When federal regulators finally begin to analyze the national Home Mortgage Disclosure Act data, they could conclude that the banking industry is engaged in widespread redlining that affects not only blacks and Hispanics, but all low and moderate income families. Such a conclusion would be wrong, but not because the numbers are inaccurate.
The national HMDA data from the last year available from the Federal Reserve (2010) shows that less than 1% of home originations by all banks were made to low income families and only one in 11 were made to low to moderate income families. This data also shows that only 5% of all home loans were originated in primarily minority areas (defined as those 70% or more minority) and only one in 9 in neighborhoods with significant minority populations (those where 50% or more of residents are minorities).
This so-called redlining data also shows that only 4% of home loans were made to blacks despite their being 13% of the population and only 6% were made to Latinos, even though they represent 16% of the population.
Although these statistics are accurate, there is no evidence that banks are deliberately redlining. Instead, we may have an unparalleled example of otherwise well-intentioned government policies causing inadvertent redlining on a scale that may be unprecedented in American history. What's that saying, “no good deed shall go unpunished”?
The problem in a nutshell (as we foretold in a May 2005 American Banker op-ed entitled "ARMs Race Could Set Off a Wave of Foreclosures") is that after the subprime mortgage crisis, the government had decided to protect America so much that mainstream banking institutions effectively stopped making what some might view as even prudent loans to the majority of the potential homeowner population, low to moderate income and/or minority.
Unless banks wish to incur the wrath of Fannie Mae/Freddie Mac, and/or violate prudent and heightened capital requirements, the unintended consequences of regulators actually doing their job and protecting America leave banks oddly in the position of lending only to those who have the wealth to make large down payments, live in areas that have not been adversely affected by declining home prices, and have wealth so great that no recent economic crisis has adversely affected their credit scores.
Put another way, unless you have an 800 credit score and at least a 20% down payment, you are not getting a loan.
Our proposal is simple and presents very little risk if carefully calibrated. It is a solution likely to have extraordinary support from the vast majority of the American populace that shares the American Dream of homeownership and from virtually all of the 7,300 FDIC-insured financial institutions.
The initial Dignity Mortgage plan would be as follows.
- Allow up to 20% of all home originations per year for the next three years (approximately a million a year) be defined as Dignity Mortgages.
- Dignity Mortgages will only be available to potential homeowners who complete prescribed comprehensive financial literacy and credit counseling programs that would ensure they are and will be responsible homeowners. This includes ensuring that they are eligible only for a home they need, rather than a far more expensive home to keep up with the Joneses or Jacksons or Jimenezes.
- Only homes at 95% or below the median price in the region would be eligible. And, only homeowners with an income of 120% or below the regional median would be eligible.
- HUD-approved home counseling organizations or the equivalent would have to certify that the potential homeowner is in a prescribed financial literacy/credit counseling course and is in a position to meet the mortgage payments even if there is a temporary illness or loss of job.
- In order to adjust for any additional risks (and we are unsure that there are any substantial ones), the lender would be allowed to charge up to 1.25 percentage points above the lowest prime rate for a 30-year fixed rate mortgage. However, this additional charge would be limited to five years unless the borrower failed to make timely payments. After five years, or perhaps after three, the 30-year fixed rate would be adjusted downward to the fixed rate that prevailed at the time of origination.
- To ensure that homeowners are fairly treated, all homeowners who have made prompt payment consecutively for 60 months will have the 1.25 point premium applied to reduce their principal.
- To minimize the impact of a temporary crisis, homeowners after a prescribed period of prompt payments would be eligible for a modest "reset clause." This "life event clause" would allow the homeowner a brief period during an emergency in which they could defer monthly payments thereby avoiding many of the temporary payment problems that cause such havoc during recessions.
- If the loan qualified as to all the above terms, Fannie Mae and Freddie Mac, which purchase approximately 90% of all home loans, would be required to purchase these loans with limited or no recourse against the bank, and the loans would be treated as the equivalent of qualified mortgages under the Dodd-Frank Act.