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Wednesday, November 5, 2003
U.S. House of Representatives,
Subcommittee on Financial Institutions
and Consumer Credit,
Subcommittee on Housing
and Community Opportunity,
Committee on Financial Services,
Washington, D.C.
    The subcommittees met, pursuant to call, at 10:05 a.m., in Room 2128, Rayburn House Office Building, Hon. Robert W. Ney [chairman of the Subcommittee on Housing and Community Opportunity] presiding.
    Present: Representatives Ney, Bachus, Baker, Royce, Kelly, Ose, Shays, Miller of California, Hart, Tiberi, Feeney, Hensarling, Garrett of New Jersey, Brown-Waite, Harris, Kanjorski, Waters, Sanders, Maloney, Velazquez, Watt, Ackerman, Sherman, Meeks, Lee, Moore, Ford, Hinojosa, Lucas, Crowley, Clay, Israel, McCarthy, Baca, Miller of North Carolina, Scott, and Davis.
    Chairman NEY. The Subcommittee on Housing and Community Opportunity will come to order, and it is also the Subcommittee on Financial Institutions. We are doing a joint hearing. And I want to thank Congressman Bachus. I will begin, and then I will be leaving for a while, and Congressman Bachus is going to chair this. I appreciate his interest in this issue.
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    I also want to say, also off the bat, that there are a lot of members on this bill that—Congressman Lucas, my colleague, is the primary author of this bill, along with myself and other members. And I appreciate his willingness to tackle not only an important issue, but also a tough issue.
    Protecting consumers from abusive lending and predatory practices is of great importance to everybody in our country. We all recognize that some unscrupulous lenders, using unfair and deceptive tactics, are costing Americans their homes and their livelihoods.
    Because of a combination of misinformation and bad practices, some borrowers have been deceived into receiving a loan they really can't afford, while having the equity stripped out of their homes. This is wrong, and I know we all agree that it has to stop.
    As we all know, the problem in stopping these bad practices is the difficulty in defining predatory lending. The Financial Services Committee is challenged with preventing abusive lending without denying consumers access to credit. However, what might be good for one consumer might, frankly, be wrong for another. That leads us to today's hearing. I think that everyone in this room agrees that we must find a way to stop the practice of predatory lending.
    For most Americans, much of their wealth is invested in their homes. To have this equity stripped out can be devastating for homeowners, especially the elderly who are relying on that equity for retirement security. However, the question before us is, how do you stop that which, frankly, I think is undefined.
    Subprime lending is a legitimate and valuable part of our Nation's credit markets. Millions of Americans rely on subprime lending for everything from their children's education to health care. Placing onerous new restrictions on access to subprime credit will be devastating for consumers and our Nation's economy.
    There are a number of ideas about how we can combat abusive lending practices. For example, earlier this year, as I mentioned, my good friend and colleague, Ken Lucas, and I introduced H.R. 833, which mixes new consumer protections with increased disclosure and consumer education initiatives.
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    I have also been working with other members, including Congressman David Scott, a member of our committee, and Congresswoman Nydia Velazquez to craft a homeownership counseling bill as a first step to educate consumers, combat abusive lending also. These bills are part of an ongoing discussion on predatory lending.
    Throughout this year, I have been working on a bipartisan basis to foster discussion among the many interested parties about how we can balance competing views on the most effective solution to predatory lending. With the support of people like Chairman Bachus, whom I mentioned earlier, who has been instrumental in these efforts, we are trying to find a common ground with comprehensive solutions to the problem of abusive lending. I also appreciate the input of Chairman Oxley on these issues. This hearing is another important step in that process.
    We brought together, I think, a very diverse group of people representing consumer groups, industry and academia to hear what they see as solutions to the problems of abusive lending. I want to have a fair and open dialogue today so that members of this committee can continue working towards a bipartisan solution that will protect consumers from abusive lending, while protecting their access to affordable credit.
    And I think the idea I want to re-stress is a fair and open dialogue. A lot of people don't even want to discuss this subject, but we know what happened in some of our States, including Georgia, where the legislature had to come back and go through a lot of things because, frankly, a lot of people were shut out of the housing market, which is very unfortunate.
    It is my personal belief that any potential legislation addressing the issue of abusive lending must address the growing patchwork of State and local predatory lending legislation. It must deal with the emerging problems of ascertaining liability.
    That concludes my opening statement, and I will yield to Mr. Lucas.
    Mr. LUCAS. Thank you, Mr. Chairman, Chairman Bachus. I appreciate you all holding this hearing today, and I would like to associate myself with the remarks that you just made.
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    I think the important thing here is that with my background prior to coming to Congress in banking and financial planning matters, I realized the importance of the issues that are facing us. HOEPA in its present form isn't working as well as it should.
    And who is suffering from that? I think we are depriving people out there, who have less than perfect credit, of owning a home; and I look at my role. The reason I was willing to get involved in this legislation, which could be contentious, is that we need to improve on what we have now; and we need to keep the issues that are important with the consumer here, and also the people who are lending the money.
    If we work together, we can make this better. And I think there is nothing cast in stone in 833; I think we are open and willing to listen to both sides as to what we might do to make this better.
    And that is my purpose, if you will, to sort of be a referee and a person to work out the compromise so we can allow more people to have affordable housing at a reasonable price. Thank you.
    Chairman NEY. I want to thank the gentleman for his support and his opening statement.
    Chairman NEY. Chairman Bachus.
    Chairman BACHUS. Thank you, Chairman Ney, for convening this joint hearing of our two subcommittees to review issues relating to the subprime mortgage lending industry in the United States.
    This hearing, which is titled Protecting Homeowners: Preventing Abusive Lending While Preserving Access to Credit, will focus on ways to eliminate abusive lending practices in subprime lending markets, while preserving and promoting affordable lending to millions of Americans. This is an issue of critical importance to consumers, as well as the financial services industry; and I believe this hearing is a timely one.
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    Over the last decade or so, with low interest rates, a competitive marketplace, and various government policies encouraging homeownership, a record number of Americans have had the opportunity to purchase homes. A large number of these new homeowners have enjoyed one of the many benefits of homeownership, using the equity in their homes for home improvements, family emergencies, debt consolidation, and other reasons. Many of these consumers were able to purchase and use the equity in their homes because of the subprime lending market, which provides millions of Americans with credit that they may not have otherwise been able to obtain.
    Many borrowers are unable to qualify for the lowest mortgage rate available in the prime market, also known as the conventional or conforming market, because they have less than perfect credit or cannot meet some of the tougher underwriting requirements of the prime market. These borrowers, who generally are considered as posing higher risk, rely on the subprime market which offers more customized mortgage protection to meet customers' varying credit needs and situations. Subprime borrowers pay higher rates and servicing costs to offset their greater risk.
    Naturally, subprime mortgage originations have skyrocketed since the early 1990s. Financial companies, nonbank mortgage companies and, to a lesser extent, commercial banks have become active players in the arena. In 1994, just 34 billion in subprime mortgages were originated, compared with over 213 billion in 2002. In about 8 years, we have gone from 34 billion to 203 billion.
    The proportion of subprime loans compared to all home loans has also risen dramatically. In 1994, subprime mortgages represented 5 percent of the overall mortgage originations in the United States. By 2002, the share had risen to 8.6 percent. Unfortunately, the increase in subprime lending has in some instances increased abusive lending practices that have been targeted at more vulnerable populations.
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    As Mr. Scott has said before this committee before, they target the vulnerable; minorities, the elderly are two of these targeted populations. These abusive practices have become known as predatory lending. Predatory loan features include excessively high interest rates and fees, balloon payments, high loan-to-value ratios, excessive prepayment penalties, loan flipping, loan steering, mandatory arbitration and unnecessary credit life insurance. Predatory lending has destroyed the dream of homeownership for many families while leaving behind devastated communities.
    I hope today that we will move forward in developing ways to put an end to these harmful and deceptive practices while continuing to preserve and promote access for consumers to affordable credit.
    In closing, I want to thank Chairman Ney and Congressman Ken Lucas for their tireless efforts on this issue over the past year. They are passionate about coming up with solutions and deserve a great deal of credit for all of their work. They have authored H.R. 833, the Responsible Lending Act.
    I want to also commend Congressman David Scott for his work on H.R. 1865, the Prevention of Predatory Lending through Education Act. He and I have just come from a forum held at the Press Club, that the FDIC sponsored, where we talked about this legislation and other legislation promoting financial literacy and the importance of that in our overall effort.
    I look forward to working with Chairman Ney, Congressman Lucas, Congressman Scott and with all of my other colleagues as we continue to examine this complicated issue.
    I have made no decisions as far as particular provisions of legislation, what I will be supporting, what I won't be supporting. I think the purpose of this hearing is just the first step, at least in my mind, of seeing if we can come up with a meaningful and balanced bill.
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    Thank you, Chairman Ney.
    Chairman NEY. Thank the gentleman.
    [The prepared statement of Hon. Spencer Bachus can be found on page 76 in the appendix.]
    Chairman NEY. Mr. Sanders.
    Mr. SANDERS. Thank you, Mr. Chairman. And I thank you and Mr. Bachus for holding this important hearing. This is an issue that I think we are going to see more and more attention paid to, because I think all over this country not only in terms of home mortgages, but credit cards and other areas, people are getting sick and tired of being ripped off by companies and paying outrageous interest rates at a time when interest rates are historically low.
    According to the Coalition for Responsible Lending, predatory lending is costing U.S. families over $9 billion every year. And I am pleased that George Brown with the Coalition is here today to discuss this national crisis.
    Mr. Chairman, in the richest country on Earth, the record-breaking number of housing foreclosures in this country is a national disgrace. Between 1980 and 1999, both the number and the rate of home foreclosures in the U.S. Have skyrocketed by 277 percent.
    According to an article in the New York Times, over 130,000 homes have been foreclosed in the spring of 2002 alone, with another record-breaking 414,000 foreclosures in the pipeline.
    Many of these foreclosures are a direct result of predatory lending practices through a subprime market that must be put to an end immediately. In fact, according to the Mortgage Bankers Association, while subprime lenders account for 10 percent of the mortgage lending market, they account for 60 percent of foreclosures.
    Predatory lending is a growing problem across the U.S. Desperate for homeownership or home improvements, more and more people are being tricked into home loans with high interest rates and fees that are impossible to pay, and eventually lead to foreclosure.
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    Predatory lending is being perpetrated by the likes of CitiGroup and Household International. As a result of legal actions filed by the Federal Trade Commission, CitiGroup agreed in September to reimburse consumers $215 million for predatory lending abuses, which represents the largest consumer settlement in FTC history.
    Due to the good work of Iowa Attorney General Tom Miller, who is with us today—and we welcome you for being here—and other State Attorneys General, Household International has agreed to pay 484 million to reimburse victims of predatory lending, representing the largest direct payment ever in a State or Federal consumer case.
    Homeownership is the American dream. It is the opportunity for all Americans to put down roots and start creating equity for themselves and their families. Homeownership has been the path to building wealth for generations of Americans. It has been the key to ensuring stable communities, good schools, safe streets.
    Predatory lenders play on these hopes and dreams to rip people off and rob them of their homes. These lenders target lower income, elderly, and often unsophisticated homeowners for their abusive practices. What a lovely way to live one's life and run a business.
    But let us not forget, when we are talking about predatory lending, we are not just talking about mortgage lending, as bad as that is. We are talking about auto financing and credit card companies as well.
    Mr. Chairman, Mr. Bachus, I appreciate the opportunity to work with you against what I think is one of the most egregious predatory lending practices, the credit card interest rate bait-and-switch in which credit card companies double or triple the interest rates because a person is late on a student loan 3 years ago, or even maybe missed one credit card payment.
    And mark my words, this is an issue that even the United States Congress will eventually begin to deal with because millions of people are tired of being ripped off not only by predatory lenders in mortgages, but by predatory lenders on credit cards as well.
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    We know of an instance where a person was paying 9 percent on their interest rates. Suddenly, they got a payment, and they were paying 14 percent. When asked what happened, when they made a call and asked what happened, the company said, Oh, you called us; we will bring it back to 9 percent, with the assumption that people who did not notice would be paying 14 percent. No reason, no late fees, no nothing.
    So I think, Mr. Chairman, this is an issue in terms of mortgage rates which affects lots of people, but it goes beyond mortgage rates, and I look forward to working with you.
    But I want to say one point. I am not in agreement that the United States Congress should preempt the ability of States to go forward. We have examples here in Iowa, North Carolina, and my own State of Vermont where governors, State legislatures, Attorneys General have stood up for consumers; and I think that in a nation which has 50 States we have got to respect the rights of those States to go forward. States are laboratories of democracy; and I do not agree with the trend that we are increasingly seeing from a quote, unquote, ''conservative Congress'' about taking away the ability of States to protect consumers.
    So I feel strongly about that and look forward to working with you on that issue.
    Chairman NEY. Before we proceed on, I would please note to members, today I am going to have to be very strict on the 5 minutes, because if everybody has a 5-minute opening statement, which is fine, we have got to get to the witnesses. So I will bang the gavel at the 5 minutes. Please try to observe the clock.
    We will go on to Chairman Baker.
    Mr. BAKER. Thank you very much, Mr. Chairman. I want to commend you and Mr. Bachus for your good work on the subject, and I commit to support the product that you two develop in this area of needed reform.
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    I will try to be brief and to the point. The only reason for my comment this morning is, having read through some of the testimony we are likely to receive here in the course of the hearing this morning, I am concerned by some of the recommendations that I have read with regard to the appropriate remedy.
    Certainly individuals should have access to credit that is fair and balanced, priced for the risk that the extension of credit requires. Certainly the repayment terms should not be those which would lead to confiscatory practices, taking away the right to property by unreasonable repayment penalties. Certainly, individuals who find themselves affronted have access to some appellate process before they are thrown out of homeownership.
    Having said all of that, all of us don't have the same credit. I find myself probably in the circumstance which a lot of people find themselves in, that you don't always get what you ask for in the way of extensions of credit. But the remedy to pricing risk is not to say that because there have been abusive practices, we should simply eliminate extensions of credit. Everybody needs access to credit.
    Ultimately, at the end of the process, I hope that we can find a way to ferret out the wrongdoers, those who are victimizing the innocents who can't make the educated decisions they need to make for their own best financial interests; but at the same time, not preclude access to credit. If we close one lending window, the market is simply going to open another one somewhere else, and I suggest that the replacement window will be far more costly and bring about far more adverse consequences than a properly regulated mortgage industry.
    So I stand in defense of the practice of extension of credit, priced on the risk which the lender assumes by making the money available in the first place. That is a good system. And where we can find wrongdoers that are engaging in practices not already in violation or Federal or State law, let's go get them. I will join with anyone in that effort and I do believe that that is an appropriate direction for us to take.
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    I again commend you, Mr. Chairman, for your leadership on this important subject, and yield back.
    Chairman NEY. I want to thank the Chairman.
    Chairman NEY. Mr. Scott of Georgia.
    Mr. SCOTT. Thank you very much, Mr. Chairman. I appreciate it very much.
    This is an extraordinary hearing on a monumental problem. It is a problem that we in Georgia have been grappling with for many years. I was very privileged as a State Senator in the Georgia general assembly many years ago, to tackle one of the most serious and the very first predatory lending cases to come before the Nation. As some of you may remember, it was the Fleet Finance situation.
    We had a very broad usury law of 5 percent on the unpaid balance per month, which yielded out to 60 percent. And Fleet came down and took advantage of that and was charging up to 60 percent interest rates on second home mortgages. We moved to deal with that forthrightly.
    We have wrestled with a lot of things. We have wrestled with trying to throw a net around the whole industry to catch that predatory lender. I found out some things. I found out, one important thing is that you have got to prepare for the storm before the hurricane is raging. An ounce of prevention is worth a pound of cure.
    Education, I have found out, is the key. Because we—this is a targeted effort, the vulnerable among us are targeted, the uneducated are targeted, the African Americans are a target, Hispanics are a target, language barriers are a target. When we are dealing with high finances, just simply with home finances especially, it is a very complicated issue no matter what we put on the books as laws.
    And we must put strong laws on the books; don't get me wrong about that. But I have found that where we are weak in this country is not having a strong vision of America that says we must have a financially literate nation. We are not there, and the pressure is on us to continue.
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    We are having a browning of America as I speak. Our growing populations are those populations of Hispanics and African Americans that are changing the complexion of this country. Education is needed here.
    And so with that beginning, coming onto the financial services committee, I wanted to bring that kind of experience. We put a brokers licensing bill on. We recently in Georgia put the Georgia Fair Lending Practices Act on. And we went into an area of assigning liability that stretched just so far that we have come back in Georgia, we have had to go back and redo that because of the bonding requirements. Standard & Poor's would not back up those loans.
    So where that brings us is to my initial point, that we must now look at financial literacy and financial education as a way to not solve all of the problems—I don't prescribe that this financial literacy is the panacea or the answer for all of the problem, but it is one of the most important components.
    And I am very privileged and very delighted to have joined in with Chairman Ney and Chairman Oxley and Ranking Member Frank, Mr. Shays, Mr. Watt, Mr. Clay, Mr. Meeks, many of us who are very much concerned about arming our folks with the education that is needed.
    And so we have put together a bill, which we call the Prevention of Predatory Lending Through Education Act. And, of course, realizing as a freshman Democrat that if we want to get something through, you have to partner, I am very proud to say that we have been successful in partnering this bill with Chairman Ney's bill, which we, of course, know will get through, as the ranking member and the Chairman of the subcommittee. It has been incorporated into a part of his overall housing counseling bill; I appreciate Chairman Ney for doing that.
    Essentially, I would like to end by just telling you exactly what this bill would do. It would do four major things. One, we would provide grants to States and nonprofit agencies for programs that educate consumers, especially low-income borrowers and senior citizens about lending laws, counseling programs for homeowners and prospective homeowners, regarding unscrupulous lending practices and referral services for homeowners and prospective homeowners.
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    And secondly, which I think is the kernel of this law, it would create a nationwide toll-free number to receive consumer complaints regarding predatory lending practices, provide information about unscrupulous lending practices, refer victims to consumer protection agencies and organizations, and create a database of information for consumers.
    I think that this 1-800 number is a help line. We can get that message out, target it to the most vulnerable groups. And one message, if nothing else, will be, Before you sign on the dotted line, call this 1-800 number. I think that kind of preventive medicine is what is needed.
    Thirdly, it will coordinate government agencies and nonprofit organizations that provide education counseling to consumers who have been victims of predatory lending and practices to get those community organizations—the AARP, the NAACP, the grass-root groups who are interfacing on the front lines of this battle—to get them some grants to market the 1-800 number if nothing else.
    And, thirdly, it would establish a predatory lending advisory council under the Department of Housing and Urban Development, comprised of community-based organizations, homeowners and government officials.
    Thank you, Mr. Chairman.
    Chairman NEY. Thank you. I appreciate your statement. In fact, the gentleman has pointed out he has been successful as a freshman Democrat. In fact, you are successful; I made you chairman of a subcommittee when I introduced you.
    Mr. SCOTT. Thank you very much. I appreciate it.
    Chairman NEY. Thank you. We will talk later.
    And with that, I will move to the Vice Chair of the full committee, the Congresswoman from New York, Mrs. Kelly.
    Mrs. KELLY. Thank you, Mr. Chairman. In the interest of time and because we have a large panel, I have no statement. Thank you for the time.
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    Chairman NEY. We will be moving to Mr. Hensarling.
    Mr. HENSARLING. Thank you, Mr. Chairman. I certainly appreciate you and Chairman Bachus for holding this hearing. As I read the title of the hearing, '' Protecting Homeowners, Preventing Abusive Lending While Preserving Access to Credit'', I certainly hope that we don't lose focus on the second half of this phrase, ''while preserving access to credit.'' .
    If I did my homework properly, I believe that we are now in America enjoying the highest rate of homeownership in the history of the Republic. Those of us who sat through the many, many hearings on the Fair Credit Reporting Act heard witness after witness, testimony after testimony, testifying to the effect that we have the lowest cost of credit and the most available credit in the free world. We need to be very, very careful that we don't do anything that would harm this incredible proconsumer phenomenon or we ourselves may be guilty of abusive legislating.
    As I read the staff memo, I also was interested to find out that what we call abusive practices, known as ''predatory lending,'' we have yet to come to a consensus on exactly what that means. So I am looking forward to the testimony to find out what are these fraudulent, unfair, deceptive practices and what can we do to have a narrow, tailor-made remedy for them.
    What I want to be careful about, though, and I certainly will not conclude that simply because one who controls credit decides to charge one customer a different interest rate, or another, offer him less generous terms, that that somehow is equivalent to predatory lending.
    Also, I hope that we don't conclude that it is our mission to absolve borrowers of their individual responsibility. There is also a phenomenon out there that we should explore known as predatory borrowing, people who go out and borrow money and have no intention whatsoever of paying it back.
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    Those who control our own capital, who make it available for home mortgages should and must be able to price the cost of their credit based upon their assessment of the credit risk. It is called freedom and it leads to free enterprise. It leads to effective market competition, and that is indeed the consumer's best friend.
    And certainly the mortgage lending business, as I observe it, gives all of the appearance of being a competitive marketplace. By unnecessarily restricting the terms by which legitimate lenders do business, credit lines can dry up. The cost of credit could go up 50 basis points, 75 basis points, maybe 2 percentage points, all leading to what I hope we want to avoid, and that is less credit opportunities, more expensive credit, and fewer Americans enjoying the dream of homeownership.
    If I remember right, part of the physician's oath is to first do no harm. We need to make sure that, again, as we address a very serious problem, predatory lending, we come up with a very narrow and specifically tailored remedy to whatever definition we apply to predatory lending.
