WASHINGTON — Consumer groups and top members of the Senate Banking Committee are pressing the Federal Reserve Board to withdraw a plan they claim would eliminate a critical tool for homeowners to get out of risky mortgages.
The central bank issued a proposal in September to amend the Truth in Lending Act that would, among many other things, revise the so-called right of rescission, which allows borrowers to rescind a loan within three years that fails to comply with disclosure requirements. Under the plan, a borrower would have to repay the entire mortgage in full before a loan is rescinded.
The Center for Responsible Lending, National Consumer Law Center and other groups said such a requirement effectively stops most borrowers from using the right of rescission.
"We feel that this proposal almost completely guts the right to rescission, which is the main tool that consumers have to defend against foreclosures where loans were not properly originated," said Nina Simon, director of litigation for the Center for Responsible Lending. "Over the years I've practiced defending homeowners and have probably used that right almost every time. All of the cases we have worked on have had very abusive terms and often violated state law. But the remedy that stops the foreclosure cold in its tracks is the rescission claim, and that's been undermined by many courts, but never by the Fed before."
The consumer groups are backed by six lawmakers on the Senate Banking Committee, including Sen. Tim Johnson, who is expected to chair the panel this year. In a Jan. 3 letter the lawmakers agreed the proposal could do substantial harm.
"The extended right of rescission has been an important home-saving legal tool protecting borrowers against predatory loans," wrote the lawmakers, who also included Sens. Jack Reed and Sherrod Brown.
"The Board's proposed rule would reverse the traditional understanding of TILA's rights of rescission by requiring a homeowner to pay off the entire mortgage amount before a creditor is required to cancel its security interest in the home. Requiring a borrower to repay the entire mortgage would render this important borrower right inaccessible to all but the wealthiest homeowners."
Consumer groups have a host of other objections to the plan, but worry chiefly about the right-to-rescission revision.
"TILA has been the principal tool used by victims of irresponsible or predatory lending to stop foreclosure and it was really a critical stop gap measure to ensure that lenders would underwrite appropriately," said David Berenbaum, chief program officer of the National Community Reinvestment Coalition.
"So, we were taken quite by surprise [when] it was suggested a regulatory change to remove or eviscerate that primary protection."
Although a Fed spokeswoman declined to comment for this article, the central bank argued in its proposal that the changes to the right to rescission would help compliance with the Truth in Lending Act.
The central bank said the objective was to update and clarify the rules for home-secured credit and reduce undue compliance burden and litigation risk for creditors.
"In considering the revision, the Board sought to ensure that the proposal would not reduce access to credit, and sought to balance the potential benefits for consumers with the compliance burdens imposed on creditors," the Board wrote in its proposed rule.
Several consumers sharply disagree.
"If adopted as proposed, the rule will reduce compliance by creditors, increase litigation expense for homeowners, and reduce the utility of TILA," wrote Joyce Jones, who wrote on her own behalf and that of low-income homeowners. "The Board proposes to make the statutory scheme that has existed since 1968 a nullity at precisely the moment in time when foreclosures are at an all-time high and the need for the protection afforded by TILA rescission has never been greater."
Others questioned whose interest the Fed was protecting.
"Don't do it!" wrote Sherry Jones. "Whose side are you guys on? What we need now is to force banks to modify mortgages, including reducing principal balances to reduce foreclosures, to get this economy going again!"
Others, like V. Channon, suggested, "Requiring homeowners to pay what remains of the original loan before a rescission can proceed is tantamount to a 'verdict first, trial later' philosophy.' "
Concerns about the proposal go beyond the right of rescission.
The Fed's plan would also ease the definition of "accurate" disclosures by, for example, allowing a lender to tell a homeowner that the monthly payment was $100 less than it actually was.
The proposal also would broaden the list of events that could terminate the right to rescission and give broad leeway to creditors for the formatting and content of statutorily mandated disclosures.
Many observers suggest the Fed is acting outside of its authority, noting that the Consumer Financial Protection Bureau will take responsibility for all consumer regulations on July 21, 2011.
In a Nov. 16, 2010, letter to the Fed, the National Fair Housing Alliance, along with 200 hundred others, asked to "leave the update to TILA to the Consumer Financial Protection Bureau when it takes over this area in July, 2011."
Berenbaum agreed the issue should be left to the bureau.
"The Federal Reserve and many of the other regulators perceive themselves as being accountable to the industry, and in fact, ultimately can be stakeholders for the industry's interest, but they are really the guardians of the public interest," Berenbaum said. "That public interest needs to have a dedicated regulator to ensure that role appears."
Consumer groups did not see the proposal as all bad. They acknowledge that it would, for example, require new "material disclosures" for home-secured credit.
But on balance, they said the plan would hurt consumers.
"There is far, far more harm than good," said Margot Saunders, counsel for the National Consumer Law Center.
"We think there are enough bad things to justify canning the whole thing altogether."
