), except as provided in paragraphs 24(d)–1 through 24(d)–4 are When subsequent events occur after § 226.19(a)(1)(iii). If the creditor delivers the redesignated as heading 24(e) Catalogs consummation, new disclosures are required disclosures to the consumer in person, a fee or other multiple-page advertisements; only if there is a refinancing or an may be imposed anytime after delivery. If the electronic advertisements and assumption within the meaning of § 226.20. creditor places the disclosures in the mail, paragraphs 24(e)–1 through 24(e)–4, the creditor may impose a fee after the * * * * * respectively; headings 24(c) consumer receives the disclosures or, in all Advertisements of terms that require I 17. In Supplement I to Part 226, under cases, after midnight on the third business additional disclosures, Paragraph Section 226.19—Certain Residential day following mailing of the disclosures. For purposes of § 226.19(a)(1)(ii), the term 24(c)(1), and Paragraph 24(c)(2) and Mortgage and Variable-Rate paragraphs 24(c)–1, 24(c)(1)–1 through Transactions, the heading is revised, ‘‘business day’’ means all calendar days except Sundays and legal public holidays 24(c)(1)–4, and 24(c)(2)–1 through heading 19(a)(1) Time of disclosure is referred to in § 226.2(a)(6). See Comment 24(c)(2)–4 are redesignated as headings redesignated as heading 19(a)(1)(i) Time 2(a)(6)–2. For example, assuming that there 24(d) Advertisements of terms that of disclosure, paragraphs 19(a)(1)(i)–1 are no intervening legal public holidays, a require additional disclosures, and 19(a)(1)(i)–5 are revised, new creditor that receives the consumer’s written Paragraph 24(d)(1), and Paragraph heading 19(a)(1)(ii) Imposition of fees application on Monday and mails the early 24(d)(2) and paragraphs 24(d)–1, and new paragraphs 19(a)(1)(ii)–1 mortgage loan disclosure on Tuesday may 24(d)(1)–1 through 24(d)(1)–4, and through 19(a)(1)(ii)–3 are added , and impose a fee on the consumer after midnight on Friday. 24(d)(2)–1 through 24(d)(2)–4, new heading 19(a)(1)(iii) Exception to respectively; heading 24(b) fee restriction and new paragraph 2. Fees restricted. A creditor or other person may not impose any fee, such as for Advertisement of rate of finance charge 19(a)(1)(iii)–1 are added, to read as an appraisal, underwriting, or broker and paragraphs 24(b)–1 through 24(b)– follows: services, until the consumer has received the 5 are redesignated as heading 24(c) Section 226.19—Certain Mortgage and disclosures required by § 226.19(a)(1)(i). The Advertisement of rate of finance charge Variable-Rate Transactions only exception to the fee restriction allows and paragraphs 24(c)–1 through 24(c)–5, the creditor or other person to impose a bona respectively; new heading 24(b) Clear 19(a)(1)(i) Time of disclosure. fide and reasonable fee for obtaining a 1. Coverage. This section requires early consumer’s credit history, such as for a credit and conspicuous standard and new disclosure of credit terms in mortgage report(s). paragraphs 24(b)–1 through 24(b)–5 are transactions that are secured by a consumer’s 3. Collection of fees. A creditor complies added; newly designated paragraphs principal dwelling and also subject to the with § 226.19(a)(1)(ii) if— 24(c)–2 and 24(c)–3 are revised, newly Real Estate Settlement Procedures Act i. The creditor receives a consumer’s designated paragraph 24(c)–4 is (RESPA) and its implementing Regulation X, written application directly from the removed, and newly designated administered by the Department of Housing consumer and does not collect any fee, other paragraph 24(c)–5 is further and Urban Development (HUD). To be than a fee for obtaining a consumer’s credit redesignated as 24(c)–4 and revised; covered by § 226.19, a transaction must be a history, until the consumer receives the early newly designated paragraphs 24(d)–1, federally related mortgage loan under mortgage loan disclosure. RESPA. ‘‘Federally related mortgage loan’’ is ii. A third party submits a consumer’s 24(d)(1)–3, and 24(d)(2)–2 are revised, defined under RESPA (12 U.S.C. 2602) and written application to a creditor and both the newly designated paragraphs 24(d)(2)–3 Regulation X (24 CFR 3500.2), and is subject creditor and third party do not collect any and 24(d)(2)–4 are further redesignated to any interpretations by HUD. RESPA fee, other than a fee for obtaining a as 24(d)(2)–4 and 24(d)(2)–5, coverage includes such transactions as loans consumer’s credit history, until the consumer respectively, new paragraph 24(d)(2)–3 to purchase dwellings, refinancings of loans receives the early mortgage loan disclosure is added, and newly designated secured by dwellings, and subordinate-lien from the creditor. paragraph 24(d)(2)–5 is revised; newly home-equity loans, among others. Although iii. A third party submits a consumer’s designated paragraph 24(e)–1, 24(e)–2, RESPA coverage relates to any dwelling, written application to a second creditor and 24(e)–4 are revised; and new § 226.19(a) applies to such transactions only following a prior creditor’s denial of an if they are secured by a consumer’s principal application made by the same consumer (or headings 24(f) Disclosure of rates and dwelling. Also, home equity lines of credit following the consumer’s withdrawal), and, if payments in advertisements for credit subject to § 226.5b are not covered by a fee already has been assessed, the new secured by a dwelling, 24(f)(3) § 226.19(a). For guidance on the applicability creditor or third party does not collect or Disclosure of payments, 24(g) of the Board’s revisions to § 226.19(a) impose any additional fee until the consumer Alternative disclosures—television or

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radio advertisements, and 24(i) shading, coloration, or other devices and advertisement shows the limited term to Prohibited acts or practices in comply with all other requirements for clear which the reduced rate applies and states the advertisements for credit secured by a and conspicuous disclosures under § 226.24. simple interest rate applicable to the balance dwelling and new paragraphs 24(f)–1 See also comment 24(e)–4. of the term. The advertisement may also 4. Clear and conspicuous standard— show the effect of the buydown agreement on through 24(f)–6, 24(f)(3)–1, 24(f)(3)–2, televised advertisements for credit secured by the payment schedule for the buydown 24(g)–1, 24(g)–2, and 24(i)–1 through a dwelling. For purposes of this section, period, but this will trigger the additional 24(i)–3 are added, to read as follows: including alternative disclosures as provided disclosures under § 226.24(d)(2). Section 226.24—Advertising for by § 226.24(g), a clear and conspicuous 4. Discounted variable-rate transactions. disclosure in the context of visual text The advertised annual percentage rate for 1. Effective date. For guidance on the advertisements on television for credit discounted variable-rate transactions must be applicability of the Board’s changes to secured by a dwelling means that the determined in accordance with comment § 226.24 published on July 30, 2008, see required disclosures are not obscured by 17(c)(1)–10 regarding the basis of comment 1(d)(5)–1. techniques such as graphical displays, transactional disclosures for such financing. * * * * * shading, coloration, or other devices, are i. A creditor or seller may promote the 24(b) Clear and conspicuous standard. displayed in a manner that allows a availability of the initial rate reduction in 1. Clear and conspicuous standard— consumer to read the information required to such transactions by advertising the reduced general. This section is subject to the general be disclosed, and comply with all other simple annual rate, provided the ‘‘clear and conspicuous’’ standard for this requirements for clear and conspicuous advertisement shows with equal prominence subpart, see § 226.17(a)(1), but prescribes no disclosures under § 226.24. For example, and in close proximity the limited term to specific rules for the format of the necessary very fine print in a television advertisement which the reduced rate applies and the disclosures, other than the format would not meet the clear and conspicuous annual percentage rate that will apply after requirements related to the advertisement of standard if consumers cannot see and read the term of the initial rate reduction expires. rates and payments as described in comment the information required to be disclosed. See § 226.24(f). 