Senate Subprime Hearings

WASHINGTON — Subprime mortgage executives from Countrywide Financial Corp., HSBC North America, WMC Mortgage Co. and First Franklin Financial Corp. told U.S. Senators yesterday that proposed federal subprime regulations should apply to all loan originators. Most emphasized that they have already made underwriting changes and at least one warned about curtailing some valuable programs.

The executives made the trek to Washington, D.C. to offer their perspective and answer the Senate Banking, Housing and Urban Affairs Committee members’ questions on the turmoil presently at play in the mortgage market.

Sandy Samuels, executive managing director at Countrywide Financial Corp., warned the committee not to “over correct.” It’s important to continue to allow access to credit for those who cannot qualify for prime loans. “Every effort to raise the start rate, lengthen the fixed rate period, reduce caps and lengthen reset periods will raise the price of the loan product to the consumer,” he said.

The Calabasas, Calif.-based company is supportive of the proposed guidance but concerned about it being limited only for federally regulated institutions, he said. Earlier this month, the agencies proposed the Interagency Statement on Subprime Mortgage Lending. The proposal specifies the same qualification standard as the nontraditional mortgage guidance and emphasizes the added dimension of risk when the products are combined with other features such as second mortgages and little or no documentation of income or assets. The proposed guidance would apply to all federal depository intuitions and their subsidiaries but not to state-regulated independent mortgage companies.

Samuels said the proposed guidance should apply to all market lenders. Countrywide supports several elements of the agencies’ proposal such as qualifying borrowers on the full amount of principal, interest, taxes and insurance, he said. Samuels said the company will support legislation allowing lenders to require impound accounts on all subprime loans.

He said the company supports a proposed recommendation to provide hybrid borrowers with a window period prior to the payment reset to refinance without penalty.

Samuels told the committee that the company agrees with recommendations to provide better disclosures and suggested that Reg Z be amended to enhance disclosures for hybrid ARMS.

Countrywide has a home preservation program to help its customers keep their homes as long as they respond to the company’s attempt to communicate, the borrower wants to stay in the home and the borrower continues to have a source of income, he told the committee.

Samuels said that, as one of largest originators of subprime hybrid ARM loans, in 10 years only 3.4 percent of its loans have gone to foreclosure. The worst year was 2000 for which the cumulative foreclosure rate was 9.89 percent, he said. He said that even if the company once again experiences that rate, that 90 percent of Countrywide’s subprime borrowers would not lose their homes to foreclosure.

He also said consumer choice is important and that the guidance should encourage lenders to make multiple products available to all borrowers.

Laurent Bossard, chief executive officer of WMC Mortgage Co., told the senators that the company is restructuring so that it can meet the challenges of the evolving market.

He said WMC’s parent company, GE Money, the consumer lending division of General Electric Co., placed WMC’s mortgage operations under federal regulation by bringing the mortgage business under GE Money’s Federal Savings Bank in January 2007.

Bossard said the Burbank, Calif.-based lender has improved its underwriting standards and supports the federal bank regulators’ Proposed Statement on Subprime Mortgage Lending.

Underwriting improvements include qualifying borrowers at the fully indexed rate, giving borrowers enhanced flexibility to avoid prepayment penalties by providing that prepayment penalties will expire 60 days prior to the first interest rate reset date and providing stated income loans only to self-employed borrowers.

He said WMC will continue to refuse to provide option ARMs and loans with negative amortization and that the company has decided to hold a portion of its loan portfolio, allowing it to work with borrowers to help keep them in their homes.

Brendan McDonagh, chief executive officer for HSBC Finance Corp. and chief operating officer for HSBC – North America, a wholly owned subsidiary of HSBC Holdings plc. also testified.

“We take the current situation seriously and we are taking strong and proactive steps to minimize the impact of the current environment on our customers,” he told the committee.

He said the company has introduced a “Pay Right Rewards” mortgage aimed at helping subprime customers improve their circumstances. The mortgage provides automatic rate reductions to subprime customers who remain in good standing with no risk that the customers’ rate will increase.

He said that while HSBC has had policies in place for the last five years that largely parallel the new Interagency Guidance of Nontraditional Mortgage Products, the application of the rules should be widened to include all lenders, not just federally regulated banks and bank holding companies.

Flirting with the notion of a suitability standard for home loan borrowers, McDonagh said HSBC Finance already has a mandate that each loan it offers, taking into account net tangible benefits, must meet a minimum threshold of benefit and affordability for the customer. “Failure to meet the standards of the test prevents the approval of the loan, regardless of credit, regardless of profitability,” he said.

