Predatory lending is the practice of charging excessive fees, high interest rates and other abusive techniques that some mortgages lenders use to take advantage of borrowers, especially elderly homeowners who may have high levels of equity in their home. When buying or refinancing a home, protect yourself against excessive fees, high interest rates, and other predatory lending tactics.
To protect yourself and the equity you have in your home:
- Recognize that you the right to rescind your loan within 3 days of signing
- Understand the difference between subprime and predatory lending (see below).
- Understand the “Don’t borrow Trouble” warning signs before you enter into a new loan on your home.
- Contact Consumer Credit Counseling Services
or Housing and Economic Rights Advocates for counseling and guidance.
Don’t Borrow Trouble: Seven Signs of Predatory Lending
- Excessive fees
Some fees (including a charge called points) are not included in the interest rate. They are easy to disguise or downplay. However, all of these fees must be disclosed in the papers you sign. Find out about any of these add-on fees before you sign. If you don’t get good answers, don’t sign. (Fees on the best loans are less than 1%. Fees on predatory loans can be more than 5%.) - Abusive prepayment penalties
This is a fee for paying off your loan early. Avoid this type of fee. An abusive penalty bars you from prepaying for a long time (more than three years) or charges you more than six month’s interest to prepay. This will make it hard to pay off your loan early. In the prime market (where the best loans are made), only about 2% of home loans carry prepayment penalties of any length. - Kickbacks to brokers (yield spread premiums)
The broker is the person who sells you the mortgage; the lender is the bank, or other financial company, that actually lends you the money and services your loan. When you get a high interest loan, the lender often pays a yield spread premium to the broker — kickback for charging you a high rate. Find out if the broker is getting this type of kickback. The law requires that this information be disclosed to you in the loan documents. Be careful: This information may be buried and not clearly stated. - Loan flipping
If you are refinancing, be sure that you are getting a real benefit from the deal. Flipping happens when a lender makes money by getting you to take out a new loan, while you just get further and further into debt. This happens because every time you refinance, you pay more fees and charges. Flipping can drain away any equity you have in the property and increase your monthly payments. - Products you don’t need
A lender may try to talk you into paying extra for extra insurances or other products along with the loan. Don’t buy any extras that you don’t really need. - Mandatory arbitration
Some loan contracts require mandatory arbitration, meaning that you are not allowed to take the lender to court if you find out that your lender has taken advantage of you illegally. Beware that this can severely limit your legal options later on if it turns out that your contract is illegal. - Steering and Targeting
A predatory lender may steer you into a sub-prime mortgage, even though you could qualify for a better loan. These loans are more expensive and more likely to have unfair penalties and the like. Lenders are good at convincing you that this is a better deal than it really is. A lender who says that you have poor credit may be exaggerating or lying. Reliable sources estimate that up to half of borrowers with sub-prime mortgages could have qualified for loans with better terms; you may be one of those borrowers.
Ask the lender for your credit score. This score is based on your credit history and other factors. According to the National Association of Realtors, if your score is 650 or higher, you should be able to qualify for the best loan terms.
The Difference Between Subprime and Predatory Lending
What is Subprime Lending?
Borrowers who have less than perfect credit, or who have had past credit problems, are less likely to qualify for conventional home loans. Often these borrowers only option in obtaining a home loan is through the subprime market. Subprime loans typically have higher interest rates and fees, since these are higher-risk customers for the lending agency. Subprime loans are intended to be short-term, about 2-4 years, giving the homeowner a chance to pay back debts and clean up their credit. At that time they should be able to qualify for or refinance into a lower risk, lower rate loan from a major bank or savings and loan institution.
What is Predatory Lending?
A predatory loan can be undertaken by mortgage companies, creditors, brokers or even home improvement contractors, and involves engaging in deception or fraud, manipulating the borrower through aggressive sales tactics, or taking unfair advantage of a borrower’s lack of understanding about loan terms. These practices are often combined with abusive loan terms such as: loan flipping, excessive fees and very high interest rates, lending without regard to the borrower’s ability to repay, and outright fraud and abuse.
Predatory lending generally occurs in the subprime mortgage market, where most borrowers use the collateral in their homes for debt consolidation or other consumer credit purposes. Most borrowers in this market have limited access to the mainstream financial sector, yet some would likely qualify for prime loans. While predatory lending can occur in the prime market, it is ordinarily deterred in that market by competition among lenders, great homogeneity in loan terms, and greater financial information among borrowers. In addition, most prime lenders are banks, thrifts, or credit unions, which are subject to extensive federal and state oversight and supervision, unlike most subprime lenders.