    For example, if our Nation wanted to crack down on speeders, we could go out and we could confiscate every fourth car, put governors on the other engines to make sure that they never exceed 20 miles an hour. Unfortunately, that would be an affront to personal freedom and effectively outlaw driving as we know it.
    By cracking down on predatory lending, which we must do, let's be careful that we do not effectively outlaw subprime lending and the hope of homeownership for millions of Americans.
    I yield back the balance of my time.
    Chairman NEY. I thank the gentleman.
    Chairman NEY. Mr. Watt.
    The gentleman yields to Ms. Velazquez from New York.
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    Ms. VELAZQUEZ. Thank you, Mr. Chairman.
    First, I want to thank Chairman Bachus and Chairman Ney for holding this hearing. The interaction between predatory lending and the subprime market is complex, and it is my hope that this hearing will help us move forward on this important issue.
    Historically, homeownership has been a path leading to wealth and economic security for millions of American families. Today in the United States, one-half of all homeowners hold at least 50 percent of their net worth in home equity. This rate is even higher for minorities and low-income families. By building equity in their homes, families are able to send their children to college, start new businesses, or endure crises like job loss or illness.
    For many Americans, it is sad to say that predatory lending is a threat to these possibilities. It forces families to declare bankruptcy because they cannot make payments for mortgages that shouldn't have been made in the first place. It rips them apart and leaves their financial futures and the futures of their children in jeopardy.
    As we all know, predatory practices are nothing new, but they have become more widespread with the expansion of subprime home equity lending. Over the last decade, this market has grown dramatically, becoming a major source of revenue for lenders and an effective homeownership tool for borrowers.
    This growth has attracted new lenders and mortgage brokers to the market. To many borrowers, a subprime loan provides an option they might not have had otherwise, because of poor credit histories or high existing debt. These loans permit these borrowers to refinance their existing loans or to consolidate other debts at better rates. As a result, these borrowers are able to save more of their money and increase their standard of living.
    While subprime lending has been a great option for many borrowers, it has also led to more aggressive competition for loan volume; that, in turn, has provided greater incentive for deceptive lending practices. In recent years, States have moved to curb predatory lending by enacting legislation to prevent unscrupulous lenders from taking advantage of minorities, seniors and other vulnerable homeowners. But it is clear to me that we must balance the desire to retain States' and localities' rights to enact legislation with the need for an efficient Federal banking system that encourages the free flow of capital into those communities.
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    Beginning today, we will attempt to reduce the prevalence of predatory practices without negatively impacting the subprime market. I hope this will be the start of a longer debate that will lead to positive solutions on how to protect vulnerable and unsuspecting borrowers. Congress needs to move forward with a solution next year before millions more American families are victimized.
    I look forward to continuing our work together on this issue. Thank you.
    Chairman NEY. Thank you.
    Chairman NEY. Mr. Garrett of New Jersey.
    Mr. GARRETT OF NEW JERSEY. I yield back.
    Chairman NEY. Mr. Royce of California.
    Mr. ROYCE. Thank you, Mr. Chairman. I want to thank you and Chairman Bachus for holding this timely hearing on housing finance. And I would also like to thank our distinguished witnesses for appearing today. We look forward to their testimony.
    I am very concerned, Mr. Chairman, that a number of States and a number of localities are increasingly creating laws and obstacles for firms trying to offer mortgages to customers in the nonprime market. And, in reality, these States are driving out responsible lenders and are leaving consumers in the nonprime market without very many options.
    I am encouraged to see that there is a growing recognition by many of my colleagues that nonprime lenders are playing an important role in helping millions of Americans achieve the dream of homeownership, and I hope a solution can be found that enables responsible nonprime lenders to continue operating their businesses throughout the Nation. In my view, it is crucial that this committee does not place unnecessary burdens on responsible nonprime lenders, because in the end, that will only restrict consumer access to credit.
    And once again I thank you, Chairman Ney, and I thank Chairman Bachus for having this hearing today. I look forward to working with my colleagues on this issue, and I yield back.
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    Chairman NEY. Thank the gentleman.
    Chairman NEY. Also, a note to members: Without objection, all members' opening statements that they would like to make, if they want it for the record, will also be submitted for the record.
    Mr. Watt.
    Mr. WATT. Thank you, Mr. Chairman. I want to first thank you and Chairman Bachus for convening this important hearing and letting us get a start this year on thinking about these difficult issues. And they are difficult, especially at the center of the debate, around the perimeters of the debate.
    I really don't know anybody, I have never heard anybody say that they liked predatory lending. But when you try to find the dividing line between prime and subprime and predatory, it can get to be a very difficult proposition.
    So, in that sense, my comments are not far from where Mr. Baker's comments were, because we have to figure out what interest rates are a reflection of increased risk and what interest rates represent unfair or illegal opportunism or abuse. States and the Federal Government have been kind of wrestling with this problem, and I think will continue—some challenges that are very important to be worked out.
    Some of the lenders in this area are not—do not have Federal regulators, and some of them do have direct Federal regulators. Some States have worked hard to address these problems in different ways. North Carolina seems to be taking the place of California in taking the lead on some of those issues and finding the right balance. But I remember that 2 or 3 or 4 years ago, when the North Carolina law was being debated, all of the lenders thought that it was the worst thing that could possibly happen to them. They subsequently came to realize that it was a pretty darn good balance, once they saw what Georgia did.
    So this can be difficult. If we had federalized and preempted all State laws back in 1994 when we passed the Homeownership and Equity Protection Act, we now would know that that was not an appropriate floor, certainly not an appropriate ceiling, for every kind of situation.
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    So I am a little leery of the notion that we should be talking about preempting all State laws in this area, both because I think States have—have done a lot of work in this area. States regulate directly some of these lenders where Federal regulators are not responsible for them, and States, as Mr. Scott has said, can back up and go down another path a lot quicker than the Federal Government tends to be able to back up and go down another path.
    So I think we have got some difficult work ahead trying to establish what the appropriate Federal role is, trying to establish what the appropriate Federal floor should be, and trying to establish that the States should continue to have leeway to set their own regulations, because they are closer to these lenders than we are.
    Having said that, this hearing, I think, will help to set some of that groundwork and get us started thinking about these issues, because we have to roll up our sleeves next year and really come to grips with these difficult issues, which as I said around the edges are very easy if you call somebody a ''predatory lender,'' but in a more defined context can be very difficult to resolve.
    I thank the gentleman, and I yield back.
    Chairman NEY. Thank you.
    Chairman NEY. Mr. Miller of California.
    Mr. MILLER OF CALIFORNIA. Thank you, Chairman Ney. Thank you for having this hearing today.
    A lot of times people talk about subprime. When they do, they talk about extremely poor people or senior citizens or minorities, where in reality the majority of these people are 40 to 50 years old, incomes from $50- to $75,000 a year, and the majority of them are not minority.
    But you have a group in this Nation whose credit rating is not what it should be. They have had problems with repayments, they have had problems in the past with certain issues, and they just don't qualify for the same rates and conditions of a person who has good credit and has a reliable source to repay a loan.
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    My concern is that we may do something to impact this subprime market that really hurts people who want to own their own home, and if it were not for the subprime market, they would not qualify under prime; and then they are forced to go into a market where they pay extremely excessive rates, if they can even get them, and they generally are put in a situation where they are not able to achieve homeownership.
    It is pretty easy to look at the majority of predatory practices, excessive prepayment penalties, unfair pricing, steering people to higher-priced loans and virtually putting their equity in jeopardy, where they can really qualify for lower loans, financing points and fees through the loans.
    There are certain things that predatory lenders do that you can separate them from a quality lender who is lending to subprime. And the last thing I know we want to do is to force people out of the marketplace. We are trying right now to get people out of government housing, trying to get them out of Section 8, trying to do everything we can to achieve the American dream, that is, own your home, so as the years grow and the time goes past, people have equity, they have wealth in their life all of a sudden, where they would not if they are renters.
    And I think we need to move very carefully. I am looking at what some States have done trying to deal with subprime; they deal with mortgage originators and then they pass that same liability on to the secondary market for subprime. I think they are eliminating the option for people out there, because if there is no secondary market, if you don't get in with the prime, having to maintain that loan, you are going to deal with elimination of options available in the marketplace.
    And so I really anxious to hear the testimony. I am looking forward to this hearing. I know the Chairman has a passion for this, as I do. Our goal is to make sure that we do everything that we can in the marketplace to create opportunity for people to become homeowners.
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    I yield back the balance of my time.
    Chairman NEY. The gentlelady, Mrs. McCarthy of New York.
    Mrs. MCCARTHY. Thank you, Mr. Chairman. I will submit my opening statement so we can go forward on the testimony. Thank you.
    Chairman NEY. I thank the gentlelady.
    Chairman NEY. The gentleman, Mr. Crowley of New York.
    Mr. CROWLEY. Mr. Chairman, I thank you, Chairman Ney and Chairman Bachus, as well as Ranking Members Waters and Sanders for holding this joint committee hearing today on lending practices.
    I hope that this will be the first of many hearings on lending issues, as there are a number of questions, a lot of misconceptions on the need for a Federal role to eliminate predatory lending as well as foster a climate for growth of subprime, or as I call them, ''working family loans.'' .
    Having seen the tripartisan way, Mr. Bachus, Mr. Sanders and this whole committee worked on FCRA, I am optimistic that this committee can craft a bill that all segments of our diverse caucus can rally around. One of the misconceptions out there is that this issue is a Republican issue, a rich banker's issue that—that to best protect our constituents, that we need to kill all lending outside of prime. And I strongly disagree with that premise.
    The issue of subprime is a Democratic issue. With all due respect to my Republican colleagues, it is our constituents, whether they be in Queens, New York, South Central Los Angeles or Boston that will benefit by a tough Federal law that takes out the predators but encourages subprime lending. Our constituents are the working people with little credit history and, formerly, low to no availability of capital without subprime loans.
    While many people look at some of the high-profile failures out there, like the predatory lending practices that no one supports—no one supports and should be banned outright, we need to refocus the discussion on the problem of the past, that of the situation of communities in the days prior to the availability of subprime lending. That problem was simple: no availability of capital in our communities, zero, none.
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    The truth is, subprime loans go to riskier borrowers. But if the subprime market dries up or is legislated out, we will return to the days of no capital flow in our districts.
    I have talked a number of times with my neighboring Bronx colleague, Congressman Serrano, about the increasing homeownership rates over the past decade in the South Bronx, a community that we now share. You saw people with a work ethic and a desire to do better for themselves and their families, but with little capital, obtain loans to buy homes for $70,000 and turn that around into a nice profit in less than a decade, a real wealth creation in a very unlikely place. This is the success story of subprime.
    For every horror story there are 20 success stories. While some would argue that subprime loans are giving money to people who cannot handle it, I don't buy that argument. According to National Geographic, I represent the most diverse community in the world in Elmhurst, Queens. It is bustling with small businesses and new homeowners, most of whom have no traditional experience with banks, no credit history and have to turn to the subprime market for loans. Without subprime, they would haven't gotten any capital, they wouldn't have the investments, the entrepreneurship, the wealth creation anyone can see on 74th Street in Jackson Heights and throughout my district.
    This is a core Democratic issue of economic fairness and advancing capital to our constituents—Fairfield, Connecticut, has all of the capital they want; The Bronx doesn't—and it would be so adversely affected without subprime market in existence and—as we say, in the days before subprime. Good legislation can be crafted that can serve the interests of business and the consumers. That legislation will be written by Democrats for our constituents, and I hope to work with all sides in crafting this bill for our core constituencies.
    Again, I commend you for holding this hearing today and yield back the balance of my time.
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    Chairman NEY. Thank the gentleman.
    Chairman NEY. The gentlelady from Florida, Ms. Harris.
    Ms. HARRIS. Thank you, Mr. Chairman. I wish to thank you and Chairman Bachus for holding this joint subcommittee meeting on this very important topic of subprime lending. I also want to thank our distinguished panelists for joining us today and for their testimony.
    Consumer protection through disclosure has constituted a staple of Chairman Oxley's leadership of the Committee on Financial Services. Our discussions regarding this matter should remain consistent with this theme, and I believe that homeownership provides families and individuals with an unprecedented opportunity to create wealth.
    Studies show that the average net worth of income of persons who are renting is about $900, yet it skyrockets to over $70,000 when they own their own home, thereby creating wealth and an asset that they can convey to their children and grandchildren. For most Americans, though, the ability to secure a mortgage is central to their ability to purchase a home, of course, and the damaged credit that has resulted from past mistakes or financial reversals can serve as a major obstacle thus, the willingness of certain industry institutions to underwrite the increased risk associated with the damaged-credit constituent constitutes an important service that provides a second chance for millions of people.
    Regrettably, the abusive practices of bad actors that prey upon elderly and minority populations often has resulted in the demonization of an entire subprime industry.
    Nevertheless, we can't ignore the effects of predatory lending if we truly seek to help nonconventional borrowers to overcome substandard credit. While I applaud industry and State-level initiatives to address unscrupulous lending practices, I contend that we must formulate a national policy that supplements and enhances these efforts. I look forward to the suggestions that today's panel will present, which I hope will provide us with a viable alternative for reforming the subprime industry without eliminating the critical borrowing opportunities that enable men, women and children to escape the grip of poverty.
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    Thank you.
    Chairman NEY. The gentleman, Mr. Miller.
    Mr. MILLER OF NORTH CAROLINA. Thank you, Mr. Chairman. I do not have an opening statement, as such, but I ask unanimous consent to make part of the record a 2003 study from the Center of Community Capitalism at the University of North Carolina, Chapel Hill, my alma mater.
    The study is entitled The Impact of North Carolina's Antipredatory Lending Law: A Descriptive Analysis.
    Mr. Chairman, Mr. Sanders describes the States as the laboratories of democracy. And my State, North Carolina, has been the leader on this issue, among the first, if not the first, State to pass legislation to address predation in lending practices. This study looks at the results of the North Carolina legislation.
    It finds, in fact, that there was a decrease in the number of loans with predatory or abusive terms. Most of those were in not home purchase loans, but in refinancing loans, where the loans do not serve the purpose of realizing the dream of homeownership, but in fact caused people to lose their homes.
    The result of the study was that there was—as to the effect on the cost of subprime credit, there was no increase in the cost of subprime credit; and as to the access to credit, there was no reduction in access to credit for high-risk borrowers. In fact, there was an increase in the number of purchase obligations, homeownership obligations.
    So, Mr. Chairman, the result of this study suggests that we can do something to protect consumers from predation and not choke off any kind of access to credit to realize the dream of homeownership.
    [The following information can be found on page 291 in the appendix.]
    Chairman NEY. I thank the gentleman.
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    And at this point, I am assuming that our ranking member has nothing to say about this topic, and we will just move on to another member.
    I am going to recognize the ranking member.
    Ms. WATERS. Thank you very much, Chairman Ney. I certainly appreciate your allowing me to have a word to say about the subject.
    Predatory lending involves a number of lending practices that target mostly minority communities, such as high interest rates and fees, unfair prepayment clauses, frequent refinancings that are not advantageous to consumers, and mandatory arbitration clauses. These lenders are able to engage in predatory activities because credit-starved communities—unfortunately, usually minorities and elderly persons—have little access to traditional sources of credit.
    Of course, I recognize that not all subprime loans are predatory loans. However, the problems related to predatory lending do occur in the subprime market. These practices are prevalent in many areas across the country, and Federal action in this area is long overdue.
    Predatory lending is the latest in a long line of practices that have targeted minorities and low- and moderate-income families, shutting them out of their American dream of homeownership. Both the lending terms and the manner in which predatory loans are solicited are problematic. Upon finding a likely target, oftentimes—for a predatory mortgage loan, the lender often resorts to high-pressure tactics to induce the homeowner to enter into the contract.
    Contrary to what the industry wants you to believe, this problem is getting worse, not better. According to an Acorn study, African American homeowners who refinanced in the Los Angeles area were 2.5 times more likely to receive a subprime loan than white homeowners were, and Latinos were 1.5 times more likely to receive a subprime refinance loan.
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    Another Acorn study shows that subprime loans represented 26 percent of home purchase loans received by African Americans, and 20 percent of loans to Latinos, compared to only 7.5 percent of purchase loans to whites.
    These predatory practices do not stop even if a minority is in an upper-income bracket. African Americans in upper-income neighborhoods are twice as likely to be in the subprime market as borrowers in low-income white neighborhoods.
    Congress must be willing to go further and ask ourselves what can be done to fight these problems. We must scrutinize predatory lending practices and protect consumers who are targets for the predatory lending industry.
    Enacting State laws, as California did, is a good start, but Congress and Federal agencies must recommit our efforts to ensure that greater opportunity to credit access means that all Americans will receive the credit opportunities they rightfully deserve. To this end, it is important that we not adopt national standards that would preempt strong State laws.
    Lenders should not only participate in programs such as Fannie Mae's Timely Payment Rewards program, which permits subprime borrowers to qualify for interest rates that are lower than they would typically be and permits these borrowers to reduce their interest rates after timely payments. These lenders could be more creative with their own programs and reward subprime borrowers with better rates when they demonstrate creditworthiness.
    We must continue to scrutinize predatory lending practices and protect American consumers who are easy targets for unscrupulous people in the subprime lending industry. We, as Members of Congress and Federal agencies, must recommit our efforts to ensure that greater opportunity to credit access means an increase in quality of life, not an increase in predatory lending and foreclosure.
    I will certainly continue fighting on the Federal level until predatory lending is eliminated.
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    We will introduce new predatory lending bills next year directed at identifying predatory lenders and preventing them from targeting communities such as parts of the one that I represent in Los Angeles.
    I encourage my colleagues to stand firm against predatory lending and look forward to working with you to eliminate this blight from our communities.
    So I would like to thank you, Mr. Chairman, and I yield back the balance of my time.
    Chairman NEY. I would like to thank our Ranking Member, the gentlelady from California.
    The gentleman, Mr. Moore, of Kansas.
    Mr. MOORE. Thank you, Mr. Chairman. I will be brief. I want to thank you for having this hearing. And I have listened to the other people who have already made an opening statement, and, frankly, most of what could be said has already been said.
    And I just want to add that I practiced law for 28 years, and I learned a long time ago there are at least two sides to every issue and sometimes more. Certainly we are all interested, I hope, in protecting people from abusive lending, but also at the same time preserving access to credit for people, all people in this country.
    And so I am looking forward to working with people who are on this panel as well as my colleagues in Congress, and I appreciate very much also the remarks made by Congressman Scott, and the effort towards financial literacy and protecting consumers through education is also very important. I look forward to working with all of you to get a good bill here. Thank you.
    Chairman NEY. Thank you.
    Chairman NEY. The gentleman, Mr. Clay, from Missouri.
    Mr. CLAY. Thank you. Chairman Ney, I also want to thank Chairman Bachus for conducting the hearing, and I, too, will be brief.
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    Predatory lending is an unscrupulous and intolerable practice that destroys families and sullies the lending industry. The Federal Government has a responsibility both to consumers and to the financial institutions that offer legitimate subprime loans to enact responsible public policy, to put an end to predatory lending, and to ensure that households have access to fair subprime loans.
    Too many families, many of which are among the most economically vulnerable in our society, have been abused and deceived by predatory lending. They have lost their homes and they have lost their dreams because they believed that they were engaging in sound financial practices.
    There is no dispute that predatory lenders must be put out of business. Practices such as lending to borrowers without regard for the borrower's ability to repay the loan should be banned. Consumers should be provided with their credit scores so that they might better understand the risk they are assuming and they might make better informed decisions about accepting a subprime loan. Borrowers in the subprime market should be protected from excessive prepayment penalties that lead to unnecessary foreclosures, and lenders should recommend that subprime loan applicants seek and receive home mortgage counseling.
    Too many victims of predatory lending lack information and knowledge about loans and the cost of financing. This information must be disclosed in a fair, simple, and uniform way in order to discourage and prevent predatory lending schemes and to reduce the number of subprime loans that end in default.
    Preventing predatory lending should not mean the end of subprime loans. Subprime loans should be available to those who genuinely understand the risk and responsibilities of these mortgage loans.
    And I yield back the balance of my time, Mr. Chairman.
    Chairman NEY. Mr. Hinojosa from Texas.
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    Mr. HINOJOSA. Thank you, Chairman Ney. I thank you and Chairman Bachus, Ranking Members Waters and Sanders for calling this joint hearing on the subprime mortgage lending industry in the United States. I have waited too long to pass up this opportunity to be able to express my thoughts.
    I represent a congressional district in south Texas comprised mostly of Hispanic Americans, a district that is one of the poorest in the country and that suffers from a staggering 13 percent unemployment rate. I hasten to add that the unemployment rate was 21 percent when I first took office in 1997, and I am proud to have played a role in reducing that rate substantially.
    I tell you this because my constituents, based on their ethnicity and the poverty rate in my district, statistically are the recipients of subprime loans. While they tend to make less money annually than most of their fellow citizens around this great country, they tend to have to pay more for their mortgage rates due to predatory lenders, higher closing fees, higher interest rates or closing costs, which in some cases include required life insurance to pay off home mortgages.
    So we are here today to discuss possible solutions both in the loan origination process and the secondary market for subprime mortgage loans to eliminate abusive mortgage lending practices. I think that all of us on the committee likely agree that loan-flipping rules need to be tightened to ensure that mortgages are not refinanced to a point where almost all the equity is stripped from the house. And I think that we can also agree that assignee liability must be adjusted as necessary.
    One of the most difficult issues that we need to address today is the issue of preemption. Should we preempt State laws addressing subprime lending? Should we let the Office of the Comptroller of the Currency, the Office of Thrift Supervision, and the National Credit Union Administration decide this issue, or should we let the issue be resolved by the judicial branch?