Retail branch origination is monitored with a “Secret Shopper” program the company put into place in 2003 where an independent third party monitors retail branch origination to make sure policies and procedures are followed. McDonagh also said the company caps its back-end premium spreads for brokers at 200 bps.

Describing older-style ARMs as “benign,” he questioned whether the products presently available to the subprime market are suited to the changing market. He said HSBC launched a rate modification program in October 2006 aimed at reducing the rates and payments “at risk” ARM customers would have to pay under their contracts. The program has helped 2,200 customers so far.

HSBC Finance also supports uniform anti-predatory lending legislation, he testified.

After pointing out that it is doing better than many other subprime players, L. Andrew Pollock, president and CEO of First Franklin Financial Corp, said the San Jose, Calif.-based lender is committed to responsible lending practices.

He said the company’s underwriting standards are aimed at making sure that homeowners can afford their loans. He said the company underwrites loans based on the applicant’s credit history and ability to repay instead of collateral value. He said prepayment penalties are fully disclosed and only apply for the first three years of a loan. He said that interest rates do not increase upon payment-related default.

Pollock said broker compensation is capped.

He also testified that the company does not originate high-cost loans as defined by federal or state law nor does it originate negative amortization loans.

Pollock said the company complies with the Interagency Guidelines on Non-Traditional Mortgage Product Risks and supports many of the principles of the proposed statement on subprime lending.

“The shake-out in the mortgage market has taken place quickly for those originators that did not maintain a commitment to quality or a culture of discipline,” he said.

Beleaguered subprime issuer New Century was a prominent “no show.”

Sen. Christopher Dodd (D-Ct.), committee chairman, expressed disappointment — noting the lender played a prominent role in pushing unaffordable subprime loans to consumers and should have attended the hearing to explain its actions.

The Calabasas, Calif.-based company is supportive of the proposed guidance but concerned about it being limited only to federally regulated institutions, he said. Earlier this month, the agencies proposed the Interagency Statement on Subprime Mortgage Lending. The proposal specifies the same qualification standard as the nontraditional mortgage guidance and emphasizes the added dimension of risk when the products are combined with other features such as second mortgages and little or no documentation of income or assets. The proposed guidance would apply to all federal depository intuitions and their subsidiaries but not to state-regulated independent mortgage companies.

Samuels told the committee that the company agrees with recommendations to provide better disclosures and suggested that Reg Z be amended to enhance disclosures for hybrid ARMS.

Several committee members urged an end to “unsustainable lending” after asking panel members why loans were made to borrowers such as elderly mortgage holders living on fixed-incomes who could not afford to make higher payments after their adjustable rate mortgages reset.

In opening remarks and with pointed questions, Dodd blamed regulators and predatory lenders. He said the Federal Reserve Board should have exercised its authority under HOEPA and other federal laws to prohibit abusive lending practices for all mortgage market participants regardless of their charter.

One subprime lender reportedly ditched plans to set up a federally chartered bank because of wariness over federal regulatory scrutiny.

Dodd peppered Roger Cole, Director, Division of Banking Supervisors and Regulation with the Federal Reserve Board, with questions asking why the Fed had not acted faster and been more protective of borrowers.

When Cole first responded explaining that the Fed stepped up its scrutiny of the industry, Dodd said the regulator’s answer addressed the safety and soundness of the institution but that a “common sense” evaluation should include a look at whether borrowers could afford the stepped up mortgage payments required when teaser rates expired. Cole maintained that such a decision was more appropriate for the underwriting arm of the lender than federal regulators.

But, staying on the same track, Dodd then asked why the Fed didn’t come out with a rule requiring underwriting departments to make such a determination. He said lending problems starting coming to light in 2003. “Why didn’t you make a promulgation saying: This is the requirement,” he asked.

Cole said the Fed and other agencies responded by issuing the Interagency Guidance on Nontraditional Mortgage Risks in 2005. The comment period for the guidance ends in May.

Dodd urged Cole to finalize the guidance as soon as possible. The senator expressed impatience with the regulators speed in handling the situation, pointing out once again that HOEPA, passed 13 years ago, and other federal laws already give the Fed authority to take action. “It’s not a request, it’s a demand,” he told Cole.

Dodd also said he was troubled by mortgage brokers’ assertions they do not have a fiduciary relationship with borrowers. Dodd said he looked at NAMB’s Web site and its description of brokers as mentors seemed to refute that claim.

Dodd also said recent subprime guidance must be finalized as quickly as possible.

The senator said he will introduce legislation to attack predatory lending. He admitted that passage of the legislation will be tough because there are many market players who stand to lose if “we provide decent protections for consumers,” but pledged to move forward.