Subprime Mortgage Lending

The federal financial regulatory agencies issued comments for a proposed Statement on Subprime Mortgage Lending to address certain risks and emerging issues relating to subprime1 mortgage lending practices, specifically, particular adjustable-rate mortgage (ARM) lending products.

The proposal addresses concerns that subprime borrowers may not fully understand the risks and consequences of obtaining these products, and that the products may pose an elevated credit risk to financial institutions. In particular, the proposed guidance focuses on loans that involve repayment terms that exceed the borrower’s ability to service the debt without refinancing or selling the property.

The statement specifies that an institution’s analysis of a borrower’s repayment capacity should include an evaluation of the borrower’s ability to repay the debt by its final maturity at the fully indexed rate, assuming a fully amortizing repayment schedule. The statement also underscores that communications with consumers should provide clear and balanced information about the relative benefits and risks of the products.

The agencies request comment on all aspects of the proposed statement and are particularly interested in public comment about whether: 1) these arrangements always present inappropriate risks to institutions and consumers, or the extent to which they can be appropriate under some circumstances; 2) the proposed statement would unduly restrict existing subprime borrowers’ ability to refinance their loans; 3) other forms of credit are available that would not present the risk of payment shock; 4) the principles of the proposed statement should be applied beyond the subprime ARM market; and 5) an institution’s limiting of prepayment penalties to the initial fixed-rate period would assist consumers by providing them sufficient time to assess and act on their mortgage needs.