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    I personally want everyone on this Committee and in this room to know how important this issue is to me and to my community. Let me assure you at this point that I understand the difference between a subprime and a predatory lender. The Hispanic community has been targeted and significantly wounded in the past by predatory lenders. However, some of these lenders have paid their fines, and they are trying to make amends.
    Chairman Ney and Chairman Bachus, as we move forward on this issue of protecting homeowners, preventing abusive lending while preserving access to credit, including subprime lending, I hope we can continue to work on a bipartisan basis as you have allowed us to do today by having an equal number of witnesses selected by the Majority and by the Minority on each panel. It gives me a great feeling of pride to know that both sides of the aisle have been given an equal say on the makeup and the direction of this hearing. And with that, I yield back the balance of my time.
    Chairman NEY. I thank the gentleman.
    [The prepared statement of Hon. Rubén Hinojosa can be found on page 81 in the appendix.]
    Chairman NEY. Mr. Ford.
    Mr. FORD. I will be very brief, Chairman. Thank you. Thank you, Mr. Bachus, and to Ms. Waters and Mr. Sanders.
    I join all of my colleagues in wanting to work with both Chairman Bachus and Chairman Ney to try to find a bill that in a lot of ways reconciles—I have read some of Mr. Brown's testimony and even my friend Steve Nadon's testimony and the rest of the testimony. I hope that we can work through in a way that will help us to actually bring light to the title of today's hearing, preventing abusive lending while preserving access to credit.
    I was not here—forgive me for not being here, Mr. Chairman—when Mr. Watts spoke. I imagine he spoke eloquently about the importance of financial literacy. I can only hope at some point we here in this Congress will take a serious and meaningful look at how we might be able to introduce financial literacy classes into our education, particularly at a young age, at perhaps even elementary and at the middle school level.
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    All has been said that needs to be said on this issue in terms of curbing abusive lending practices, and I join my colleagues in wanting to do that. I also join those on this committee who have an open mind on the issue, who want to work through the differences that may exist and find a way to ensure that we can end the patchwork of laws, or I should say patchwork of issues, that lenders across the country or national lenders have to face going State by State.
    With that being said, Mr. Chairman, I am happy to yield back the balance of my time.
    Chairman NEY. I thank the gentleman.
    Chairman NEY. Mr. Sherman of California.
    Mr. SHERMAN. Thank you, Mr. Chairman and Ranking Members, for holding these hearings.
    Subprime lenders are naturally the target of bad individual instances. After all, they make higher-risk loans on worst terms than those available to those with perfect credit. And then sometimes they go badly, and you find a need to foreclose.
    What doesn't happen is a focus of congressional hearings on the 19 out of 20 or the 95 out of 100 who, in the absence of a subprime loan, would not be able to obtain or retain their home. Subprime lending is important even if it is hard to picture what would happen without it.
    We need to provide, I think, national standards. The consumer will benefit from the fairness and protection of good protective efforts to prevent predatory lending. And there is a tendency for those of us who focus on consumer rights to think that every consumer protection, no matter how numerous, no matter how intricate, no matter how many different versions in the 50 States and one each for the cities of Santa Monica, West Hollywood, and Berkeley, not to mention a few other cities, should be adopted, and more consumer protection means consumers are more protected, when, in fact, that kind of intricate consumer protection means that we give up the efficiency and the competition that also benefits consumers. The idea that all of the industry is all fighting for an opportunity to make loans, while annoying to those of us who watch television and see your ceaseless commercials, shows that there is competition for the opportunity to make these loans even to those without perfect credit.
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    It was suggested by one of my colleagues that one of the possible ways that this gets resolved is in the judicial branch. I can't think of a worse thing for either lenders or borrowers, although that is what is happening now. That is to say, you get a highly complex and unclear series of statutes at all the various States and localities, and then trial lawyers looking for an opportunity to find either a substantial or an almost frivolous violation. And I would hope that, instead, we would have clear and strong consumer protections and without draconian penalties for the most technical of violations. But hopefully with clear standards there won't be any unintentional technical violations.
    But in our effort to have national standards, we should not sink to the lowest common denominator. I will evaluate bills based upon whether the average American is getting more protection, and that means that in some areas, some local statutes that I like may be preempted, but that will be the cost of providing protection to places and communities and Americans that are not getting any protection at all.
    I note that Representatives Ney and Lucas have introduced the Responsible Lending Act. This is a good step forward. It is not a perfect solution. That is why we have a very large committee to look at that proposal provision by provision.
    So I look forward to preemption not as a step down, but as a step up in the average amount of consumer protection provided to Americans, and at the same time enhancing the amount of competition and the amount of efficiency that national lenders can provide to consumers.
    I yield back.
    Chairman NEY. I thank the gentleman.
    Chairman NEY. Ms. Lee from California.
    Ms. LEE. Thank you, Mr. Chairman. I also want to thank you and our Ranking Member Maxine Waters for holding this hearing; and also just mention that my community also is faced with the issue of predatory lending. In fact, this is one of the most important issues in northern California. So I am pleased that we are discussing this today. It is really time for this committee to turn its attention to this issue and work together towards eliminating these very abusive and what really should be, I think, illegal practices.
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    I also believe that national standards should be the floor, not the ceiling, and we should not in any way preempt local laws or State laws that really are working.
    Senior citizens, one population of people, are especially vulnerable to these what I really call loan sharks. And I think it is about time that we make sure that we look at efforts to protect our senior citizens and their hard-earned resources that they have put into their homes, and not subject them to these varied abusive and illegal practices.
    So I thank the Chairman for this hearing. I look forward to the testimony, and I yield back the balance of my time.
    Chairman NEY. I thank the gentlelady.
    Chairman NEY. Mr. Baca from California.
    Mr. BACA. Thank you very much, Mr. Chairman, for allowing me to say a few words. I know that I am not a member of this committee, but I appreciate the joint hearing and your leadership and our Ranking Member Maxine Waters, who has always been an outstanding spokesperson for minorities and the disadvantaged throughout her time.
    First, let me thank all the panelists for appearing here today. I look forward to hearing your testimony on issues that are very important to the Hispanic community and low-income community, and to many of my constituents in San Bernardino County, where our Chairman has his mother that lives in that area, in Fontana.
    The issue today is predatory lending. Between 1995 and the year 2000, Hispanics accounted for about 16.3 percent of new owner-occupied homes. Today, there are over 4 million Hispanic homeowners throughout the Nation. The subprime market plays an important role in increasing the access to home ownership for Hispanics, especially for those with inconsistent credit history. Hispanic families remain 76 percent more likely to receive a subprime mortgage loan than white families. That is why predatory lending practices that often occur in subprime lending industries are so troubling, as indicated; illegal practices.
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    Our committees in Congress must look at protecting all consumers from such abusive lending practices. That means helping consumers learn how to protect themselves through effective—and I state through effective financial literacy programs and making substantive changes in HOEPA, but we must be careful to do so without adversely affecting the ability of minorities and others to receive affordable credit.
    Again, I look forward to hearing your testimony and learning more about these important issues.
    Thank you very much, Mr. Chairman, for having me join here.
    Chairman NEY. I thank the gentleman.
    Chairman NEY. Are there any other Members who have an opening statement?
    I want to thank the panel for your patience and indulgence, but I think you can see from the amount of people that showed up and the amount of opening statements, that people have a passion for this issue, and it is important for all the Members to have their say as this opens and begins.
    Again, I want to thank Chairman Bachus for chairing this with me. And we will begin with the first witness to be introduced by Chairman Bachus.
    Chairman BACHUS. I thank the Chairman.
    I would first like to reiterate what you said. The broad interest in the subject, I think, tells us we are all concerned about predatory lending practices, and we also realize the importance of the subprime market.
    We have got an outstanding first panel. Mr. Pickel, welcome back. You were here just a few months ago testifying. Welcome, all of you.
    It is my privilege to introduce a fellow Alabamian. Rob Couch is the Chairman of the Mortgage Bankers Association. Before I read his resume, I thought he was just a typical good old Alabama good old boy; although he headed up an institution, collateral mortgage, which is in New South Federal Savings Bank, which is the largest thrift in Alabama, a-billion-and-a-half-dollar institution. What I did know about Rob is that he graduated magna cum laude and summa cum laude from Washington and Lee, and that he clerked for Lewis Powell, an associate judge of the Supreme Court. So he has both practical and intellectual abilities. And I appreciate your testimony before the committee, and welcome.
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    Mr. COUCH. Thank you, Congressman.
    Chairman NEY. If you can yield for a second, we are going to introduce the rest of the panel. Also, I have to leave for 15 or 20 some minutes. So it is not that you are starting and I am leaving; I have a meeting that I cannot get out of in the Capitol, and Congressman Bachus will chair.
    Let me introduce the rest of the panel, and we will begin.
    Also, A.W. Pickel is the President of the National Association of Mortgage Brokers, and the President of Leader Mortgage Company and Mortgage Banker Broker Company headquartered in Lenexa, Kansas. The Kansas Association Mortgage Brokers named Mr. Pickel Broker of the Year in 1999.
    Allen Fishbein is the Director of Housing and Credit Policy with the Consumer Federation of America. The federation's membership includes more than 285 organizations throughout the country with a combined membership exceeding 50 million people. Before joining the federation, Mr. Fishbein was the general counsel for the Center for Community Change, where he specialized in issues pertaining to the expansion of responsible lending and banking services for low-income households and communities.
    Mr. George Brown is the senior vice President of Self Help, a community development financial institution dedicated to helping low-income borrowers to buy homes and build businesses. Today Mr. Brown is also representing the Coalition for Responsible Lending, a group of over 80 organizations and 120 financial institutions. The coalition was formed in response to the large number of abusive home loans that threaten vulnerable residents of North Carolina.
    Also, Mr. Thomas Miller is the Attorney General of the State of Iowa. He is serving his sixth 4-year term, having been elected in 1978. Mr. Miller has served continuously as Attorney General for over 25 years except for one 4-year period when he was in private practice as a partner of the Des Moines office of Fergrey and Benston law firm.
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    And the last panelist is Steven Nadon. He is Chief Operating Officer for the Irvine, California-based Option One Mortgage Corporation, a subsidiary of H&H Block, Incorporated. In this role he oversees the company's origination business as well as the internal lending operations. He has more than 25 years of experience in mortgage banking, real estate and financial services.
    And, of course, Congressman Bachus introduced Mr. Couch.
    With that, we will begin. Thank you.
    Mr. COUCH. Thank you, Congressman.
    Good morning. Today I speak to you in my capacity as the Chairman of the Mortgage Bankers Association. On behalf of our 2,700 member companies, I want to thank you for giving us the opportunity to share our views.
    I first want to applaud your foresight in addressing this issue and including us in this discussion. The mortgage banking industry is vital to the Nation's economy. We provide the capital that makes it possible for families to build, own, or rent their homes. Our commitment to creating new financing tools has helped to create and sustain the recent historic surge in home ownership. Today more than two out of every three American families own the homes in which they live. The vitality of the housing finance sector has been a critical pillar of our economy.
    I also want to make it clear up front that the Mortgage Bankers Association denounces abusive lending practices in the strongest possible terms. Abusive lenders hurt not only borrowers, but also the vast majority of ethical and reputable lenders. We believe that to achieve real, long-lasting solutions to the predatory lending problem, however, we must concentrate on three areas: First, by devoting more resources to aggressive enforcement of the existing consumer protection laws; second, by expanding consumer education; and finally, by simplifying the complex mortgage loan process.
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    The best defense against unscrupulous lenders is an educated consumer operating in a competitive marketplace. Nothing short of that will suffice. I am here today, however, to share NBA's concerns with the proliferation of State and local laws that are meant to address abusive lending.
    In recent years the mortgage banking industry has greatly expanded its efforts to reach families who traditionally lacked access to credit. Many innovative credit options have made it possible for millions of low- and moderate-income families to build their family's wealth through home ownership. In 2001, for example, minorities accounted for about 32 percent of first-time home buyers, up from only 19 percent as recently as 1993. The Federal Reserve Board's Governor Gramlich calls this a true democratization of credit. These achievements did not occur by happenstance, but as the result of many years of industry advancement and market innovation.
    As we explore the possible solutions to the problems of predatory lending, we need to understand the structure of today's mortgage industry. Mr. Chairman and members of the committee, it is not your father's credit market anymore. Most home buyers don't borrow their mortgage money from the reserves and deposits at their local savings and loans. Today we have a massive nationwide secondary market that purchases home secured loans and provides the capital for the most efficient mortgage system with the lowest rates in the entire world.
    By our estimates, in 2002 over 75 percent of all U.S. residential mortgages were converted into securities, securities that usually find their way into the secondary mortgage markets. This is an astounding number. But there is one crucial ingredient for this national market to function well: Those involved in the market must be able to efficiently transfer capital across all regions of the United States.
    Unfortunately, this crucial ingredient is under attack today. In their zeal to protect our more vulnerable consumers, State and local governments are passing far-reaching laws that are creating a confusing and fragmented mortgage market. Over the past 3 years, more than 28 States have enacted different antipredatory lending laws, and there are a myriad of additional bills pending as we speak.
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    We have already begun to see examples of how this muddled patchwork of laws has scared away reputable lenders, stifling the flow of capital to many deserving communities. We must stop abusive lending, but we should not throw the baby out with the bathwater. We must protect the efficiency of this finely tuned enormously productive national system as well.
    Industry participants are in agreement; we need a national single standard that will bring order to the bewildering fragmentation of our mortgage market.
    I also want to warn against a disturbing trend toward the confusion of subprime lending with predatory lending. The so-called subprime market serves a group of borrowers who would otherwise have little or no access to credit. This is a good and important service. We can make loans to these consumers through innovative financing options that were not available as recently as 20 years ago. This is an important point, because in the end these laws will hurt those consumers who most need the hand up that access to innovative credit can give.
    Thank you for the opportunity to appear before the committee. I look forward to answering your questions.
    Chairman BACHUS. [Presiding] Thank you.
    [The prepared statement of Robert C. Couch can be found on page 101 in the appendix.]
    Chairman BACHUS. Mr. Pickel. And what we are going to—and Mr. Couch did a good job of it—to actually try to restrict yourselves to the 5 minutes. I have been advised that the hearing has to wrap up at 1:30, and I think we have a second panel, so we are going to try to hurry this along.
    Mr. PICKEL. Good morning, Chairman Bachus and other members of the committee. I am A.W. Pickel, as I was introduced, President of the National Association of Mortgage Brokers, and President of my own company, Leader Mortgage Company in Lenexa, Kansas.
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    Thank you for inviting NAMB to testify today on issues surrounding abusive lending practices and the importance of protecting future and current homeowners in America. NAMB is the Nation's largest organization exclusively representing the interests of the mortgage brokerage industry and has more than 16,000 members and 46 State affiliates. Mortgage brokers spend a significant amount of our time with consumers so that they have a better understanding of each step of the home buying process.
    I want to commend all of you for your leadership on this issue, as NAMB believes that discussing these issues is the key to prevention and abusive lending tactics. I also want to thank you for including NAMB in the series of predatory lending roundtable discussions that you have held over the past few months. We appreciate your continued efforts to provide a forum in which interested parties can discuss these issues in an effort to protect consumers.
    Abusive lending practices strip borrowers of home equity and threaten families with foreclosure, therefore, destabilizing communities. That is not good. NAMB seeks to rid the industry of any unscrupulous actors that prey on vulnerable homeowners. We support efforts to expose abusive lending practices and combat abusive tactics. These efforts cannot, however, cut off consumer credit access or inhibit the mortgage finance industry from working with consumers throughout the home-buying process.
    NAMB believes that some of the barriers to fair lending include addressing the lack of consumer financial education, insufficient enforcement of existing laws, and the need for industry self-regulation.
    Since mortgage brokers originate more than 65 percent of all mortgages in this country, brokers are in a unique position to provide education about home ownership to consumers. Earlier this year, NAMB introduced a new consumer education program called ''Are You Prepared to Head Down the Road to Home Ownership?'' This program provides potential home buyers from inner city and urban populations with basic information to help them make informed choices and to avoid abusive lending tactics when buying a home. Our NAMB Web site also provides consumers with information on the mortgage process, including completing applications, down payments, refinancing, loan programs, and many other mortgage-related issues. NAMB also supports the many industry efforts and congressional efforts to address financial literacy among consumers.
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    On the issue of enforcement, State and Federal regulators should better enforce existing laws as a way to eliminate a great deal of abusive lending practices. The mortgage industry is heavily regulated now by Federal fair lending, consumer protection, and fraud laws, but the perpetrators often ignore these laws and go unpunished for their violations. This current lack of enforcement creates an environment that abusive lenders continue to cultivate, and therefore victimize consumers. NAMB believes that industry self-regulation can play an integral role in efforts to combat abusive lending practices. We believe residential loan originators who work directly with home buyers should be educated, honest, and nothing short of professional.
    In 2002, NAMB introduced its Model State Statute initiative on licensing, prelicensure education, and continuing education requirements to protect consumers and ensure originator competency. Throughout this effort, NAMB seeks to have individual State statutes enacted that require prelicensure education, background checks, and to mandate continuing education requirements for all residential loan originators in an effort to protect consumers. NAMB believes that such an initiative will serve to help reduce the incidents of abusive lending and improve the overall competency of the industry.
    NAMB is also leading an industry effort to create a nationwide registry of all mortgage originators and companies. NAMB supports a Federal registry of all loan originators. We believe a nationwide registry will give mortgage industry professionals an avenue to report unscrupulous actions by other professionals and help to police itself and eliminate bad actors from its ranks. Also, as a requirement of NAMB membership, all members—our members subscribe to NAMB's Best Lending Practices Guidelines and NAMB's Code of Ethics.
    I would like to briefly touch on the issue of subprime lending. There has been widespread confusion as to the term ''subprime'' and ''predatory,'' as many reports of unfair lending are alleged to have come from subprime loans.
    Subprime loans are offered to consumers with a credit history that would not permit them to qualify for the conventional loan market. The great majority of subprime lending today results in benefits to consumers at reasonable, appropriate risk-based prices for consumers who may have no other option to credit. Efforts to address abusive lending tactics must be carefully considered so as not to completely restrict these homeowners from getting the loans they want for the homes they have or they need.
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    In conclusion, I do want to say that NAMB is deeply troubled by the continued reports of abusive lending practices in the mortgage industry, but combating abuse calls for a comprehensive strategy, one that employs the most effective tools available to the regulatory, legal, and educational communities. All participants in the lending community must maintain the integrity of our credit system and thwart participants that do not honor these systems.
    Thank you for the opportunity to testify. I will be happy to answer any questions that you might have.
    Chairman BACHUS. Thank you.
    [The prepared statement of A.W. Pickel III can be found on page 212 in the appendix.]
    Chairman BACHUS. Mr. Fishbein.
    Mr. FISHBEIN. Good morning, Chairman Bachus and Chairman Ney and Ranking Members Sanders and Waters. It is a pleasure to be here, and we appreciate the invitation you extended to Consumer Federation to participate in these important hearings.
    As you noted, CFA is a national federation of some 300 consumer groups that works on behalf of the consumer interest and represents over 50 million people.
    Predatory lending, exploitive lending to financially unsophisticated borrowers, occurs in all aspects of consumer credit, such as auto finance, credit cards, and short-term installment debt. However, the explosive growth of predatory and abusive practices in mortgage lending has deservedly received much attention in recent years. This is understandable. Home ownership is the single most important instrument used by Americans to build wealth. However, the positive contributions of the home mortgage finance market are undermined when home owners are lured into loans with terms that are not beneficial to them, often as the result of abusive practices by so-called predatory lenders.
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    Predatory lending has been a disturbing part of the growth in the subprime component of the conventional mortgage market which has grown substantially over the past decade. It has been estimated that borrowers lose about 9.1 billion dollars annually to predatory lending practices. And further, while home ownership nationwide has reached record levels, research indicates that subprime loans—the subprime loan market in combination with predatory practices—are contributing to a record high home foreclosure rate.
    My testimony focuses on four areas that should be of concern to members of both subcommittees, and helps explain why predatory lending has become a serious national problem, and I will just summarize them here.
    First, there has been a tremendous transformation in the structure and operation of mortgage lending; whereas once mortgages were mostly made by deposit-taking institutions, today most mortgage lending is conducted by nonbank financial institutions. Whereas in the past more rigorous regulatory oversight and consumer protections were in place for these deposit-taking institutions, changes in the law have not kept pace with changes in the marketplace. Nonbank institutions are less supervised than depository lenders, not subject to regular on-site examinations, for example, and as a result the nonbank lending oversight is largely complaint-driven. So the burden has fallen on the consumer to try to foster compliance.
    This has opened up opportunities for abusive practices to occur merely because they are less likely to be detected. This is certainly not to suggest that there aren't problems with predatory lending with banks and depository institutions, because these problems have been documented, and they also include problems with the affiliates and subsidiaries of banking institutions as well.
    The second key point I make in my testimony is about the emergence of a dual mortgage delivery system, one for prime borrowers with particular products for them largely focused on middle- and upper-income households, and another one specializing in subprime, government-insured and manufactured housing, which is largely directed to low-income and minority communities.
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    Third, as a result of these changes in the delivery system, subprime lending is disproportionately concentrated to minorities and to low-income households and communities. This is particularly true for the home refinance market. One study I cite in my testimony found that while 25 percent of home refinancings were subprime, this figure jumped to 50 percent for African American households and over 30 percent for Hispanics. The study also found that these disparities increased—which is counterintuitive—with income, so that for higher-income African Americans and higher-income Hispanics, the disparities are actually larger than they are for low-income segments of the market, resulting in the fact that upper-income African Americans are more likely to have a subprime loan than lower-income whites.