24(b)–2 below. The credit terms need not be 5. Clear and conspicuous standard—oral ii. Limits or caps on periodic rate or printed in a certain type size nor need they advertisements for credit secured by a payment adjustments need not be stated. To appear in any particular place in the dwelling. For purposes of this section, illustrate using the second example in advertisement. For example, a merchandise including alternative disclosures as provided comment 17(c)(1)–10, the fact that the rate is tag that is an advertisement under the for by § 226.24(g), a clear and conspicuous presumed to be 11 percent in the second year regulation complies with this section if the disclosure in the context of an oral and 12 percent for the remaining 28 years necessary credit terms are on both sides of advertisement for credit secured by a need not be included in the advertisement. the tag, so long as each side is accessible. dwelling, whether by radio, television, or iii. The advertisement may also show the 2. Clear and conspicuous standard—rates other medium, means that the required effect of the discount on the payment and payments in advertisements for credit disclosures are given at a speed and volume schedule for the discount period, but this secured by a dwelling. For purposes of sufficient for a consumer to hear and will trigger the additional disclosures under § 226.24(f), a clear and conspicuous comprehend them. For example, information § 226.24(d). disclosure means that the required stated very rapidly at a low volume in a radio 24(d) Advertisement of terms that require information in §§ 226.24(f)(2)(i) and or television advertisement would not meet additional disclosures. 226.24(f)(3)(i)(A) and (B) is disclosed with the clear and conspicuous standard if 1. General rule. Under § 226.24(d)(1), equal prominence and in close proximity to consumers cannot hear and comprehend the whenever certain triggering terms appear in the advertised rates or payments triggering information required to be disclosed. credit advertisements, the additional credit the required disclosures, and that the 24(c) Advertisement of rate of finance terms enumerated in § 226.24(d)(2) must also required information in § 226.24(f)(3)(i)(C) is charge. appear. These provisions apply even if the disclosed prominently and in close proximity * * * * * triggering term is not stated explicitly but to the advertised rates or payments triggering 2. Simple or periodic rates. The may be readily determined from the the required disclosures. If the required advertisement may not simultaneously state advertisement. For example, an information in §§ 226.24(f)(2)(i) and any other rate, except that a simple annual advertisement may state ‘‘80 percent 226.24(f)(3)(i)(A) and (B) is the same type rate or periodic rate applicable to an unpaid financing available,’’ which is in fact size as the advertised rates or payments balance may appear along with (but not more indicating that a 20 percent downpayment is triggering the required disclosures, the conspicuously than) the annual percentage required. disclosures are deemed to be equally rate. An advertisement for credit secured by Paragraph 24(d)(1). prominent. The information in a dwelling may not state a periodic rate, * * * * * § 226.24(f)(3)(i)(C) must be disclosed other than a simple annual rate, that is 3. Payment amount. The dollar amount of prominently, but need not be disclosed with applied to an unpaid balance. For example, any payment includes statements such as: equal prominence or be the same type size in an advertisement for credit secured by a • ‘‘Payable in installments of $103’’. as the payments triggering the required dwelling, a simple annual interest rate may • ‘‘$25 weekly’’. disclosures. If the required information in be shown in the same type size as the annual • ‘‘$500,000 loan for just $1,650 per §§ 226.24(f)(2)(i) and 226.24(f)(3)(i) is located percentage rate for the advertised credit, month’’. immediately next to or directly above or subject to the requirements of section • ‘‘$1,200 balance payable in 10 equal below the advertised rates or payments 226.24(f). A simple annual rate or periodic installments’’. triggering the required disclosures, without rate that is applied to an unpaid balance is In the last example, the amount of each any intervening text or graphical displays, the rate at which interest is accruing; those payment is readily determinable, even the disclosures are deemed to be in close terms do not include a rate lower than the though not explicitly stated. But statements proximity. Notwithstanding the above, for rate at which interest is accruing, such as an such as ‘‘monthly payments to suit your electronic advertisements that disclose rates effective rate, payment rate, or qualifying needs’’ or ‘‘regular monthly payments’’ are or payments, compliance with the rate. not deemed to be statements of the amount requirements of § 226.24(e) is deemed to 3. Buydowns. When a third party (such as of any payment. satisfy the clear and conspicuous standard. a seller) or a creditor wishes to promote the 3. Clear and conspicuous standard— availability of reduced interest rates * * * * * Internet advertisements for credit secured by (consumer or seller buydowns), the Paragraph 24(d)(2). a dwelling. For purposes of this section, a advertised annual percentage rate must be * * * * * clear and conspicuous disclosure for visual determined in accordance with the 2. Disclosure of repayment terms. The text advertisements on the Internet for credit commentary to § 226.17(c) regarding the basis phrase ‘‘terms of repayment’’ generally has secured by a dwelling means that the of transactional disclosures for buydowns. the same meaning as the ‘‘payment schedule’’ required disclosures are not obscured by The seller or creditor may advertise the required to be disclosed under § 226.18(g). techniques such as graphical displays, reduced simple interest rate, provided the Section 226.24(d)(2)(ii) provides flexibility to

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creditors in making this disclosure for sequentially numbered pages—for example, a annual rate of interest will apply to the loan advertising purposes. Repayment terms may supplement to a newspaper. A mailing under § 226.24(f)(2) and the payments that be expressed in a variety of ways in addition consisting of several separate flyers or pieces would apply upon occurrence of the event to an exact repayment schedule; this is of promotional material in a single envelope that triggers the rate increase need not be particularly true for advertisements that do does not constitute a single multiple-page disclosed as a separate payments under not contemplate a single specific transaction. advertisement for purposes of § 226.24(e). § 226.24(f)(3)(i)(A). Repayment terms, however, must reflect the 2. General. Section 226.24(e) permits iii. Rate reductions. Some loans contain a consumer’s repayment obligations over the creditors to put credit information together in provision where the rate will decrease upon full term of the loan, including any balloon one place in a catalog or other multiple-page the occurrence of some event, such as if the payment, see comment 24(d)(2)–3, not just advertisement or in an electronic consumer makes a series of payments on the repayment terms that will apply for a advertisement (such as an advertisement time. A creditor need not assume that the rate limited period of time. For example: appearing on an Internet Web site). The rule reduction provision, by itself, means that i. A creditor may use a unit-cost approach applies only if the advertisement contains more than one simple annual rate of interest in making the required disclosure, such as one or more of the triggering terms from will apply to the loan under § 226.24(f)(2) ‘‘48 monthly payments of $27.83 per $1,000 § 226.24(d)(1). A list of different annual and need not disclose the payments that borrowed.’’ percentage rates applicable to different would apply upon occurrence of the event ii. In an advertisement for credit secured balances, for example, does not trigger that triggers the rate reduction as a separate by a dwelling, when any series of payments further disclosures under § 226.24(d)(2) and payments under § 226.24(f)(3)(i)(A). varies because of the inclusion of mortgage so is not covered by § 226.24(e). 2. Equal prominence, close proximity. insurance premiums, a creditor may state the * * * * * Information required to be disclosed under number and timing of payments, the fact that 4. Electronic advertisement. If an electronic §§ 226.24(f)(2)(i) and 226.24(f)(3)(i) that is payments do not include amounts for advertisement (such as an advertisement immediately next to or directly above or mortgage insurance premiums, and that the appearing on an Internet Web site) contains below the simple annual rate or payment actual payment obligation will be higher. the table or schedule permitted under amount (but not in a footnote) is deemed to iii. In an advertisement for credit secured § 226.24(e)(1), any statement of terms set be closely proximate to the listing. by a dwelling, when one series of monthly forth in § 226.24(d)(1) appearing anywhere Information required to be disclosed under payments will apply for a limited period of else in the advertisement must clearly direct §§ 226.24(f)(2)(i) and 226.24(f)(3)(i)(A) and time followed by a series of higher monthly the consumer to the location where the table (B) that is in the same type size as the simple payments for the remaining term of the loan, or schedule begins. For example, a term annual rate or payment amount is deemed to the advertisement must state the number and triggering additional disclosures may be be equally prominent. time period of each series of payments, and accompanied by a link that directly takes the 3. Clear and conspicuous standard. For the amounts of each of those payments. For consumer to the additional information. more information about the applicable clear this purpose, the creditor must assume that 24(f) Disclosure of rates and payments in and conspicuous standard, see comment the consumer makes the lower series of advertisements for credit secured by a 24(b)–2. payments for the maximum allowable period dwelling. 4. Comparisons in advertisements. When of time. 1. Applicability. The requirements of making any comparison in an advertisement 3. Balloon payment; disclosure of § 226.24(f)(2) apply to advertisements for between actual or hypothetical credit repayment terms. In some transactions, a loans where more than one simple annual payments or rates and the payments or rates balloon payment will occur when the rate of interest will apply. The requirements available under the advertised product, the consumer only makes the minimum of § 226.24(f)(3)(i)(A) require a clear and advertisement must state all applicable payments specified in an advertisement. A conspicuous disclosure of each payment that payments or rates for the advertised product balloon payment results if paying the will apply over the term of the loan. In and the time periods for which those minimum payments does not fully amortize determining whether a payment will apply payments or rates will apply, as required by the outstanding balance by a specified date when the consumer may choose to make a this section. or time, usually the end of the term of the series of lower monthly payments that will 5. Application to variable-rate loan, and the consumer must repay the entire apply for a limited period of time, the transactions—disclosure of rates. In outstanding balance at such time. If a balloon creditor must assume that the consumer advertisements for variable-rate transactions, payment will occur when the consumer only makes the series of lower payments for the if a simple annual rate that applies at makes the minimum payments specified in maximum allowable period of time. See consummation is not based on the index and an advertisement, the advertisement must comment 24(d)(2)–2.iii. However, for margin that will be used to make subsequent state with equal prominence and in close purposes of § 226.24(f), the creditor may, but rate adjustments over the term of the loan, proximity to the minimum payment need not, assume that specific events which the requirements of § 226.24(f)(2)(i) apply. statement the amount and timing of the trigger changes to the simple annual rate of 6. Reasonably current index and margin. balloon payment that will result if the interest or to the applicable payments will For the purposes of this section, an index and consumer makes only the minimum occur. For example: margin is considered reasonably current if: payments for the maximum period of time i. Fixed-rate conversion loans. If a loan i. For direct mail advertisements, it was in that the consumer is permitted to make such program permits consumers to convert their effect within 60 days before mailing; payments. variable-rate loans to fixed rate loans, the ii. For advertisements in electronic form it 4. Annual percentage rate. *** creditor need not assume that the fixed-rate was in effect within 30 days before the 5. Use of examples. A creditor may use conversion option, by itself, means that more advertisement is sent to a consumer’s e-mail illustrative credit transactions to make the than one simple annual rate of interest will address, or in the case of an advertisement necessary disclosures under § 226.24(d)(2). apply to the loan under § 226.24(f)(2) and made on an Internet Web site, when viewed That is, where a range of possible need not disclose as a separate payment by the public; or combinations of credit terms is offered, the under § 226.24(f)(3)(i)(A) the payment that iii. For printed advertisements made advertisement may use examples of typical would apply if the consumer exercised the available to the general public, including transactions, so long as each example fixed-rate conversion option. ones contained in a catalog, magazine, or contains all of the applicable terms required ii. Preferred-rate loans. Some loans contain other generally available publication, it was by § 226.24(d). The examples must be labeled a preferred-rate provision, where the rate will in effect within 30 days before printing. as such and must reflect representative credit increase upon the occurrence of some event, 24(f)(3) Disclosure of payments. terms made available by the creditor to such as the consumer-employee leaving the 1. Amounts and time periods of payments. present and prospective customers. creditor’s employ or the consumer closing an Section 226.24(f)(3)(i) requires disclosure of 24(e) Catalogs or other multiple-page existing deposit account with the creditor or the amounts and time periods of all advertisements; electronic advertisements. the consumer revoking an election to make payments that will apply over the term of the 1. Definition. The multiple-page automated payments. A creditor need not loan. This section may require disclosure of advertisements to which this section refers assume that the preferred-rate provision, by several payment amounts, including any are advertisements consisting of a series of itself, means that more than one simple balloon payment. For example, if an

