Thrifts beware! The vigilante ARM police are on the prowl. With interest rates going uP and More ARM loans being made, they expect business to be brisk.
The top cop is Consumer Loan Advocates of Lake Bluff, Ill., a not-forprofit group that hasn't had to do any advertising - word of mouth seems to have sufficed. In the two years they've been in business, they've managed to get recalcitrant thrifts to cough up uPwards to $10 million for overcharging on adjustable-rate mortgage loans.
They've prompted several class action suits that were settled for multimillions of dollars and have provoked investigations by the Office of Thrift Supervision.
Truth-in-lending violations can be steep. Aside from whatever enforcement sanctions OTS may impose, violations can also result in punitive damages and penalties equal to the lesser of $500,000 or 1% of the creditor's net worth, along with attorneys' fees.
Regulators therefore have stressed the need for financial institutions to perform internal reviews and/or selfassessments of their ARM loan portfolios. They strongly urge institutions to initiate prompt corrective action when they find they have improperly calculated an ARM. But all that advice doesn't appear to have sunkin as widely as regulators would have liked.
Of the more than 14,000 consumer ARM loans consumer Loan advocates has audited, 45% were found in error. Of those, more than half had to be referred to the OTS to get the thrifts to make restitution, said Larry Powers, one of the company's owners.
The 45% error rate the group says it has found is pretty close to the more than 50% of thrift industry ARM loans that then Federal Savings and Loan Insurance Corp. auditor John Geddes told Congress in 1990 he had found in error. That figure was echoed by William Seidman when he was chairman of the Federal Deposit Insurance Corp., and was in part substantiated by the General Accounting Office.
That led regulators in Fall 1990 to implement new exam procedures for reviewing ARM loan calculations.
But if what Consumer Loan Advocates is finding is any indication, those exam procedures either aren't very effective or they aren't as widely used as they were four years ago.
Along with Powers, Geddes is one of the founders of Consumer Loan Advocates, which has teamed up with ARM Consultants Inc. of Joliet, M. to train people to analyze adjustable rate loans as a business venture. They've also got as clients a growing number of small banks and CPA firms, and it's very likely that consumer and community advocacy groups may get involved.
OTS officials acknowledged that there is a widespread problem with errors in ARM loans.
Robert Schmermund, corporate communications director of Savings and Community Bankers of America, said when he held the same postat OTS "there were concerns about ARM overcharges that they [OTS] were trying to administratively deal directly with the thrifts on." As for Consumer Loan Advocates, "this is news to us," he said.
One reason for OTS' apparent inability to catch ARM errors, according to Powers and critics of the agency's ARM audits - including OTS staffers who spoke privately - is that OTS audits are performed in a manner that doesn't expressly catch errors.
Many ARM loans are very complex and separately unique instruments. Moreover, if they've been passed off by a thrift to a servicer, or have been bought and sold by institutions because they were part of portfolios sold by the Resolution Trust Corp. that originated with a defunct S&L, ARM loans virtually require forensic auditing. And the OTS and, least of all, the many consumers are ill-equipped to do this kind of numbers crunching.
Critics protest that the OTS simply lacks the sophistication and resources to check for ARM errors on a consistent, industry-wide basis, adding that the problem will probably get worse as OTS is forced to downsize.
OTS officials interviewed did not deny that the downsizing it is experiencing has resulted in a decline in the quality of its examinations of ARM loans. In fact, it's this dilution of quality supervision that has caused the agency's acting director, Jonathan Fiechter, to support regulatory consolidation under which OTs would likely be merged with either the FDIC or the Comptroller of the Currency.
"What we're doing is what they [OTS] should be doing, but they are so woefully understaffed," Powers said.
"In a routine examination they'll look at the last month's adjustment - if it's right they'll assume that the rest of the loan is accurate. If they find an error, then they'll go back another month. The worst case scenario that a thrift can expect is that the examiners will go back two months."
Based on his experience with both consumer and commercial ARM loans, Powers said the problem is that routine audits and due diligence by purchasers of ARMS do not scrutinize whether the loan is being serviced properly.
When Consumer Loan Advocates finds an error, it contacts the institution. "And they invariably deny that they're wrong," Powerssaid. Typically, the group has to take the matter all the way up to the thrift's legal counsel, which, Powers said, generally takes the "company line that they're right and we're wrong."
