Compliance Challenges in a Changing Economic Environment Call the Fed Audio Conference December 10, 2008 The following presentation contains the views and opinions of the speakers and his or her interpretation of regulatory guidance. It does not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco or of the Board of Governors of the Federal Reserve System.
Home Equity Lines of Credit: Compliance Implications Relating to Freezing or Suspending HELOCS Jason Lew Examiner 2
Contents Modifying Home Equity Plans Compliance Considerations Where is the Risk? Regulation Z (Truth in Lending Act) Regulation B (Equal Credit Opportunity Act) Fair Lending Fair Credit Reporting Act Best Practices Resources 3
Modifying Home Equity Plans Data through September 2008 shows U.S. home prices continue to decline across the U.S. (S&P Release dated 11/25/08) Many institutions have begun addressing the risk of declining home prices by reducing or suspending home equity lines of credit Although prudent to address the credit risk associated with these plans, it s important to be aware of the compliance rules that apply 4
Regulation Z Truth in Lending Act When can institutions reduce or suspend home equity lines of credit? Regulation Z contains limitations with regard to changes in terms Only under certain circumstances can lenders reduce or suspend home equity plans, including when: The value of the dwelling securing plan declines significantly below dwelling s appraised value for purposes of plan The creditor reasonably believes consumer will be unable to fulfill repayment obligations under plan because of a material change in consumer s financial circumstances 5
Regulation Z Truth in Lending Act (cont.) Significant decline not defined; may vary according to individual circumstances Commentary provides example where excess equity at time of origination declines by more than 50 percent When different criteria are used, information to support rational should be documented and retained Appraisals are not required; however, must be able to substantiate methodology used to determine new value Material change in financial circumstances two conditions must be met for exception to apply Material change in consumer s financial circumstances As a result of change, creditor must have reasonable belief consumer will be unable to fulfill payment obligations of plan 6
Regulation Z Truth in Lending Act (cont.) Temporary nature of suspension or reduction Creditors only permitted to reduce or suspend lines while one of the designated circumstances exist Reinstatement of credit privileges Once conditions that caused suspension or reduction cease to exist, credit privileges must be reinstated Monitoring Bank should monitor condition to ensure it meets responsibility for identifying when condition ceases to exist 7
Regulation B Equal Credit Opportunity Act Adverse Action Is the suspension or reduction considered adverse action? Adverse Action includes an unfavorable change in terms that does not affect all or substantially all of a class of creditor s accounts As not all customers may experience reduction or suspension, action would be construed as adverse action Notification Requirements Must be in writing and provided to each affected consumer Must be provided within 3 business days and contain specific reasons Should explain if borrower is required to request reinstatement of credit privileges If borrower reinstatement not stipulated, institution responsible for monitoring 8
Fair Lending Considerations Policy for reductions and suspensions should be applied consistently and without regard to any prohibited basis to avoid the risk of discrimination or unfair practices Property values and financial circumstances should be calculated/determined using methods that have a sound factual basis and should be applied consistently Creditor should analyze impact of with regard to affected borrowers and neighborhoods, considering potential for disparate treatment or impact 9
Fair Credit Reporting Act If reduction or suspension based on credit bureau information and meets definition of adverse action under Regulation B, FCRA notice must be included in adverse action notice 10
Best Practices Become familiar with the rules Be sure that staff (i.e., lenders and credit risk managers) are aware of potential compliance implications of institution s decisions Have controls in place to ensure regulatory requirements are being met Support decisions with data Conduct fair lending assessment of proposed methodology for freezing or reducing home equity plans. Ensure methodology and related policies will be applied consistently and not result in unexplained or unintended outcomes 11
