December 14, 2007

ON THE MORTGAGE CRISIS

Mr. CARDIN.  Mr. President, I rise to speak on behalf of thousands of families in my home state of Maryland.

For them, the American dream has turned into a nightmare.

I am referring to the phenomenon called the "credit crunch," the "mortgage meltdown," or the "subprime crisis." 

Regardless of which name we choose to attach to it, the situation threatens to upend the financial stability of individual homeowners and neighborhoods.

The latest projections show that, nationwide, millions of Americans may lose their homes, and the ripple effect on our economy will be felt by all.

Mr. President, there may be no more powerful symbol of the American dream than home ownership.

For most American families, their largest asset is their home, and it serves as their primary tool for building wealth. 

Buying a home ranks among the top motivations for saving.   Owning a home gives a family a stake in their communities.  It provides a hedge against an inflationary rental market; it provides tax benefits; it provides a source of revenue for emergency expenses, and it provides security in old age.

In our communities, higher levels of home ownership improve the appearance and stability of neighborhoods, and result in better schools, more civic participation, and lower crime rates.

Many public and private entities have committed their energies to increasing home ownership.   Much progress had been made, with the rates of home ownership among every racial and ethnic group of Americans reaching new highs every year since 1995.  

That is precisely why the crisis that is spreading through our nation is so alarming.

The Mortgage Bankers Association has just released its National Delinquency Survey for the second quarter of 2007.  Rates of mortgage delinquency have reached their highest point in twenty years.    Foreclosure rates are at the highest level ever.  

It is now estimated that up to 2.2 million Americans who took out subprime mortgages between 1998 and 2006 could lose their homes during the next two to three years.

As the fallout from this situation continues, we are learning more and more about the factors leading to the crisis.  One key factor is the category of loans known as "subprime."   

Subprime loans usually have interest rates 3 percentage points or more higher than prime loans, which are typically offered to applicants with credit scores of 650 or higher.   Subprimes can be either "fixed rate" loans, where payments stay the same over the life of the loan, or they can be adjustable rate mortgages, known as ARMs. 

ARMs come in many forms:  some begin with very low "teaser" rates that then rise steadily as prime interest rates increase.  Others, such as 2/28 loans, offer very low rates for a brief period, and then reset sharply higher, regardless of the prime interest rate, for the remaining term of the loan.    Many borrowers choosing those loans were told that because their homes were certain to increase in value, they would be able to refinance later and get better terms before their interest rates rose. 

They assumed that the rapid escalation of prices that occurred in the first part of this decade would continue.   I have heard from borrowers who took out 2/28 or 3/27 loans erroneously believing that as long as prime interest rates remained low, their own mortgage rates would also.   They are now facing huge increases in their monthly payments, some as much as 40 percent higher. 

Some borrowers are also facing foreclosure because they could not afford the third or fourth year payments, and were not able to refinance because of missed payments or because the value of their home was less than the outstanding debt.   Many regret ever purchasing a home and blame themselves for entering into a raw deal.  But a 2005 Federal Trade Commission study showed that many borrowers did not understand the costs and terms of their own recently obtained mortgages.  Many had loans that were significantly more costly than they believed, or contained significant restrictions, such as prepayment penalties, of which they were unaware.

For a while, as problems became evident in other areas of the county, such as Florida and Nevada, analysts said that the Washington Metropolitan Area and the surrounding region would not be affected.  They said that the presence of the federal government as a major employer and associated contracting opportunities would prop up housing prices and sustain the market.  It didn't turn out that way. This area is now very much affected by the mortgage mess.  Northern Virginia is experiencing some of the sharpest declines in home values in the nation. 

The Mortgage Bankers Association has reported that 24 states have already seen decreased revenues directly attributable to changes in the housing sector.  This is for two reasons:  first declining home values have led to reduced property tax revenues.  Second, fewer sales have resulted in lower revenues from transfer taxes-the fees that are paid when homeownership is transferred from sellers to buyers.

Maryland is one of those 24 states.  Let's look at what is happening in Maryland.    