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advertisement for credit secured by a forgiveness of loan terms with, or obligations see comment 34(a)(4)–6 and comment dwelling offers $300,000 of credit with a 30- to, another creditor of debt include: ‘‘Wipe- 34(a)(4)(iii)(C)–1. year loan term for a payment of $600 per Out Personal Debts!’’, ‘‘New DEBT-FREE 2. Verification. Creditors shall verify month for the first six months, increasing to Payment’’, ‘‘Set yourself free; get out of debt income in the manner described in $1,500 per month after month six, followed today’’, ‘‘Refinance today and wipe your debt § 226.34(a)(4)(ii) and the related comments. by a balloon payment of $30,000 at the end clean!’’, ‘‘Get yourself out of debt * * * Creditors may verify debt with a credit of the loan term, the advertisement must Forever!’’, and ‘‘Pre-payment Penalty report. However, a credit report may not disclose the amount and time periods of each Waiver.’’ reflect certain obligations undertaken just of the two monthly payment streams, as well before or at consummation of the transaction as the amount and timing of the balloon Subpart E—Special Rules for Certain and secured by the same dwelling that payment, with equal prominence and in Home Mortgage Transactions secures the transaction. Section 226.34(a)(4) close proximity to each other. However, if the may require creditors to consider such final scheduled payment of a fully amortizing I 19. In Supplement I to Part 226, under obligations; see comment 34(a)(4)–3 and loan is not greater than two times the amount Section 226.32–Requirements for comment 34(a)(4)(ii)(C)–1. of any other regularly scheduled payment, Certain Closed-End Home Mortgages, 3. Interaction with Regulation B. Section 226.32(d)(7)(iii) does not require or permit the final payment need not be disclosed. 32(a) Coverage, new heading Paragraph 2. Application to variable-rate the creditor to make inquiries or verifications transactions—disclosure of payments. In 32(a)(2) and new paragraph 32(a)(2)–1 that would be prohibited by Regulation B, 12 advertisements for variable-rate transactions, are added, under 32(d) Limitations, new CFR part 202. if the payment that applies at consummation paragraphs 32(d)–1 and 32(d)–2 are Paragraph 32(d)(7)(iv). is not based on the index and margin that added, and under 32(d)(7) Prepayment 1. Payment change. Section 226.32(d)(7) will be used to make subsequent payment penalty exception, Paragraph sets forth the conditions under which a adjustments over the term of the loan, the 32(d)(7)(iii), paragraphs 32(d)(7)(iii)–1 mortgage transaction subject to this section may have a prepayment penalty. Section requirements of § 226.24(f)(3)(i) apply. and 32(d)(7)(iii)–2 are removed and new 24(g) Alternative disclosures—television or 226.32(d)(7)(iv) lists as a condition that the paragraphs 32(d)(7)(iii)–1 through amount of the periodic payment of principal radio advertisements. 32(d)(7)(iii)–3 are added, and new 1. Multi-purpose telephone number. When or interest or both may not change during the an advertised telephone number provides a heading Paragraph 32(d)(7)(iv) and new four-year period following consummation. recording, disclosures should be provided paragraphs 32(d)(7)(iv)–1 and The following examples show whether early in the sequence to ensure that the 32(d)(7)(iv)–2 are added, to read as prepayment penalties are permitted or prohibited under § 226.32(d)(7)(iv) in consumer receives the required disclosures. follows: particular circumstances. For example, in providing several options— Section 226.32—Requirements for Certain i. Initial payments for a variable-rate such as providing directions to the Closed-End Home Mortgages 32(a) Coverage. transaction consummated on January 1, 2010 advertiser’s place of business—the option are $1,000 per month. Under the loan allowing the consumer to request disclosures * * * * * agreement, the first possible date that a should be provided early in the telephone Paragraph 32(a)(2). 1. Exemption limited. Section 226.32(a)(2) payment in a different amount may be due message to ensure that the option to request is January 1, 2014. A prepayment penalty is disclosures is not obscured by other lists certain transactions exempt from the provisions of § 226.32. Nevertheless, those permitted with this mortgage transaction information. provided that the other § 226.32(d)(7) 2. Statement accompanying telephone transactions may be subject to the provisions of § 226.35, including any provisions of conditions are met, that is: provided that the number. Language must accompany a prepayment penalty is permitted by other telephone number indicating that disclosures § 226.32 to which § 226.35 refers. See 12 CFR 226.35(a). applicable law, the penalty expires on or are available by calling the telephone before Dec. 31, 2011, the penalty will not number, such as ‘‘call 1–800–000–0000 for * * * * * apply if the source of the prepayment funds details about credit costs and terms.’’ 32(d) Limitations. is a refinancing by the creditor or its affiliate, 24(i) Prohibited acts or practices in 1. Additional prohibitions applicable and at consummation the consumer’s total advertisements for credit secured by a under other sections. Section 226.34 sets monthly debts do not exceed 50 percent of dwelling. forth certain prohibitions in connection with the consumer’s monthly gross income, as 1. Comparisons in advertisements. The mortgage credit subject to § 226.32, in verified. requirements of § 226.24(i)(2) apply to all addition to the limitations in § 226.32(d). ii. Initial payments for a variable-rate advertisements for credit secured by a Further, § 226.35(b) prohibits certain transaction consummated on January 1, 2010 dwelling, including radio and television practices in connection with transactions that are $1,000 per month. Under the loan advertisements. A comparison includes a meet the coverage test in § 226.35(a). Because agreement, the first possible date that a claim about the amount a consumer may save the coverage test in § 226.35(a) is generally payment in a different amount may be due under the advertised product. For example, broader than the coverage test in § 226.32(a), is December 31, 2013. A prepayment penalty a statement such as ‘‘save $300 per month on most § 226.32 mortgage loans are also subject is prohibited with this mortgage transaction a $300,000 loan’’ constitutes an implied to the prohibitions set forth in § 226.35(b) because the payment may change within the comparison between the advertised product’s (such as escrows), in addition to the four-year period following consummation. payment and a consumer’s current payment. limitations in § 226.32(d). iii. Initial payments for a graduated- 2. Misrepresentations about government 2. Effective date. For guidance on the payment transaction consummated on endorsement. A statement that the federal application of the Board’s revisions January 1, 2010 are $1,000 per month. Under Community Reinvestment Act entitles the published on July 30, 2008 to § 226.32, see the loan agreement, the first possible date consumer to refinance his or her mortgage at comment 1(d)(5)–1. that a payment in a different amount may be the low rate offered in the advertisement is * * * * * due is January 1, 2014. A prepayment penalty prohibited because it conveys a misleading 32(d)(7) Prepayment penalty exception. is permitted with this mortgage transaction impression that the advertised product is Paragraph 32(d)(7)(iii). provided that the other § 226.32(d)(7) endorsed or sponsored by the federal 1. Calculating debt-to-income ratio. ‘‘Debt’’ conditions are met, that is: provided that the government. does not include amounts paid by the prepayment penalty is permitted by other 3. Misleading claims of debt elimination. borrower in cash at closing or amounts from applicable law, the penalty expires on or The prohibition against misleading claims of the loan proceeds that directly repay an before December 31, 2011, the penalty will debt elimination or waiver or forgiveness existing debt. Creditors may consider not apply if the source of the prepayment does not apply to legitimate statements that combined debt-to-income ratios for funds is a refinancing by the creditor or its the advertised product may reduce debt transactions involving joint applicants. For affiliate, and at consummation the payments, consolidate debts, or shorten the more information about obligations and consumer’s total monthly debts do not term of the debt. Examples of misleading inflows that may constitute ‘‘debt’’ or exceed 50 percent of the consumer’s monthly claims of debt elimination or waiver or ‘‘income’’ for purposes of § 226.32(d)(7)(iii), gross income, as verified.

