Abusive practices by payday lenders lead to additional home foreclosures against borrowers, according to a new study. The analysis, performed by the Center for Community Capitalism at The University of North Carolina at Chapel Hill, found that predatory loan terms, namely prepayment penalties and balloon payments, increase the risk of mortgage foreclosure in subprime home loans, even after controlling for the borrower's credit score, loan terms, and varying economic conditions.
"The study demonstrates that subprime prepayment penalties and balloon payments place Americans at substantially greater risk of losing their homes," stated Dr. Michael A. Stegman, Director of UNC's Center for Community Capitalism.
Subprime loan originations grew more than nine-fold, from $35 billion to $332 billion between 1994 and 2003, the study notes. In the fourth quarter of 2003, 2.13% of all subprime loans across the country entered foreclosure, which was more than 10 times higher than the rate for all prime loans. Over time these foreclosure starts accumulate. For example, 20.7% of all first-lien subprime refinance loans originated in 1999 had entered foreclosure by December 2003, the authors stated.
Among the other findings:
* Prepayment penalties in subprime home loans increase the likelihood of foreclosure. Subprime home loans with prepayment penalties with terms of three years or longer faced 20% greater odds of entering foreclosure than loans without prepayment penalties. When these penalties were limited to a term of less than three years, the risk was slightly less elevated with borrowers facing 16% greater odds of foreclosure than their counterparts without prepayment penalties.
* Balloon payments in subprime home loans increase the likelihood of foreclosure. Subprime home loans with balloon payments, where a single lump sum payment many times the regular payment amount is due at the end of the loan term, face 46% greater odds of entering foreclosure than loans without such a term.
* Adjustable rates in subprime home loans increase the likelihood of foreclosure. Borrowers whose subprime loans include interest rates that fluctuate face 49% greater odds of entering foreclosure than borrowers with fixed-rate subprime mortgages.
The analysis utilizes 3,763,713 monthly observations from 122,456 loans in the Loan Performance Asset-Backed Securities database and is limited to first-lien refinance loans of owner-occupants nationwide originated in 1999 by retail lenders. The study period was from January 1999 to December 2003.