    The differences in these disparities are not explained by risk alone. Certainly the research suggests that. One of the key factors is the absence of mainstream lenders in this home refinance market in many areas. And as a result, research suggests that a significant number of subprime loans are made to borrowers who would qualify for cheaper loans. For example, Fannie Mae found that up to 50 percent of borrowers in the subprime market could qualify for cheaper loans. And other research suggests that the subprime market is not as efficient as it can be, and some borrowers are paying more than the credit profile would otherwise indicate, which is an example of opportunistic and inefficient pricing that is existing in the subprime market.
    The fourth point is that high rates of subprime foreclosures should be of particular concern because they are so concentrated, and they can have devastating neighborhood effects. High foreclosure rates for subprime loans may also be an indication of the ''smoking gun'' of predatory lending. Nationally between one out of every five and one out of eight subprime loans is seriously delinquent and in foreclosure, and in States like Ohio the subprime foreclosure rate could be 12 times higher than it is for prime lending. This is disturbing because in these situations it harms not only the individuals, but it can have a destructive effect on whole neighborhoods. This subprime foreclosure wave could be very similar to the wave of FHA foreclosure we saw in the 1960s, which destroyed too many communities.
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    The smoking gun——
    Chairman BACHUS. Mr. Fishbein, if you could.
    Mr. FISHBEIN. I will just conclude by saying that subprime lending may be the smoking gun of predatory lending. We find that subprime loans go into default much more quickly, as little as 1-1/2 years after they have been made, suggesting that these loans were not affordable at the time they were made.
    And I will just conclude by saying that existing law is not adequate to correct all these problems, and that we need improvements to existing Federal law, not the least of which would be tight restrictions on the financing of points and fees as well as other improvements to the Home Ownership and Equity Protection Act to reflect the conditions that exist in the current marketplace.
    Thank you very much.
    Chairman BACHUS. Thank you.
    [The prepared statement of Alan Fishbein can be found on page 142 in the appendix.]
    Chairman BACHUS. Mr. Brown.
    Mr. BROWN. Mr. Chairman, Chairman Bachus, Chairman Ney, and Ranking Member Waters, it is a pleasure to be here to discuss this problem of predatory mortgage lending. And I speak on behalf of Self Help and the Coalition for Responsible Lending, but I also speak with a deep personal conviction that predatory lending devastates communities and with great certainty that these organizations that I represent have an approach to the problem that is workable and fair.
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    As a nonprofit community development lender, Self Help is dedicated to helping low-wealth families buy homes, build businesses, and strengthen communities. Over the past 20 plus years, Self Help has provided over $3 billion in financing for some 35,000 families in 48 States. Despite the claims of many in the industry that our borrowers are so risky to serve or are too risky to serve without practices that are considered abusive, our overall loan loss rate is less than 1/2 of 1 percent per year, and our assets have grown to over $1 billion. We know that subprime lending can be done without being predatory.
    The Coalition for Responsible Lending represents over 3 million people through 80 organizations as well as CEOs of 120 financial institutions formed in response to the large number of abusive home loans that threaten the most vulnerable members of our North Carolina communities. The coalition spearheaded an effort in 1999 to enact market-based—let me repeat—market-based, common-sense State legislation to protect borrowers from predatory lending practices. This legislation passed almost unanimously and has been successful in protecting both borrowers and the vibrancy of the subprime lending market.
    From the beginning, coalition members and the industry trade associations agreed on two fundamental principles: First, we would not rely on disclosures. In the blizzard of paper involved in home loan closings, even the well-educated borrower can fail to understand the fine print in documents they are signing. Second, we would not ration credit by attempting to cap interest rates. We believe that risk-based pricing—in fact, Self Help has done it since we created—since we started making subprime loans almost 20 years ago. Loans with higher risk should be paid for through higher interest rates, but not through exorbitant upfront fees or back-end prepayment penalties. With risk captured in the rate, a subsequent lender can always refinance a borrower out of a loan that no longer reflects that borrower's risk, if it ever did. No one can rescue a borrower from a loan that has been inflated through financing of exorbitant fees.
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    From these two principles came a fairly simple solution: Stop exorbitant fees, and encourage lender compensation to be reflected in interest rates.
    Recent research clearly shows that North Carolina law is having its intended effect. Borrowers continue to have access to a wide variety of competitively priced loans from a wide variety of lenders. At the same time, creditor lending has declined significantly. It looks like the dirty water got out, but the baby lived.
    The best research in North Carolina law was recently completed by the Center for Capitalism at the University of North Carolina in June of this year. Using the largest and most comprehensive available database, the UNC study found that subprime lending has continued to thrive in North Carolina after the passage of the law. In fact, subprime lending to borrowers with poor credit actually has increased by 31 percent, and subprime lending to buy a home increased by 43 percent. Surely the North Carolina law has not dried up credit.
    The UNC study found that the North Carolina law, in addition to protecting access to capital and to credit, also protected borrowers from abusive loan terms. Prepayment penalties dropped by 72 percent, in stark contrast to nearby States. In addition, the research suggested that fewer borrowers are being steered to more expensive subprime loans when they could qualify for prime loans. Simply, put the North Carolina law is weeding out the bad loans while preserving the good.
    While North Carolina was the first State in the Nation to pass strong antipredatory lending legislation, others have followed in the footsteps and have found new ways to address upfront fees and other abusive practices. In fact, just this year North Carolina learned from these States and amended its predatory lending law to include open-ended loans within its coverage.
    States are in the best position to respond to the challenges presented by predatory lending for at least three reasons: First, many of the bad actors involved in predatory lending are State-chartered entities. Second, region evaluation in real estate markets requires different solutions to predatory lending. Loans in North Carolina may need different protections from those in Utah. Finally, irresponsible lenders can invent new abusive practices virtually overnight, and States can react much more quickly than the Federal Government to these changes.
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    We urge you, however, we urge you to partner with States and provide meaningful protection for the Nation's homeowners. Congress should make Federal text a floor upon which States can build instead of a ceiling beyond which no State can protect its own citizens from abuse.
    In opposing a broad preemption, we stand alongside——
    Chairman BACHUS. Mr. Brown, if you will wrap up.
    Mr. BROWN. Will do—among all 50 States Attorney Generals and State bank supervisors. At the end of the day, this is federalism at its best. Whether legislature, lender, or advocate, we must stay focused on the important goal that we all share, creating a safe mortgage market for all American families to get to that American dream. Thank you.
    Chairman BACHUS. Thank you, Mr. Brown.
    [The prepared statement of George Brown can be found on page 83 in the appendix.]
    Chairman BACHUS. And, Attorney General Miller, we welcome you.
    Mr. MILLER. Thank you, Mr. Chairman and Congresswoman Waters, members of the Committee. Thank you for inviting me on behalf of the Attorney Generals of America. This is a subject that I feel very strongly about, as do my colleagues, so it is a pleasure to be here. It is a special pleasure for me to look up to the wall there and see my friend and your former Chair Jim Leach looking down at me. In fact, his eyes almost seemed to be focused on me. I appreciate that.
    I am going to make five points in my 5 minutes. The first one is a fundamental point. As you look at balancing availability of credit and prohibiting abusive practices, what you need to understand, what we all need to understand, is the difference between constructive credit and destructive credit. Constructive credit is what we are most familiar with in the prime market, and much of the subprime market as well, where people borrow money, they pay payments over a period of time, and their equity continues to grow. That is the American dream.
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    But there is also destructive credit, and that is really what we are talking about in major part in predatory lending. This is credit that strips the equity from the house. Instead of the equity going up, it goes down. And you need to target those practices. Some of those practices are balloon payments where the person keeps paying, but their equity doesn't go up, their net worth doesn't go up. Or, if it does, it is just so small that after 15 years they almost owe as much as before. Balloon payments. High loans to value loans, where they loan out 125 percent of the value of the property. Destructive credit. Flipping, where they refinance repeatedly over a short period of time and they go through points and charges three, four times. Destructive credit. Points that are way too high, and other fees, 5, 6, 7 percent. Destructive credit.
    So what you really need to do is target at the margin the destructive credit practices and let constructive credit grow. Those are the parameters. And that is the lesson from North Carolina.
    I want to join the chorus of those singing the praise of the North Carolina law. They targeted the practices that dealt with destructive credit. So what happened? The study from UNC, as Congressman Miller mentioned, demonstrates very well over a 4-year period purchase money, new purchase of homes, the value went up 43 percent over 4 years, which is exactly the same increase as the South generally.
    Now, refinancing didn't go up quite as much. This is what you would expect if you successfully targeted destructive credit.
    Incidentally, I visited with the CEO of Household Finance, and he told me initially they opposed the North Carolina law, but in reflection they thought it was working, they were lending more than before. They thought a few marginal players were no longer there, and we said that is the point, they were the ones involved in destructive credit.
    My second point is that there is a lot of credit, there is a lot of money available in this market, and that is a good thing. Through the new way of scoring applicants and securitization this industry, including in the subprime market, has grown terrifically. So there is at least some margin of error as we try and target destructive credit.
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    My third point is to talk a little bit about dynamics here. This is an industry that has some unusual dynamics, as all industries do. First lending is done on a decentralized basis. There is loan offices throughout the country. It can't be managed from a national office; it is decentralized. Secondly, practically all of the people employed are involved in some sort of quota system or other incentive system. So they have got an incentive. And the third thing is they are dealing with a complex transition with a vulnerable population. So think about that. Little control from the national office, incentive system, a vulnerable population. Those are dynamics that can cause some serious problems and in some cases have.
    Another way to look at this is opportunistic pricing. Every person that comes into one of those loan offices, they get scored at the national office. There is usually some sort of pyramid or a matrix that says this person with these characteristics qualifies for this loan at this percentage with this number of charges. The lender can figure that out. Then the question is, do they charge more than that? And if they do charge more than that, how much more? And how is it divided between the company and the employees of the branch office? Those are the dynamics that are being dealt with here.
    My fourth point is that we are making some progress in this area. We have done the Household case, FTC has done the Associates case. The industry has done some good things. Household is reforming their system, and I think in a very constructive way. CitiFinancial has done some good things in bringing in Associates and cleaning them up. Ameriquest has told me recently that they don't charge opportunistic pricing. Whatever that person scores, whatever they should have on their grid system, that is the price they get charged.
    And, finally, there is more awareness in the whole community about this problem, as you can tell that from the testimony. So, we are making some progress.
    My final point is this, to you and the other policymakers in Washington, and this is my final and heartfelt point: Be consistent with the oath of a doctor. Do no harm. Harm is being done at the OCC by extensive preemption of State law and State law enforcement. And do no harm when you do your legislation in terms of preemption. The best thing we have got going now based on laboratories of democracy, as Congressman Watt and Congressman Miller said, and George Brown, the best thing we have going in this area is North Carolina, and that happened because the State experimented with it. Don't preempt the North Carolina law. Don't preempt other opportunities to solve this problem, because it is a complex, in some ways local, problem that no matter how brilliant you all are and your staffs and how long you sit around and try and figure out what the best solution, that can't compare with the experimentation in the States. Look at North Carolina. Please do no harm.
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    Chairman BACHUS. Thank you.
    [The prepared statement of Hon. Thomas J. Miller can be found on page 159 in the appendix.]
    Chairman BACHUS. Mr. Nadon.
    Mr. NADON. First, I appreciate the opportunity to testify today on behalf of the Coalition for Fair and Affordable Lending, which I chair. I want to commend Chairman Bachus and Chairman Ney and Ranking Member Waters for scheduling this hearing today.
    Without question, some lenders and mortgage brokers engage in inappropriate lending practices that need to be stopped. Many of these abuses are fraudulent, deceptive, and are illegal. Enhanced enforcement, together with more consumer financial education and counseling opportunities, are needed to help prevent them. However, significant new Federal statutory requirements are also needed to improve gaps or weaknesses in current law.
    CFAL believes that it is imperative that Congress promptly pass such new Federal requirements. H.R. 833, the Ney-Lucas bill, effectively addresses many of the current law's shortcomings. We urge Members to work together after this hearing to further refine H.R. 833 as may be needed to address any additional concerns and gain broader bipartisan support. We want to work constructively with you and other interested parties to help craft fair and balanced legislative proposals that can be the basis for new Federal law and that the full committee can act on it later next year.
    The Home Ownership Equity Protection Act of 1994, as it is referred to as HOEPA, was enacted to provide additional disclosures and substantive protections for certain of the highest-cost mortgage loans. Unfortunately, as I explained in detail in my written testimony, HOEPA is seriously flawed. The advocates point out that it is inadequate for two reasons primarily: It applies to only a relatively small portion of the higher-cost loans; and, second, that it fails to mandate any substantive protections that are needed to prevent certain abusive practices.
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    The lenders acknowledge that HOEPA does not contain some restrictions that are needed to protect the borrowers from abusive practices. We also feel strongly that HOEPA is also fundamentally flawed because it includes unclear requirements, so lenders may not know what they are supposed to do; fails to provide a meaningful right to cure unintentional errors; mandates unduly severe penalties; and imposes liability on assignees who could not reasonably know of violations.
    HOEPA has the practical effect of prohibiting borrowers from being able to obtain legitimate nonprime loans instead of simply restricting inappropriate practices. Few lenders make loans that are subject to this statute, and there are virtually no secondary market purchasers of the relatively few that are made. The HOEPA loans that are originated are held by portfolio lenders who are likely to charge an even higher price due not to the borrower's credit, but due to the higher legal and reputational risks and reduced competition caused by the law itself.
    Despite its current weaknesses, CFAL believes that these problems can be solved. HOEPA can be amended to cover far more loans and provide significantly more protections. This can and must be done, however, in a reasonable and balanced manner so that lenders can continue to make nonprime credit available.
    My written testimony suggests a number of specific conceptual suggestions for amendments, which include, one, covering more loans by including purchase money and open-end loans, otherwise known as home equity lines of credit; two, adding restrictions on prepayment penalties; three, further limiting balloon payment terms and prohibitions on single-premium credit life insurance and similar products; four, adopting a benefit test to prevent loan flipping; five, provide a meaningful right to cure unintentional violations; six is very tough language that would go after the bad actors who are intentionally violating the law; and, finally, enhancing consumer education and counseling, including helping with the State enforcement, which we think can be done by charging a fee to all lenders on the loans that are originated which can be put into some sort of an education or an enforcement fund.
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    Congress has failed to update HOEPA over the last several years, and not surprisingly, therefore, starting in 1999 with North Carolina, many States and localities have enacted or are seriously considering enacting on their own prohibitive language or laws on predatory lending. However, they are developing into an arbitrary and irrational patchwork of laws that are in some cases inadequate and in others unduly burdensome and costly. Moreover, federally chartered depositories as well as some State-chartered entities are being exempted from these State and local law requirements. This creates not only an unlevel regulatory playing field for lenders, but also confusion and inconsistent levels of protection for borrowers. Many consumers are not being adequately or equally protected by these measures. In addition, the national nonprime housing finance market is being disrupted.
    As committee members know, housing is critically important to our Nation not only as home ownership, the American dream, and central to the welfare and stability of families and communities, it is vital for our Nation's economy. And nonprime mortgage lending is critically important for meeting the household housing credit needs of the millions of Americans who are unable to qualify for prime mortgage credit. This nonprime market last year amounted to approximately $213 billion, or about 10 percent of the overall mortgage market. Sixty-five percent of those loans were sold into the secondary market and ultimately securitized. Today one of the major reasons why the availability of nonprime credit has relatively low rates which average about 2 percent less than the prime rates is this securitization process.
    Securitization has provided capital from the national/international markets to fund these higher-risk loans. This has made mortgage credit much more available and dramatically decreased cost to borrowers.
    The developing patchwork of State and local laws is seriously hindering lenders' abilities to continue providing nonprime mortgage credit that borrowers want and need. We have seen the effects of overreaching restrictions earlier after the nonprime lending market shut down in Georgia due to excessive restrictions in its lending law. We are now starting to see the same market disruption in New Jersey, Los Angeles, and Oakland for the same reasons.
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    We ask that you work on a bipartisan basis to promptly develop balanced and workable new Federal responsible lending rules and make them apply uniformly so that all mortgage lenders are governed by them and that every American borrower receives the same effective protections.
    In closing, let me note that I think the American people are supportive of Congress acting as we suggested, as evidenced by a new poll that CFAL is releasing today. A press release describing the poll's findings is attached for your information.
    Finally, I want to emphasize that CFAL's members are flexible, we are very open to compromise and in developing a further refined bipartisan proposal. We really look forward to working with everyone on both sides of the aisle and with yourselves and the consumer groups to find a final solution on this.
    Chairman BACHUS. Thank you.
    [The prepared statement of Steve Nadon can be found on page 193 in the appendix.]
    Chairman BACHUS. Let me start out by asking this: We have talked about OCC and OTS and preemption and the North Carolina law. Does North Carolina law, as I understand it, only apply to finance companies? It doesn't apply to national banks or to banks? What is it?
    Mr. BROWN. Mr. Chairman, the North Carolina law was a law that was a consensus document, that was a consensus of all of the major banking operations in the State of North Carolina. And so the law sought to deal with a lot of the State-chartered entities such as the finance companies, but the law is quite pervasive. And the individual, both on the finance side as well as the lenders, the major depository lenders, have also been a part of the regulations of the North Carolina law.
    Chairman BACHUS. So the North Carolina law applies to your depository institution?
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    Mr. BROWN. Well, it applies—it is focused principally on those State-chartered entities and finance—finance companies, but the coalition and the consensus of the local State bankers association, the mortgage bankers associations, et cetera, have essentially signed on to this legislation, to also follow the rules and the guidance and the guideposts of the legislation.
    Mr. MILLER. Mr. Chairman, I have just been in court; I hope you are not insulted by calling you, Your Honor. I would just add that in North Carolina, some of the best things about democracy, serious problems addressed in a bipartisan way, addressed with the whole industry—practically the whole industry, including the banking industry, in and on a solution, and agreed to by most everybody, and, as we can tell, is working as well or better than anything else in the country.
    Chairman BACHUS. Okay.
    Chairman BACHUS. You know, you all's testimony has mentioned that many of the abusive practices are already illegal. What can Congress do, say, to enhance the enforcement of the existing law to help stop predatory lending?
    And, Attorney General Miller, you mentioned loan flipping. And, in that regard, I understand a lot of unscrupulous brokers and lenders, to avoid the flipping restrictions, they simply modify the terms. So could we address that problem maybe by restricting modifications or either deferral fees on HOEPA loans, number one? Is that something that would be helpful?
    And second is that the HOEPA legislation expressly grants the Federal Reserve broad authority to issue regulations to restrict anything that is unfair, abusive, or a deceptive practice. Would using that authority to define loan flipping as an unfair, deceptive, abusive practice enhance, say, the Board's ability to enforce and regulate the practices of the industry?
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    Mr. MILLER. It may well do that and potentially would be very constructive. One of the ways to deal with flipping is the net tangible benefit concept, that if there is a refinancing done in a relatively short time there would have to be a net tangible benefit for the individual as a result of the refinancing rather than the opposite, destructive credit, that I talked about. That is one concept that has been discussed.
    In terms of enforcement, you know, I think that there is room for a lot more enforcement. The problem is resources. One thing that was mentioned is a fund where there would be a small charge for each loan transaction put into an enforcement fund. That can be done perhaps at the State level. There is something you can do to provide funds to the States to enforce.
    That would definitely be helpful. I mean, we see the benefits of us being on the beat with the Household case, and other cases that we are looking at. But it is not strictly an enforcement problem. It is a problem that the law can be constructive in. The industry can do a lot to clean itself up and, as I mentioned, some of those are doing that.
    I do sense sort of an irony of some people calling for greater enforcement as they call at the same time for preemption that would take away some of the important laws to enforce. There is an inconsistency there.
    Chairman BACHUS. Thank you. We sometimes on this committee, after time has expired, we ask another question. I am not going to do that. And we are just—if somebody is answering when the 5 minutes runs out, that is the 5 minutes. With that, Ms. Waters.
    Ms. WATERS. Thank very much, Mr. Chairman. There are a number of characteristics of predatory lending that are clearly identifiable. You were just asking about loan flipping, which we think is—some of us believe to be one of the most egregious characteristics of predatory lending. But let me just ask about a few of these.
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    Let me ask the Mortgage Brokers Association representative about loan flipping. Do you believe that we should just outlaw this practice, or put a limit on the number of times a loan can be refinanced? What can you tell us about loan flipping that will help to get rid of the abusive practices and the harm to consumers that we see with this practice?
    Mr. PICKEL. Well, there is a couple of things.
    Ms. WATERS. What is our first—Mr. Crouch, is it? Mr. Couch.
    Mr. COUCH. Yes. First, your question underscores one of the really difficult parts of this debate. You have suggested that loan flipping is a bad practice, and I would agree with you.
    Then we would immediately have to define loan flipping. For instance, personally I refinanced my house twice in 7 months. It was not an abusive situation, or I don't think it was an abusive situation. My own bank did it. In both cases I lowered my interest rate.
    Ms. WATERS. May I interrupt you and get to the kind of loan flipping that I am talking about? A borrower is in trouble. They can't make their payments. They are in danger of foreclosure. The lender says, let me refinance this loan for you. And in doing that, they have to pay all of the charges that are required with refinancing, et cetera. And this is the kind of loan where the borrower is not able to really pay, and they keep getting deeper and deeper into trouble and maybe flipped a couple of times, and still the foreclosure takes place. That is what I am trying to get at.
    Mr. COUCH. Well, as so often is the case in these debates, dealing with hypotheticals makes it very difficult. My bank, we would not refinance someone that didn't have a prospect for repaying their debt.
