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The sharp increases in subprime mortgage loan delinquencies and foreclosures over the past year have created personal, economic, and social distress for many homeowners and communities. The Federal Reserve has taken a number of actions that directly respond to these problems. Some of the efforts are intended to help distressed subprime borrowers and limit preventable foreclosures, and others are aimed at reducing the likelihood of such problems in the future.
Home losses through foreclosure can be reduced if financial institutions work with borrowers who are having difficulty meeting their mortgage payment obligations. Foreclosure cannot always be avoided, but in many cases prudent loss-mitigation techniques that preserve homeownership are less costly to lenders than foreclosure. In 2007, the Federal Reserve and other banking agencies encouraged mortgage lenders and mortgage servicers to pursue prudent loan workouts through such measures as modification of loans, deferral of payments, extension of loan maturities, capitalization of delinquent amounts, and conversion of adjustable-rate mortgages (ARMs) into fixed-rate mortgages or fully indexed, fully amortizing ARMs.1
The Federal Reserve has also collaborated with community groups to help homeowners avoid foreclosure. Staff members throughout the Federal Reserve System are working to identify localities that are likely to experience the highest rates of foreclosure; the resulting information is helping local groups to better focus their borrower outreach efforts. In addition, the Federal Reserve actively supports NeighborWorks America, a national nonprofit organization that has been helping thousands of mortgage borrowers facing current or potential distress. Federal Reserve staff members have worked closely with this organization and its local affiliates on an array of foreclosure prevention efforts, and a member of the Federal Reserve Board serves on its board of directors. Other contributions include efforts by Reserve Banks to convene workshops for stakeholders to develop community-based solutions to mortgage delinquencies in their areas.
The Federal Reserve has taken important steps aimed at avoiding future problems in subprime mortgage markets while still preserving responsible subprime lending and sustainable homeownership. In coordination with other federal supervisory agencies and the Conference of State Bank Supervisors, the Federal Reserve issued principles-based guidance on subprime mortgages last summer.2 The guidance is designed to help ensure that borrowers obtain adjustable-rate mortgages that they can afford to repay and can refinance without prepayment penalty for a reasonable period before the first interest rate reset. The Federal Reserve issued similar guidance on nontraditional mortgages in 2006.3
The Federal Reserve is working to help safeguard borrowers in their interactions with mortgage lenders. In support of this effort, in December 2007 the Federal Reserve used its authority under the Home Ownership and Equity Protection Act of 1994 to propose new rules that address unfair or deceptive mortgage lending practices. This proposal addresses abuses related to prepayment penalties, failure to escrow for taxes and insurance, problems related to statedincome and low-documentation lending, and failure to give adequate consideration to a borrower’s ability to repay. The proposal includes other protections as well, such as rules designed to curtail deceptive mortgage advertising and to ensure that consumers receive mortgage disclosures at a time when the information is likely to be the most useful to them.
The Federal Reserve is also currently undertaking a broad and rigorous review of the Truth in Lending Act, including extensive consumer testing of loan disclosure documents. After a similar comprehensive analysis of disclosures related to credit card and other revolving credit arrangements, the Board issued a proposal in May 2007 to require such disclosures to be clearer and easier to understand. Like the credit card review, the review of mortgage disclosures will be lengthy given the critical need for field testing, but the process should ultimately help more consumers make appropriate choices when financing their homes.
Finally, strong uniform oversight of all mortgage lenders is critical to avoiding future problems in mortgage markets. Regulatory oversight of the mortgage industry has become more challenging as the breadth and depth of the market has grown over the past decade and as the role of nonbank mortgage lenders, particularly in the subprime market, has increased. In response, the Federal Reserve, together with other federal and state agencies, launched a pilot program last summer focused on selected nondepository lenders with significant subprime mortgage operations.4 The program will review compliance with consumer protection regulations and impose corrective or enforcement actions as warranted.
1. Board of Governors of the Federal Reserve System (2007), “Working with Mortgage Borrowers,” Division of Banking Supervision and Regulation, Supervision and Regulation Letter SR 07-6 (April 17); and “Statement on Loss Mitigation Strategies for Servicers of Residential Mortgages,” Supervision and Regulation Letter SR 07-16 (September 5).
2. Board of Governors of the Federal Reserve System (2007), “Statement on Subprime Mortgage Lending,” Division of Banking Supervision and Regulation, Supervision and Regulation Letter SR 07-12 (July 24).
3. Board of Governors of the Federal Reserve System (2006), “Interagency Guidance on Nontraditional Mortgage Product Risks,” Division of Banking Supervision and Regulation, Supervision and Regulation Letter SR 06-15 (October 10).
4. The other agencies collaborating on the effort are the Office of Thrift Supervision, the Federal Trade Commission, the Conference of State Bank Supervisors, and the American Association of Residential Mortgage Regulators.
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