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iv. Initial payments for a step-rate § 226.34(a)(4) prohibition applies to higher- could include interest or dividends; transaction consummated on January 1, 2010 priced mortgage loans described in retirement benefits; public assistance; and are $1,000 per month. Under the loan § 226.35(a). See 12 CFR 226.35(b)(1). For alimony, child support, or separate agreement, the first possible date that a guidance on the application of the Board’s maintenance payments. A creditor may also payment in a different amount may be due revisions to § 226.34(a)(4) published on July take into account assets such as savings is December 31, 2013. A prepayment penalty 30, 2008, see comment 1(d)(5)–1. accounts or investments that the consumer is prohibited with this mortgage transaction 2. General prohibition. Section 226.34(a)(4) can or will be able to use. because the payment may change within the prohibits a creditor from extending credit 7. Interaction with Regulation B. Section four-year period following consummation. subject to § 226.32 to a consumer based on 226.34(a)(4) does not require or permit the 2. Payment changes excluded. Payment the value of the consumer’s collateral creditor to make inquiries or verifications changes due to the following circumstances without regard to the consumer’s repayment that would be prohibited by Regulation B, 12 are not considered payment changes for ability as of consummation, including the CFR part 202. purposes of this section: consumer’s current and reasonably expected 34(a)(4)(i) Mortgage-related obligations. i. A change in the amount of a periodic income, employment, assets other than the 1. Mortgage-related obligations. A creditor payment that is allocated to principal or collateral, current obligations, and property must include in its repayment ability interest that does not change the total amount tax and insurance obligations. A creditor may analysis the expected property taxes and of the periodic payment. base its determination of repayment ability premiums for mortgage-related insurance ii. The borrower’s actual unanticipated late on current or reasonably expected income required by the creditor as set forth in payment, delinquency, or default; and from employment or other sources, on assets § 226.35(b)(3)(i), as well as similar mortgage- iii. The borrower’s voluntary payment of other than the collateral, or both. related expenses. Similar mortgage-related additional amounts (for example when a 3. Other dwelling-secured obligations. For expenses include homeowners’ association consumer chooses to make a payment of purposes of § 226.34(a)(4), current obligations dues and condominium or cooperative fees. interest and principal on a loan that only include another credit obligation of which 34(a)(4)(ii) Verification of repayment requires the consumer to pay interest). the creditor has knowledge undertaken prior ability. * * * * * to or at consummation of the transaction and 1. Income and assets relied on. A creditor I 20. In Supplement I to Part 226, under secured by the same dwelling that secures must verify the income and assets the Section 226.34—Prohibited Acts or the transaction subject to § 226.32 or creditor relies on to evaluate the consumer’s Practices in Connection with Credit § 226.35. For example, where a transaction repayment ability. For example, if a subject to § 226.35 is a first-lien transaction consumer earns a salary and also states that Secured by a Consumer’s Dwelling; for the purchase of a home, a creditor must he or she is paid an annual bonus, but the Open-end Credit, the heading is revised, consider a ‘‘piggyback’’ second-lien creditor only relies on the applicant’s salary and under 34(a) Prohibited acts or transaction of which it has knowledge that is to evaluate repayment ability, the creditor practices for loans subject to § 226.32, used to finance part of the down payment on need only verify the salary. 34(a)(4) Repayment ability, paragraphs the house. 2. Income and assets—co-applicant. If two 34(a)(4)–1 through 34(a)(4)–4 are 4. Discounted introductory rates and non- persons jointly apply for credit and both list removed, and new paragraphs 34(a)(4)– amortizing or negatively-amortizing income or assets on the application, the 1 through 34(a)(4)–7, new heading payments. A credit agreement may determine creditor must verify repayment ability with 34(a)(4)(i) Mortgage-related obligations a consumer’s initial payments using a respect to both applicants unless the creditor temporarily discounted interest rate or relies only on the income or assets of one of and new paragraph 34(a)(4)(i)–1, new permit the consumer to make initial the applicants in determining repayment heading 34(a)(4)(ii) Verification of payments that are non-amortizing or ability. repayment ability and new paragraphs negatively amortizing. (Negative amortization 3. Expected income. If a creditor relies on 34(a)(4)(ii)–1 through 34(a)(4)(ii)–3, new is permissible for loans covered by expected income, the expectation must be heading Paragraph 34(a)(4)(ii)(A) and § 226.35(a), but not § 226.32). In such cases reasonable and it must be verified with third- new paragraphs 34(a)(4)(ii)(A)–1 the creditor may determine repayment ability party documents that provide reasonably through 34(a)(4)(ii)(A)–5, new heading using the assumptions provided in reliable evidence of the consumer’s expected Paragraph 34(a)(4)(ii)(B) and new § 226.34(a)(4)(iv). income. For example, if the creditor relies on paragraphs 34(a)(4)(ii)(B)–1 and 5. Repayment ability as of consummation. an expectation that a consumer will receive Section 226.34(a)(4) prohibits a creditor from an annual bonus, the creditor may verify the 34(a)(4)(ii)(B)–2, new heading disregarding repayment ability based on the basis for that expectation with documents Paragraph 34(a)(4)(ii)(C) and new facts and circumstances known to the that show the consumer’s past annual paragraph 34(a)(4)(ii)(C)–1, new heading creditor as of consummation. In general, a bonuses and the expected bonus must bear a 34(a)(4)(iii) Presumption of compliance creditor does not violate this provision if a reasonable relationship to past bonuses. and new paragraph 34(a)(4)(iii)–1, new consumer defaults because of a significant Similarly, if the creditor relies on a heading Paragraph 34(a)(4)(iii)(B) and reduction in income (for example, a job loss) consumer’s expected salary following the new paragraph 34(a)(4)(iii)(B)–1, new or a significant obligation (for example, an consumer’s receipt of an educational degree, heading Paragraph 34(a)(4)(iii)(C) and obligation arising from a major medical the creditor may verify that expectation with new paragraph 34(a)(4)(iii)(C)–1, and expense) that occurs after consummation. a written statement from an employer However, if a creditor has knowledge as of indicating that the consumer will be new heading 34(a)(4)(iv) Exclusions consummation of reductions in income, for employed upon graduation at a specified from the presumption of compliance example, if a consumer’s written application salary. and new paragraphs 34(a)(4)(iv)–1 and states that the consumer plans to retire Paragraph 34(a)(4)(ii)(A). 34(a)(4)(iv)–2, are added to read as within twelve months without obtaining new 1. Internal Revenue Service (IRS) Form W– follows: employment, or states that the consumer will 2. A creditor may verify a consumer’s income transition from full-time to part-time using a consumer’s IRS Form W–2 (or any Section 226.34—Prohibited Acts or Practices employment, the creditor must consider that subsequent revisions or similar IRS Forms in Connection with Credit Subject to § 226.32 information. used for reporting wages and tax 34(a) Prohibited acts or practices for loans 6. Income, assets, and employment. Any withholding). The creditor may also use an subject to § 226.32. current or reasonably expected assets or electronic retrieval service for obtaining the * * * * * income may be considered by the creditor, consumer’s W–2 information. 34(a)(4) Repayment ability. except the collateral itself. For example, a 2. Tax returns. A creditor may verify a 1. Application of repayment ability rule. creditor may use information about current consumer’s income or assets using the The § 226.34(a)(4) prohibition against making or expected salary, wages, bonus pay, tips, consumer’s tax return. A creditor may also loans without regard to consumers’ and commissions. Employment may be full- use IRS Form 4506 ‘‘Request for Copy of Tax repayment ability applies to mortgage loans time, part-time, seasonal, irregular, military, Return,’’ Form 4506–T ‘‘Request for described in § 226.32(a). In addition, the or self-employment. Other sources of income Transcript of Tax Return,’’ or Form 8821