    Ms. WATERS. Tell me what you think is a bad loan flipping practice.
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    Mr. COUCH. Well, I can describe a number of practices that——
    Ms. WATERS. Just give me one.
    Mr. COUCH. An instance where someone is deceived into repetitively refinancing their loan for the purpose of stripping out their equity would be a predatory practice. It would also be illegal currently. It would be a fraudulent instance, and it would be illegal under current law.
    Currently there are 22 Federal statutes that govern the application, funding approval and servicing of mortgage loans. Those laws, if properly enforced, would in fact take care of the vast majority of these situations that are oftentimes mentioned as abusive.
    Ms. WATERS. Okay. So it is your feeling there are enough laws on the books, that we don't need to do anything else, that we should just enforce the law?
    Mr. COUCH. Well, as I stated in my testimony, the Mortgage Bankers Association believes that the most effective tool for addressing issues of abusive lending are an educated consumer so——
    Ms. WATERS. Okay. I have you. I understand you. What about balloon payments? Anybody? Should we just outlaw balloon payments?
    Mr. COUCH. Would you like me to address that as well?
    Ms. WATERS. No, you aren't doing too good.
    Mr. NADON. Maybe I could give a little bit of an answer to that, at least from a lender's perspective. There are circumstances for some borrowers where in my opinion a balloon payment might be reasonable. But for most people I don't think that it is, because the amount of money that is required, it is very hard for most people to legitimately think that 5 or 6 years down the road they are going to have enough money to pay something. They won't know what the market conditions are going to be. They won't know what interest rates are going to be, they don't necessarily know a lot of the changes in the economy or even their employment.
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    So I would think we would want, at least from CFAL's perspective, to have very tight controls on when it would be appropriate to have a balloon payment. I can say, though, with that, that I have had some friends of mine, over time that they managed having a balloon payment on a particular property with a specific purpose on the property, and they managed it very well. But they are more sophisticated, they had a higher income level. They really had a better understanding of what they were entering into.
    Mr. MILLER. And I think that is a very good point, that balloon payments make sense very rarely, and when they do make sense it is often in the prime market. It is often people that are in a very difficult situation. In the subprime market they very rarely make sense. They are almost always misleading. People don't know that it is a balloon payment, and then when they are done making payments they are going to owe a huge amount of money. In the subprime market balloons are a very, very serious problem and very rarely in the interest of the consumer.
    Chairman BACHUS. Thank you.
    Mrs. Kelly.
    Mrs. KELLY. Thank you, Mr. Chairman. First of all, Mr. Chairman, I would like to enter into the record a letter written by myself and several other members of this committee to Mr. Hawke at the OCC.
    Chairman BACHUS. Thank you. Without objection.
    [The following information can be found on page 289 in the appendix.]
    Mrs. KELLY. Thank you. Attorney General Miller, your experience with the investigations on these issues qualifies you to address the issue of whether or not a State Attorney General can protect consumers without the constant—and I am using this as a euphemism—help from the Federal Government regulators?
    Do you agree that there is a middle ground where local perspectives and practices can be respected by banking law, or do you feel that the Federal Government needs to get in here and adjust what is being done by the States?
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    Mr. MILLER. I think that the current system, up until now, where States and Feds enjoy a concurrent responsibility and concurrent authority is the very best one. And a good example is in predatory lending, where the States were doing the case with Household at the same time the FTC was doing the case with Associates, CitiGroup.
    We talked a little bit back and forth as to where we were at on the two cases. That is a very, very healthy situation. What is being proposed at the OCC to effectively take the States out of the joint effort in basic consumer protection dealing with national banks is just the wrong step. I think that we provide a good service, an effective service.
    I think two viewpoints are better than one on these issues. You know, I couldn't agree more with I hope what is in your letter, saying that the States should continue to have this responsibility that we have had traditionally and I think executed very well.
    Mrs. KELLY. Thank you. I hope my letter lives up to what your expectation is. But I also want you to know I intend to ask Chairman Oxley for a hearing. I chair the Oversight and Investigations Subcommittee, and I would like to have a hearing on whether or not the OCC is setting a policy that is going to preempt State laws. I think we need a clear set of principles about what Congressional mandates are all about on this.
    I am just not sure that the OCC has followed our Congressional mandates. And I would like to go back to you, Attorney General Miller, and ask you, is it your opinion that you think that Congress is—that that is a good idea? Do you think that Congress ought to have some hearings on the OCC's action before the OCC continues on with its intended course, apparently?
    Mr. MILLER. I couldn't agree more, and please invite me back. I would like to come back and testify again. I think it is a very, very important issue. And what is being proposed is a radical change from what we have known, you know, throughout our Republic, this idea that State Attorney Generals and other State officials have for a long, long time enforced consumer protection laws, State laws, against national banks. And that has worked and worked very well. And what the OCC is now saying, and just think about this, that they can preempt certain State laws. We understand that. We might quarrel about which, but we understand they can preempt certain State laws that deal with national banks. But then they are saying, what State laws remain States can't enforce. We can't enforce even State laws relative to national banks, even a consumer credit, a routine consumer credit claim like a simple credit card issue, that if an Iowan came to me and wanted me to try and resolve this basic issue, a simple issue with a national bank, we couldn't do it, according to the OCC now.
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    This is just a huge change. And what I have argued in another context is really a dagger in the heart of Federalism, that States cannot even enforce State law. That is wrong and I would welcome your hearing and talk more and be more upset even in that hearing.
    Mrs. KELLY. Well, sir, I hope that we are able to work with you and be able to bring that hearing into reality.
    I want to just go very quickly to Mr. Couch and just thank you very much for what I believe the MBA has tackled in terms of consumer financial literacy.
    I am wondering if you think we should consider beefing up the financial literacy programs for home buyers at HUD?
    Mr. COUCH. Well, Congresswoman, thank you for recognizing our efforts in this area. We, over 2 years ago, came out with our Stop Market Fraud Campaign. This year we translated it into Spanish. Tomorrow, I will be in Dearborn, Michigan, to announce the translation of the program into Arabic for the Arab community there in Dearborn. So thank you for that recognition.
    I will go back to what I said earlier. Consumer education, wherever it may come, and I compliment the Congressman for his comments earlier about the provisions in his proposed legislation in that regard. Consumer education empowers the consumer to take advantage of what is already a very competitive marketplace.
    Every Sunday morning in Birmingham, Alabama, my prices are run in the Sunday newspaper right next to my 30 closest competitors along with telephone numbers and ways to shop us against each other. So if we can educate the consumer and keep the marketplace competitive, we can lick this.
    Mrs. KELLY. Thank you very much.
    Chairman BACHUS. Thank you. The order on the Democratic side is Mr. Sanders, Mr. Watt, Mr. Lucas, Mr. Scott and Mrs. McCarthy, Mr. Crowley. Those are the next ones coming up. I am just going down the list that I have gotten.
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    Mr. Lucas, Mr. Watt and Mr. Sanders have agreed to let Mr. Lucas go in front of them. He has got another engagement.
    Ms. VELAZQUEZ. Mr. Chairman, I have been losing weight, but I am not invisible, and I have been here, and I was one of the first who came here for this hearing.
    Chairman BACHUS. What I will do, while he is asking his questions, I will give this list to the Democratic side and let you all come up with the order.
    Mr. WATT. She actually made her opening statement in front of me.
    Chairman BACHUS. As I say, I didn't prepare this. But what I will do is I will put her ahead. I will do that, because if you all just tell me what is accurate, I will change it.
    Mr. CROWLEY. I was here first.
    Mr. LUCAS OF KENTUCKY. Be quiet, Mr. Crowley.
    My first question here is for Attorney General Miller. There is a lot of talk about net tangible benefit. How would you define net tangible benefit in a minute or less?
    Mr. MILLER. Well, it is a somewhat amorphous concept, as you suggest, and it is clear at the extremes. It is clear when someone refinances and gets a lower interest rate, for instance, that obviously there is a net tangible benefit. When there is a refinancing at a relatively short time after the previous loan, and none of the changes are beneficial to the consumer, and he or she ends up paying 5 or more points, obviously there is no net tangible benefit.
    But I think the concept is, looking at destructive credit and constructive credit, is the consumer better off after having made the refinancing looking at the basic terms and the purpose of the consumer? Or is the consumer without any real advantage going further and further away into destructive debt?
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    Mr. LUCAS OF KENTUCKY. Thank you. The next question
    Mr. BROWN. If I may just add to that. In North Carolina, we looked at that as a broad spectrum. But when we look at a situation that we had in North Carolina, where a woman's husband died in Vietnam and needed to have some financing and went to her lender and got a 13 percent loan at the time, but also 10 percent fees tacked on and went into foreclosure and is now renting her place, well, is that what is not tangible?
    I think we have to get some of the experience on the lower levels and begin to look at the actual effect, as my honorable colleague has said.
    Mr. LUCAS OF KENTUCKY. Thank you. My next question is for Mr. Nadon. Do you think that it is really necessary to have extended assignee liability that makes Wall Street investors and pension funds liable? Why can't the liability buck stop with big lenders like you?
    Mr. NADON. Well, we don't have a problem with it stopping with a big lender like us, because it is the larger lenders that are the ones that are doing the securitizations in the first place. The smaller players or those sometimes referred to as the marginal lenders don't really have the resources, the financial strength to go into the market doing the securitization themselves. So they ultimately wind up selling their product to maybe a company like ours or some of our competitors or selling them in small pools to aggregators who then take them to the market.
    The problem that we have seen on the assignee liability language is that no one has been able to draft something yet in the State laws that we have seen, aside from perhaps—the one that got the closest to getting it right I think is in North Carolina, to doing it in such a way that it does not scare off the capital markets.
    The good example that was in Georgia, it was sufficiently vague and unclear that the rating agencies, principally S&P, was not able to quantify the risk. And if they could not quantify the risk, they can't do their job for those people that would ultimately be the purchasers of the bonds.
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    As a result of that, those of us that are completely dependent on the capital markets, Option One Mortgage is one of those companies, and one of the larger ones in this country in this business, we were just shut off whether we liked the law in Georgia or not. We could no longer lend in that State. That is the concern that we have with the way that the language is crafted. There is probably an answer in there, but it is not the one that we have had come out in all of the different cities and States so far.
    Mr. LUCAS OF KENTUCKY. Another question. We all know that mortgage brokers, they originate the majority of these loans. Do you think that current State laws are adequate for regulating these brokers?
    Mr. NADON. No, I don't. And that is one of the serious problems that we have in this country today, is that if you go from State to State the rules on how you can become a broker and what kind of requirements you have to have really do vary. So it is very hard to get consistency in the quality of the brokers in a State-to-State type basis.
    Another serious problem is that there are bad players in the broker industry. Unfortunately, some people are more interested in making money for themselves and really not caring at all what happens to the end borrower. But there isn't a way for us right now as lenders to identify who those people are.
    So all that happens now is when we find them we cut them off. So we won't do business with them anymore, and in some instances our company has actually gotten the FBI and the police involved to try to put them completely out of business.
    But when those brokers get suspended or terminated from us, then they just submit their application to do business with an Ameriquest, a New Century or a host of other lenders out there. And they don't have a way that they can identify in the approval process that that broker is a bad player.
    And one of the things that is in the Ney-Lucas bill, which we like, is trying to create a national database which would allow us to do just that and try to create standards across the country for how a broker should behave.
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    Mr. LUCAS OF KENTUCKY. Thank you, Mr. Chairman.
    Chairman NEY. [Presiding] Mr. Miller of California.
    Mr. MILLER OF CALIFORNIA. Thank you, Mr. Chairman. When we look at the recent success of the subprime market, and that is not talking about predatory lending, but subprime home equity loans have grown 66,000 in 1993 to 856,000 in 1999. That is huge. And when you look at the other side of the subprime to purchase homes, it has grown from 16,000 to 263.
    And these really benefit people who have blemishes on their credit rating, who have no place else to go. And this patchwork of State and local laws that are being developed and created by well-intended individuals is rather scary.
    In Georgia alone, if you look at theirs, 35 companies, huge companies, said they would not be able to buy on the secondary market. Those include Freddie and Fannie. That is a huge, huge impact on the market.
    I talked to one lender in California about the potential impact of Los Angeles and their ordinance that is being somewhat modified and adjusted at this point in time, and I was told that the loan volume in Los Angeles alone will decrease by 65 percent. This one lender, that is $600 million less mortgages for one company in Los Angeles alone.
    And Attorney General Miller, I am kind of partial to that name, so I guess I will address this question to you. Can you kind of expand on how this patchwork of laws and well-intended ideas might impact the overall market for subprime? And do you not see some consistency being required from Congress to deal with this issue?
    Mr. MILLER. First of all, I agree wholeheartedly with you that the subprime market has expanded dramatically in the last 10 years. By and large that has been a very, very good thing. And some people, you know, want to point out that subprime and predatory are different, and that is clearly right. Predatory is only a small piece of the subprime market.
    But you know, I am a believer in democracy, and I am a believer that States are the laboratories of democracy, and I don't think the Georgia experience was necessarily a bad experience in this sense—that they appeared to go too far on assignee liability and created some problems of availability, so they had to pull back. So, you know, what did we learn from that?
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    Well, we learned not to go that far. And Georgia citizens weren't really impacted terribly because they made the change. That is how democracy works, and that is how the laboratories of democracy work. We know from the discussion today that North Carolina has found a very, very good balance that States should look to emulate.
    I think working through the States and working through these laboratories of democracy is a very good thing. And as George mentioned, they can be self-corrected very easily. It is not like having to go through Congress and pass an act. If there is a problem, legislatures can move very quickly. They did that in Georgia, and I think that is fine.
    I think we are learning more and more about what needs to be done and, in the case of Georgia, what shouldn't be done. That is healthy. That is not bad. That is our Federal system.
    Mr. MILLER OF CALIFORNIA. Laboratories of democracy is one argument. We recently went through the argument with Freddie and Fannie as an example of how do you develop programs and, under that umbrella, the products that can be immediately put into the marketplace. And you are dealing with major lenders here who are trying to lend to every State in the Union and every community and county within those States.
    And when you have each city coming up, Oakland having their own, Los Angeles having their own, Pittsburgh having theirs, some other State having theirs, don't you think there is going to be a dramatic impact on loan availability to consumers and consistency for consumers? Does not that impact those individuals who are, you know, having difficulty sometimes qualifying for subprime? Doesn't that impact the market overall?
    Mr. MILLER. If I can respond. I don't think so, because, you know, look at the statistics you just cited, this enormous growth in the subprime market while all of those things were going on. I have less sympathy, and maybe it is because of my perspective of localities doing separate statutes.
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    Mr. MILLER OF CALIFORNIA. But these changes have been recent. Georgia was 2002. A lot of them are this year even. So it is not going back 10 years.
    Mr. MILLER. North Carolina is 40 months ago, and other changes have taken place as well, and it hasn't choked it off, and I don't think it will. And the point is where it does the market really gets involved and says, okay, we are not going to play there. So then the locality or the State has to change the law. That is part of the democratic process.
    And with this overwhelming amount of money that I referred to in the subprime market, you know, there is some margin for error. There is margin for give. I am not concerned that people are not going to be able to get loans that should get loans because of this experimentation and this give and take.
    Mr. NADON. If it would be appropriate for me to enhance some of the comments, because I actually agree with some of the things that Mr. Miller is saying. But the challenge for us is that we had the Georgia experience, where we all—all of the good lenders had to pull out because of the way that we fell into the secondary market. That access got shut off to us.
    That is going to happen again here at the end of this month in New Jersey. They have enacted—I think it is November 27th that it goes into effect. And under that legislation, the rating agencies have a similar issue to the one that they had in Georgia.
    Our company alone is lending approximately a billion dollars a year in the State of New Jersey. About 60 to 70 percent of that business is going to go away as soon as that law goes into effect. So I would just say that there is consequences that we have to think through before we enact such legislation.
    Chairman NEY. Thank you. Mr. Sanders, I am going to let you advise me who is next.
    Mr. SANDERS. You are passing this buck to me?
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    Chairman NEY. Yes, sir, officially.
    Mr. SANDERS. Thank you, Mr. Chairman. Let me direct my remarks, if I might to Mr. Miller, Mr. Brown and Mr. Fishbein.
    The real discussion here is whether or not States and cities have the right to protect consumers. My understanding is there are about 20 States in this country, and 20 localities who have passed strong anti-predatory lending consumer legislation.
    My understanding is that in your own State of North Carolina, according to the Coalition for Responsible Lending, the North Carolina anti-predatory lending law saved homeowners $100 million in its first year alone. So my question to you is, if the United States Congress takes what seems to be a rather Draconian action and says 20 States who elect their own Governors and Attorney Generals, who have passed legislation, we are wiping you out, 20 cities, we are wiping you out, we know better than you, what is the impact on North Carolina and in other States? What does this mean for consumers, and who is behind this? Who is hurt by this Federal action? Who benefits?
    Why don't we start with the Attorney General? Mr. Miller.
    Mr. MILLER. Well, consumers don't benefit in those 20 States. It would be incredibly sad to have North Carolina develop that law, building a consensus within their financial community, having it work and work well for 40 months now, consumers being saved I think you mentioned a hundred million dollars, for Congress to come in and say, well, we know better, that is too strong a law. And I think all of the proposals are far short of North Carolina, I think it would be wrong for Congress to decide that North Carolina law, even though it works and we know it works, it is the best in the country, the people of North Carolina can't have that, because for some reason we want uniform authority throughout the country.
    What Congress should do, if they wanted to act, in my opinion, is basically enact the North Carolina statute as the national standard and make that a floor. Let the States experiment further. If we can find something better than North Carolina after a few years, come back and do that. That would make the most sense.
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    And, as I say, it is not going to impact credit. Where credit is impacted, there is a pushback. Where people, where a large number of people can't get credit, there is a pushback, there is a change in the State law, a change in the ordinance. It is self-correcting out there.
    Mr. SANDERS. I agree with you, and I think it would be outrageous for the United States Congress to take away what so many States and municipalities have done. Mr. Brown and Mr. Fishbein.
    Mr. Brown, do you want to comment on that?
    Mr. BROWN. Yes. I have to echo what Mr. Miller said. In North Carolina, if the North Carolina law had not been in place, we would have continued to see an erosion of the position, the financial wealth and the stripping would have continued. So that we have estimated, as we said before, about $9.1 billion you have stated that we see lost as a result of the predatory practices. That number would continue to escalate.
    Mr. SANDERS. So you are saying consumers will be substantially harmed?
    Mr. BROWN. Consumers would be substantially harmed, and all levels of consumers. The interesting thing, if I may say that we are looking at, sometimes when we are looking at this market, the mortgage market as a global marketplace, and that we are concerned about its impacts in certain areas of secondary markets, et cetera.
    But we have to begin with the homeowner, and we have to begin in looking at ways in which we can quickly address the issues that arise in our localities. And to take away that, this is a laboratory of democracy, this is pure democracy, period, which is no laboratory. And we cannot lose that. I absolutely agree with Mr. Miller. If there is going to be a national law and there is a floor, North Carolina has the example what that floor ought to be.
    Mr. SANDERS. Congratulations on your work. Let me ask Mr. Fishbein.
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    Mr. FISHBEIN. I want to agree with the remarks by Attorney General Miller and Mr. Brown. I would just add that some see what has happened in the past years with State legislation as somehow a negative outcome, when in fact I think it has been a very positive one. Because States have been experimenting and developing and addressing some very complicated issues, and they have the ability to respond and change, and the proper balance is emerging.
    What I suspect you will see over time is that when the right balance is struck, you will see more and more States enacting very similar types of laws, whether it be North Carolina or others.
    Secondly, we don't think this is an either/or situation. I think it is correct to say that the Federal regulation can be improved and establish certain minimum requirements. If those are good requirements, that will probably act as a disincentive or deterrence from States feeling a need to address the issue. But if there are particular issues in their State that are not addressed by Federal law, there certainly should be a continuing opportunity for States to regulate in that area.
    Mr. SANDERS. Thank you very much. Thank you, Mr. Chairman.
    Chairman NEY. Mr. Scott of Georgia.
    Mr. SCOTT. Yes, sir. Thank you very much, Mr. Chairman. I appreciate that. I wanted to add two lines of thought. First one is on financial literacy. I certainly appreciate the comments that all of you have on both sides of this for the need for financial literacy, and, of course as I mentioned earlier, we certainly want to thank Chairman Ney for incorporating our financial literacy bill in the main bill.
    We have got several components of that, one of which is the toll-free number, the grants to the States, setting up the local advisory predatory lending committees.
    So far we have about $50 million incorporated through Federal funding for our efforts. I wanted each of you to kind of respond how you, or what resources that you could bring to assist us in that effort. My colleague, Congressman Ford, mentioned our effort to expand this financial literacy to our K through 12, with an amendment that I offered with Mrs. Biggert, Judy Biggert. We did just that, initiating $5 million initially, and securing another $80 million through the Securities and Exchange Global Research Fund.
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    Financial literacy takes money. It takes support, and I know that one or two of you mentioned your support for that. Could you give us some specific ways which you in the private sector could add to assist us in funding these financial literacy programs as a joint function with the public and private sector?
    And the other question I want to have, because I know I got my 5 minutes, is in addition to the financial literacy, once we have got that into the bill, there is another contentious issue here, which we have touched upon, which is the preemption issue. And I come from Georgia. We are the laboratory of everything. We have not been as successful as North Carolina, but we have been in there punching.