The top chart shows the percentage of loans that are seriously delinquent in Maryland and in the United States.   Seriously delinquent loans are more than three months delinquent or in the process of foreclosure.   The percentage of prime loans is relatively small-under two percent.  But in the subprime category, the rates are much higher-for fixed rate loans, it is more than 4 percent in Maryland and nearly 6 percent nationwide.  For subprime ARMs, it is nearly 8 percent in Maryland and more than 12 percent nationwide.

This tells us that nearly one in fifteen Maryland mortgage holders with a subprime loan are in imminent danger of losing their homes.  For borrowers with subprime adjustable rate mortgages, the rate rises to nearly one in ten. 

The bottom chart shows how the situation has worsened over the past three years in Maryland with respect to delinquent loans.  These are loans that are 30 to 60 days past due with no payments being made.  Since the fourth quarter of 2004, the rate of delinquent prime loans has increased marginally from 1.7 percent to 2.06 percent.  But the rate of delinquent subprime loans has increased by more than fifty percent-from 8.56 percent at the end of 2004 to 13.76 percent today.   

If no comprehensive plan is put into effect to address this problem, these loans will become seriously delinquent and lead to foreclosure. 

Foreclosures affect entire neighborhoods, as the repossessed homes often stay vacant for extended periods.  Some are boarded up, the lawns go untended, the neighborhoods become undesirable places to live, and the value of the surrounding homes is depressed.

According to the Center for Responsible Lending, in 2005 and 2006,   186,000 subprime loans were issued in Maryland.  They accounted for nearly one-third of all home loans originated in the state during those two years.    It is projected now that because of ballooning interest rates that borrowers will not be able to afford, more than 38,300 Maryland homes will be lost to foreclosure.

Mr. President, this phenomenon is hitting hardest in the communities least able to weather the storm.   Some groups-African-Americans, Latinos, and the elderly-are disproportionately affected.

In recent years, minorities have markedly increased their rates of homeownership, helping to increase wealth and improve economic stability.

These gains are now very much at risk. 

This is because statistics show that nationwide in 2005, more than 54 percent of loans to African Americans and 46 percent of loans to Latinos were subprime loans.

But minorities did not necessarily receive subprime loans because of lower credit scores or lower incomes.  Five years ago, the Center for Community Change, a non-profit consumer advocacy group, issued a report entitled, "Risk or Race?"  It demonstrated that subprime lenders target minority communities and that African-Americans and Latinos pay higher loan rates than whites with similar incomes.

When it comes to buying a home, when incomes and credit scores were the same, African Americans were 3.2 times more likely than whites to get a higher rate loan.  Latinos were 2.7 times more likely to get a higher rate loan.

When it comes to refinancing, African Americans were 2.3 times more likely than whites to get a higher rate loan, and Latinos were 1.6 times more likely.

Here's something that is even more surprising:   the disparity between whites and minorities increases as incomes rise.  Minorities with higher incomes are more likely than those with lower incomes to be offered a higher rate loan.

So, minorities are more likely to have subprime loans, and subprime loans are more likely to go into foreclosure, now at alarming rates.

On average, minority households have median net worth that is less than one-tenth that of white households.  Of the wealth that African Americans and Latinos possess, two-thirds is in home equity.  So the mortgage crisis is placing not just homes, but also the economic stability of minority communities, in serious jeopardy.

This crisis will have a profoundly negative effect on the future of these communities.  

An article earlier this week in The Washington Post featured Caprise Coppedge, who works as a housing counselor at United Communities Against Poverty in Capitol Heights, Maryland.  Capitol Heights sits right on the border between Washington, D.C. and Maryland in Prince George's County.   Ms. Coppedge spoke of the increased volume of people coming to her for relief, most directly as a result of mortgage problems.  She said that her caseload of people who need help with mortgage payments has increased from one person a week to three a day.  She said, "There's been a shockingly sharp increase of people in need of help in the past six months.   It's unreal."    Last year, her caseload consisted primarily of renters behind in their payments, and the rare homeowner who fell behind in payments had experienced job loss or some other infrequent event.  

She continued, "Then in midsummer, we felt the tide turning.  People started trickling in. First they came in to express concern about their loans and gathered information.  Then by September, everything picked up speed and suddenly, people were telling us they were behind on their mortgages." 