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‘‘Tax Information Authorization’’ (or any fails to obtain documentation of that amount are provided as follows (all payment amounts subsequent revisions or similar IRS Forms before extending the credit, the creditor will are rounded): appropriate for obtaining tax return not have violated this section if the creditor i. Balloon-payment loan; fixed interest information directly from the IRS) to verify later obtains evidence that would satisfy rate. A loan in an amount of $100,000 with the consumer’s income or assets. The creditor § 226.34(a)(4)(ii)(A), such as tax return a fixed interest rate of 8.0 percent (no points) may also use an electronic retrieval service information, showing that the creditor could has a 7-year term but is amortized over 30 for obtaining tax return information. have documented, at the time the loan was years. The monthly payment scheduled for 7 3. Other third-party documents that consummated, that the consumer had an years is $733 with a balloon payment of provide reasonably reliable evidence of annual income not materially less than remaining principal due at the end of 7 years. consumer’s income or assets. Creditors may $40,000. The creditor will retain the presumption of verify income and assets using documents 2. Materially greater than. Amounts of compliance if it assesses repayment ability produced by third parties. Creditors may not income or assets relied on are not materially based on the payment of $733. rely on information provided orally by third greater than amounts that could have been ii. Fixed-rate loan with interest-only parties, but may rely on correspondence from verified at consummation if relying on the payment for five years. A loan in an amount the third party, such as by letter or e-mail. verifiable amounts would not have altered a of $100,000 with a fixed interest rate of 8.0 The creditor may rely on any third-party reasonable creditor’s decision to extend percent (no points) has a 30-year term. The document that provides reasonably reliable credit or the terms of the credit. monthly payment of $667 scheduled for the evidence of the consumer’s income or assets. Paragraph 34(a)(4)(ii)(C). first 5 years would cover only the interest For example, creditors may verify the 1. In general. A credit report may be used due. After the fifth year, the scheduled consumer’s income using receipts from a to verify current obligations. A credit report, payment would increase to $772, an amount check-cashing or remittance service, or by however, might not reflect an obligation that that fully amortizes the principal balance obtaining a written statement from the a consumer has listed on an application. The over the remaining 25 years. The creditor consumer’s employer that states the creditor is responsible for considering such will retain the presumption of compliance if consumer’s income. an obligation, but the creditor is not required it assesses repayment ability based on the 4. Information specific to the consumer. to independently verify the obligation. payment of $772. Creditors must verify a consumer’s income or Similarly, a creditor is responsible for iii. Fixed-rate loan with interest-only assets using information that is specific to the considering certain obligations undertaken payment for seven years. A loan in an individual consumer. Creditors may use just before or at consummation of the amount of $100,000 with a fixed interest rate third-party databases that contain individual- transaction and secured by the same dwelling of 8.0 percent (no points) has a 30-year term. specific data about a consumer’s income or that secures the transaction (for example, a The monthly payment of $667 scheduled for assets, such as a third-party database service ‘‘piggy back’’ loan), of which the creditor the first 7 years would cover only the interest used by the consumer’s employer for the knows, even if not reflected on a credit due. After the seventh year, the scheduled purpose of centralizing income verification report. See comment 34(a)(4)–3. payment would increase to $793, an amount requests, so long as the information is 34(a)(4)(iii) Presumption of compliance. that fully amortizes the principal balance reasonably current and accurate. Information 1. In general. A creditor is presumed to over the remaining 23 years. The creditor about average incomes for the consumer’s have complied with § 226.34(a)(4) if the will retain the presumption of compliance if occupation in the consumer’s geographic creditor follows the three underwriting it assesses repayment ability based on the location or information about average procedures specified in paragraph interest-only payment of $667. incomes paid by the consumer’s employer, 34(a)(4)(iii) for verifying repayment ability, iv. Variable-rate loan with discount for five however, would not be specific to the determining the payment obligation, and years. A loan in an amount of $100,000 has individual consumer. measuring the relationship of obligations to a 30-year term. The loan agreement provides 5. Duplicative collection of documentation. income. The procedures for verifying for a fixed interest rate of 7.0 percent for an A creditor that has made a loan to a repayment ability are required under initial period of 5 years. Accordingly, the consumer and is refinancing or extending paragraph 34(a)(4)(ii); the other procedures payment scheduled for the first 5 years is new credit to the same consumer need not are not required but, if followed along with $665. The agreement provides that, after 5 collect from the consumer a document the the required procedures, create a years, the interest rate will adjust each year creditor previously obtained if the creditor presumption that the creditor has complied based on a specified index and margin. As of has no information that would reasonably with § 226.34(a)(4). The consumer may rebut consummation, the sum of the index value lead the creditor to believe that document the presumption with evidence that the and margin (the fully-indexed rate) is 8.0 has changed since it was initially collected. creditor nonetheless disregarded repayment percent. Accordingly, the payment scheduled For example, if the creditor has obtained the ability despite following these procedures. for the remaining 25 years is $727. The consumer’s 2006 tax return to make a home For example, evidence of a very high debt- creditor will retain the presumption of purchase loan in May 2007, the creditor may to-income ratio and a very limited residual compliance if it assesses repayment ability rely on the 2006 tax return if the creditor income could be sufficient to rebut the based on the payment of $727. makes a home equity loan to the same presumption, depending on all of the facts v. Variable-rate loan with discount for consumer in August 2007. Similarly, if the and circumstances. If a creditor fails to seven years. A loan in an amount of $100,000 creditor has obtained the consumer’s bank follow one of the non-required procedures set has a 30-year term. The loan agreement statement for May 2007 in making the first forth in paragraph 34(a)(4)(iii), then the provides for a fixed interest rate of 7.125 loan, the creditor may rely on that bank creditor’s compliance is determined based on percent for an initial period of 7 years. statement for that month in making the all of the facts and circumstances without Accordingly, the payment scheduled for the subsequent loan in August 2007. there being a presumption of either first 7 years is $674. After 7 years, the Paragraph 34(a)(4)(ii)(B). compliance or violation. agreement provides that the interest rate will 1. No violation if income or assets relied Paragraph 34(a)(4)(iii)(B). adjust each year based on a specified index on not materially greater than verifiable 1. Determination of payment schedule. To and margin. As of consummation, the sum of amounts. A creditor that does not verify retain a presumption of compliance under the index value and margin (the fully- income or assets used to determine § 226.34(a)(4)(iii), a creditor must determine indexed rate) is 8.0 percent. Accordingly, the repayment ability with reasonably reliable the consumer’s ability to pay the principal payment scheduled for the remaining years is third-party documents does not violate and interest obligation based on the $725. The creditor will retain the § 226.34(a)(4)(ii) if the creditor demonstrates maximum scheduled payment in the first presumption of compliance if it assesses that the income or assets it relied upon were seven years following consummation. In repayment ability based on the payment of not materially greater than the amounts that general, a creditor should determine a $674. the creditor would have been able to verify payment schedule for purposes of vi. Step-rate loan. A loan in an amount of pursuant to § 226.34(a)(4)(ii). For example, if § 226.34(a)(4)(iii)(B) based on the guidance in $100,000 has a 30-year term. The agreement a creditor determines a consumer’s the staff commentary to § 226.17(c)(1). provides that the interest rate will be 5 repayment ability by relying on the Examples of how to determine the maximum percent for two years, 6 percent for three consumer’s annual income of $40,000 but scheduled payment in the first seven years years, and 7 percent thereafter. Accordingly,