    And as a State Senator, I helped to author the first bill in response to Fleet Finance coming in and using our usury laws, which we put licensing and that sort of thing on. I was very concerned, because I was one of the authors of the Georgia Fair Lending Act, in which the Office of the Comptroller of the Currency came in and ruled on the assignee liability, and I felt at that time that the assignee liability was going to bring some serious issues. I think we can learn from the Georgia experience and how to craft this legislation to do two things, carve out the role for the Federal Government. Instead of preemption, which I do not agree with, I think you are absolutely right, I think there is a role for the States. I think they are unique. Each State has it own characteristics. And coming from a State legislature, I know the value of being able to be on the ground responding to that.
    But I think through the assignee liability issue that the Office of the Controller of Currency brought up comes the role of the Federal Government, and that is to set the national standard. If we had set a national standard for assignee liability, that would have been a guide that we could have used in Georgia to avoid the whole thing.
    Perhaps we can come up with a national standard on balloon payments, on some of the other definitions that we have. I would like to get your take on those two points. One, your support in bringing resources to help us with our financial literacy program as an ongoing basis.
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    And, thirdly, your response to the State preemption issue and the necessity of carving out a role on our developing a national standard on those issues.
    Mr. NADON. First, on the educational part, that is something that we really believe strongly in, that in the long term the real answers to most of these issues rest in education, consumer education, improving financial literacy. Because we strongly believe that if people really do understand the terms of anything they are entering into, if they know what questions to ask, and they know when a good answer and a bad answer comes out, they are probably not going to get themselves in as much trouble.
    So we think that is very important. So there are a number of things that we do, and we actually sponsor Jump Start, among other things, which is a program that goes through K through 12, where we are actually giving money and sending people out to start educating kids when they are going through that part of their life on some of these financial matters that they never hear about in high school or in college.
    We have also got an Option One Mortgage University that we have got off the ground now that works across the country to educate brokers, and we are going to expand it to get out to the average consumers. We are now talking with Fannie Mae to partner with them to do it across the country and with the MBA to help do things across the country on a more national scale with all of us contributing dollars to try to make it happen.
    We are working with the Fannie Mae Foundation to try to find more ways that we can get better informational tools in the hands of the borrowers at the time that they apply with us, not before they are ready to sign loan docs, but when they are first getting an application in the system, so that they can know places that they can go to get better information.
    So we are very focused on the educational part. And if I can just take a couple of seconds just to give a different point of view on the preemption part or the State versus the locality or State versus national.
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    One of the concerns that we have if we allow all of the States or cities to craft their own legislation is that I will have a neighbor some day who lives right down the street from me, because we are right on the border between my community, Laguna Niguel and Dana Point. And Dana Point may have a law that is different from the one Laguna Niguel has. And simply by virtue of buying his house four doors farther down the street and across the street from us, he may not have as much protection as I will have, if Laguna Niguel crafts a better law. We have a serious concern about that.
    It is interesting to note that in the North Carolina law, which I believe there is a lot of very good qualities in the North Carolina law, the people that crafted it, in my opinion, I think were very well intended and pretty well educated. Martin Eakes is someone I happen to have a lot of respect for. I think they did a really nice job.
    But I think they have got preemption in there with localities, if I am right. So they are saying to the cities you cannot come in and write a new rule in one of our cities in North Carolina that is going to supersede what we do in the State. And I think the reason behind that is, maybe the same reasoning that we are saying on a national scale, we think it should be a national law versus every State or city doing something.
    Mr. PICKEL. Mr. Scott, I can speak for NAMB and tell you that because we are so close to the consumer with 16,000 members, we will do everything we can to take education to the streets. We have already done a course called, Are You Prepared to Head Down the Road to Home Ownership? It is in English and in Spanish. It is designed for that borrower who is a first time homeowner or home buyer who really doesn't know where they are going.
    So we are committed to helping educate people to know really what they are getting into. The other thing I would like to comment on, there is another aspect of financial literacy, and that is making sure that the people who are there, you know whom you are dealing with.
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    There was a comment earlier that characterized mortgage brokers I believe somewhat unfairly as being the people who are getting people into these home loans that are predatory, and I don't think that is the case.
    NAMB has worked, I can't tell you in how many States, I believe it is 20 States, where we have tried to get the Model State Statute initiative in there, where we want licensure, education, prelicensure, continuing education, and a registration. We believe that there also ought to be a national registry for all loan officers, because that guy that I fire for doing something wrong, I want to know where he goes, whether it is a mortgage banker, a mortgage broker, or a bank, or a credit union or wherever he goes.
    So I think the other part of financial literacy is making sure that the right people are doing the right things as well for our consumers in the United States.
    Chairman NEY. Your time has expired.
    Mr. SCOTT. Mr. Chairman, I just wanted to make this one last point, and I will be through. I should have narrowed and focused my point a little further. But I do believe that, as one of the panelists had mentioned, the possibility of incorporating some fee structure added in that could go to assist our efforts in what we are doing in the law itself to help us to fund those programs.
    And I think that that—is that true?
    Mr. NADON. That is true. CFAL believes it is a very creative way that the industry might actually be able to contribute. And we know that funding for some of these things, educational, even enforcement, can be difficult in States or cities these days. So we are saying let us pony up some of the money for that out of every loan that we fund. We are not sure how it is administered, but we know we can bring some money to the table to help the process.
    Mr. SCOTT. That is what I wanted to see if we could not explore, Mr. Chairman, as we move forward with our financial literacy bill, a way for the private sector to help us. Thank you.
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    Chairman NEY. Thank you. I would also want to submit for the record, several groups have contacted the committee to ask their statements be submitted for the record. Therefore, without objection, the statements of America's Community Bankers, American Land Title Association, Consumer Mortgage Coalition, the Credit Union National Association, as well as a study by Michael Statton of the Credit Research Center on the effects of the North Carolina predatory lending law will be entered into the record.
    [The following information can be found on pages 330, 334, 392, 418 and 446 in the appendix.]
    Chairman NEY. I would also note, and I am going to make my questions very brief, and if I can get some brief answers, because we have another panel that has yet to come. I think it has been a good healthy discussion today.
    Mr. Pickel, I just wanted to focus, with a brief answer if I could, what is the critical difference of the State registry versus the national registry, in your opinion?
    Mr. PICKEL. Well, the reason we would like a national registry is we want to track the guy if he goes State to State. Several States have a registry. In fact, in Kansas we use the Model State Statute initiative. We license both loan officers, if they are a mortgage banker or mortgage broker. We require continuing Ed.
    We just feel like if we have a national registry similar to the one that NASD, our self-regulating organization, we would like to follow that model. Currently, we feel like that could take the bad actors out of the business, just like on the mutual fund situations going on right now. You can find those guys and you can get them out.
    Chairman NEY. I know that there was a case of a guy that did hideous things, and he went to another State and did them. And unless that State had a good registry and you are able to catch them right when they came in, if you don't have a national registry you are just not going to catch a person that keeps going place to place. So I was wondering if you thought it was a critical part.
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    The other question I have is for the Attorney General. In your testimony, Attorney General, you made the point that North Carolina law has reduced access to predatory lending, not access to appropriate lending. And I wondered if you could talk a little bit about how you came to that conclusion, and is there any study towards it?
    Mr. MILLER. Yes, there are, Mr. Chairman. In fact, I was—it was previewed by Congressman Miller, who talked about the UNC study. The UNC study is, I think, the best study, the most comprehensive study of the North Carolina situation.
    Chairman NEY. If I could, Mr. Attorney General, the other point I want to make now, in fairness, not to wait for your answer, is that there have been arguments because of the law, in fact, people have scaled back the amount of credit available, therefore there is less credit available to people.
    So that is why I wondered about your conclusion.
    Mr. MILLER. Exactly. And the study indicated that as to purchase money transactions for homes, buying the home for the first time, over a 4-year period North Carolina lending went up 43 percent, which is at exactly the same as the rest of the South.
    On refinancing, they may have dropped off a small amount. But we would argue that that would be natural, that at the margin if destructive debt is being eliminated, there would be somewhat less financing. And that would be a good thing if it was the financing that was destructive. There is, I don't think, any suggestion by anybody, Congressman Watt and George Brown would know better than I, that there is a dearth of credit in North Carolina, that there is a problem with subprime lending not being available. I don't think there is any indication of that.
    And the North Carolina study indicates that probably it was targeted to do exactly what it did, not harm constructive lending, but to limit, at least at the margin, destructive lending.
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    Chairman NEY. Do you think it was different than what Georgia did, because, as you know, Georgia had to come back and undo a few things, especially in assignee liability.
    Mr. MILLER. It was different in terms of assignee liability. And, you know, I think—I am a great believer in the concept of laboratories of democracy. The States are laboratories of democracy.
    We learned a lot about what should be done in North Carolina. Georgia, you know, probably pushed assignee liability too far. We have learned something from that, and we really should be indebted to both States, because we learned a lot from both States, and that is how our system should work at the State level.
    Chairman NEY. I also think really, coming from the State house, originally in the State Senate in Ohio, and being
    very—obviously I am for home rule and States rights, but I think if you had asked me 15 years ago about standards, I would have said we were going after preempting the States. Things have changed so much in the United States that now what happens in Georgia affects the rest of the country and what happens in North Carolina or Ohio.
    That is why I look more towards the discussion, at least, of a national standard; whereas things were pretty well set, I think technologically in the way we operated in the United States 15 some years ago, that, you know, the fact that we didn't even have interstate banking in the State of Ohio until around 1988 or 1989.
    So I just think a national standard is—more of a national standard than a total, you know, preemption of the States, I think a lot of things have evolved to at least that is a discussion point these days.
    Mr. MILLER. That is certainly a worthwhile discussion. What I suggest in that regard is that the best system we know is North Carolina. If you wanted to have national legislation parallel North Carolina, because that has worked best, but don't preempt the States. Let the States experiment around the edges as well.
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    But I think if North Carolina is as good as we think, most States wouldn't change it, wouldn't change much. If some State found a better way to do it, you could come back in a few years and make that part of the national standard. I think that is the best way to balance the two realities that you just described.
    Chairman NEY. Thank you.
    Mr. COUCH. Congressman, I was just going to follow up, with all due respect to General Miller. The statistics that he keeps talking about on the edges, if you look on page 19 of the UNC study, which by the way was funded by Mr. Brown's group, the drop in North Carolina in the seven quarters following enactment of the statute was 20 percent in subprime refinances according to that study.
    Now, there are others that suggest that it was much greater than that. We at the Mortgage Bankers have extrapolated that. That works out to be about $300 million of loans that weren't made to 4,000 borrowers. So it is important to read the entire study, I think, and all of the studies that are out there regarding North Carolina.
    Mr. BROWN. Well, Mr. Chairman, if we really honestly look at the study from top to bottom, the reduction of some of the refinances, mortgages, I think, again, is not just hitting at the perimeter or the fringes, it is hitting at the problem that we want to address in America, period. That is to provide that the incidents of predator lending practices naturally, when we are talking about flipping and other equity stripping features, tend to be right at that particular aspect of refinancing.
    And the law, a very balanced law with fundamental, massive, unanimous statewide participation said, and it shows from the study, that we have gotten rid of situations that could turn up like the woman I have talked about before, where we are putting at risk homeowners who could, through the added-on fees and flipping of mortgages, might wind up in a very serious foreclosure situation.
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    So we have not dried up credit, it has increased. We have reduced by 72 percent prepayment—loans that are being made with prepayment penalties. Almost in my view, wiped it out. The UNC study, one of the best, has shown us that we have done exactly what the law intended to do.
    Chairman NEY. Thank you.
    Ms. Velazquez.
    Ms. VELAZQUEZ. Thank you, Mr. Chairman. Mr. Brown, do you have any suggestions as to how this committee can resolve the issue of assignee liability in a way that protects the consumers and allows companies who purchase loans on the secondary market the ability to still be successful?
    Mr. BROWN. That is a tough question for a newcomer like me. However, let me take a crack at it. It is very clear that the fundamental issue of assignee liability has to be there to protect the homeowner whose mortgage is being purchased and who has to be in a position to defend situations in which there arose a predator lending practice. We have got to have that.
    The extent to which we can look at other examples in the Federal Government, in the consumer lending area, to begin with, the SEC's holder, in due course holder provisions, to be able to look at things such as safe harbors and how we begin to fashion, if we think it is prudent, certain caps or assignee liability provisions. These kind of things are not done overnight.
    To the extent that we are starting here today, we would love to work with you and begin to fashion ways in which we can come up with provisions that—Georgia, in their desire to get into predatory lending, saw that the road that they took in one level was not the right road and came back and changed that, through the way in which it ought to be, local, local provisions and local government.
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    So we think there are some things we can look at. Some examples come from this whole issue of assigning liability. It is not uncommon, period. And I am sure, as many customers say in the mortgage lending business, it is there. We can fashion ways to do it that will protect the consumer and will not provide an opportunity for raiding agencies to say that it is going to impact the liquidity of the secondary market. Done every day. We have got to take a look at how we can address it in this particular area.
    Ms. VELAZQUEZ. Thank you. Attorney General Miller, what are the failures in lender due diligence and quality control you have seen in the predatory lending cases you pursued, and how have they exacerbated the abuses that you prosecuted?
    Mr. MILLER. I think the best example and the most unfortunate example of assignee responsibility or lack of responsibility is the FAMCO case, which was the worst case of predatory lending we have seen at the national level. And Lehman Brothers did the securitization there and were sued over that and held liable, at least in part, for their responsibility there.
    It seems to me that on assignee liability you need to avoid the extremes. You need to avoid the extreme of making it too difficult, too risky, for the investment banking firm. You can do things like limit the liability to the amount lent, not have them be responsible for concepts like net tangible benefit, which I admitted were somewhat amorphous.
    On the other hand, you need to avoid the idea that they have no liability at all. They should have to do some due diligence. If they know that they are dealing with a crook, or a bad operator, and they go ahead and securitize anyway, they should have to take responsibility for that because, again, FAMCO is the example. They were able to perpetrate their fraud and their harm much more dramatically because they could securitize.
    Ms. VELAZQUEZ. Thank you. Mr. Fishbein, beyond stopping predatory lending, could you give us your opinion as to how anti-predatory lending laws help responsible lenders better serve minority and low income communities?
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    Mr. FISHBEIN. Well, I think the—as I have indicated in my testimony, subprime lending is so heavily concentrated in minority areas that it can cause particular problems in its own right,and what anti-predatory lending laws do, if they have the proper standards in place, is that they help to weed out and curb the worst practices. They help ensure that borrowers are getting into loans that are affordable, and therefore are less likely to go into foreclosure, which can have devastating effects on those families and their neighborhoods, and good protections we think is very helpful to the marketplace, results in better subprime lending occurring, and ultimately takes out some of the worst abuses that are bringing down the very purposes that they are intended to serve.
    Ms. VELAZQUEZ. Thank you. Thank you, Mr. Chairman.
    Chairman NEY. Thank you.
    Mr. Watt.
    Mr. WATT. Thank you, Mr. Chairman. I will be quick. I just want yes or no answers. Is there general agreement that the North Carolina statute is better than the Home Ownership and Equity Protection Act of 1994?
    Mr. MILLER. Yes.
    Mr. BROWN. Yes.
    Mr. COUCH. No.
    Mr. PICKEL. No.
    Mr. WATT. So we have got two on the end that don't agree.
    Okay. Is there general agreement that if Secretary Hawke's regulations go into effect, that the Home Ownership and Equity Protection Act would take precedence over the North Carolina law insofar as Federal institutions are concerned?
    Mr. COUCH. National banks, yes.
    Mr. WATT. National banks.
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    Mr. FISHBEIN. Let me go a little further than that, because the Controller has had a very aggressive form of preemption that he is proposing that would actually affect State chartered operating subsidiaries of national banks, and to that extent it would actually preempt State enforcement in that area as well. State chartered institutions would be preempted from having State laws apply to them.
    Mr. WATT. Okay. Is it true that you all think that we need a hearing on that, on the proposal?
    Mr. FISHBEIN. Yes.
    Mr. WATT. I yield back, Mr. Chairman.
    Chairman NEY. Thank you. And next would be Mr. Meeks.
    Mr. MEEKS. Thank you, Mr. Chairman, and let me see if I can do this, maybe not as quick as Mr. Watt, but quickly.
    I guess I will just ask this first of Mr. Pickel and Mr. Couch. It seems that very few prime lenders charge prepayment penalties, but the majority of subprime lenders do.
    My question is if that is the case, doesn't it make it more difficult for people to improve their credit rating in a few areas to access better rates?
    Mr. COUCH. I would probably debate with you the issue of do primary lenders ever charge prepayment penalties. We actually have products that we offer where if you are willing as a consumer to accept a prepayment penalty we will offer you a lower interest rate on your loan.
    It is an advantage to consumers. We also, on occasion, will allow consumers to finance closing costs at the front end of the loan, and pay us back, in essence, through a slightly higher interest rate on the loan.
    And the only way that works is if you have some assurance that the cash flows are going to continue for long enough to repay that loan, if you will, and prepayment penalties are a way of doing that.
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    It is important to point out we are also a commercial lender, and this year we will do a billion and a half dollars worth of commercial loans, multifamily, shopping centers, office buildings, those sorts of things, in virtually every, I can't think of an exception, in every loan, and these are sophisticated borrowers that we are lending to. In every loan we have a yield maintenance provision. If it is a fixed rate loan, we have a yield maintenance provision, in essence, a prepayment penalty. So it is not on its face an unconscionable term.
    Mr. PICKEL. Sir, I think as brokers we sell the products that the lenders offer us. The prepayment penalty can always be bought out. I can tell you that in my own company a lot of times we will buy that out. I think the prepayment penalty can help do what Mr. Couch said. It can ensure the lender of a certain rate of return over a certain period of time. But our goal is to help the consumer, always has been. And what we really want to do is—I can tell you a number of instances where we have taken people out of subprime loans and put them into a conforming loan once they have got their credit back on track.
    So if the prepayment penalty helps us to get a lower rate at the beginning for that consumer, then we like that. But we want the consumer to know what they are getting into. We want to tell them what it is, we want to tell them how long it lasts. We want to give them an option not to have it if they don't want it.
    Mr. FISHBEIN. Congressman, if I can just comment on that. When you consider that a significant part of the subprime market is comprised of borrowers who would qualify for cheaper loans, so says Freddie Mac and Fannie Mae, then prepayment penalties are actually even more pernicious than that.
    They are actually hooking people into paying on top of the higher interest rates they are already paying with back-end fees that in many cases that they were not aware of when they find out that they could qualify for a cheaper loan.
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    Mr. NADON. If I might be allowed to just add one comment to that. We do a lot of business with Fannie and Freddie over the years. Freddie was one of the biggest buyers of our bonds over the last 5 or 6 years, and they have done extensive due diligence on the loans that we produce. We are a nonprime originator, and their conclusion was that a small percentage of the loans, when you looked at the complete file, would have actually passed their automated underwriting engine. On a FICO score basis only, yeah, but there is a lot of other requirements that the prime loans have that are not part of the loans that we are originating. And because our borrowers didn't have 2 months of cash reserves, they were looking for more cash out than the prime lender was willing to do for them, or the guidelines would allow.
    It is things like that, that actually took most of those loans out of qualifying, and Freddie was able to validate that, as has Fannie Mae, by doing personal due diligence on our loan originations for the last 6 years.
    Mr. MEEKS. And I am just trying to get into how you do business. You know, folks are saying in my district how nonprime lenders usually charge unreasonably high rates and fees, and they don't make loans according to people's credit risks.
    I am just asking you, I guess, because of your company and your business, can you explain to me how companies like yours price on the base of risk?
    Mr. NADON. I am going to say it is an easy thing. It is easy to sort of understand the concept, but it gets more complex, obviously, in the doing.
    But there are several layers of risk associated to our loans, and unlike the prime world where the rate—you qualify, everybody gets that same rate. So whether you had a 780 score, 685 score, whether it was 80 percent loan-to-value or 60 percent loan-to-value on a prime loan, you get the same rate.
    Ours are actually priced according to the various layers of risk. So our minimum loan rates start in the 5 percent range and they work their way up to where our average coupons on our loans, the weighted average interest rate charged in our loan pools today are mid-7 percent range. We average today roughly 150 to 175 basis points higher on our average products than where the prime world is today. And we look at factors that—each on their own is a risk factor, things like the loan-to-value, the credit profile of the borrower, their past payment performance on a prior mortgage or mortgages that they have had.
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    We look at what their income-debt ratios are. We look to make sure that they can verify all of their cash flows. For some self-employed borrowers—we have a lot of small business owners that come to us, and so their cash flows are not consistent because they are not getting a regular paycheck every week. We look at how the cash flows are coming through.
    We look at—all those various factors in and of themselves are credit components to it. And the ones that are on the low end of the scale—so loan-to-value is less, their debt-to-income ratio is lower, their credit performance is better, their past mortgage performance, payment performance is better—are paying a lower rate than those that may have a higher debt ratio. Or where the loan-to-value is higher means the risk we are taking is a little bit higher, are where those others layers of risk get started adding on. And that is what drives the rates up.
    So if you were to look at our credit components, not isolated one by one, starting at the best quality and then adding those layers of risk, you would see the incremental increases in the interest rate charged on the loan based on the credit factors.
    Mr. MEEKS. Thank you.
    Chairman NEY. Mr. Crowley.
    Mr. CROWLEY. Thank you, Mr. Chairman. I apparently have lost too much weight. So those—you weren't here before, Mr. Chairman.
    Let me just ask a question that has been spinning around for a couple of days as I focus on this issue a great deal more. What product would have been available to individuals who have availed themselves of the subprime market had this product not expanded, or this market not expanded, over the last decade? Where would people who were able to avail themselves of getting a mortgage loan or getting a car loan or getting a small business loan—where would they have gotten that loan had they not had the vehicle of the subprime market to do it in?
