I. INTRODUCTION
The Community Development Banking and Financial Institutions Act of 1994 (CDBFI Act) was enacted by Congress on September 23, 1994. Subtitle B of the CDBFI Act contains the Home Ownership and Equity Protection Act of 1994 (HOEPA). The Federal Reserve Board issued rules (compliance being mandatory until October 1, 1995) to implement the Act that impose disclosure requirements and substantive limitations on closed-end home equity mortgage loans bearing rates or fees above a certain percentage or amount. The rules require disclosures to assist consumers in comparing the cost of reverse mortgage transactions. A set of amended rules were later issued (compliance being mandatory on October 1, 2002).
II. COVERED TRANSACTIONS
The rule applies to so-called high-rate or high-fee mortgage loans. Covered loans include any “consumer credit transaction” as defined in Regulation Z (i.e., a loan to a consumer primarily for personal, family or household purposes) that is secured by the consumer’s principal dwelling and in which either (1) the annual percentage rate upon consummation of the transaction will exceed by more than eight percentage points the yield on Treasury securities having comparable periods of maturity for first-lien loans, with no charge for subordinate lien loans; or (2) the total points and fees payable by the consumer at or before loan closing will exceed the greater of eight percent of the total loan amount or $632, effective January 1, 2014.
The fee threshold is adjusted annually, on January 1, to reflect changes in the Consumer Price Index reported on the preceding June 1.
Included within the definition of “fees” are premiums or other charges for credit life, accident, health, loss-of-income or debt-cancellation coverage (whether or not the debt-cancellation coverage is insurance under applicable law) written in connection with the credit transaction and that provides for cancellation of all or part of the consumer’s liability in the event of the loss of life, health or income or in the case of an accident.
III. EXEMPTIONS
Transactions specifically exempted under the act, include the following: (1) residential mortgage transactions as defined in Regulation Z (i.e., loans to finance the acquisition or initial construction of the dwelling); (2) reverse mortgage transactions; and (3) open-end credit transactions.
Appendix H to Part 226 – Closed-end Model Forms and Clauses
H-16--Mortgage Sample
You are not required to complete this agreement merely because you have received these disclosures or have signed a loan application.
If you obtain this loan, the lender will have a mortgage on your home.
YOU COULD LOSE YOUR HOME, AND ANY MONEY YOU HAVE PUT INTO IT, IF YOU DO NOT MEET YOUR OBLIGATIONS UNDER THE LOAN.
You are borrowing $ (optional credit insurance is • is not • included in this amount).
The annual percentage rate on your loan will be _________ %.
Your regular [frequency] payment will be: $ ___________.
[At the end of your loan, you will still owe us: $ [balloon amount] .]
[Your interest rate may increase. Increases in the interest rate could increase your payment. The highest amount your payment could increase is to $ _________.
IV. COVERED CREDITORS
For purposes of this rule, the Federal Reserve Board defines a creditor as a person who has originated two or more high-rate, high-fee loans or one or more such loans through a mortgage broker within any twelve-month period.
V. REQUIRED DISCLOSURES
For transactions covered by the rule, creditors are required to make certain additional disclosures clearly and conspicuously in writing, in a form that the customer may keep. The disclosures must contain the following information:
A. The statement “You are not required to complete this agreement merely because you have received these disclosures or have signed a loan application. If you obtain this loan, the lender will have a mortgage on your home. You could lose your home, and any money you have put into it, if you do not meet your obligations under the loan”;
B. The annual percentage rate;
C. The amount of the monthly or other regularly scheduled payments and the amount of any balloon payment in the case of a credit transaction with a fixed rate of interest;
D. For variable rate transactions, a statement that the interest rate and monthly payment may increase and the amount of the single maximum monthly payment, based on the maximum interest rate required to be disclosed; and
E. The total amount of money borrowed and where the amount borrowed includes premiums or other charges for optional credit insurance or debt-cancellation coverage, that fact must be stated, grouped together with the disclosure of the amount borrowed. The rule includes a tolerance whereby the disclosed amount of money borrowed will be deemed accurate if it varies no more than $100 from the actual amount borrowed.
The required disclosures must be given at least three business days prior to consummation of the transaction. If the creditor changes any of the terms that makes the disclosure inaccurate in the interim period, new disclosures must be provided with the new information. New disclosures may be provided by telephone when the consumer initiates the change and if at the time of loan consummation, the creditor provides new written disclosures (the consumer and creditor then must sign a statement that the new disclosures were provided by telephone at least three days prior to consummation).
The Federal Reserve Board has included a disclosure sample (H-16) in Appendix H that creditors can follow to comply with these disclosure provisions.