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the payment amounts are $537 for two years, published by the Board indicates how to if negative amortization occurs. A $597 for three years, and $654 thereafter. To identify the comparable transaction. prepayment penalty is permitted with this retain the presumption of compliance, the 3. Rate set. A transaction’s annual mortgage transaction provided that the other creditor must assess repayment ability based percentage rate is compared to the average § 226.35(b)(2) conditions are met, that is: on the payment of $654. prime offer rate as of the date the provided that the prepayment penalty is Paragraph 34(a)(4)(iii)(C). transaction’s interest rate is set (or ‘‘locked’’) permitted by other applicable law, the 1. ‘‘Income’’ and ‘‘debt’’. To determine before consummation. Sometimes a creditor penalty expires on or before December 31, whether to classify particular inflows or sets the interest rate initially and then re-sets 2011, and the penalty will not apply if the obligations as ‘‘income’’ or ‘‘debt,’’ creditors it at a different level before consummation. source of the prepayment funds is a may look to widely accepted governmental The creditor should use the last date the refinancing by the creditor or its affiliate. and non-governmental underwriting interest rate is set before consummation. ii. Initial payments for a variable-rate standards, including, for example, those set 4. Board table. The Board publishes on the transaction consummated on January 1, 2010 forth in the Federal Housing Internet, in table form, average prime offer are $1,000 per month and the loan agreement Administration’s handbook on Mortgage rates for a wide variety of transaction types. permits negative amortization to occur. Credit Analysis for Mortgage Insurance on The Board calculates an annual percentage Under the loan agreement, the first date that One- to Four-Unit Mortgage Loans. rate, consistent with Regulation Z (see a scheduled payment in a different amount 34(a)(4)(iv) Exclusions from the § 226.22 and appendix J), for each transaction may be due is January 1, 2014, but the presumption of compliance. type for which pricing terms are available creditor has the right to change scheduled 1. In general. The exclusions from the from a survey. The Board estimates annual payments prior to that date if negative presumption of compliance should be percentage rates for other types of amortization occurs. A prepayment penalty is interpreted consistent with staff comments transactions for which direct survey data are prohibited with this mortgage transaction 32(d)(1)(i)–1 and 32(d)(2)–1. not available based on the loan pricing terms because the payment may change within the 2. Renewable balloon loan. If a creditor is available in the survey and other four-year period following consummation. unconditionally obligated to renew a balloon- information. The Board publishes on the 35(b)(3) Escrows. payment loan at the consumer’s option (or is Internet the methodology it uses to arrive at Paragraph 35(b)(3)(i). obligated to renew subject to conditions these estimates. 1. Section 226.35(b)(3) applies to principal within the consumer’s control), the full term 35(b) Rules for higher-priced mortgage dwellings, including structures that are resulting from such renewal is the relevant loans. classified as personal property under state term for purposes of the exclusion of certain 1. Effective date. For guidance on the law. For example, an escrow account must be balloon-payment loans. See comment applicability of the rules in § 226.35(b), see established on a higher-priced mortgage loan 17(c)(1)–11 for a discussion of conditions comment 1(d)(5)–1. secured by a first-lien on a mobile home, boat within a consumer’s control in connection Paragraph 35(b)(2)(ii)(C). or a trailer used as the consumer’s principal with renewable balloon-payment loans. 1. Payment change. Section 226.35(b)(2) dwelling. See the commentary under * * * * * provides that a loan subject to this section §§ 226.2(a)(19), 226.2(a)(24), 226.15 and may not have a penalty described by 226.23. Section 226.35(b)(3) also applies to I 21. In Supplement I to Part 226, a new § 226.32(d)(6) unless certain conditions are higher-priced mortgage loans secured by a Section 226.35—Prohibited Acts or met. Section 226.35(b)(2)(ii)(C) lists as a first lien on a condominium or a cooperative Practices in Connection with Higher- condition that the amount of the periodic unit if it is in fact used as principal priced Mortgage Loans is added to read payment of principal or interest or both may residence. as follows: not change during the four-year period 2. Administration of escrow accounts. following consummation. For examples Section 226.35(b)(3) requires creditors to Section 226.35—Prohibited Acts or Practices showing whether a prepayment penalty is establish before the consummation of a loan in Connection With Higher-priced Mortgage permitted or prohibited in connection with secured by a first lien on a principal dwelling Loans particular payment changes, see comment an escrow account for payment of property 35(a) Higher-priced mortgage loans. 32(d)(7)(iv)–1. Those examples, however, taxes and premiums for mortgage-related Paragraph 35(a)(2). include a condition that § 226.35(b)(2) does insurance required by creditor. Section 6 of 1. Average prime offer rate. Average prime not include: the condition that, at RESPA, 12 U.S.C. 2605, and Regulation X offer rates are annual percentage rates consummation, the consumer’s total monthly address how escrow accounts must be derived from average interest rates, points, debt payments may not exceed 50 percent of administered. and other loan pricing terms currently the consumer’s monthly gross income. For 3. Optional insurance items. Section offered to consumers by a representative guidance about circumstances in which 226.35(b)(3) does not require that escrow sample of creditors for mortgage transactions payment changes are not considered payment accounts be established for premiums for that have low-risk pricing characteristics. changes for purposes of this section, see mortgage-related insurance that the creditor Other pricing terms include commonly used comment 32(d)(7)(iv)–2. does not require in connection with the indices, margins, and initial fixed-rate 2. Negative amortization. Section credit transaction, such as an earthquake periods for variable-rate transactions. 226.32(d)(2) provides that a loan described in insurance or debt-protection insurance. Relevant pricing characteristics include a § 226.32(a) may not have a payment schedule Paragraph 35(b)(3)(ii)(B). consumer’s credit history and transaction with regular periodic payments that cause 1. Limited exception. A creditor is required characteristics such as the loan-to-value ratio, the principal balance to increase. Therefore, to escrow for payment of property taxes for owner-occupant status, and purpose of the the commentary to § 226.32(d)(7)(iv) does not all first lien loans secured by condominium transaction. To obtain average prime offer include examples of payment changes in units regardless of whether the creditors rates, the Board uses a survey of creditors connection with negative amortization. The escrows insurance premiums for that both meets the criteria of § 226.35(a)(2) following examples show whether, under condominium unit. and provides pricing terms for at least two § 226.35(b)(2), prepayment penalties are I types of variable-rate transactions and at least permitted or prohibited in connection with 22. In Supplement I to Part 226, a new two types of non-variable-rate transactions. particular payment changes, when a loan Section 226.36—Prohibited Acts or An example of such a survey is the Freddie agreement permits negative amortization: Practices in Connection with Credit Mac Primary Mortgage Market Survey. i. Initial payments for a variable-rate Secured by a Consumer’s Principal 2. Comparable transaction. A higher- transaction consummated on January 1, 2010 Dwelling is added to read as follows: priced mortgage loan is a consumer credit are $1,000 per month and the loan agreement transaction secured by the consumer’s permits negative amortization to occur. Section 226.36—Prohibited Acts or Practices principal dwelling with an annual percentage Under the loan agreement, the first date that in Connection With Credit Secured by a rate that exceeds the average prime offer rate a scheduled payment in a different amount Consumer’s Principal Dwelling for a comparable transaction as of the date may be due is January 1, 2014 and the 1. Effective date. For guidance on the the interest rate is set by the specified creditor does not have the right to change applicability of the rules in § 226.36, see margin. The table of average prime offer rates scheduled payments prior to that date even comment 1(d)(5)–1.