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    It is for anyone, basically.
    Mr. NADON. I can tell you from my personal experience—I have been in this business for a long time, almost 30 years now, and the way that we used to give money to these very same borrowers; they literally are the same people that I was lending to in 1977, 1978, and 1979, and I was doing it then in a finance company. And as recently as probably 10 or 12 years ago, the finance company rates could be upwards of 18 percent. So on a mortgage loan we had products that were priced at 18 percent with 10 points, 15-year, fully amortized, and that was the deal. You didn't have any negotiation on that.
    That same borrower could come to us today on our various loan products and obtain a first mortgage in the 6 or 7 or 8 percent range, depending on the various credit criteria that they have got, and it could be either a 30-year fixed, it could be fixed for 2 or 3 years and then convert to an adjustable rate mortgage after that. Instead of paying 10 points, our weighted average points and fees run around 2-1/2.
    So there has been a significant reduction in the cost of credit to these consumers and an increase in the kind of loan products that have been available to them, and that is because of the capital markets coming in. The securitization process has made access to capital for us different than it used to be, and it is more plentiful than it used to be. So you would have found people either going to a finance company with high rates or points, or going to what we used to call hard money lenders; those are people that frankly didn't care whether you paid the loan back or not because it became a rental access tool for them. They would foreclose on your house and use it as a rental.
    Mr. CROWLEY. Would everyone agree on the panel that there has been some benefit to the expansion of the subprime market? Everyone agrees to that; is that correct?
    Mr. FISHBEIN. But at the same time, it is important to understand that there are components of borrowers in the subprime market. And as I point out, some of them would qualify for cheaper loans.
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    Mr. CROWLEY. I would like to get to that point, too, because my next question is—because you, Mr. Fishbein, you point out an important issue that I think needs to be addressed as well. And that is an individual who applies for a loan, and instead of getting into the prime market, is shuffled into the subprime market. And I think that it is important to note, how can we—do you have any statistics on that or, for lack of a better word, evidence in terms of—a compilation of evidence to show that? Because I think it is important.
    If a person could have been in the subprime—could have been in the prime and somehow was shuffled into the subprime, that is wrong. I mean, if it is racially motivated or if it is because of a lack of education, whatever the reason may be, I think it is wrong and it needs be addressed; and I think it is important to build a case to show that. I know in my district I talked about the benefits of subprime lending in terms of what it has done in terms of affording people wealth, varying degrees of wealth depending on where they live. But it certainly has had some positive benefits. And you pointed out one that I think is certainly—to me, is a striking one that needs to be addressed.
    Mr. FISHBEIN. Well, my response to that is in two ways. One is, there is research. I mentioned before that Freddie Mac has conducted, and Fannie Mae has reached similar conclusions, that when they run people who have obtained subprime borrowers through their automated underwriting systems, that these people would qualify for cheaper and in many cases conventional prime loans. And we can talk about how large a percentage or how small a percentage, but there is some percentage of people that either because of lack of knowledge or lack of opportunity, or because subprime lending is aggressively sold to them and they may not have even been in the market for a loan, get into higher-cost loans than they qualify for.
    But, secondly, the real change in the marketplace is, now we have subprime lenders that are affiliated with banking institutions and prime lenders. I think half of the top 10 subprime lenders are affiliated with banks. And there is no legal requirement that a person who walks into a subprime unit of one of these financial institutions gets referred to the prime unit because they qualify for cheaper loans. And in fact, the profit incentive is very much the opposite of that.
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    So, in fact, it is a ''buyers beware'' market out there. And I think the plain fact is, a lot of consumers just don't understand that, because in the past they felt they had to convince a lender to lend them money. Now, the lender is kind of peddling money to them, and they haven't made that psychological adjustment in some of the actions they have to take.
    Mr. NADON. Although I would say that the evidence, in my opinion, would show very clearly that it is a small percentage of loans that would actually qualify for the full guidelines. I do agree that some of them wind up that way that should not. And we think that one of the ways to cure that, to prevent that from happening, is to make sure that there is a process to move the borrower up.
    So like in our company, as an example, if we have people that come in that are qualifying for a prime-type loan, we have a company that does prime loans; one of our subsidiaries does prime loans.
    So we just think that there should be an incentive built into this system, and your rewards systems or compensation systems should be such that it incents the right kind of behavior which will say, this person qualifies for this product rather than this higher product, so I am going to move him into this higher product. There are ways that you can actually put those kinds of processes in place in companies to ensure that things don't happen.
    Mr. CROWLEY. As long as there is a vehicle to do it.
    Mr. MILLER. Congressman, lenders know. I mean, they score these people. They know who qualifies for prime.
    Mr. COUCH. Congressman, you raise a very good point though. At the Mortgage Bankers Association we are concerned that the effect of some of these laws is to drive reputable lenders out of the marketplace, thus restricting the flow. But nothing is done to handle or to satisfy the thirst for capital.
    There is evidence that payday lending, for instance in North Carolina, has expanded rapidly since the statute was put on the books in 1999 and 2000. That—just as Mr. Nadon says, in North Carolina we have seen a growth in unsecured signature loans which are at a much higher rate. The effective rate is about 370 percent on a payday loan.
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    You have to ask the question, is the consumer better off if they are driven into one of these other sources for credit.
    Chairman NEY. The time has expired.
    Mr. Crowley, I want to apologize. You must have lost a little weight, so I let you go over a little extra.
    Mr. Davis is a new member, and he has gained a few pounds, I think.
    Mr. CROWLEY. It is a compliment. Thank you, Mr. Chairman.
    Chairman NEY. Thank you.
    Mr. Davis.
    Mr. DAVIS. Thank you, Mr. Chairman. I think Mr. Crowley still has a little bit of an edge on me, though.
    But let me try to focus on something that a number of the members alluded to in their opening statements, but you have not been asked about a lot, and that is the prevalence of subprime lending in the minority community. On one hand, I suppose that disparity is accounted for by the obvious wealth gap that exists in the minority and the Caucasian community. But in preparing for this hearing, I saw several statistics indicating that even in upper-income African American neighborhoods, the subprime rate is about double what it is in low-income white neighborhoods. Even controlling across class lines, in other words, there is a greater prevalence of subprime lending in black neighborhoods. And I want to get some comment from the panel on that point.
    First of all, what is the reason for that? Give me some sense of why there is a higher subprime lending rate in upper-income black neighborhoods than in low-income white neighborhoods. Does anybody want to react to that?
    Mr. BROWN. Yes. Let me give my views on that.
    I think clearly one of the—and, Mr. Scott, I didn't have a chance to comment on your proposals for financial in-house counseling. I think it has been the desire from some of the lenders and some of our not so favored lenders to target markets in which they believe—in communities in which they believe they can, in fact, offer a product with certain yields that are higher than they ought to be. And that happens to be a lot of the communities that are, regardless of the income strata, that happen to be low-income—I said low-income, but minority, African American, or Latino communities. So there is that.
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    There is clearly the issue of the steering of individuals from the prime market to the subprime market.
    Now, let me tell you, the marketing—and I have been there, and this is not just—this is empirical data here. I have been what was called a higher-income individual, and let me tell you, I was marketed to by many mortgage bankers who were offering products that in my young years didn't realize that I could perhaps go to another lender and secure prime. Now, that is just me; it means I talked to my neighbors. And so, when you look at credit lending, it is not going to just be me, it is going to be those impacted, my friends and colleagues in my neighborhood.
    So there is—that sort of in my mind would be one of the reasons why you will see it in those communities.
    Mr. DAVIS. Now, let me ask you a follow-up question, or all of you a follow-up question based upon that.
    Under the current state of law—and I will direct this particularly toward General Miller. Under the current state of law in this country, is it illegal, does it violate any Federal statute that you know of for that kind of steering to go on?
    Mr. MILLER. I think it would. I think it would violate some of the basic civil rights statutes.
    Indeed, when we did our case with Household, we had to sort of put together an incredible coalition of sort of a consumer protection division's work plus civil rights work. Some of the issues in Household came out of the civil rights division. And, of course, we were partnered, in addition, with the mortgage regulators, and developed a wonderful partnership. But some of that case came out of the Civil Rights Division, and in particular, in Arizona, which was one of the leaders of our group.
    Mr. DAVIS. Let me close on this observation since the time is running late.
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    One thing that is apparent to me as someone who, before I came here, practiced discrimination law on the plaintiff's side. There is a relative paucity of laws that deal with discrimination that goes on in the mortgage lending market. Title VII obviously doesn't cover it because it is not an employment decision. Section 1981, I suppose there is a remedy, but a lot of litigants and a lot of plaintiffs' attorneys are not well educated about Section 1981.
    In my State of Alabama, we do not have any State civil rights laws at all.
    So as we look at reframing our regulatory structure, one thing that does occur to me is that there is room to have a much more direct set of Federal provisions that address racial discrimination in the area of market lending.
    And let me close by congratulating my friend, Rob Couch, for being here. Rob, I would have been at your event in Birmingham yesterday if we didn't have something called votes up here. But I want to welcome you to your new position, and thank you for the work you do in our community.
    Thank you, Mr. Chairman.
    Chairman NEY. I want to thank you, and I want to thank the panel. I think it was extremely informative. I appreciate your time and your indulgence on your trip here to the Capitol.
    With that, we will convene the second panel.
    Chairman NEY. Micah S. Green, President of The Bond Market Association; Mr. Cameron ''Cam'' Cowan, Chair of Legislative and Judicial Subcommittee, American Securitization Forum; Ms. Margot Saunders, Managing Attorney, National Consumer Law Center; Professor Kurt Eggert, Associate Professor of Law, Chapman University School of Law; Reverend William Somplatsky-Jarman, Presbyterian Church USA, on behalf of the Interfaith Center on Corporate Responsibility; and Mr. Frank Raiter, Managing Director of Standard & Poor's.
    Thank you for attending, and we will start with Mr. Green.
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    Mr. GREEN. Thank you very much, Mr. Chairman. And thank you for inviting The Bond Market Association to be a part of this hearing.
    The Bond Market Association represents the underwriters and dealers of fixed income securities which include the securitization process. The mortgage securitization process has resulted in a $5 trillion mortgage-backed securities marketplace.
    Essentially, the secondary market for any product exists after a market develops and matures. Just like in the mortgage market, the asset-backed market developed from assets that initially were all in the prime market. As the subprime lending market grew, a secondary market grew from that, to create efficiencies in that market. And as we have heard earlier, it also reduced interest rates and increased access to capital for many people.
    A friend of mine asked me if it would be tough to testify at a hearing with The Bond Market Association having been quite outspoken against some of the State initiatives that have come up in the past. And I said, first of all, we don't like predatory lending.
    As you have heard from many before, The Bond Market Association is in the secondary market. We are not lenders. We don't like predatory lending. And we happen to believe that it is a problem that must be dealt with credibly and responsibly.
    Second, our position on this issue is about preserving access to capital for people who need it. I dare say this would be a significantly more awkward hearing for me if the title of the hearing is, Why Is the Secondary Market Cutting Off the Supply of Capital to Your Constituents Who May Simply Not Have Stellar Credit? This committee and the work of this committee for many, many years has been about ensuring access to capital, not limiting that access.
    The predatory lending issue must be dealt with. As you heard from the previous panel, originators of loans have and must continue to work tirelessly to ensure lending practices are appropriate and protect people from predatory practices. You will hear from some witnesses today that believe the only way to truly inhibit predatory lending practices is to move the liability from the predatory culprit to the investor who buys a security that among the thousands of loans in that portfolio contain such loans that are claimed to have been predatorily obtained months or years earlier by the originator.
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    I guess I would have to agree that, as proposed by these witnesses, there is no question that it would be an effective way of limiting predatory lending, much like that of banning motor vehicles on roads to reduce speeding and other motor vehicle violations. It is a solution, but it carries with it unintended consequences, because just as a ban on motor vehicles would also make transportation and commerce generally much more difficult, the type of assignee liability supported by some would go well beyond the target of predatory lending.
    It would make it far riskier for participants in the secondary market for all subprime loans. Those risks would not be precise or predictable, and would result in increases in the cost of subprime loans to borrowers in legitimate need. It could even make uneconomic the entire securitization process for these loans, given the additional capital that would have to be committed in putting those deals together.
    Numerous States have attempted to get it right and have been off the mark. My written testimony discusses many of those examples, like Georgia, which was discussed earlier.
    In this national marketplace, we need a national policy that will truly help address the predatory lending problem and do so in a way that minimizes the law of unintended consequences. Legislation is needed to provide an important balance of tough policy on predatory lending and a clear national policy on how the secondary market should play a role in that process.
    And, in closing, Mr. Chairman, I would just add to the comments that Congressman Scott and others on the panel have talked about, financial literacy. The Bond Market Association through its foundation, The Bond Market Foundation, is very pleased to sponsor a program called tomorrowsmoney.org, which is a Web site geared toward basic financial literacy targeted to women, young people, and the Hispanic community. It talks about savings and investments, but far earlier than savings and investment, it talks about the basic building blocks of learning how to save and budget and live a normal life with financial responsibility. We have geared that program to targeted communities, and we would look forward to working with this committee in trying to help promote further financial literacy in this area.
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    Thank you, Mr. Chairman.
    Chairman NEY. Thank you.
    [The prepared statement of Micah S. Green can be found on page 153 in the appendix.]
    Chairman NEY. Mr. Cowan.
    Mr. COWAN. Thank you, Chairman Ney, for holding this hearing and for the opportunity to testify today on the role and importance of securitization.
    I am a partner with the law firm of Orrick, Herrington, and Sutcliffe. Within Orrick, I serve as the Managing Director of Finance Practices and am a member of the firm's executive committee. I am also a member of the American Securitization Forum's executive committee, and I chair the American Securitization Forum's Legislative and Judicial Subcommittee.
    The ASF, an affiliate of the The Bond Market Association, is a broadly based professional forum of participants in the U.S. securitization market. ASF members include investors, issuers, underwriters, dealers, rating agencies, insurers, trustees, servicers, and professional advisors working on transactions involving securitizations. For the last 16 years, my law practice has focused on structured finance or securitization. My knowledge of subprime and predatory lending generally comes from the perspective of the secondary market, and my testimony today will focus on the securitization process, the growth of the industry, and the many benefits securitization brings to consumers, issuers, and investors.
    Securitization is the creation and issuance of debt-like securities or bonds whose payments of interest and principal derive from cash flows generated by separate pools of assets. It has grown from a nonexistent industry in 1970 to $6.6 trillion as of the second quarter of 2003.
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    Financial institutions and businesses of all kinds use securitization to immediately realize the value of cash-producing assets. These are typically financial assets, such as loans, but can also be trade receivables or leases. In most cases, the originator of the assets anticipates a regular stream of payments. By pooling the assets together, the payment streams can be used to support interest and principal payments on debt securities. When assets are securitized, the originator receives the payment stream as a lump sum rather than spread out over time.
    Securitized mortgages are known as mortgage-backed securities, while securitized assets—that is, nonmortgage loans, or other assets with expected payment streams—are known as asset-backed securities. By making it easier for mortgage lenders to sell their loans into the secondary market, mortgage-backed securities create efficiencies in the mortgage industry that are passed on to borrowers in the form of lower interest rates and more readily available credit. Issuers of mortgage-backed securities also benefit from a lower cost alternative to raising funds in the capital market. Investors gain, too, as mortgage-backed securities generally are a low-risk liquid investment.
    Securitization reflects innovation in the financial markets at its best. Pooling assets and using the cash flows to back securities, allows originators to unlock the value of the liquid assets, and generally provides consumers lower borrowing costs at the same time.
    Mortgage-backed securities and asset-backed securities offer investors an array of high-quality fixed-income products with attractive yields. The popularity of this market among issuers and investors has grown dramatically through the last 30 years. The success of the securitization industry has helped many individuals with subprime credit histories obtain credit. Securitization allows more subprime loans to be made because it provides lenders with access to capital in an efficient way for them to manage risk.
    It is possible that the various State and local efforts to curb predatory lending could increase the cost to subprime borrowers and dramatically reduce the opportunity of local subprime markets to access the national capital market. Moreover, secondary market purchasers of loans, securitization vehicles, financial intermediaries, and investors are not in a position to control origination practices, loan by loan. Regulation that seeks to make a police force of these secondary market participants through unlimited or vague assignee liability will only succeed in driving them from investing in the subprime market.
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    The problem of predatory lending clearly needs to be addressed by legislative action, but only after careful consideration of the full range of public policy issues. The challenge is to curb predatory lending without limiting the ability of subprime borrowers to obtain loans.
    The secondary markets are a tremendous success story that have helped democratize credit in this country. Well-intended, but ill-considered State and local regulation in this area could do much harm. For this reason, the American Securitization Forum respectfully urges this committee to consider Federal legislation in this area and legislation that will provide a reasonable safe harbor from assignee liability for secondary market participants.
    Thank you again for this opportunity to testify today.
    Chairman NEY. Thank you.
    [The prepared statement of Cameron L. Cowen can be found on page 117 in the appendix.]
    Chairman NEY. Ms. Saunders.
    Ms. SAUNDERS. Mr. Chairman Ney and Ms. Waters, thank you for inviting us to testify today. I am here today on behalf of the low-income clients of the National Consumer Law Center, Consumers Union, and the National Association of Consumer Advocates.
    I have a lot to say that obviously I cannot address in the 5 minutes that I have, so I would ask you to take a look at our written testimony. But I think I want to focus on a few specific points.
    One is this—I think someone on the previous panel said it specifically. In the year 2003, we are not dealing with the same access to credit problems that this Congress dealt with in 1980. In 1980, when Congress passed the laws that began the deregulation of credit, there was an access to credit emergency because of high interest rates. Since that time, we have seen a continual deregulation of credit and a democratization of access to credit which has helped many homeowners to obtain homes, which has been very good. However, we have seen—we who represent low-income consumers and consumers actually believe there is too much credit.
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    There is especially too much home credit. This is a push market. People are too often being pushed into mortgages or actually into refinancing mortgages, not the mortgages used to buy the homes, but people are being pushed into refinancing their existing mortgages essentially for reasons that do not benefit them.
    There is lots of research that I cite in my testimony that indicates that the securitization of mortgage credit, while good in bringing more money to homeowners, for home-buying purposes, has actually created an incentive to originators to fill loan securitization pools, which in turn require these originators to go out and find borrowers for the loans. These loans then are often not really benefiting the consumers, they are more benefiting the originators.
    I want to point you to the chart in my testimony which shows a huge increase in the foreclosure rate in the last 20 years with a very small relative increase in the homeownership rate between—on page 7. Between the years 1980 and 2001 we have seen an increase in homeownership of 3.4 percent. That is an important increase. But we have seen an increase in foreclosures of 250 percent. This we blame on the subprime mortgage market. If you look at the number of prime loans that are going to foreclosure, it has remained essentially flat over the years. Approximately 1 out of 100 prime mortgage loans are foreclosed upon, but 8 percent, or 1 out of 12 subprime loans go to foreclosure.
    There has been a lot of discussion about financial literacy, and I would ask you, look at almost any other area of regulation or lack of regulation in this country. Elizabeth Warren, Harvard law professor, pointed out the difference between the way we regulate toasters and the way we regulate mortgages. If there was a chance that a toaster sold on the market would have a 1 in 12 chance of blowing up, do you think it would be allowed to be sold? Would we say that it is adequate protection against a toaster with a 1 in 12 chance of blowing up that we give more toaster literacy training to consumers? Is that the appropriate way to protect people?
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    Toasters are actually far easier to use than mortgages are to understand. The loss that results from a toaster blowing up is actually probably less serious than what happens to the 12 out of 100 Americans who get subprime mortgages that go to foreclosure. That is the analogy that I would ask you to consider.
    I would like to point out a couple of very important points. I don't know who exactly on this panel is pointing—pushing for unlimited assignee liability. We are not. We are pushing for some assignee liability.
    I have gone through in my testimony a full explanation of the assignee liability that exists in current law now. There is already assignee liability in the secondary market. The idea of it is not new. In fact, for a holder of a loan to be able to avoid assignee liability, several hoops must be jumped through that are not at all automatic. But I researched Standard & Poor's and Fitch's statements to see what they would find to be adequate assignee liability rules. They have both said in the last month that so long as there were capped damages and the rules were clear, assignee liability was acceptable.
    That is all we are asking for, capped damages and clear rules. We think the clear rules for mortgage regulation as we propose here actually would benefit everybody.
    I see I am out of time, but I am happy to answer any questions.
    Chairman NEY. Thank you.
    [The prepared statement of Margot Saunders can be found on page 268 in the appendix.]
    Chairman NEY. Mr. Eggert.
    Mr. EGGERT. Good afternoon. My name is Kurt Eggert; I am an Associate Professor of Law at Chapman University School of Law. And Chairman Ney and Ranking Member Waters, I appreciate the opportunity to come talk to you about predatory lending, its definition, causes, and cures.
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    First of all, definition. Some people say that we can't even define predatory lending, how can we start addressing it? Which I think is just not true. I think we can come up with a good, workable definition of predatory lending, and that definition should look at both the practices that are used against borrowers and also the results.
    The practices are things like prepayment penalties, credit packing. The results are the overpriced loans and increased risk of foreclosure. So I would define predatory lending as the use of manipulative, coercive, or deceptive tactics to get borrowers to accept loans that are overpriced, given their risk characteristics and their market prices, or that leave borrowers worse off than they were before the loan, or both.
    Now, a loan can leave a borrower worse off if it increases the risk that they will be foreclosed on or if, for example, a lender gets a borrower to refinance a below-market loan. And these two things should be balanced against each other so that the higher the loan price is, the less you have to see, as far as unfair or deceptive practices, to conclude that the loan is predatory.