Resources Federal Reserve Bank of San Francisco Publications Section with Link to Outlook http://www.frbsf.org/publications/banking/index.html FDIC Financial Institution Letter Regarding HELOCS (FIL-58-2008) http://www.fdic.gov/news/news/financial/2008/fil08058.html OTS Issuance of HELOC Account Management Guidance http://files.ots.treas.gov/481121.pdf 12
CRA in a Declining Economic Environment Kelly K. Walsh Senior Examiner 13
Contents Facing the challenges of the current economic environment while managing CRA What s the Same? What s Different? Tips for Managing CRA in this Environment Best Practices Resources 14
What s the Same? Regulation and examination procedures have not changed Need to understand and manage CRA performance on an ongoing basis A performance context that details opportunities and constraints in local community Focus on lending test Need for qualified community development activities 15
What s Different? Local economy Housing market Credit standards Loan demand Capacity to lend Needs in the community Community development opportunities 16
Develop a Stronger Performance Context How has the environment changed for you institution? What does bank management know about the local market and economy, relative to community development opportunities? Has loan demand declined or changed? Has the creditworthiness of the bank s customers changed? Is the bank facing any liquidity or other constraints? Has your business strategy or product offering changed as a result of current economic conditions? Are there any other relevant factors that may impact your capacity or ability? 17
Analyze Direct Lending Review lending volumes Analyze geographic distribution and proportion of loans to borrowers of different income levels and businesses of different sizes Are fewer loans made to small businesses or in low- and moderateincome areas? Why? Does your performance context support these lending levels and patterns? Are there other programs that support direct lending? FHA Hope 4 Homeowners program by making FHA insured loans to at risk borrowers. http://portal.hud.gov/portal/page?_pageid=73,7601299&_dad=portal&_schema=portal Federal loan guarantee programs such as FHA and SBA 18
Understand Community Development Activities Where are they located? Within assessment area In a broader statewide or regional area that includes the bank s assessment area Do they have a Community Development purpose? Affordable housing for LMI individuals; Community services targeted to LMI individuals; Activities that promote economic development by financing businesses or farms; or Activities that revitalize or stabilize LMI geographies, designated disaster areas or distressed or underserved non-metropolitan middle-income geographies designated by the Board of Governors, FDIC and OCC. 19
Examples of Qualified CD Loan Activities Contact developers who are accessing funding through HUD's Neighborhood Stabilization Program. These developers will receive funding for acquisition and development of foreclosures to turn those properties around. The developers may also need bank financing for other operating costs until the projects can be sold. http://www.hud.gov/offices/cpd/communitydevelopment/programs/neighborhoodspg/ 20
Examples of Qualified CD Investment Activities Providing funding for housing counseling Consumer Credit Counseling Services HUD certified counseling agencies The state of CA is funding Rural Community Assistance Corp and Calif. Reinvestment Coalition with housing counseling grants--banks could support these organizations to further leverage the state's support Provide donations to help capitalize loan-rescue funds for low- or moderate-income borrowers mired in predatory loans. A number of predatory loan rescue funds have been established to help keep homeowners in their properties and avoid the trauma of foreclosure. Supporting a loan-rescue fund that is part of a municipal plan to revitalize and stabilize a low- or moderate-income geography would also be viewed positively under CRA. 21
Examples of Qualified CD Service Activities Provide housing counseling directly Training programs could include: readiness to buy a home budgeting and money management basic banking understanding credit the home buying process (working with a realtor, house shopping) the mortgage (processing, underwriting, closing) post purchase counseling & foreclosure protection Use HUD's HOPE NOW program to work with borrowers who need loan modifications to prevent foreclosure http://www.hopenow.com/ 22