The Post reported that in Prince George's County, 127 out of every 10,000 homes are in foreclosure.  It is the highest rate in Maryland and one of the highest in the region.   There are now approximately 57,000 subprime loans being serviced in Prince George's County - 41 percent of all loans in the county.    Federal Reserve Data compiled by the Consumer Federation of America showed that 43 percent of people buying homes in Prince George's County in 2005 used high-cost loans, compared with 20 percent in the region overall. 

Similar trends are evident in Baltimore City and Montgomery County.  These are the areas that have the most to lose as the subprime crisis deepens.

Prince George's County Executive Jack Johnson has pledged $10 million in foreclosure assistance to help keep people in their homes.    This effort will help many families, but the magnitude of the problem demands resources that only the federal government can bring to bear.

Finally, Mr. President, there is another set of statistics that should raise the antenna of every Senator.  Conventional thought has always held that your credit score affects your mortgage rate. 

For fixed-rate loans, the highest FICO scores translate to the lowest interest rates and the lowest monthly payments.   However, Fannie Mae, a government sponsored loan buyer, has estimated that up to half of subprime borrowers actually had credit ratings that could have qualified them for prime rates.  Another study by First American Loan Performance, a San Francisco research firm, says that this proportion reached 61 percent in 2006.

How could this have happened?  There are many factors involved:
I'll mention just a few:   lack of consumer education; the brokerage industry; the advertising industry; and predatory lending, which I have already discussed.   

First, the lack of consumer education: a Mortgage Banker Association survey from ten years ago indicated that nearly one-third of homebuyers never met with anyone except their real estate agent when they bought a home.   The numbers may have changed somewhat, but the extent of the current crisis suggests that the picture may have not changed much.   

A more recent borrower survey by the Mortgage Bankers found that half of borrowers who had purchased a home in the previous 12 months couldn't recall the terms of their mortgage.

Second is the brokerage industry:  There is a term called "yield-spread-premium," or YSP.  Simply put, it is the amount that mortgage brokers are paid by lenders for originating a loan.   
 
Some brokers have reportedly received up to five points for every subprime loan they originate-that works out to $10,000 on a $200,000 mortgage. On a prime loan, the margin is about one percent, or $2,000.   The Wall Street Journal reported that a March 2007 rate sheet from New Century Financial Corporation told brokers they could earn a "yield spread premium" equal to 2 percent of the loan if the borrower's interest rate was an extra 1.25 percentage points higher than the listed rates. 
 
The tiny print at the bottom of the document read, "For Wholesale Use only. Not for distribution to the general public."  New Century Financial is now in bankruptcy protection and no longer issuing subprime loans.
 
Where do the extra payments to the broker come from?  They are financed by charging the borrower a higher rate.     So the monetary incentives are in place for brokers to steer would-be borrowers to the riskiest and most costly loans.    About 70% of subprime loans are originated by mortgage brokers who get paid with these YSPs.

Third, even with the intense media attention paid to this crisis, you can still open any newspaper and see advertisements for new housing developments.  The developers are offering balloon mortgages that are more likely to lead to foreclosure for many borrowers.    Also in many community papers you will find ads from subprime lenders touting how borrowers can get loans with no documentation of income, no down payments, and little or no credit history.

 Mr. President, the crisis is national and we need a national response.   The President and Treasury Secretary Paulson have put forth a proposal that is voluntary and, by many estimates, will help only about one in five of the subprime borrowers whose rates are set to increase over the next year.   It is limited to borrowers who took out loans only since 2005 and only those with lower credit scores who are up-to-date on their payments.    

Residents of heavily affected counties in Maryland and many other counties across the nation would no doubt say that a more comprehensive and inclusive solution is required.   Several bills have been introduced in the House and Senate, including S. 2338, the FHA Modernization Act, which we are considering today.   This measure will increase the FHA's loan limits for single families to 100 percent of the median home price in an area, up from 95 percent, and it will reduce the FHA's down payment requirements from three to 1.5 percent.   This bill will also authorize  $200 million for foreclosure-prevention counseling for low- and moderate-income homeowners who are having trouble making their mortgage payments.  I support the reforms included in this bill and I look forward to working with my colleagues on additional solutions. 

We must work to repair the damage that has been done, and change the laws so that prospective homebuyers can secure affordable and fair loans.   People in our communities are looking to us for leadership and we must provide it. The sooner we act, the more families' dreams will be preserved.