February 28, 2006
State Laws Effectively Curb Predatory Lending Without Stifling Subprime Market, Study Finds
by Bill Baue
The Center for Responsible Lending study rebuts opponents of state anti-predatory lending laws, and
suggests significant implications for the two competing anti-predatory bills now in Congress.
Low-income home-shoppers are vulnerable to (and hence very reliant on laws protecting them from)
"predatory lending," which includes exorbitant fees or subprime prepayment penalties as well as
steering borrowers to higher priced loans when they could qualify for better terms.
A new study from the
Center for Responsible Lending (CRL), a nonprofit, nonpartisan research organization
affiliated with the Self-Help community
development financial institution (CDFI), is the first to examine in-depth the effectiveness of
state-level anti-predatory lending laws.
"For years, the debate over predatory
lending has been conducted in an information vacuum," said Keith Ernst, senior policy counsel at
CRL, who supervised the study, entitled The Best Value in the Subprime Market: State Predatory
Lending Reforms. "Now we know, beyond a doubt, that these laws work, and that they don't harm
The study, which examines more than 6 million subprime mortgages in 28 states
with various reforms against predatory lending from 1998 through 2004, finds predatory lending in
many of these states dropped by almost a third.
"States with the strongest
laws--Massachusetts, New Jersey, New Mexico, New York, North Carolina, and West Virginia--showed
the largest declines in loans with predatory terms," states the report.
The study also
reveals unexpected findings.
"A central goal of predatory lending reform has been to shift
lender compensation away from fees--both front-end charges and back-end prepayment penalties--into
more transparent interest rates, since a borrower can refinance out of a high rate loan but cannot
escape from high fees," write Wei Li and Keith Ernst in the report they authored "With this in
mind, we expected to find a combination of fee reductions accompanied by offsetting marginal
interest rate increases."
"We did find that fees in the form of prepayment penalties were
reduced, but, to our surprise, we also found that many families paid lower interest rates," they
continued. "Among states with reforms, interest rates on fixed-rate mortgages showed no
statistically significant difference in eight states and actually were lower in 19."
findings offer a strong rebuttal to industry nay-sayers who claim that these laws stifle the
subprime market where low-income borrowers, who are often strapped with credit problems, must
"This study demonstrates that critics who claim anti-predatory lending laws will
dry up people's access to credit are just plain wrong," said Tom Miller, Attorney General of Iowa, a state with
strong anti-predatory lending laws. "This research shows that sound legislation curbs abusive
lending, and it does not reduce responsible lending . . . [and] that leads to one more conclusion:
consumers would be harmed if federal law preempted state regulation."
Mr. Miller refers to
two competing bills currently making their way through Congress. HR 1182, or the Miller-Watt-Frank bill, seeks to strengthen existing federal legislation
while allowing states to extend further protections, while HR 1295, or the Ney-Kanjorski bill, which would erase state laws without
strengthening federal laws. Needless to say, CRL supports the
Miller-Watt-Frank bill and opposes the
While the study focuses on the state level, it extrapolates its
findings to the national level
"[T]here are strong indications that state reforms are
having a positive effect on the national subprime market," the report states. "For example, over
the course of our study, the overall incidence of prepayment penalties peaked at 67.7 percent and
then dropped to 51 percent by December 2004."
"For balloon payments, the corresponding
figures went from 13.6 percent to zero," it continues.
The study concludes by advancing
two significant implications for state and federal policymakers confronted with choices on how best
to address predatory lending.
"First, the findings suggest that strong state laws like
those in place in New Mexico, Massachusetts and North Carolina can serve as successful models," the
report states. "Second, the findings call into question the advisability of federal proposals that
would nullify state efforts and substitute a weak national standard."
"In fact, this study
shows that overriding state laws would be harmful--and costly--to consumers, since states are
successfully cutting back on predatory loans without cutting off access to credit," the report
continued. "From a homeowner's perspective, it appears that mortgages protected by strong state
laws may be the best deal in the real estate market."