New TILA Rules Create HMDA Urgency

A significant component of the board’s new rules under TILA is the regulation of subprime loans through the addition of requirements and restrictions applicable to “higher-priced mortgage loans.” Most of the new rules for higher-priced mortgage loans become effective on Oct. 1. 2009. This article focuses on how the development of the higher-priced mortgage loan definition for the new TILA rules resulted in a proposal to amend the HMDA rules effective for loans closing on or after Jan. 1, 2009.

In the proposed version of the rules, the board defined a higher-priced mortgage loan as a loan secured by a consumer’s primary dwelling with an annual percentage rate that exceeds the yield on comparable Treasury securities by at least three percentage points for first lien loans (or at least five percentage points for junior lien loans). The board also proposed that the applicable yield for Treasury securities would be the yield as of the fifteenth day of the preceding month for applications received from the first to fourteenth of a month, and the yield as of the fifteenth of the current month for applications received on or after the fifteenth of the month.

The proposed approach was consistent with the approach used to determine loans that are subject to the Home Ownership and Equity Protection Act based on the annual percentage rate. The proposed approach also was similar to the approach used to determine loans that are reported under HMDA as having higher rates, which loans often are called “trigger loans.” The key difference is that for HMDA purposes the date the interest rate is set, rather than the application date, is used to determine the applicable Treasury securities yield.

The board recognized that the use of Treasury securities yields to define higher-priced mortgage loans, and to determine HOEPA loans and triggers loans under HMDA, is imperfect. Mortgage rates do not vary in lock-step with Treasury securities yields. Additionally, for HOEPA and HMDA purposes, lenders must use the yield for a Treasury security with a comparable maturity to the mortgage loan, but typically mortgage rates are not set based on yields for long-term instruments.

For instance, while it is common to have a 30-year mortgage loan, the rates for such loans typically are based on yields for instruments with much shorter terms than 30-year Treasury securities. The board has noted for several years that this short-term/long-term rate factor can result in significant variations in the number of loans reported as trigger loans under HMDA from year-to-year based on market changes in the spread between short-term and long-term interest rates, and not changes in mortgage loan pricing.

While the short-term/long-term rate factor potentially could have a similar affect on the number of loans subject to HOEPA, there is the countervailing factor of lenders seeking to price loans below the HOEPA annual percentage rate trigger. In proposing the TILA rules for higher-priced mortgage loans, the board attempted to account for the short-term/long-term rate factor by providing that lenders would use yields for Treasury securities with a much shorter term than the actual loan term, such as the ten-year Treasury securities yield for mortgage loans of 20 years or more.

Parties commenting on the proposed TILA definition of higher-priced mortgage loan concurred that using Treasury securities yields is imperfect. Commenters recommended that the board use prime mortgage market rates, and also recommended that the board adopt a uniform approach for determining what loans are higher-priced mortgage loans under the new TILA rules and what loans must be reported as trigger loans under HMDA. The board acted on both recommendations.

The board decided to define what constitutes a higher-priced mortgage loan under the new TILA rules based on “average prime offer rates” that will be calculated by the board using Freddie Mac’s Primary Mortgage Market Survey. A mortgage loan will be a higher-priced mortgage loan under TILA if the loan is secured by the consumer’s principal dwelling and the annual percentage rate exceeds the average prime offer rate for a comparable transaction, as of the date the interest rate for the loan is set, by at least 1.5 percentage points for a first lien loan, or at least 3.5 percentage points for a junior lien loan. (Lenders still will use yields on Treasury securities of comparable maturities for determining loans that are subject to HOEPA. The use of such yields is specified by statute.)

The board also is proposing to amend the HMDA rules to conform the requirement to report certain loans as higher rate loans with the definition of higher-priced mortgage loans under the new TILA rules. Significantly, the Board proposes that the HMDA rules be effective for loans consummated on or after Jan. 1, 2009. Comments on the proposed HMDA rules are due by Aug. 29, 2008, and the board expressly requests comment on the proposed effective date.

Recognizing that interest rates for many loans closed on or after Jan. 1, 2009, loans will be set in 2008, the Board plans to begin publishing average prime offer rate data in the beginning of October 2008. This would allow lenders to determine at the time of rate lock whether a loan, if closed, must be reported as a trigger loan. For loans with rate locks made before Oct. 1, 2008, that close on or after Jan. 1, 2009, lenders would use the current HMDA method to determine if the loans are trigger loans.

Freddie’s survey includes rates for 30-year adjustable-rate mortgages with initial fixed-rate periods of one year and five years, a 15-year fixed-rate mortgage and a 30-year fixed-rate mortgage. Using Freddie’s survey and other data, the board plans to calculate rates for ten additional loan types: 30-year ARMs with initial fixed-rate periods of two, three, seven and ten years; and fixed-rate loans with terms of one, two, three, five, seven and ten years. Additionally, the board would provide guidance for determining which published rate to use for other loan products. Each week, the new rates would be available on Thursday, and would apply to loans that are locked from Friday until the next Thursday.

Assuming the HMDA rule proposal is adopted in its current form, lenders would have to comply with the new method for applications taken well before Jan. 1, 2009, as applications for many loans closing on or after that date will be taken in the Fall. This presents the issue of whether lenders will have sufficient time to make the necessary changes to origination systems, and appropriately test the systems.

With a comment deadline of Aug. 29, a final HMDA rule likely will not be issued until at least the end of September 2008. While this would provide lenders with little time to implement the necessary changes, the board believes that implementation will not be a significant issue. The board estimates that it would take lenders an average of only 16 hours to revise and update their systems to comply with the new method.

As noted above, the board expressly requests comment on the proposed effective date. In contrast to the proposed effective date for the HMDA rules, the new TILA rules for higher-priced loans are effective for applications received on or after Oct. 1, 2009, although the escrow requirements are effective for applications received on or after April 1, 2010, (or Oct. 1, 2010, for manufactured home loans).

Related:

New Rules on High-Cost Loans
Under new rules announced today, subprime lending has been dramatically altered. On high-cost loans — stated-income loans are prohibited, escrow accounts are mandatory and prepayment penalties are limited.

Richard J. Andreano is a partner at the Washington, D.C.-based law firm of Weiner Brodsky Sidman Kider PC. He focuses on regulatory compliance, transactional and administrative matters for residential housing and financial clients. He graduated with honors from the The George Washington University Law School, J.D., in 1983.
e-mail Rich at andreano@wbsk.com