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36(a) Mortgage broker defined. a particular date; the servicer is only required obtain the consumer’s authorization to 1. Meaning of mortgage broker. Section to credit the payment as of the date of release information to any such person before 226.36(a) provides that a mortgage broker is receipt. Accordingly, a servicer that receives the ‘‘reasonable time’’ period begins to run. any person who for compensation or other a payment on or before its due date (or 3. Payment requirements. The servicer may monetary gain arranges, negotiates, or within any grace period), and does not enter specify reasonable requirements for making otherwise obtains an extension of consumer the payment on its books or in its system payoff requests, such as requiring requests to credit for another person, but is not an until after the payment’s due date (or be in writing and directed to a mailing employee of a creditor. In addition, this expiration of any grace period), does not address, e-mail address or fax number definition expressly includes any person that violate this rule as long as the entry does not specified by the servicer or orally to a satisfies this definition but makes use of result in the imposition of a late charge, telephone number specified by the servicer, ‘‘table funding.’’ Table funding occurs when additional interest, or similar penalty to the or any other reasonable requirement or a transaction is consummated with the debt consumer, or in the reporting of negative method. If the consumer does not follow obligation initially payable by its terms to information to a consumer reporting agency. these requirements, a longer time frame for one person, but another person provides the 2. Payments to be credited. Payments responding to the request would be funds for the transaction at consummation should be credited based on the legal reasonable. and receives an immediate assignment of the obligation between the creditor and 4. Accuracy of payoff statements. Payoff note, loan contract, or other evidence of the consumer. The legal obligation is determined statements must be accurate when issued. debt obligation. Although § 226.2(a)(17)(1)(B) by applicable state or other law. Paragraph 36(c)(2). provides that a person to whom a debt 3. Date of receipt. The ‘‘date of receipt’’ is 1. Payment requirements. The servicer may obligation is initially payable on its face the date that the payment instrument or other specify reasonable requirements for making means of payment reaches the mortgage generally is a creditor, § 226.36(a) provides payments in writing, such as requiring that that, solely for the purposes of § 226.36, such servicer. For example, payment by check is payments be accompanied by the account a person is considered a mortgage broker. In received when the mortgage servicer receives number or payment coupon; setting a cut-off addition, although consumers themselves it, not when the funds are collected. If the hour for payment to be received, or setting often arrange, negotiate, or otherwise obtain consumer elects to have payment made by a different hours for payment by mail and extensions of consumer credit on their own third-party payor such as a financial payments made in person; specifying that behalf, they do not do so for compensation institution, through a preauthorized payment only checks or money orders should be sent or other monetary gain or for another person or telephone bill-payment arrangement, by mail; specifying that payment is to be and, therefore, are not mortgage brokers payment is received when the mortgage made in U.S. dollars; or specifying one under this section. servicer receives the third-party payor’s particular address for receiving payments, 36(b) Misrepresentation of value of check or other transfer medium, such as an consumer’s principal dwelling. electronic fund transfer. such as a post office box. The servicer may 36(b)(2) When extension of credit Paragraph 36(c)(1)(ii). be prohibited, however, from requiring prohibited. 1. Pyramiding of late fees. The prohibition payment solely by preauthorized electronic 1. Reasonable diligence. A creditor will be on pyramiding of late fees in this subsection fund transfer. (See section 913 of the deemed to have acted with reasonable should be construed consistently with the Electronic Fund Transfer Act, 15 U.S.C. diligence under § 226.36(b)(2) if the creditor ‘‘credit practices rule’’ of Regulation AA, 12 1693k.) extends credit based on an appraisal other CFR 227.15. 2. Payment requirements—limitations. than the one subject to the restriction in Paragraph 36(c)(1)(iii). Requirements for making payments must be § 226.36(b)(2). 1. Reasonable time. The payoff statement reasonable; it should not be difficult for most 2. Material misstatement or must be provided to the consumer, or person consumers to make conforming payments. misrepresentation. Section 226.36(b)(2) acting on behalf of the consumer, within a For example, it would be reasonable to prohibits a creditor who knows of a violation reasonable time after the request. For require a cut-off time of 5 p.m. for receipt of of § 226.36(b)(1) in connection with an example, it would be reasonable under most a mailed check at the location specified by appraisal from extending credit based on circumstances to provide the statement the servicer for receipt of such check. such appraisal, unless the creditor within five business days of receipt of a 3. Implied guidelines for payments. In the documents that it has acted with reasonable consumer’s request. This time frame might be absence of specified requirements for making diligence to determine that the appraisal does longer, for example, when the servicer is payments, payments may be made at any not materially misstate or misrepresent the experiencing an unusually high volume of location where the servicer conducts value of such dwelling. A misstatement or refinancing requests. business; any time during the servicer’s misrepresentation of such dwelling’s value is 2. Person acting on behalf of the consumer. normal business hours; and by cash, money not material if it does not affect the credit For purposes of § 226.36(c)(1)(iii), a person order, draft, or other similar instrument in decision or the terms on which credit is acting on behalf of the consumer may include properly negotiable form, or by electronic extended. the consumer’s representative, such as an fund transfer if the servicer and consumer 36(c) Servicing practices. attorney representing the individual, a non- have so agreed. Paragraph 36(c)(1)(i). profit consumer counseling or similar By order of the Board of Governors of the 1. Crediting of payments. Under organization, or a creditor with which the Federal Reserve System, July 15, 2008. § 226.36(c)(1)(i), a mortgage servicer must consumer is refinancing and which requires Jennifer J. Johnson, credit a payment to a consumer’s loan the payoff statement to complete the account as of the date of receipt. This does refinancing. A servicer may take reasonable Secretary of the Board. not require that a mortgage servicer post the measures to verify the identity of any person [FR Doc. E8–16500 Filed 7–29–08; 8:45 am] payment to the consumer’s loan account on acting on behalf of the consumer and to BILLING CODE 6210–01–P

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