Best Practices Make a determination about which activities have a community development purpose Don t provide examiners an extensive list of possible CD loans, services and investments to review Provide supporting information for donations (not just a copy of the check) What information did the bank rely on to determine that the donation was a qualified community development investment? Does the non-profit serve predominantly LMI people or small businesses? Track the number of hours of community development service performed Examiners use this to measure performance Track the number of units supported with Community Development investments and loans This loan funded the construction of 54 units; 40 are affordable to those earning less than 80% of AMI This LIHTC funded 260 units of affordable housing Track which assessment area received benefit This will also help the bank self identify weaknesses 23
Resources Federal Reserve Bank of San Francisco website http://www.frbsf.org/community/ Bankers Quick reference Guide to CRA http://www.dallasfed.org/ca/pubs/quickref.pdf Statement on Working with Mortgage Borrowers http://www.federalreserve.gov/boarddocs/srletters/2007/sr0706a1.pdf 24
New Consumer Protection Rules for Mortgages Laura L. Boughner Senior Examiner 25
Contents Regulation Z Amendments Defines higher-priced mortgage loans Adds protections from unfair, abusive or deceptive lending practices Requires certain early disclosures New advertising standards HMDA Amendments Best Practices Resources 26
Regulation Z Amendments Address concerns in subprime mortgage lending Protect consumers from unfair or deceptive acts and practices in mortgage lending Effective date of October 1, 2009 Except for escrows (April 1, 2010 for site-built homes & October 1, 2010 for manufactured homes) Defines new Higher-Priced Mortgage Loan 150 bps over average prime rate offer rate; 350 bps for subordinate lien loans Change from proposal which relied on Treasuries Expected to cover all subprime loans and some Alt-A Few exceptions (e.g., HELOCs, temporary financing) Basis for new restrictions 27
Higher-Priced Mortgage Loans (cont.) Creates Ability to Repay and Verification of Income Standards Prohibits making loan without regard to borrower s ability to repay from income and assets other than home value Does not prescribe underwriting standards Required for all loans; pattern or practice standard removed Required to verify income and assets relied upon to determine repayment ability Third-party documentation Must consider and verify current obligations May rely on credit bureau report Presumption of Compliance Verify income and assets relied on and verify current obligations Use highest scheduled payment for first seven years Consider debt-to-income ratio or residual income Excluded: negative amortization & certain balloon loans 28
Higher-Priced Mortgage Loans (cont.) Escrow Accounts Required Mandated on first-lien loans Creditor decides whether to permit opt-out Prohibited in first 12 months Prepayment Penalties Restricted Not permitted on loans subject to payment changes during the first 4 years Restricted for all other loans (fixed rate) Cannot exceed first two years of loan term Cannot be imposed by same creditor or affiliate 29
Protections for all Mortgages Restrictions Prohibits lender or broker from coercing appraiser Prohibits servicers from imposing certain unwarranted charges Requires prompt pay-off statement Early Disclosures Disclosure of loan terms within 3 days of application, or before a fee is charged Advertisements Accurate and complete Prohibits certain deceptive practices 30
HMDA Amendments Amended to complement the final rule under Regulation Z Agreeing the definition of higher-priced mortgage loans Lender to report spread between APR and average prime offer rate if spread meets or exceeds 150 bps for a first-lien 350 bps for subordinate liens Average prime offer rate derived by Fed Board to publish tables & methodology on FFIEC website by January 1, 2009 Change effective for Applications taken on or after October 1, 2009 All loans consummated on or after January 1, 2010, regardless of application dates 31
Best Practices Determine applicability and need for change Review policies and procedures for needed changes for the new rules Train staff Sample loans to ensure accuracy of systems Ensure that you have adequate monitoring systems in place to identify errors Keep senior management and the board of directors informed with periodic MIS 32
Resources FFIEC website www.ffiec.gov PMMS data www.freddiemac.com/dlink/html/pmms/display/pmmsoutputyr.jsp Federal Reserve Final Rule Publications http://www.federalreserve.gov/newsevents/press/bcreg/2008bcreg.htm 33
Questions? 34
Presenter Contact Information Jason Lew jason.lew@sf.frb.org (415) 974-2882 Kelly Walsh kelly.walsh@sf.frb.org (415) 974-3149 Laura Boughner laura.l.boughner@sf.frb.org (415) 974-3119 35