The Senate Banking Committee, chaired by Tim Johnson, D-S.D., held two hearings recently on financial products that are targeted to people at specific points in the life cycle — reverse mortgages and student loans. This article will set out some basic facts about each product, given that each has become prominent enough on congressional radar that they could lead to legislation.
Readers are probably familiar with the reverse mortgage, the so-called Home Equity Conversion Mortgage (HECM), but you may not realize that it is a product that was created by an act of Congress in 1987. Of course, the purpose was to enable post-retirement people with substantial equity in their homes to get access to that equity in order to meet needs that arise, such as long-term care, and to be able to spend the money while they are still alive and to "age in place" by staying in their homes. The downside is that they could burn through their money and end up destitute.
The circumstance is complicated by the fact that the standard industry practice calls for the borrower to borrow all of the equity, because this is most convenient, and probably most lucrative for the lender, while also probably the riskiest course for the borrower. It turns out that when the mortgages were financed by the Federal Housing Administration (FHA), this practice of equity stripping increased the delinquency rate and contributed to the losses that have driven the FHA into insolvency. So ironically, this arrangement left both the borrower and the lender broke.
Apparently, the FHA has convinced Congress that in order to make needed changes to reduce the continuing flow of losses, legislation is needed, and it might even occur before the end of the fiscal year in September.
On June 18, the Senate Banking Committee's Subcommittee on Housing, Transportation and Community Development held a hearing on proposed changes to the program. Witnesses represented the industry and several groups that work with reverse mortgage borrowers.
The three specific changes being proposed are: 1) the establishment of an underwriting process for the loans, 2) a limit on the amount of funds that can be drawn down at closing and 3) set-asides that would ensure the payment of property taxes and insurance.
The driving force for quick action is concern that under the regular rulemaking process at the FHA, it would take at least a year and a half to update the regulations. Therefore, the legislation would be designed to short-circuit this process and allow the changes to be made more or less in real time in view of the insolvent condition of the FHA's insurance fund.
Government-guaranteed student loans have grown to over $1 trillion, and loans issued by private banks are now $150 billion, not much in the big scheme of things, but it is has all continued to grow since the 2008 episode of the ongoing financial crisis, as states have cut back on support for higher education, tuitions continue to rise and federal student loans have shifted from 80 percent grants when the current senators were in college to two-thirds loans today. Nevertheless, the private share of the market is expected to shrink to 6 percent over the next few years.
Several developments have Democratic senators visibly angry, and the opportunity to help several important constituencies simultaneously — students, parents, colleges, the Housing Industrial Complex and banks — will prove too great to resist, so there is bound to be legislation.
On July 1 the interest rate on some federal student loans is slated to double. It is estimated this increase will produce a $50 billion profit in the first years and $180 billion over a 10-year period.
Democrats question whether the government should make money on student loans at all, and Joe Manchin, D-W.V., demanded that the panel tell him whether or not this would be good policy, but the panelists all demurred.
Democratic senators are also dismayed that banks and even Sallie Mae are able to borrow at concessional rates, and then tack on big margins to student loans. Then regulators defend this on the ground that unlike any other product, student loan payments are deferred until sometime after the borrower leaves school.
Elizabeth Warren, D-Mass., was livid that Sallie Mae is able to borrow from the Federal Home Loan Bank System at 1/3 percent interest when that agency is supposed to exist to support housing finance.
Another Democratic complaint is that bank lenders are slow to restructure troubled loans. The witnesses all stated that agency policy favors such restructuring, but the transactions have to be reported and accounted for properly.
Sherrod Brown, D-Ohio, and Heidi Heitkamp, D-N.D., along with Dick Durbin, D-Ill., and Patty Murray, D-Wash., who are not on the Banking Committee, are sponsoring the Refi for the Future Act, which would authorize the Treasury, Department of Education and the Consumer Financial Protection Bureau (CFPB) to create a program that would encourage competition and enable student loan borrowers to refinance their loans, in order to take advantage of current low interest rates.
Brown pointed out that bank lenders typically borrow at 1.45 percent and charge more than five times that rate to student borrowers, and even the banks cite lack of competition as a reason for the high margins.
Rohit Chopra, the student loan ombudsman at the CFPB, a position created under a provision of Dodd-Frank sponsored by Brown, was a witness at the Committee On Banking, Housing and Urban Affairs subcommittee hearing. Chopra's office has issued a report intended to pressure the private lenders to do more to help borrowers refinance their loans, but the lenders cite as an obstacle the requirements of regulators that the loans be properly reported and accounted for.
There are also questions regarding the adequacy of IT systems employed by loan servicers, which are usually units of the banks that make the loans. The hearing touched lightly on these matters, but they are likely to get more attention as the committee proceeds to consider Brown's bill.
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