    Now, on to the causation. We have seen a huge spike in the amount of predatory lending in the 1990s at the same time that we saw the rapid growth of the securitization of subprime loans; and I think there is a direct connection between those two. If a predatory lender does not have access to the secondary markets and if they are forced to hold their own loans, it dramatically limits their ability to lend and to grow, because as they lend, they are going to have a portfolio of borrowers who are angry at them, who are not going to want to pay, and who are going to want to sue them.
    If, on the other hand, they have access to the secondary markets, what the predatory lender can do is make loans, sell it on the secondary market, get the money back, and make new loans. They can churn and grow. And we saw that throughout the 1990s. You would see a new lender come on, there would be complaints against it, but it would lend more and more and more and grow dramatically, quickly, and then suddenly declare bankruptcy or leave the field.
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    Securitization has other problems for us, especially for subprime borrowers. It causes the most rapid creation of a holder in due course. A holder in due course is someone who can claim there is no assignee liability to me because I have jumped through all the hoops that Ms. Saunders talked about; and so most of the defenses that the borrower had to the initial lender are cut off. Securitization allows this to happen so quickly that often by the time a borrower makes their first payment their loan has already been sold, and so if there were misrepresentations made to them at the time of the loan, by the time they make the first payment they have lost their ability to sue the current holder of the note to get out of the loan.
    The other thing that securitization does is that it allows thinly capitalized organizations to originate loans. You don't have to have a lot of money if you can make a loan, sell it, get the money, make a loan, sell it; and that way, if somebody does sue you, well, you don't have this big portfolio of loans that they can go against. So it allows people with not that much money who originate loans to sell them to the secondary market.
    Now, defenders of securitization will say, well, securitization does lower interest and—interest rates and mortgage costs. Interestingly, there was a recent analysis by a couple of Federal Reserve Board economists that said actually the cause and effect are reversed. What they concluded was that lowered interest rates increased securitization, not the other way around.
    There is even an argument that in some cases securitization may increase interest rates or mortgage costs if the securitizers aren't confident that what the originators are selling them—if they aren't confident about the credit risk of what is being sold to them. So I will treat the borrowers as if they are potential lemons, and they will demand a higher interest rate than their credit risk would require. So I don't think it is proved that securitization lowers interest rates.
    So what is a cure for predatory lending? The cure is—we can't depend on regulators. By the time they step in, as well-meaning as they are, it takes them a while to find out about predatory lenders; it takes a while to develop a case and to bring an action.
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    Instead, I think the solution is to get the people who are on the ground, the securitizers who see all the loans come in, get them to step in and refuse to deal with predatory lenders; get the ratings agencies, the underwriters, the Wall Street bankers to say we are not going to deal with these scam lenders.
    How do you do that? Well—and why would we have them do it? Because if we say predatory lending—if one of the central bases of predatory lending is overpriced loans, they can detect that. They can look at their loan pools and say, examining the loan-to-value ratios and the FICO scores, we can tell that this is a pool with overpriced loans. They have the ability to detect it in a way that the borrowers can't tell if they were being charged too much. They can also look at default rates. They can track, they can trade information on bad originators.
    How do we make the securitizers do this job? The solution is assignee liability; if you say, your investors are going to pay the price if you deal in predatory loans, then the ratings agencies will make sure that they track it.
    Chairman NEY. Professor, what I want to do, since you have run out of time—but it is fascinating and I have some questions on—I would like to go on to the other two panelists because we are running a little short, and then come back with questions that will pertain to assignee liability.
    [The prepared statement of Kurt Eggert can be found on page 126 in the appendix.]
    Rev. SOMPLATSKY-JARMAN. Thank you, Mr. Chairman, distinguished members of the committee. I am very pleased to be here on behalf of the Presbyterian Church USA and other religious investors, part of the Interfaith Center on Corporate Responsibility. With me here today is Dr. John Lind of our research organization. CANICCOR has provided us with quality research into these issues for our advocacy efforts, and I am pleased that our remarks and his research will be entered into the record for your use in the future.
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    Presbyterian Church USA is committed to a consistency between our mission goals, our ethical values, and our investments. Through our urban and rural church networks, we are well aware of the need for access to capital in order to revitalize our communities and stabilize our neighborhoods. We are also well aware of the stories of the roadblocks and abuses, such as redlining and predatory lending. And as religious investors, we own stock in every one of the major banking and financial institutions of this country that is involved in the subprime loan market.
    When CitiFinancial bought Associates First Capital, we initiated a series of meetings with CitiGroup and CitiFinancial about that acquisition. And after these discussions, along with CitiGroup's settlement with the FTC, other regulatory investigations, and the pressures from community groups, I can say today that I believe that CitiFinancial and CitiGroup has incorporated many of the better practices within the subprime industry into its regular way of doing business.
    We have also met with a number of subprime lenders, Washington Mutual's Long Beach Mortgage, Chase Manhattan Mortgage, Wells Fargo, and we anticipate this year our first meetings with National City's First Franklin, Key Course, Champion Mortgage, and Lehman Brothers. We also met with a nondepository lender, Household, but now that it has been acquired by HSBC, those discussions are on hold.
    So far, what we have found is that subprime lenders, particularly those that are subsidiaries of depository holding companies, largely have taken to heart the settlements in 2002 between the FTC and CitiFinancial and the settlement with 20 States' Attorneys General with Household, if they already did not follow decent practices. And, thus, we are starting to focus more on the small lenders, which are often finance companies that may be privately held or not widely held public firms.
    We find that these small lenders are usually not subject to Federal supervision other than complaints filed with the FTC, and they probably represent some of the more egregious firms, such as First Alliance. Thus, the regulation of these smaller firms seems best achieved through secondary market mechanisms.
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    The secondary market is the more logical route because these small firms are usually not depository affiliates that can supply funding to them, and they have to sell off their originated loans on a timely basis into the secondary market in order to preserve their liquidity.
    Two problems arise in the secondary market we wish to address, the issue of issuers and underwriters. First is their need to perform adequate due diligence to eliminate their liability for handling loans from fraudulent loan originators such as First Alliance, or Lehman Brothers now has a court-ordered liability of $5 million.
    Second, and perhaps a more insidious case, is that of the subservicing firms. These firms buy the servicing rights, often are the more risky loans; and in buying these rights, they take on the job of dealing with loan delinquencies and foreclosures. In the case of Fairbanks Capital, the FTC has alleged that they counted on-time payments as late and therefore assessed late fees, and they started unnecessary foreclosure proceedings in order to gain additional fees.
    Based upon our analysis provided by Dr. Lind of CANICCOR, we are starting a round of dialogues especially with firms that serve as both issuers and underwriters, because these firms tend to handle loans from smaller lenders. These smaller lenders often use brokers as their primary source of loan applications, and since brokers are not employees of the lender, the lower level of control over the brokers can permit predatory practices by some of them to go undetected.
    In addition, these issuers and underwriters use subservicers who have no relation to the lenders, and they may then use unethical practices in handling delinquencies and foreclosures. We, however, as religious investors, believe in what we have been working with, the companies in which we own stock, to say that good policies, good practices promote more profitable companies in the future.
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    Thank you very much.
    Chairman NEY. Thank you.
    [The prepared statement of Rev. William Somplatsky-Jarman can be found on page 287 in the appendix.]
    Mr. RAITER. Good afternoon, Chairman Ney, members of the subcommittee. And thank you for this opportunity to testify.
    As an independent and objective commentator on credit risk, Standard & Poor's generally does not take a position on questions of public policy. Thus, while Standard & Poor's strongly supports efforts to combat predatory lending and other abusive practices by lenders, it does not take a position on what legislative and regulatory actions would best accomplish that goal.
    Nevertheless, Standard & Poor's has been closely following legislative and regulatory initiatives designed to combat predatory lending in order to determine how those laws might affect its ability to rate securities backed by residential mortgage loans. Standard & Poor's appreciates the opportunity to discuss the factors it considers when evaluating the impact of antipredatory lending laws on rated transactions.
    Increased access to mortgage loans has led to increased homeownership across the United States. While this growth in homeownership is positive, it has become evident that some of this increase has unfortunately occurred simultaneously with a rise in predatory lending practices. Among others, these predatory practices include the following: charging excessive interest or fees, making a loan to a borrower that is beyond the borrower's financial ability to repay, charging excessive prepayment penalties, encouraging a borrower to refinance a loan notwithstanding the lack of benefits to the borrower, and increasing interest rates upon default.
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    Antipredatory lending statutes are designed to protect borrowers from these unfair, abusive, and deceptive lending practices, and Standard & Poor's strongly supports efforts to eliminate predatory lending. However, in its role as a provider of opinions on credit risk, Standard & Poor's must evaluate the impact of these statutes on the return to investors in mortgage-backed securities. Indeed, given the expansion of individual investment in securities through various retirement and pension plans, these investors might actually be the very same borrowers the statutes are intended to protect.
    Standard & Poor's has determined that some of these statutes may have the negative effect of reducing the availability of funds to pay these investors. This reduction could occur if an antipredatory lending statute imposes liabilities on purchasers or assignees of mortgage loans simply because they hold loans that violate a statute even if they did not themselves engage in predatory lending practices.
    In performing this evaluation of antipredatory lending laws, the two most important factors that Standard & Poor's considers are whether an antipredatory lending statute provides for this assignee liability, and, if so, what penalties the statute imposes on assignees for holding predatory loans.
    If Standard & Poor's determines that no assignee liability exists, Standard & Poor's will generally permit loans covered by the statute to be included in rated transactions without any further consideration or restriction. If, on the other hand, a loan does permit assignee liability, Standard & Poor's will evaluate the penalties under the statute.
    If damages imposed on purchasers are not limited to a determinable dollar amount, that is, the damages are not capped, Standard & Poor's will not be able to size the potential liability to its credit analysis. Therefore, these loans cannot be included in rated transactions. If, on the other hand, monetary damages are capped, Standard & Poor's will be able to size in its credit analysis the potential monetary impact on violations of the statute.
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    Standard & Poor's looks to all types of potential monetary damages including statutory, actual, and punitive damages. It should be noted, however, that even if capped damages can be sized, it may not be economical for a lender to make sure loans, if the credits support the Standard and Poor's required, equals or exceeds the monetary value of the loan. For example, if a statute provides for punitive damages, even if these damages are capped, the amount of the damages may well exceed the loan value.
    In making these determinations, above all, Standard & Poor's looks for clarity in a statute. Specifically, Standard & Poor's looks for statutory language that clearly sets forth what constitutes a violation, which parties may be liable under the statute and, as noted, whether any monetary liability is limited to a determinable dollar amount. Absent clarity on these issues, in order to best protect investors in rated securities, Standard & Poor's must adopt a conservative interpretation of an antipredatory lending statute, and may in instances in which liability is not clearly limited exclude mortgages from a transaction that it rates.
    In offering these comments today, Standard & Poor's reiterates to the honorable members of the subcommittee that as a public policy matter, Standard & Poor's supports legislation that attempts to curb predatory and abusive lending practices. Standard & Poor's also notes, however, that its role is to evaluate the credit risks to investors associated with an antipredatory lending legislation and not to recommend public policy.
    This concludes my testimony on behalf of Standard & Poor's Ratings Services. I will be happy to answer any questions.
    [The prepared statement of Frank L. Raiter can be found on page 227 in the appendix.]
    Chairman NEY. I want to thank the panel.
    Before we get to the questions, Congressman Kanjorski has joined us and has not had an opportunity to ask questions yet, so I will yield to the Congressman.
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    Mr. KANJORSKI. Thank you, Mr. Chairman.
    I happened to listen to all the testimony, and this is a highly emotionally charged issue just by—the nature of the language we use sort of poisons the well. Is there anyone here at the table that feels that there isn't a need in our society to accomplish subprime lending?
    So I gather no one is opposed to subprime lending.
    What we are attempting to get at is how it can be facilitated in the most protective way for the consumer, for the investor or lender if it is securitized, and to rid the marketplace of unscrupulous actors. Is that substantially the issue that is before the committee, that you think that Congress should move on?
    This is an issue that lends itself to great demagoguery from the standpoint that, you know, to scream against predatory lenders is always popular with the constituents. The word itself is so emotionally charged. However, I have concluded that there is a need for national legislation and potentially national standards if we are going to move into this field, and that the effort has to be made by this committee, not only the subcommittee but the committee as a whole and then eventually the Congress, to put a framework together that this should be done.
    So in that light, Mr. Chairman, I would suggest that we take the advantage of some of the statements made by some of the members of the committee today, particularly during the first panel, to think towards putting together a working group to really work through these various identified issues that I think can be met to everyone's advantage; that is, remove the unscrupulous from the field to make certain that securitization can be made to the advantage of reducing interest rates to the lender that has to resort to that area of lending, and to meet the challenges of good ethics, good morals, as well as good law.
    Has anyone worked on their ideal statute or model? Yes.
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    Ms. SAUNDERS. Yes, Mr. Kanjorski. I am Margot Saunders with the National Consumer Law Center.
    I was very involved in the passage of HOEPA; I was one of the authors of the AARP Self-Help NCLC model bill that has been passed in some form in a number of States; and I have worked with both Senator Sarbanes and Mr. LaFalce on their bills. And I propose in this testimony a new way, a streamlined way of addressing the problem that I believe, while simpler, would reduce many of the problems without much—without causing many of the difficulties.
    Mr. KANJORSKI. Are you in favor of a national standard?
    Ms. SAUNDERS. I am in favor of a national standard, but not one that preempts. I think if you look at all of our consumer protection laws, starting with the Truth in Lending Act, the Fair Debt Collection Practices Act, the Equal Credit Opportunity Act, all of the laws with the single exception of the Fair Credit Reporting Act, do preempt inconsistent State laws to the extent that the State laws are less protective of the consumer. They do not preempt the State's ability to add additional protections to that floor, and that is where I would advocate that you all start.
    I would point out that most States would not have a need to add on additional consumer protections if the floor were adequate. Just as very, very few States have come up with their own truth in lending acts because the Federal Truth in Lending Act is comprehensive, it would be a similar nonquestion if the floor that was established by Congress was sufficient, and you would end up actually satisfying both sides of this debate. You would solve predatory lending and without creating the problem caused by a broad preemption of State laws.
    Mr. KANJORSKI. Don't we negatively impact on the advantage of a national market and national rates if we start to have a construct where every State decides to add on their particular brand of what should be done?
    And, you know, I am very cognizant of the fact that this is an emotionally charged political issue. A State legislator just loves to wave his amendment or bill saying, I am saving all you poor people out there because I have put something stricter than the Federal Government's standard in place.
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    Ms. SAUNDERS. But you can do that. You can take the North Carolina standard or another State standard that is very good and say, This is going to be the Federal floor. Any State that has a law that is not as good as this is preemptive.
    Mr. KANJORSKI. But you are allowing the States to go beyond?
    Ms. SAUNDERS. Yes. But I would point out that if that floor is high enough, very, very few States will do that and it won't be necessary; just as very, very few States have actually passed laws that are more protective than the Truth in Lending Act, and it is because it is not necessary.
    Mr. KANJORSKI. On the fair credit reporting, wasn't that the major issue that we faced, that in order to create a national standard we had to preempt State's rights and did so because it was determined by the Congress it was more important to have a workable statute that provided the best information and flow of information than to allow each State to make its own formula?
    Ms. SAUNDERS. I am sure that is why you pushed for it, sir, but I can say that we were never in favor of it.
    Mr. KANJORSKI. Your feeling is, Congress made a fundamental error?
    Ms. SAUNDERS. Well, the bill hasn't passed yet, but I think that Congress is about to make a fundamental error, yes, sir.
    Mr. KANJORSKI. Yes?
    Mr. GREEN. Congressman, I would just simply agree with what you are saying. A floor is not a national standard if it is not preemptive. The fact is, we have been working with numerous State legislatures and, in fact, even city councils.
    For example, in New York City, when they couldn't really amend the actual lending law, they prohibited any firm that was involved in securitization from doing municipal bond business with the City of New York if these standards weren't met. So the fact is, you are going to have numerous pieces of legislation coming at it even if you set a floor because of that demagoguery that naturally takes place.
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    This is a national marketplace. We need a national standard to allow the marketplace to grow and to clean it up.
    Mr. KANJORSKI. All right.
    Reverend, I was going to make a comment that I didn't know whether God was on one side of this issue or not, but that wouldn't be the right comment to make, so I won't.
    But you obviously do exercise your influence on lending authorities by virtue of your investments, and that is sort of a democratic process. You vote with your dollars. There is nothing wrong with that.
    But do you feel also that we are capable of having a national standard that is fair to everyone and particularly protective of the consumer and rids the field of unscrupulous actors, but on the other hand urges efficiency and effectiveness in subprime lending?
    Chairman NEY. I will caution, we are running out of time, because the next hearing has to come in, but if you would like to answer.
    Rev. SOMPLATSKY-JARMAN. Well, I will defer the sermon and try to answer the question.
    Yes, I do believe that there is the capacity to come up with standards by which the industry can weed out the predatory lenders and still maintain the positive aspects of the subprime industry.
    What we have found in working with companies is that, by and large, the vast majority want to do the right thing. They are ethical people who care about what happens in the communities in which they do business. What is necessary to happen is to weed out those people who do not share that common value, and I believe that there are ways that that can be done.
    And we want to just simply offer the fact that investors are also concerned about this, and we can play a role in helping to craft it and to see to it that it is followed. Thank you.
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    Mr. KANJORSKI. Thank you.
    Mr. Chairman, may I reiterate again that I think this is a very important issue. We should address it. And I will do everything I can to assist you and the rest of the committee in coming to a positive conclusion.
    Chairman NEY. I appreciate the gentleman's comments, and I am very amenable to a working group. And the one thing I want to say about that is, this, I know, is a very emotional subject. Congressman Lucas knows that; he is on the bill as the prime person helping this. But I think it is a subject that needs to be discussed, needs to have thorough vetting. And, again, I know it is emotional.
    And then some people say, why do you even talk about this? Well, you know, it needs to be discussed. I am sorry that we are out of time, but I am amenable to a working group.
    And, again, they have got another hearing in here, but I think the actual liability—and both Ms. Saunders and Professor Eggert, I think that is an area that I would like to follow up with you. I mean, we have been on a couple of roundtables that we had some discussions, I know, but that is where you look at the fact that somebody has to be responsible if something was done wrong; and do you go to the source that created it, even if it came down the pike, and go to the source that created the problem versus, you know, the entity it was passed to, whether it was Fannie or Freddie or whoever? I think that is one of the issues, because Georgia, according to what I understand, they said, Look, if it is all going to be passed to us and we didn't have any responsibility in creating that bad situation, we are just not going to be here.
    Do you want to comment on that?
    Mr. EGGERT. Yes.
    First of all, I think you have two innocent parties, or you have the homeowner and the assignee. But between those two, I think the assignee—the secondary market is much, much more able to stop predatory lending. And so between those two, if you have to assign the risk of this harm, I think you have to assign it to the secondary market, because they can stop predatory lenders or at least slow them down to a great extent.
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    But the second thing I would like to point out is, if you read the testimony of Mr. Raiter—I hope I am pronouncing your name correctly—from Standard & Poor's, what Standard & Poor's position is, assignee liability doesn't keep us from securitizing loans. As long as it is capped and it is clear, we can securitize.
    And so my position is, assignee liability, I think, has to be a part of any attack on predatory lending, and it should be drafted so it is capped and clear so the ratings agencies know what they are dealing with, they can rate it, and they can sell it. And if you do that, then the securitizers will be part of the effort to stop predatory lending.
    The other interesting thing of this testimony is, it says the ratings agency, once they see there is assignee liability, the way they will react is, they will have greater scrutiny of originators to see if they are engaging in predatory lending and to see if they are creditworthy.
    In other words, the ratings agencies are telling us that if you include some assignee liability, capped and clear, they will do this job of limiting predatory lending and making sure that when borrowers do have to sue, there is a lender there with significant assets so the borrower can sue the lender, the secondary market can force the lender to buy back the loan, we don't have to worry about the assignees, and they are dealing directly with the person who scammed them.
    Mr. NEY. [Presiding] Are there any additional questions?
    I just wanted to also make one comment because Ms. Saunders raises a very interesting statement about the spending. And, you know, when I was a kid, if you made a long distance phone call, someone had better be passed away, or you might be in jeopardy of coming within an inch of your life. You just didn't do things that you couldn't pay for if there was no reason for it.
    I think even beyond predatory lending—and we have got to go after the predatory lenders, but there is a whole barrage in this country of buy this, buy that, things that are mailed. In a free country, some of those things you can't stop. You have got to make sure that they are responsible. But there is a whole change in 20 years as a culture, and not just affecting poor people. I think that a lot of people climbed up that ladder to middle class and went right back down because they got in so much debt.
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    And this is—it is almost endemic in some ways, and some of it may not be illegal at all. It is a way of life now in the United States, and it is a visual bombarding.
    But I think, too, and said this a long time ago, that I come from an education, teacher background. But I just think somewhere along the line, the school systems, too—not to hang this on the schools, but you have got to be able to get to young people somewhere and tell them how to balance a checkbook and warn them, as I have done with my own children.
    So, I mean, there is an endemic problem. I am not sure that some of it is completely intentional as much as it is just the whole psyche that people are into.
    When I was a kid you couldn't have a credit card. But it is a free country, so we are going to have credit cards.
    But you raise an interesting scenario.
    With that, I want to thank everyone. Thank you, gentlemen, for your comments. We will work with you. And we need to clear the room to prepare for the next hearing. Thank you very much to the panel.
    [Whereupon, at 2:09 p.m., the subcommittee was adjourned.]