VI. PROHIBITED TERMS
Lenders are prohibited, with two exceptions, from using balloon payments, negative amortization, advance payments, higher interest rate after default or prepayment penalties. Any mortgage transaction subject to this rule may not provide for the following terms:
A. Balloon Payments
Transactions covered under the rule with a term of less than five years may not include terms under which the aggregate amount of the regular periodic Payments would not fully amortize the outstanding principal balance. The prohibition against balloon payments is subject to an exception for loans with maturities of less than one year, if the purpose of the loan is a “bridge” loan connected with the acquisition or construction of a dwelling intended to become the consumer’s principal dwelling.
B. Negative Amortization
Transactions covered under the rule may not include terms under which the outstanding principal balance will increase at any time over the course of the loan because the regular periodic payments do not cover the full amount of interest due.
C. Advance Payments
Transactions covered under the rule may not provide for a payment schedule that consolidates more than two periodic payments and pays them in advance from the proceeds.
D. Increased Interest Rate
Transactions covered under the rule may not provide for an interest rate after default that is higher than the interest rate that applies before the default.
E. Prepayment Penalty
Transactions covered under the rule may not contain terms under which a consumer must pay a prepayment penalty for paying all or part of the principal before the date on which the principal is due. An exception which allows a prepayment penalty for covered transactions applies if: (1) the penalty can be exercised only for the first five years following consummation; (2) the source of the prepayment funds is not a refinancing by the creditor or an affiliate of the creditor; and (3) at consummation, the consumer’s total monthly debts do not exceed 50% of the consumers monthly gross income, as verified by the consumers signed financial statement, a credit report, and payment records for employment income.
VII. PROHIBITED ACTS AND PRACTICES
The Federal Reserve Board also prohibits creditors from engaging in any of the following practices:
A. extending credit to a consumer based on the consumer’s collateral if, considering the consumer’s current and expected income, current obligations and employment status, the consumer will be unable to make the scheduled payments to repay the obligation;
B. using proceeds of a high-rate loan to pay a contractor under a home improvement contract, other than (a) by an instrument payable to the consumer or jointly to the consumer and the contractor; or (b) at the election of the consumer, through a third-party escrow agent in accordance with terms established in a written agreement signed by the consumer, the creditor, and the contractor prior to the disbursement; and
C. selling or otherwise assigning a high rate loan or mortgage without furnishing the following statement to the purchaser or assignee “NOTICE”: “This is a mortgage subject to special rules under the federal Truth-in-Lending Act. Purchasers or assignees of this mortgage could be liable for all claims and defenses with respect to the mortgage that the borrower could assert against the creditor.”
The rule prohibits creditors and their assignees from refinancing a HOEPA loan made during the 12-month period following origination unless the refinancing is “in the borrower’s interest.” The rule is designed to address “loan flipping” (the practice by some brokers or creditors of frequently refinancing home-secured loans to generate additional fee income even though the refinancing is not in the borrower’s interest). The staff commentary under the Rules notes that whether a loan is in a borrower’s interest is based on an examination of the totality of the circumstances at the time the credit is extended. A mere statement by the borrower that the loan is in his or her interest is insufficient. A refinancing will be in the borrower’s interest if the loan is needed for a bona fide personal financial emergency, which is the same standard as the current standard for waivers of rescission rights under the Truth in Lending Act. The staff commentary notes that the imminent sale of the consumer’s home at foreclosure during the three-day HOEPA waiting period is an example of a bona fide personal financial emergency. Staff commentary also notes that in determining whether the loan is in the borrower’s interest, consideration should be given to whether the loan fees and charges are commensurate with the amount of new funds advanced and the real estate related charges are bona fide and reasonable in amount. The commentary also provides examples of how the application of the one-year refinancing restriction would work, for example, if the lender sells the loan within that one-year period.
The rule prohibits a creditor from accelerating the payment of HOEPA loans without cause by including “payable on demand” or “call” provisions in HOEPA loans, unless they are used in connection with a consumer’s default and structuring a mortgage loan to appear to be an open-end credit line (and thus be exempt from HOEPA) if it does not meet Regulation Z’s definition of open-end credit (e.g., a high-cost mortgage may not be structured as a home-secured line of credit if there is no reasonable expectation that repeat transactions will occur under the line of credit).
VIII. PROHIBITION ON LOANS BASED ON HOMEOWNERS’ EQUITY WITHOUT REGARD TO REPAYMENT ABILITY
The rule creates a presumption that a creditor has violated the statutory provision on making HOEPA loans without regard to repayment ability if the creditor does not verify and document consumers’ ability to repay (i.e., documenting current or expected income, current obligations, and employment to the extent possible). The commentary provides that a creditor may use “reliable sources” of information, such as credit reports, tax returns, and pension and salary records, when verifying a consumer’s repayment ability.